Chapter 13 of the Bankruptcy Code allows debtors to propose a court-supervised debt repayment plan, while chapter 7 allows debtors to liquidate (or wipe out) their debt. Before the Bankruptcy Code was amended in 2005, people who had sufficient income to file a Chapter 13 bankruptcy could choose between that option and a chapter 7 bankruptcy. The amended law requires many debtors who can afford to repay their debt to file bankruptcy under chapter 13 rather than chapter 7. The new law created a "means test" to determine eligibility for a chapter 7 bankruptcy.
What is the means test?
If your monthly household income is less than the median household income for a family of your size in the state of your residence, you are eligible to file a chapter 7 bankruptcy. A current list of median household incomes in each state can be found on the website of the United States Trustee.
If your monthly household income is greater than the median in your state, you need to make additional calculations to determine whether you can file a chapter 7 bankruptcy. You begin by computing your "current monthly income," which is actually an average of the income you earned over the last six months. You next tally the "allowed" monthly expenses that are listed on the bankruptcy form. Your actual monthly mortgage payment is an allowed expense. Many other expenses (such as your monthly food allowance) are standardized. In other words, you must use the allowed expense that has been fixed for people in your state rather than your actual expense.
By deducting your allowed monthly expenses from your current monthly income, you arrive at your "disposable income." You multiply that by 60 to arrive at a "60 month disposable income." If your 60 month disposable income is less than a specified amount, you pass the means test and can file a chapter 7 bankruptcy. If it is greater than a different specified amount, you do not pass the means test and you cannot file under chapter 7. If your 60 month disposable income falls between those two amounts, you need to perform additional calculations to determine whether your disposable income is sufficient to allow you to pay at least 25 percent of your unsecured debt. If it is, you are limited to filing a chapter 13 bankruptcy and cannot file under chapter 7.
The means test does not always exclude high income debtors from filing under chapter 7. Since your actual mortgage payment is an allowable expense, high income debtors with a high mortgage payment might pass the means test.
Debtors Who Are Not Required to Take the Means Test
A few categories of debtors can file a chapter 7 bankruptcy without taking the means test. They include:
Debtors who primarily have business debts rather than consumer debts. Debts that were incurred as part of a business or with the expectation of making a profit are generally considered business debts. Consumer debts are debts that were incurred for personal or household expenses.
Disabled veterans who incurred most of their debt while on active duty.
Members of the National Guard and armed forces reserves while they were on active duty and for the next 540 days, as long as they were on active duty for at least 90 days during that time.