As of April 1, 2016 you can have a little more “disposable income” and still pass the “means test” to qualify for Chapter 7 bankruptcy.
Means Test
The “means test” determines whether you have enough income after your expenses (that is, enough “disposable income”) to repay your creditors a certain amount. If you don’t have enough disposable income, then you qualify for Chapter 7“straight bankruptcy.” Otherwise you must instead deal with your debts through a Chapter 13 “adjustment of debts” case.
Chapter 7 allows you to discharge (legally write off) all eligible debts in a process taking 4 months or so. In contrast Chapter 13 requires you to pay debts as much as you can afford to in a payment plan lasting usually 3 to 5 years. Chapter 13 may give you some significant advantages over Chapter 7. But in many other situations being able to discharge debts in a matter of a few months makes Chapter 7 the much preferred option.
Exempt from the Means Test
You don’t have to take the means test to qualify for Chapter 7 under two sets of circumstances:
if your debts are primarily business debts instead of consumer debts
if you fall into one of several military service categories
(We’ll cover these exemptions from the means test in the next couple blog posts.)
The Easy Part of the Means Test
Assuming you don’t qualify for an exemption and have to take the means test, it consists of a number of parts. If you pass the first part, then you pass the entire means test and qualify for Chapter 7. You don’t have to go through the remaining parts. Many people who pass the means test do so this way.
This first part determines whether your income is low enough. It’s low enough if it’s no more than what is called the “median income” amount for your family size and your state.
Calculating your “income” for this purpose is different than you’d think. It’s based on a very broad meaning of “income,” money from almost all sources. This “income” is calculated from money received not in the prior tax year but rather precisely during the 6 full calendar months before the bankruptcy case filing. Then that “income” is compared to published median income amounts for your family size and state of residence.
The rest of this blog post assumes that your income is greater than the applicable median income amount. That’s because we’re focusing now on the parts of the means test that require going beyond this initial “income” part.
Calculating Your Allowed Expenses
If you aren’t exempt from the means test and your income is above the state median for your family size, the next step is to subtract your living expenses from your income.
For many expense categories you don’t use your actual expenses. Instead you use IRS National Standards for expenses such as food, clothing, and health care. For expenses such as housing, utilities, and vehicle operation, you use IRS Local Standards. These National and Local Standards can be found here.
For your remaining expense categories—for example, mortgage and vehicle loan payments, childcare, court-ordered payments, life insurance, involuntary payroll deductions, ongoing charitable contributions, and taxes—you can use the average amounts you actually are paying.
Too Much Disposable Income?
If your allowed expenses are more than your income, then you pass the means test.
If your income is more than your allowed expenses then whether or not you pass the means depends on some remaining steps.
Subtract the expenses from the income to get your disposable income. Multiply that amount by 60. If that amount is less than $7,700, you pass the means test. You are considered to not have enough disposable income to be able to pay a meaningful amount to your creditors.
For example, if your monthly disposable income is $100, that amount multiplied by 60 equals $6,000. Since that is less than $7,700, you’d pass the means test.
But if your disposable income multiplied by 60 results in an amount more than $12,850, you don’t pass the means test.
For example, if your monthly disposable income is $250, that amount multiplied by 60 equals $15,000. Since that is more than $12,850, you’d not pass the means test.
And if your disposable income multiplied by 60 results in an amount between $7,700 and $12,850, then compare that amount to 25% of your total unsecured debts. If the amount is less than this 25% amount, then you pass the means test. You are considered to have insufficient disposable income to pay a meaningful amount to your creditors.
If the amount is 25% or more than your total unsecured debts, you’d not pass the means test.
For example, if your monthly disposable income is $175, that amount multiplied by 60 equals $10,500, an amount more than $7,700 and less than $12,850. If you had $50,000 in unsecured debts, 25% of that would be $12,500. Since $10,500 is less than $12,500, you would pass the means test.
The Increases of April 1
The $7,700 and $12,850 amounts just used are correct for Chapter 7 cases filed on or after April 1, 2016. Before that these amounts are $7,475 and $12,475. The increases are part of an every-3-year cost of living adjustment. This means that as of April 1 you can have slightly more disposable income and still qualify for Chapter 7.
Final Note—“Special Circumstances”
If your disposable income is too high after the calculations above, you still might be able to claim “special circumstances that justify additional expenses or adjustments of current monthly income for which there is no reasonable alternative.”