If you’re considering Bankruptcy, especially Chapter 7 Bankruptcy, you’ve probably read about the Chapter 7 Means Test; but what does the Means Test really entail? Our Attorney Christopher A. Sisk explains in the following post.
The Means Test and Chapter 7 Eligibility
When considering potential solutions to their financial concerns, Debtors often inquire about whether they are eligible to file a Chapter 7 bankruptcy, which is commonly referred to as a “straight” or “liquidation” bankruptcy. In order to be declared eligible for relief under Chapter 7 of the U.S. Bankruptcy Code, a Debtor must qualify under the Means Test, which was created with the goals of limiting the amount of people who have potential access to Chapter 7 bankruptcies and preventing abusive filings, providing relief only to those who qualify.
WHAT IS THE MEANS TEST?
The Means Test is an income-based calculation that was designed to keep most high-income debtors from filing a Chapter 7 bankruptcy. Should those Debtors want relief from their creditors, they would likely need to consider filing a Chapter 13 bankruptcy, which would provide them an opportunity to repay some or all of their debt over a five year period. Thus, the Means Test is designed to ensure that the only debtors who qualify for Chapter 7 are those who cannot afford to pay back their debts.
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HOW DOES THE MEANS TEST WORK?
The Means Test evaluates the Debtor’s average income from the six months prior to filing, less certain monthly expenses, in order to determine his or her disposable income. If he or she were unemployed for any portion of the six months prior to the bankruptcy being filed, his or her average monthly income would be lower. The Debtor’s current monthly income is then compared to the median income in the state in which he or she resides, relative to a household of his or her size, and, if that income is below the state median income*, the presumption of abuse will not arise and he or she will be eligible for a Chapter 7 under the Means Test. If the Debtor’s current monthly income is higher than the median income for a family his or her size in the state in which he or she resides state, the Debtor’s disposable income must then be calculated.
*See ‘State Median Income Chart’ below.
CALCULATING DISPOSABLE INCOME
Disposable income is often thought of as income after expenses and necessary taxes have been removed. However, for purposes of bankruptcy, the IRS allows for some, but not all, expenses to be deducted from the Debtor’s monthly income in order to accurately depict his or her monthly disposable income. For example, food, clothing, car payments, mortgage payments, rent, and taxes are among some of the deductions that may be subtracted from monthly income.
Subtracting all available deductions from the Debtor’s gross monthly income provides the Debtor’s Disposable Monthly Income, or DMI. If that DMI is multiplied by 60 (there are 60 months in 5 years, which is the maximum term for a Chapter 13) and is less than 25% of the Debtor’s unsecured debt and non-priority debt combined, he or she has passed the means test and is eligible to file a Chapter 7 bankruptcy. If the DMI over 60 months is greater than 25% of the Debtor’s unsecured debt and non-priority debt combined, he or she will not be eligible to file a Chapter 7 bankruptcy*.
*Although very rare, some Debtors who fail the Means Test may still file a Chapter 7 bankruptcy if they receive a special exemption, or a waiver, from the Means Test. Exemptions and waivers will be discussed in a future blog post.
To speak with an attorney about your financial circumstances and discuss whether a bankruptcy is in your best interest, contact The Grand Law Firm for a free consultation today.
LOUISIANA MEDIAN FAMILY INCOME BY FAMILY SIZE
1 Person 2 People 3 People 4 People*
$41,016.00 $49,279.00 $57,289.00 $72,828.00
*Add $6,900.00 for each individual in excess of 4.