Means Testing in Chapter 7 or Chapter 13 Bankruptcy

Bankruptcy has many layers. Before filing, a potential debtor will have to gather their bills, bank statements, tax returns, and proof of all household income for the previous six months. Our Philadelphia bankruptcy attorneys will use this income to calculate the means test. The means test is required for most people filing Chapter 7 or Chapter 13.

Income is a key component in any bankruptcy filing. Chapter 7 is designed for individuals and couples with limited income and assets. Conversely, Chapter 13 is primarily for people who could afford a monthly bankruptcy payment. The means test is used to determine who qualifies for Chapter 7 and how much a Chapter 13 debtor will have to pay to their creditors.

The means test is the most complicated part of an average bankruptcy filing. At Young, Marr, Mallis & Associates, we are committed to helping our clients understand the means test and its impact on their case. While this calculation will significantly influence your case and options, there are ways to mitigate its effect. The success of many bankruptcies is directly related to the decisions made before the case is filed. Call our law offices at (215) 701-6519 to review your situation.

What is Means Testing?

The means test was added to the bankruptcy code in October 2005 to create objective standards for determining which individuals qualify for filing for relief in Chapter 7 vs. Chapter 13 bankruptcy. It applies only to individuals and only those individuals who have primarily consumer debt.

The first step in Chapter 7 bankruptcy means test is simple. It compares your income to the median income in your state for families the same size as yours. If your income is lower than the median, the debtor “passes the means test” and most likely will file a Chapter 7 bankruptcy. If the debtor’s income exceeds the median income, further analysis is performed, looking at the debtor’s calculated ability to fund a Chapter 13 plan. The debtor’s disposable income is calculated by a mix of actual and standardized expenses to the debtor’s previous average income. If it is determined that the debtor’s household income is above the median, a presumption arises that a Chapter 7 filing is abusive and may not be appropriate. However, the presumption of abuse may be rebutted by the debtor. Your income, for means testing purposes, is your income for the six months before the filing of your bankruptcy. For means test purposes, it does not necessarily matter what your income is now. What matters is your income for the proceeding six months. Income includes income from all sources with the exception of Social Security-related programs. For example, income includes unemployment and employment income as well as pensions and passive income.

There are many unanswered questions about the application of the means test in various family configurations and income scenarios. Only court interpretation of these murky areas of the amendments will begin to map the actual effect of the means test and other aspects of the BACPA Amendments of 2005. And remember, Congress’s goal is to reserve Chapter 7 bankruptcy for those who really do not have the means to pay. However, it is also important to remember that most people who would have qualified for a Chapter 7 bankruptcy prior to the October 2005 Amendment still qualify for Chapter 7 bankruptcy relief.

Bankruptcy has many layers. Before filing, a potential debtor will have to gather their bills, bank statements, tax returns, and proof of all household income for the previous six months. Our Allentown bankruptcy attorneys will use this income to calculate the means test. The means test is required for most people filing Chapter 7 or Chapter 13.

Income is a key component in any bankruptcy filing. Chapter 7 is designed for individuals and couples with limited income and assets. Conversely, Chapter 13 is primarily for people who could afford a monthly bankruptcy payment. The means test is used to determine who qualifies for Chapter 7 and how much a Chapter 13 debtor will have to pay to their creditors.

The means test is the most complicated part of an average bankruptcy filing. At Young, Marr, Mallis & Associates, we are committed to helping our clients understand the means test and its impact on their case. While this calculation will significantly influence your case and options, there are ways to mitigate its effect. The success of many bankruptcies is directly related to the decisions made before the case is filed. Call our law offices at (215) 701-6519 to review your situation.

Current Monthly Income and the Means Test

The means test will calculate your current monthly income (CMI). This amount typically includes all household income. For instance, if you were filing for Chapter 7 as an individual but were married, your spouse’s income would be included in your CMI calculation. Our bankruptcy attorneys will have to include household income from the previous six months before you file. This is commonly known as the look-back period. For example, if you were filing on May 10th, the look-back period would include income from April through November of the previous year. Qualifying income from this period would be added together and divided by six to determine your CMI.

