Chapter 7 bankruptcy eligibility depends upon the means test calculation. Your monthly income and expenses determine whether Chapter 7 liquidation or Chapter 13 wage earner reorganization is proper.
Checking the “Chapter 7” box on the petition is important, but does not guarantee the case will proceed as such. In bankruptcy, those with enough disposable income to make regular payments under a Chapter 13 repayment plan should do so. The means test tells us with certainty whether your path to debt relief lies in Chapter 7 or Chapter 13 Bankruptcy.
You may have heard a few myths about means testing. Here’s the truth:
Don’t worry! Your 602 Law Group bankruptcy lawyer will make the means test calculation for you. Find out where you stand with Chapter 7 eligibility before filing a petition. You could have a borderline case where expenses need to be examined because of self-employment or some other special situation. Trust your attorney to explain the proceedings, review the evidence, and form a legal strategy that’s in your best interest.
The means test compares your income, expenses, and family size with the average for an Arizona family of the same size. Let’s go over the basic steps involved in the means test calculation.
1. List Debtor’s Income
First, what was your income for the past six calendar months preceding the bankruptcy filing? Include income received from:
Is anything not included as income? Social Security benefits are not included. And do not include any compensation, pension, pay, annuity, or allowance paid by the federal government in connection with a disability, combat-related injury or disability, or death of a member of the uniformed services. Discuss these and other exceptions with your lawyer.
Second, average your monthly income amount for the six months preceding bankruptcy.
Example A: John is unmarried with no minor children or dependents. He files his Chapter 7 on July 9. His income varied in the six months preceding bankruptcy. He earned $3,000 in January, $2,500 in February, $2,000 in March, $1,500 in April, $1,000 in May, and $500 in June – a six-month total of $10,500. He divides $10,500 by 6 for an average monthly income of $1,750.
2. Compare Median Income By Family Size
Is your household income above or below the median family income for Arizona?
When completing the Chapter 7 Statement of Your Current Monthly Income (Form 122A-1), you must fill-in the median income for your state and size of household, among other things. Take your annualized average income and compare it to the median income by family size for Arizona. (Multiply your monthly average by 12 for your annualized income.)
Official median income levels are subject to change, so be sure your information is current. The source for the state median family income is the U.S. Census Bureau. For cases filed on or after November 1, 2019, click here.
Example B: John multiplies his average monthly income of $1,750 by 12 for an annual income of $21,000. He compares his annual income with the median family income. For a family of one, the Arizona median family income for filings on or after November 1, 2019, is $51,388. Because his annual income is below the median family income in his state, there is no presumption of abuse in his Chapter 7. For John, the means test calculation stops here. He is free to seek a fresh start with a Chapter 7 discharge.
What if the debtor’s income exceeds the state median family income? There is another step in the calculation.
3. When Debtor’s Income Exceeds the Median Family Income
When your income exceeds the median family income, continue with the Chapter 7 Means Test Calculation (Form 122A-2). This step determines whether the means test points to a presumption of abuse should Chapter 7 relief be ordered.
Start by making adjustments to income. A married debtor starts adjusting current monthly income by subtracting from the other spouse’s income any money not used to pay household expenses for the debtor or debtor’s dependents. For example, if the other spouse pays $300 per month in court-ordered child support, then $300 should be subtracted from the debtor’s current monthly income.
Next, take the IRS expense allowances using national and local standards. National standards put a dollar amount on food, clothing, and other items, as well as an out-of-pocket health care allowance.
Local standards include allowances for housing and utilities expenses, transportation, vehicle operation, vehicle ownership or lease, public transportation, taxes, involuntary deductions from wages (such as retirement contributions, union dues, and uniform costs), term life insurance premiums, court-ordered payments (such as alimony, spousal maintenance, or child support), certain education expenses, childcare, health care expenses beyond insurance costs, and some telephone options.
We’re not done reducing income yet.
Additional expense deductions from monthly income include:
Now make deductions for debt payments:
Finally, it’s time to add things up. Add all allowed deductions from income – IRS expense allowances, additional expense deductions, and deductions for debt payment. This will result in the debtor’s “disposable monthly income.”
From there, additional calculations determine whether filing Chapter 7 is allowed. The debtor could have special circumstances, too, which make Chapter 7 proper.
Do your preliminary results show ineligibility for Chapter 7? Go back to the beginning. Verify the accuracy of your data. Double-check your work. Anyone can make a math mistake with so many figures and calculations. Is your income for the past six months correct? Was the median income for the right family size?
In a nutshell, if your income is above the median family income, then the means test calculation becomes more complex. Don’t give up. Ask for help from a caring lawyer with 602 Law Group.