The Truth about Qualifying for Chapter 7

Wasson and ThornhillQualifying for Bankruptcy

Most people who need to file a “straight bankruptcy” Chapter 7 case qualify. If not, Chapter 13 could actually be better.

 

Here’s the sentence we’re exploring today:

Although there’s some understandable confusion about this, if a Chapter 7 bankruptcy would genuinely be a good solution for you then you’d likely qualify based on your income alone, or by passing the “means test”; otherwise Chapter 13 may either be a good backup or the better solution anyway.

Understandable Confusion

Determining whether you qualify to file a Chapter 7 case is usually less complicated than it seems. But it’s perfectly understandable if it seems complicated. That’s because 10 years ago a major new bankruptcy law went into effect—the so-called Bankruptcy Abuse Prevention and Consumer Protection Act (“BAPCPA”)—which is still sowing seeds of confusion.

One of the main purposes of BAPCPA was to discourage people from filing Chapter 7 bankruptcies. It did so directly by creating some extra hurdles, with the most important one being the “means test.” But news about the new law also discouraged bankruptcy filing indirectly by spreading the word that filing bankruptcy was harder than before, and that impression continues to some degree still a decade later.

Part of the reason that this impression persists is that BAPCPA dumped an astoundingly difficult to understand set of changes onto the Bankruptcy Code. Some parts seem to directly contradict other parts. So bankruptcy judges and courts of appeal all the way up to the U.S. Supreme Court have been trying to understand the badly drafted law. If it’s difficult for judges to make sense of BAPCPA, it’s only natural for ordinary people to get misimpressions about it. It’s easy to see how a concern about qualifying to file a Chapter 7 case under this now not-so-new law still gets blown out of proportion of the reality.  

If You’re Like Most People, Your Income Will Enable You to Skip the “Means Test

The “means test” is the main mechanism for qualifying to file a Chapter 7 case. It’s a multi-part formula for determining—based on your income, expenses, and debts—whether you should be in a Chapter 7 or Chapter 13 “adjustment of debts” case. Some of those parts of the test are mind-numbingly confusing.

But the good news is, first, that most people who need a Chapter 7 case can qualify for it. And second, they do so by having low enough income to be able to skip the complicated expense and debts parts of the “means test.”

There are still some odd aspects (such as how your income is calculated for the “means test), but basically if your income is no more than the published median income amount for your state and family size, then you qualify for Chapter 7 without needing to go through any more of the  “means test.”

Also, certain kinds of folks can skip the “means test” no matter the amount of their income, specifically present or recent business owners who have more business debt than consumer debt, and certain military personnel.

Even if You Must Pass the “Means Test,” That Can Be Easy

Even if you are a consumer debtor whose income is higher than the applicable median income amount, because of the way income is calculated (fixating on your last 6 full calendar months of money received from just about all sources), each month your income can change. So through some perfectly legitimate timing strategies you may be able to lower your income to bring it under the applicable median amount.

And even if that’s not possible, you can often pass the “means test” by subtracting appropriate expenses from your income to show you have either no “disposable income” or not enough to disqualify you from Chapter 7.

In any event, getting past the “means test” is often not difficult.

Chapter 13 is Not a Bad Alternative, and Sometimes the Best One

If a person does not qualify under Chapter 7 because of too much “disposable income,” filing a Chapter 13 case instead usually results in the person paying only a small portion of her or her debts, making it not such a bad deal.

Also, Chapter 13 comes with many advantages not available under Chapter 7. For example, through “cramdown” of a vehicle loan, you may be able to reduce monthly payments and the total debt to be paid on it. So even if advantages such as this may not have been important enough to justify filing Chapter 13 voluntarily, if you’re effectively forced into Chapter 13 because of the “means test,” one or two of those advantages could mitigate the pain of being in a Chapter 13 case.

Also, sometime people are dead-set on filing a Chapter 7 case and either don’t look closely enough at Chapter 13 or are just not open to it as an option. But once they are forced to do so because of not passing the means test , they might come to realize that Chapter 13 may have been the better choice anyway. It’s not unusual for a person who just wants to file Chapter 7 case to get it over with comes to realize that Chapter 13 comes with surprising advantages. He or she may come to recognize that it was the best option and should be pursued, even if that person could pass the “means test” and qualify for a Chapter 7 case.