Since I do not focus on a volume practice in bankruptcy and because I have become known as someone who is able and willing to tackle some unusual situations, I get to consult with debtors that have really tough circumstances. A recent case led me down a path of seeing just how creative I could be in a bankruptcy situation to forestall and ultimately pay their home loan lender. Anyone who has talked to me or read many of my posts know that I am quite fond of Chapter 13 bankruptcies. This is partly due to the flexibility afforded by them to accomplish many things, such as saving one’s house from foreclosure. So, I fully expected to find that a Chapter 13 would be the best vehicle to solving this client’s issue where they were nigh on losing their home.
In the scenario presented to me, the debtor had a sizable asset they had not been able to touch which was in trust but not much in ongoing income. The trust was not a spendthrift trust, or else we would not even venture far down this path. However, the debtor hoped that in bankruptcy, the trust assets could be obtained in order to pay their debts – likely at 100%. There are many twists and turns to this matter which I simply cannot go into here. Negotiating this one particular twist will just bring us to another turn and so the analysis is far more complicated than I am putting forth. Other issues involve the couple being unmarried and looking at who actually owns what. There are issues related to the automatic stay when a foreclosure has already been granted, but on appeal. And, just how tight the trust actually is will determine much. However, this particular issue I am focusing on may be helpful to others. In theory, the debtor’s notion of satisfying their debts with this currently unattainable asset is appealing.
We must look at 11 USC Sect. 1322(b)(8) to start the analysis. This section allows the plan proposed by the debtor to provide for payment of all or part of a claim from their property or property of the estate (let’s not worry about that distinction too much – it is often one and the same, but not always). The debtor can do this, in part, because under 11 USC Sect. 1306(b), the debtor remains in possession of all property of the estate. In other words, if you have property you cannot cover with exemption and you really want to keep that property, the way to be assured of that and file bankruptcy is in a Chapter 13. In a Chapter 7, what you cannot exempt is subject to being liquidated.
So far, so good – the debtor keeps the trust assets and keeps the house. Oh, but then we have to look at other provisions of the code. Next, we turn to 11 USC Sect. 1325 which requires that they are able to make payments. If my debtor’s only means to make payments on the plan is accessing their trust, then we run into a problem because there is no reasonable certainty that they will get into that trust in bankruptcy. After all, they were unsuccessful before considering bankruptcy. Because of this uncertainty and the absence of regular income, the plan may not get confirmed. The second barricade the debtor hits is the dreaded “adequate protection” called for in 11 USC Sect. 361. If they cannot protect the secured creditor’s interest in the Chapter 13, then they have no right to keep the asset securing the debt. In essence, this is a carve out of the Section 1306 provision.
Oh, but the secured property is land which typically increases in value; it does not decrease in value. However, in our situation, the amount owed on the property is far more than the value of the land under current market conditions. Still, we may be able to show adequate protection if we show that the value of the land is increasing faster that the debt is accruing interest and other allowed charges. Let us leave this one alone then, since it is driven by things I do not wish to get mired in.
The real problem I find myself up against is caused by the very provision that usually helps people out so much in a Chapter 13: Section 1306. When we combine the fact that the debtor keeps possession of their assets with the other nicety of Chapter 13s: the debtor has an absolute right to convert to a Chapter 7 or dismiss their Chapter 13 case, that is where get to the rub. My debtor cannot show that she can and will make payments to unsecured creditors as required by Section 1325 when she could dismiss the case as soon as she gets hold of the trust assets. Such a plan is unlikely to get confirmed.
Only if her income could pay an amount equal to the non-exempt asset could she get confirmed because there is one other hurdle not yet mentioned. The final hurdle is back in Section 1325 which basically says that creditors have to come out at least as well as or better than if the debtor filed a Chapter 7. This is the creditor’s “best interest” test that balances out the debtor’s benefits in Chapter 13s. In our case, if the debtor filed a Chapter 7 which cannot be converted dismissed without permission and where the assets of the estate go into the trustee’s hands, my debtor cannot pass this test.
