In 2005, Congress changed all this to address what it thought were abuses of the system, by adding the "Means Test." Basically, if your gross household income (other than Social Security and a few other types of income) put you in the top half of households your size, in your state, then the trustees and the courts were directed to apply a complicated formula based on that used by the Internal Revenue Service in its determination how much people who owed back taxes could afford to pay. If that formula yielded a calculated disposable income over a specified dollar limit, then you did not qualify for Chapter 7 and had to file under Chapter 13. In Chapter 13, you have to pay your unsecured creditors the dollar amount derived from the Means Test each month for 5 years.
There are many aspects of this Means Test, and its application in each case is potentially complex. Many aspects were far from clear, and the courts have wrestled with the issues presented. In the past 12 months, the U.S. Supreme Court has answered two questions about this.
Timing is Important: No car loan or lease = no vehicle ownership deduction.
In January 2011, the Court held in Ransome v FIA Credit Services that a debtor who owned a car free and clear could claim a means test deduction only for the costs of operation, and also claim a separate deduction for the costs of ownership. These are two separate deductions in the means test formula. Until this decision, courts were divided on why there were two deductions and what they meant, and people who owned a car or two free and clear were claiming both deductions. The Supreme Court found that the "Costs of Operation" deduction is for items like gas and repairs, but the "Costs of Ownership" is based on an average loan or lease payment, and so does not apply where a car is owned free and clear.
What this means is that you may be better off filing your bankruptcy while you still owe payments on that car, and not after you have paid it off. This of course penalizes those who prudently kept their debts lower. But that is how the Court reads the Means Test. Again, "timing is everything". The question remains what happens if your car is paid off sometime shortly after your bankruptcy is filed, and the result may be that you then might have to pay more. But especially if you are able to qualify for Chapter 7, having the deduction is better than not. While we do not recommend running out to borrow money that you cannot afford, the important message is to get qualified advice early and do not wait.
Income going up or down? Courts CAN be flexible in helping out; the Means Test is not always a rigid formula, but this might cut both ways...
While Ransome made things harder for people seeking bankruptcy relief, an earlier decision can help out. In Hamilton v Lanning, 130 S.Ct. 2464 (2010), the Supreme Court held that in calculating disposable income under the Means Test, a court may consider changed circumstances that are known or virtually certain by the time the court has to consider whether to approve a debtor’s proposed plan. There, the Means Test income figure, based on all income received during the 6 months before the bankruptcy filing, was substantially inflated due to a one time buyout payment. With that figure included, the monthly average based on that prior 6 months was well above what the debtors’ real income was going to be going forward. The debtors proposed a plan payment based on their real income going forward. Rejecting a rigid formulaic approach, the Court held that bankruptcy courts in these situations could look to the reality of the situation.
This case gives some hope to those unfortunate people who need bankruptcy relief, but based on the Means Test formula strictly applied would not be able to pay what the formula dictates. However, this can cut both ways. Arguably, the person who was unemployed during the past 6 months but now has a good and steady job may face the argument that she can afford more than the Means Test requires.
The message? The Means Test is very much an individual thing and the results are not always exactly what the formula might dictate. Getting the right advice and counsel from a qualified and experienced bankruptcy attorney is critical. Again, sooner rather than later.
Caveat: Every case is different, and individualized advice is critical. Trying "self help" in dealing with the complexities of the Means Test is ill advised.
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Geting qualified counsel on board early is good advice.
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