What is “means test”?
The Means Test was a late addition to the Bankruptcy Code (also called BAPCPA) to apply to all bankruptcies filed after October 17, 2005.
Behind the “means test” or “income test” was the understanding that some well-off debtors were unfairly using bankruptcy to the detriment of unsecured creditors (mainly credit card companies).
Before BAPCPA, debtors who had high incomes and could pay off at least some of their debt (credit cards) incurred large balances on their credit cards, then filed for bankruptcy and discharged all of their credit cards.
The result of the test is that debtors with above average income (this varies from state to state) cannot file a chapter 7 bankruptcy and can only benefit from a chapter 13 bankruptcy/payment plan.
Chapter 13 bankruptcy requires a court-approved payment plan to pay unsecured creditors over a five-year period. This is in contrast to a Chapter 7 bankruptcy in which the debtor’s unsecured creditors would generally be discharged with little or no payments to these creditors.
Not surprisingly, most debtors would rather make a chapter 7 with little or no payments to unsecured creditors than make payments to those same creditors over the next five years.
In short, any debtor can file Chapter 7 if they earn less than the median household income for their state. If a debtor has a higher than average income, then a Chapter 13 bankruptcy would be the only available alternative for debt relief. Unless… the Debtor can “exceed” the average requirement.
Exceptions to the income-based test
Under the assumption that a Chapter 7 bankruptcy is better than a Chapter 13. Passing the income-dependent test means finding a way for an above-median Debtor to file a Chapter 7 Bankruptcy under the current provisions of the Code Bankruptcy
To review, if a Debtor has a higher than average income, then they cannot file a Chapter 7 bankruptcy and can, if they wish, file a Chapter 13 bankruptcy.
If a debtor’s income is greater than the median income for their household size, then the Means Test prohibits the Debtor from filing a Chapter 7 bankruptcy. However, the initial income calculation is only the first part of the Test.
Under the Bankruptcy Code, the following are the exceptions to the means test:
Exception No. 1: The Bankruptcy Code allows the Debtor to subtract essential living expenses from his upper median income.
When these expenses are subtracted, if the remaining income is below the median income threshold, the debtor qualifies to file a Chapter 7.
Exception #2: For disabled veterans (as defined in 38 USC §3741(1)) whose indebtedness occurred primarily during the time the veteran was on active duty (as defined in 10 USC §101(d)(1) )) or while conducting a National Defense activity (as defined in 32 USC §901(1)) the presumption of abuse does not arise. The media text does not apply to these Veterans or Defenders of the Fatherland and they can always file Chapter 7.
Exception No. 3: For Reservists and Members of the National Guard; active duty or national defense activity. Members of an Armed Forces Reserve Unit and members of the National Guard who were called to active duty (as defined in 10 USC §101(d)(1)) after September 11, 2001, for a period of at least 90 days or who have performed national defense activities (as defined in 32 USC § 901(1)) for a period of at least 90 days are excluded from all forms of means testing during the time of active duty or national defense activity and for 540 days thereafter (the “exclusion period”). The means test does not apply to these reservists and National Guardsmen and they can file Chapter 7 at any time during the exclusion period.
Exception 4: If your debts are primarily non-consumer debt, the means test does not apply to you. The Bankruptcy Code defined “Consumer Debt” as “…debt incurred primarily for personal, family, or household purposes.” The Ninth Circuit interprets the term “primarily” in § 707(b)(1) to mean that your nonconsumer debt is at least fifty-one percent of your total debt. In re Canales, 377 BR 658 (Bkrtcy.CD Cal., 2007).
In simple terms, if more than half of your debt was from a failed business, overdue income taxes, or, in “some cases,” student loans, then the means test does not apply to you. If, for example, you have invested in multiple real estate properties and now file for bankruptcy and the total loans on your rental properties exceed your personal debt by at least one percent, the means test does not apply to you. Here you can file a Chapter 7 even if your income is above the median income.
If you’re contemplating bankruptcy and you’re an above-average debtor, choose an attorney who will take the time to help you determine if you can pass the means test and file a chapter 7.
