Chapter 7

Chapter 7 is also known as a fresh start bankruptcy.  This type of bankruptcy is usually appropriate for people who have a lot of credit card debt and/or medical bills or other unsecured debts.  Chapter 7 allows you to discharge most debts, forever freeing you from having to repay those debts.  Some debts are not dischargeable though, including most taxes, child support, spousal support, and guaranteed student loans.

Means Test

Bankruptcy Act of 2005

In 2005, Congress added means testing to the bankruptcy law in an effort to minimize abuse of the Chapter 7 process. The means test diverts people who the government has determined are able to repay some of their debt away from Chapter 7 and into Chapter 13 bankruptcy, which includes a mandatory repayment period. For individuals who are looking to have their debts discharged so they can start fresh, the means test is a significant and oftentimes unnecessarily stressful hurdle.

When is means testing required?

Most individuals who want to file Chapter 7 bankruptcy will need to go through the full means testing process as there are only a handful of exemptions.  These exemptions include:

  • Cases where the debts are primarily consumer debt. If the majority of the individual’s debt is business, tax, or other non-consumer debt, means testing is not required.
  • Members of the National Guard and Reserves who are on active duty are exempt from the test if they have been activated for at least 90 days.
  • All disabled veterans are exempt from testing.

All other filers who want to file under Chapter 7 will have to undergo means testing.

How does means testing work?

The full means test is a multi-step process, but many filers do not have to go beyond the first step to determine eligibility for Chapter 7 bankruptcy.

The first step of the means test compares a filer’s current monthly income to the median income for a household of the filer’s size, in the state where he or she is filing. Although this sounds straight forward, current monthly income is actually a defined term, so precise calculation is required.  The filer should have as much of his or her financial information available for review at this time so that a qualified bankruptcy attorney can assist in this process.

The second part of the first step - comparing the client’s current monthly income as calculated above to the filing state’s median income for a household of the filer’s size - is more straightforward, but does require some research. The necessary median income data comes from the Census Bureau. The Department of Justice maintains a link to the appropriate data on its website.

If the individual’s current monthly income is less than the median income for a household of his or her size in the state where he or she is filing, the person passes the means test and can file for Chapter 7 bankruptcy.

If the individual’s current monthly income is greater than the specified median income, it is necessary to go through the entire means testing process to determine if he or she is Chapter 7 eligible. The final steps of the test are much more complicated.

First, to calculate “disposable income”, “allowed” monthly expenses are subtracted from the individual’s current monthly income. “Allowed” expenses depend on the individual’s household size and geographic area. The exact number to use in the calculation comes from the IRS, and can be obtained on the Department of Justice website.

How the individual’s “disposable income” compares to a certain amount set by the government determines whether he or she passed the means test. If the individual’s calculated disposable income is greater than or equal to the certain amount set by law, he or she will not be allowed to file under Chapter 7. Furthermore, if he or she files under Chapter 13 he or she will likely be put on a 5 year repayment plan rather than a 3 year plan since his or her current monthly income is above the state median.

If you are considering filing for chapter 7 bankruptcy and are concerned about how the means test will affect your particular situation, a qualified bankruptcy attorney can help.

The Means Test is probably the most misunderstood component of the bankruptcy process. If you are not under the automatic income cutoff level, you should absolutely seek professional help in filing your petition.

Wage Garnishment

One of the protections provided to debtors who file for bankruptcy is an automatic stay of most collection efforts, including wage garnishments. Filers may even be able to claw back some funds that were previously garnished.

As long as the bankruptcy stay is in effect, creditors covered by the bankruptcy cannot make any collection efforts that have not been approved by the court, this includes wage garnishments ordered before the debtor filed for bankruptcy.

While it may seem obvious, it is important to note that debts incurred after bankruptcy was filed are not covered by the bankruptcy action. So, a wage garnishment order for non-priority debt can be imposed while a debtor is going through the bankruptcy process. Garnishment orders for priority debt - most commonly child or spousal support obligations - can be imposed at any time and are typically not impacted by bankruptcy proceedings.

Although bankruptcy stays are automatic, they are not instantaneous. It can take time for creditors to be notified of the bankruptcy filing and put a stop to garnishments. If the filer wants to ensure that garnishments cease as quickly as possible, he or she can notify his or her payroll department to let them know they have filed for bankruptcy. Although employers often do not know whether their employees have filed for bankruptcy, if there is a wage garnishment order in place the employer will be notified that it is being terminated because the employee has filed for bankruptcy, so there is no harm in alerting them as soon as you have filed.

In addition to getting back funds withheld after bankruptcy was filed, filers can sometimes claw back wages that creditors had previously garnished. Wages garnished in the 90 days preceding the filing date may be recoverable. The amount garnished must exceed $600, and the filer must have enough exemptions to cover the funds. While attempting to pull all available funds into the bankruptcy may seem desirable, it can actually cost more in attorney’s fees to recover previously garnished wages than the wages are worth. The cost of recovery depends on the number and type of creditors involved.

Post-bankruptcy (or if the cases is dismissed or the court orders the stay lifted), the stay is lifted and creditors may again collect the debt they are owed via wage garnishment orders. Creditors may not attempt to collect debts that were discharged by the bankruptcy. Debts not discharged by the bankruptcy are subject to collection, including by wage garnishment, even if the garnishment order was previously stayed by the court.

Home Foreclosure

One of the hallmarks of the current financial downturn is the number of properties in foreclosure. Not since the Great Depression have more families been at risk of losing their homes due to nonpayment. Although homeowners may balk at the idea of spending money on legal assistance due to their financial hardship, an attorney can be a valuable advisor to homeowners navigating the foreclosure process, particularly if the homeowner wants to avoid bankruptcy.