Household income includes most, but not all, income that is available for common household expenses. The main type of income included is a debtor’s salary. This amount would include any income from self-employment or business income. Contributions are also included in household income, such as a roommate or family member paying a utility bill. Child support and alimony must be included as well. Other income that must be reported as part of your household income include pensions, retirement benefits, rental income, interest, dividends, royalties, tax refunds, and unemployment benefits.

Some types of income are excluded from the CMI calculation, including social security benefits, damages awarded for personal injuries, and payments received as a victim of a war crime, terrorist act, or a crime against humanity. Any benefits received under COVID relief are not considered income for purposes of the means test.

The Means Test and the Timing of Your Bankruptcy Filing

The means test calculation has a significant impact on bankruptcy. It will determine if a person qualifies for Chapter 7 or how much they will be required to pay to unsecured creditors in Chapter 13. The timing of your bankruptcy could influence how the means test will affect your case.

For example, to calculate your CMI, your previous six months of household income will be added together and divided by six. While this is meant to give a realistic representation of your available monthly income, it is not always accurate. If you received a holiday bonus, it would be included in your CMI, increasing the total amount. This additional income could disqualify a debtor for Chapter 7 or require a Chapter 13 debtor to pay more than they could reasonably afford. By waiting to file a case, it might be possible not to include a holiday bonus in the means test calculation. For some filers, waiting four or five months could be the difference between filing Chapter 7 or being required to file Chapter 13.

In other cases, a potential debtor has control over their income. A couple of months of substantial overtime could increase a person’s CMI to the point where they are not eligible for Chapter 7. By voluntarily not working those extra hours, it might be possible to qualify for Chapter 7 and a discharge of most of your debt. Our experienced bankruptcy lawyers work closely with our clients before a case is filed to determine when it would be best to file the case.

The Means Test and Chapter 13

For many debtors, the means test will let them know whether they are permitted to file a Chapter 7 bankruptcy. For those who do not qualify, the means test is one factor in determining how much they will have to pay to their unsecured creditors in Chapter 13.

A debtor’s disposable monthly income (DMI) is the money that is available after the means test calculation is complete. DMI is determined by subtracting some allowable expenses and deductions from a debtor’s CMI. Some allowable deductions and expenses include employment taxes, mortgage payments, and health insurance. It is important to note that these allowable expenses and deductions do not always represent a debtor’s actual expenses. For example, in Philadelphia, the allowable rental expense for a couple filing jointly is $650. This figure represents the total amount you could claim as an expense, no matter what you pay for rent.

Your calculated DMI is what you will have to pay to unsecured debtors in Chapter 13. For instance, if your DMI is $150, you will have to pay that amount for 60 months, or $9,000. If you owe $30,000 in credit card bills, this could be a beneficial outcome. However, it is vital to speak with an experienced Pennsylvania bankruptcy lawyer as many other factors will impact your Chapter 13 bankruptcy payment.

Critical Expenses for Calculating the Means Test

In many cases, a potential debtor will pass the means test based on their income compared to their household size. However, when a debtor’s income exceeds the median, some necessary expenses could help the debtor qualify for Chapter 7 or lower their required payment to unsecured creditors in Chapter 13.

Tax Debt

Under the means test, a debtor is permitted to deduct their tax obligations arising from their income. In many cases, the deduction of your payroll taxes is sufficient enough to pass the means test.

Secured Debts

The IRS provides a standard living and car payment that is used to calculate your allowable deductions. However, if your mortgage or monthly car payment exceeds the standard deduction, you are permitted to deduct the higher amount. Remember, the means test looks at payments required over the next 60 months. If you only have two years left on your car loan, the deductible amount will be lower than your actual monthly payment.

Involuntary Employment Expenses

Some jobs have mandatory deductions, such as union dues, mandatory retirement contributions, or uniform cleaning fees. These costs are deductible.

Health Care Costs

If you have health care expenses that are not covered by insurance and exceed the IRS standard allowance, you are permitted to deduct them from your household income.

Regular Charitable Contributions

When the means test was developed, Congress made an allowance for charitable contributions. If you have a history of making charitable donations, such as tithing to your church, it is deductible. A debtor will most likely have to provide proof that donations were regular and ongoing.

