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Do I Qualify For Bankruptcy?
On October 17, 2005 the largest overhaul of our Federal Bankruptcy law went into effect. The reforms, known as the Bankruptcy Abuse Prevention and Consumer Protection Act (“BAPCPA”), brought sweeping change to how and whether an individual would be allowed to seek relief from their debt in a traditional bankruptcy.
There were many reasons why Congress decided it was time to overhaul our Bankruptcy laws. The two most important reasons, and the ones that affect individual consumers like us, are inherent in the name of the law, the Bankruptcy Abuse Prevention and Consumer Protection Act.
Bankruptcy Abuse Prevention. Congress believed it had evidence that a significant number of people were taking advantage of the law and walking away from their unsecured debt unfairly or abusively. Under the old law we compared your net income to your actual living expenses to see if there was any remaining disposable income you could use to pay on your unsecured debt. If there wasn’t any disposable income or if there was negative disposable income, then you were allowed a discharge of your unsecured debt. What Congress discovered was that some people were understating their take-home earning or taking unreasonable payroll deductions and taking exaggerated liberties with their living expenses. Take for example, the modest existence of the Mr. and Mrs. Luxury and their beautiful children Giddyup and Retirement. The Luxury’s monthly take home income was a modest $6000 but they were struggling to pay on their credit card debt because they needed to expend $100 per day, 30 days per month, on horseback riding instructions, eating out at restaurants, and entertaining their friends. Father Luxury in particular was adamant that building their retirement was far more important than the unsecured debt so he faithfully placed $500 per month into his 401(k). Well, that only leaves $2500 for the two mortgage payments, three car payments, groceries, utilities and some family time recreation at the Bailey’s Gym, so obviously the Luxury’s will have no disposable income to pay on their unsecured debt! Congress decided this type of budgeting was far too discretionary and resulted in an abuse of the law at the expense of creditors. This is why Congress came up with a formula that only allows us to get credit for the median living expenses of similarly situated people living in our own community. AND, that is why Congress created a Presumption of Abuse for every person that files for bankruptcy protection and why everyone wishing to gain bankruptcy protection must overcome that presumption or be compelled into a Chapter 13 payment plan.
Consumer Protection. At the same time, Congress recognized that the majority of people seeking relief through the protections of bankruptcy law were honest, hard-working people like us who, for a variety of reasons, fell on hard times. Under the old law, if, after comparing your actual take-home pay to your actual monthly expenses there was any amount left over , virtually anyone; the judge assigned to your case, the trustee assigned to your or any one or all of your creditors could file an objection to discharge and compel you into a chapter 13 payment plan based on the “appearance of the ability to pay.” Because Congress created a rebuttable presumption of abuse, it also wanted a stream lined method of overcoming the presumption to protect consumers from creditors who would regularly make such an objection. Thus was born the Income Threshold Test and the related Means Test.
Although there were many changes to Bankruptcy law, perhaps the most significant was the implementation of an Income Threshold Test and the related Means Test. Prior to the change in the law, the only circumstances that would have compelled someone into a payment plan under Chapter 13 were:
having filed a Chapter 7 in the prior 7 years
having more assets than there are exemption values to cover
needing to get caught up on home mortgage arrearages to stop a foreclosure
Now, under BAPCPA, another circumstance that could compel someone to file a Chapter 13, rather than a Chapter 7, is earning more money annually than Your State’s Median Income.
Your State’s Median Income is, in simple terms, that level of gross income that represents what individuals similarly situated, in your local community, are earning on average. It is adjusted upward to give credit for spouses and dependent children or dependent parents. The numerical threshold value is adjusted each quarter based on IRS and Census Bureau data in order to give credit for fluctuations in the economy. While Congress’ message was clear that it believes when you make a certain level of income you should be able to at least make nominal payments into a plan under a Chapter 13, it is comforting to know they also took into consideration that earning ability and the cost of living differs from location to location, state to state.
Income Threshold Test. This part of the eligibility to file a Chapter 7 petition in bankruptcy is very simple, base method of overcoming the presumption of abuse. This is important because, once your actual gross income can be proved to be below your state’s median, none of your creditors are allowed to object and compel you into a chapter 13 payment plan based on the “appearance of the ability to pay.” Your household gross earnings, referred to as your Current Monthly Income (“CMI”) is based on gross earnings before all deductions or subtractions. As mentioned, eligibility varies from state to state, region to region. For example, an individual living in the state of New Jersey can gross as much as $56,151 and still overcome the presumption of abuse while an individual living in the U.S Territory of Puerto Rico may only earn $19,736. The gross dollar amount of permissible income is adjusted upward for each additional family member in your household. You even get credit for a child for whom you have joint custody even if you are not the “custodial” parent.
Means Test. This part of the eligibility to file a Chapter 7 petition in bankruptcy is a second chance to qualify if you are over the median income threshold of your state’s income level. This part of the analysis permits allowed deductions or credits for the customary and exceptional expenses relative to your actual take-home pay and living expenses. It takes into account your payroll tax withholding, health and life insurance premiums, mandatory contributions to retirement plans, child support and daycare expense, and extraordinary out-of-pocket medical expenses. Many people who initially appear to be over threshold under the Income Threshold Test , usually (but not always) qualify after applying the Means Test.