Attorney assistance is perhaps most helpful if the home owner is seeking defense against foreclosure, but for many homeowners the reality is they will not be able to keep the house they are currently living in. For these people, the financial and emotional loss of the home can be overwhelming, so an attorney can be of great assistance with the formal foreclosure and post-foreclosure processes.

Foreclosure is governed by state law, so it varies considerably from one state to the next and often one mortgage to the next. Generally, there are two basic types of foreclosure - judicial and nonjudicial. As the names imply, judicial foreclosures are conducted in court while nonjudicial foreclosures are not.

Most judicial foreclosures are not contested by the homeowner so the lender wins via default judgment. If a homeowner does contest a foreclosure, the case is litigated as a typical civil action. The most common defenses, particularly since the 2008 financial crisis brought to light questionable mortgage handling practices, are procedural. One of the unique aspects of judicial foreclosure is the remedy if the foreclosing party wins - the court typically orders the sale of the property, often by sheriff’s sale.

Nonjudicial foreclosures can occur completely outside of the court system. However, they often end up in court in order to add legitimacy to the final outcome. In order to bring a nonjudicial foreclosure, the foreclosing party must typically notify the homeowner of the default and publicly advertise the property as for sale in the newspaper of record for the community. The property is then auctioned off. The purchaser, which is frequently the lender, will often bring a judicial action for quiet title after the sale to ensure it is legitimate. Nonjudicial foreclosures can also end up in court if the homeowner challenges the foreclosure, which effectively transforms it into a judicial foreclosure.

If the foreclosure sale did not generate enough money to fully satisfy the mortgage debt, the lender may seek a deficiency judgment against the former homeowner for the remaining amount of the debt. Deficiency judgments are considered unsecured debt, so the debt holders often sell this debt to third-party debt collection companies. The debtor typically cannot contest a deficiency judgment, but they have every right to protect themselves from unscrupulous collection practices. Attorneys are often called on to help debtors assert their rights under the federal Fair Debt Collection Practices Act.

Homeowners who have been foreclosed on may also call on the assistance of an attorney in negotiating the timeline for vacating the property. Foreclosure sales are often delayed or cancelled, and the homeowner has the right to maintain possession of the property until the sale is concluded, so the actual process of vacating the house can be chaotic. The purchaser will often work with the former homeowner to negotiate a timeline for vacating the property for two reasons. First, he or she wants the property to be kept in good condition, so he or she does not want to anger the current occupant. Secondly, the eviction process can be lengthy and expensive, so it is easier to work things out directly with the occupant. An attorney can help ensure that the agreement is fair and is properly memorialized so it is enforceable in court should either side violate the agreement.

In some states, homeowners have a post-foreclosure sale “right of redemption.” The specifics vary by state, but basically the homeowner can reclaim title to and possession of the house if they can pay the full amount owed within a specified time after the sale. This right is so rarely exercised that homeowners who attempt it may need legal assistance.

If the homeowner is not going to fight foreclosure, they should be informed of other options that are available to them. While these options do not allow the homeowner to save his or her home, they can save some of the hassle the foreclosure process invites.

  • Short Sale - Lenders may allow the homeowner to sell the house for less than the debt - hence the name short sale. The lender gets the purchase price and a deficiency judgment against the debtor. The debtor is released from the mortgage without having the black mark of a foreclosure on his or her credit report. The lender may also forgive the deficiency, but if they do it is typically considered taxable income for the homeowner.
  • Deed in Lieu of Foreclosure - Some lenders will allow property owners to surrender title and possession of the property voluntarily. The lender gets the property to re-sell without going through the expense of the foreclosure process. The homeowner can often negotiate the timeline for vacating the property, and avoid having a foreclosure impact his or her credit report.

The foreclosure process can be emotionally trying and difficult for the average homeowner to navigate.  It is imperative that you contact an experienced attorney if you are facing home foreclosure.  

Risks of Representing Yourself in Bankruptcy

Obviously you are in a financial bind if you are considering filing for bankruptcy. You will be tempted to think that you cannot afford an attorney, and that you are capable of filling out a few forms. An attorney at this crucial point in your life is not an expense, it is an investment in your future. 

Bankruptcy rules and procedures differ from other courts. The rules and procedures are complex and you may be taking risks that could have devastating effects on your bankruptcy case and financial situation.  

Think Before You Transfer Your Assets

The desire to protect your assets from creditors is natural. Bankruptcy law was developed to allow debtors to have certain protection of their property. But depending on the time frame, certain asset transfers are improper under U.S. Bankruptcy Code.

The underlying premise of bankruptcy is very generous - a debtor gets a fresh start free of most debt. But people, being what they are, found ways to game the system. Congress established asset transfer rules and made certain actions illegal, especially when done right before filing bankruptcy. Let’s take a look at a few:

Can I Discharge Student Loans?

Millions of Americans have significant student loan debt.  A large percentage of our clients that are struggling to meet their daily living expenses will also have a large student loan burden. They are battling a delinquent mortgage or credit cards, and filing for bankruptcy may provide relief. But sadly, we must tell most of those clients that we cannot help with their student loans.

Be the Tortoise

After years of living in debt, you're finally free. After filing for bankruptcy, much of your debt has been eliminated, and you'll find yourself in a position to start rebuilding your life. Your first instinct is that no one will loan you money, because you just charged off most of your debt. When you discover that some companies are willing to extend credit to you, there will be a temptation to go on a buying spree.