Janice Didn’t Choose Chapter 13, Chapter 13 Chose Janice
Janice, an Ohio resident and a thirty-year employee of the US Postal Service, was in a bind. She had more than $115,000 in secured debt and more than $70,000 in unsecured debt; her credit card had gotten the better of her. She surrendered her house to the mortgage company and moved into an apartment. She was approaching retirement age with a mountain of debt. In re Phillips, 417 B.R. 30, 34 (Bankr. S.D. Ohio, 2009).
What could she do? She filed for Chapter 7 bankruptcy
As part of the bankruptcy process, the court examined Janice’s finances. She was making both mandatory and voluntary contributions to her retirement plan. She was also working to pay back two retirement account loans. Between the payments toward her mortgage (which she was still contractually obligated to make when she filed), the payments to her retirement plan, and her living expenses, Janice believed she qualified for Chapter 7 Bankruptcy. Her bankruptcy trustee disagreed.
The trustee objected claiming Janice’s income was too high to file for chapter 7 in Ohio
If your income is less than the median for a household of similar size in your state, you automatically qualify for Chapter 7 bankruptcy. The median income in Ohio for a single person is $42,814, or $3,568 per month. Janice made more than $4,000 each month, so she could not automatically qualify. If, like Janice, your income is above the median, you must pass the means test to qualify for Chapter 7. The means test is reminiscent of a high school math test, so sharpen your pencil. Take your monthly income, take out the allowable deductions, and multiply that amount by 60. Generally, if the result is greater than 25% of the non-priority unsecured claims or more than $10,950, you fail the means test. Unfortunately for Janet, she failed. Failing the means test results in a presumption of abuse; that means the court will assume that you have sufficient funds to pay something back to unsecured creditors. 11 U.S.C.A. § 707(b)(2). A presumption of abuse is not the end of the road for your Chapter 7 hopes; the court will then evaluate your case based on the “totality of the circumstances” test.
Mortgage payments as a deduction
First, the trustee objected to Janice counting her mortgage payments as a deduction since she had surrendered the property. The court said that the payments were allowable expenses because her contractual obligation to pay her mortgage had not yet been extinguished as of the date she filed. In other words, she had surrendered her house but she and the mortgage company had not yet leveled. So, Janice’s case went forward.
Totality of the circumstances argument
Then, the trustee argued that Janice’s Chapter 7 case was abusive under the “totality of the circumstances” test. This is the second hurdle an above-median-income filer must clear to go forward under Chapter 7. For this test, the court examines whether a debtor will be able to pay debts going forward, whether she has a stable source of income, what other remedies are available to her, and whether her expenses are reasonable. It basically amounts to a calculation of whether a debtor would be able to make substantial payments toward a Chapter 13 plan.
Why Janice’s case was converted to chapter 13
Sharpen your pencils again, and let’s look at what happened to Janice. The trustee pointed to her payments into her retirement account as an unnecessary expense, but current bankruptcy law allows such payments in order to encourage the use of retirement plans. However, both of Janice’s retirement account loans would be paid off within the span of a Chapter 13 plan – one in 7 months and one in 36 months. Additionally, Janice’s payments to her life insurance plans were ending and she admitted to overestimating her medical expenses by $50. That gave her a disposable income of $132 per month; the expiration of her retirement account loans could result in total payments of more than $13,000 to creditors. With the two combined, Janice would have been able to pay more than $21,000, which is about 30% of her debt. Does that qualify as “substantial”? In other cases, filers who could pay around 10% of their debts have been considered abusive. At 30%, Janice was well past that mark. She had to convert her case to Chapter 13 or be dismissed. In re Phillips, 417 B.R. 30, 44 (Bankr. S.D. Ohio, 2009).
Lessons from In re Phillips
Janice’s case teaches us a few useful things. Retirement plan contributions and repayments of retirement account loans are allowable deductions in Ohio. Id. at 43. Even voluntary contributions to retirement plans are allowable deductions. Id. In addition, mortgage payments (or payments for other secured loans) are deductible even if the property was surrendered prior to filing for bankruptcy. Id. at 37-8. Even though Janice surrendered her house, she was still contractually obligated to pay her mortgage. The court will allow deductions for payments as long as the contract is still in effect at the time of filing. Id. These deductions may help you pass the means test and qualify for Chapter 7.
Be sure to meet with a qualified bankruptcy lawyer who can help you crunch the numbers and pass the means test.