Necessary Expenses for Welfare or Health

The means test provides a catch-all to include expenses necessary to maintain their health or their family’s welfare. If you use this deduction, you will be required to explain and prove the exceptional circumstances that warrant the additional expenses.

The Marital Adjustment

If you are married, there are some compelling reasons not to file jointly – especially if you and your spouse do not share unsecured debt. For example, you might have tens of thousands of dollars in credit card debt dating back well before you met your spouse. In this case, filing by yourself might be the reasonable and prudent thing to do. However, if you are married and file individually, your spouse’s income is still included in the bankruptcy paperwork, including the means test.

If you decide to file for bankruptcy without your spouse, the marital adjustment deduction could be the difference between filing a Chapter 7 case and having to file Chapter 13. The Bankruptcy Code anticipated that a married person would file as an individual. Therefore, the marital adjustment allows a debtor to deduct their spouse’s personal expenses from the total household income when completing the means test. Essentially, you are excluding the portion of your spouse’s income that is not used to pay household expenses.

How the Marital Adjustment Works

The means test has two parts that permit a debtor to deduct allowable expenses from their household income. If your qualifying expenses are high enough, you could qualify for Chapter 7 even though your basic income calculation is above the median amount.

Form 122A-1 of the means test is used to determine your adjusted income. Under this section, you are allowed to deduct a portion of your spouse’s income that is used for their personal expenses.

The second part of the means test, or Form 122A-2 is used to calculate deductions from your income. Under this section, you are permitted to deduct certain qualifying expenses such as payroll taxes, mortgage payments, car payments, and allowable amounts for other expenses such as groceries, utilities, and rent. These are considered household expenses and cannot be deducted under the marital adjustment, even if your spouse pays them. For example, if your spouse pays the monthly cable and internet bill, it is still considered a household expense and is not permitted to be deducted under the marital adjustment.

This distinction is important because the means test does not treat all expenses equally. For instance, you are entitled to deduct your full mortgage payment. However, if you are renting, the allowable amount is determined by the current IRS standard deductions and will likely not reflect the amount of money you spend each month.

The first part of the means test is where you are allowed to deduct your spouse’s personal expenses that are not used for regular household expenses. You are not allowed to deduct expenses in both sections. For instance, your spouse’s payroll taxes should be included on Form 122A-2 and not listed as a marital adjustment.

Potentially Allowable Marital Deductions

As stated above, how the Bankruptcy Code will be applied under every circumstance is murky. Bankruptcy courts do not agree on what expenses are allowable under the marital adjustment. Typically, if an expense would not be included on Form 122A-2 if the couple filed jointly, it might qualify as a marital deduction.

• 401(k) loan payments
• Credit card payments if the debt is only in your spouse’s name and not used for household expenses
• Student loan payments in your spouse’s name
• Mortgage or rent on property owned solely by your spouse
• Child support for your spouse’s child or children that do not reside with you
• Alimony payments made to your spouse’s ex-spouse
• Gym or other club memberships

The marital adjustment is a contentious issue and will be carefully examined by the bankruptcy trustee or the U.S. Trustee. This is especially the case if your spouse’s income is significant and you are attempting to deduct a substantial portion of personal expenses.

Therefore, if you are utilizing the marital adjustment, you must have documentation proving that the expenses exist and that they have been paid exclusively by your spouse. However, if the payments are coming from a joint bank account, it will be almost impossible to demonstrate that it is an allowable expense.

In some cases, if the trustee challenges your marital deductions, the bankruptcy court could convert your case to a Chapter 13 case or dismiss your case entirely. If the court determines that you deliberately provided false or misleading information, you could be subject to criminal fines and penalties. When preparing your case for filing, our Montgomery County bankruptcy lawyers will evaluate if any of your spouse’s expenses qualify for the marital adjustment.

Call Our Knowledgeable Bankruptcy Attorney for a Consultation

Filing for bankruptcy is a complicated process. Decisions that are made long before the case is filed will often impact the chances of success or failure. The means test is a key component whether you are filing Chapter 7 or Chapter 13. At Young, Marr, Mallis & Associates, our experienced Bucks County bankruptcy lawyers will thoroughly review your household income to ensure that the means test reflects your situation as accurately as possible. To discuss your household income and other aspects of bankruptcy, call our law offices at  (215) 701-6519.