Oddly enough, given many facts that I did not go into, this case is actually one where Chapter 7 gives a better likelihood of saving the house. The trustee would be vested with the ability to crack open that trust and has more resources with which to do it than the debtor in a Chapter 7. And, if successful, the home loan would still likely be paid in full even after the commission and other expenses.
I was wrapping up final preparations on a Chapter 13 petition and proposed plan today for filing next week. As I ran through the plan and made provisions for the adequate protection payments (in this region they are typically 1% of the value of depreciating assets), I realized it would be some time before I began getting paid for my work. You see, in a Chapter 13, one can put much of the attorney fees into the plan to be paid as administrative costs. This is a priority class of creditors that can be paid in full through the course of the plan. As a priority class, that also means they can be paid ahead of many other kinds of debt.
However, they do not get paid ahead of adequate protection payments. I had been very diligent in this person’s plan to make their budget workable so they could keep their family running while still saving their house and paying off the family car. That car, a family vehicle worth over $10k, meant that adequate protection payments would be over $100 per month right out of the gate. However, due to repaying some retirement plan debts (allowed to avoid tax penalties) their first several months of plan payments would not be much more than the adequate protection amount.
I breathed a sigh and reassured myself that it was just a matter of time and I would be compensated for the post-petition work. I felt good that I was helping the family and that they would be able to cover the arrears on their house and stave off foreclosure. And, I made a mental note that in the future I needed to be mindful of high value cars and tight budgets so that I asked for a smidgen more in up front fees on such matters.
This is a round about way to explain why, in discussing a Chapter 13 with your attorney, she or he may seem to waffle a little on the attorney fees. There is a $3,500.00 “no-look” fee in the Eastern District of Kentucky. This does not mean that is a set, required fee. Rather, if your attorney charges that much or less, the court is not going to ask your lawyer to prove up the time she or he spent as an attorney. If more is charged, then an application detailing the work must be produced. Most attorneys will charge the $3,500.00. Where the waffle comes in is how much will be required to be paid up front prior to filing. I tend to go on the low-end because I know things are so tight for people and I make it as affordable as a Chapter 7, but I have to off-set that with the demand of my own expenses.
I have written in the past about the ability to “force” down interest high interest rates on car loans in a Chapter 13 and even to decrease the principal mount due on cars purchased over two and a half years prior to the bankruptcy. These are tremendous benefits to a Chapter 13, but there is a downside to including your vehicle to be paid through the plan. That is, at least in the Sixth Circuit which includes Kentucky.
The case, In re Nolan, 232 F.3d 528 (6th Cir. 2000) is the prevailing law in Kentucky on surrendering a car after a Chapter 13 plan has been confirmed. Whereas some other courts have adopted only a “good faith on the totality of the circumstances test” as to whether surrendering a car post-confirmation allows the claimed debt to become an unsecured debt, the Nolan case precludes such judicial discretion.
Nolan dictates that if a debtor seeks to surrender a car that is being paid through a confirmed Chapter 13 plan, the creditor still gets paid in full through the plan. The creditor gets to seize the car and auction it, applying the sale price to the debt owed. However, cars rarely auction for much and so most of the debt remains. Since that debt, which outside of bankruptcy would become an unsecured deficiency debt, must be paid in full, then debtor will likely not be able to decrease their plan payment much if at all. All the other unsecured creditors realize no benefit, nor any noticeable harm.
The debtor’s position is harmed even though they will be making the same plan payment as before. This is because they are likely having to purchase a new vehicle which will NOT be paid through the plan. This makes the debtor budget all the tighter and possibly untenable.
Often, when approaching a Chapter 13, a legitimate concern that the potential debtor faces is having reliable transportation during the Chapter 13. The debtor may have fallen behind and had a car repossessed just prior to the bankruptcy filing. Or, more commonly, they are driving a junker of a car that is on its last legs (or wheels). Considering that most Chapter 13 bankruptcies are for five years (some people qualify for a three-year Chapter 13), having a junker car at the start is problematic.
First, it is very hard to predict how much one will have to expend to keep a junker car running for five years. Second, although debtors can apply to the court to incur additional debt during a Chapter 13, it is a tad more complicated to buy a car during the Chapter 13. So, it is entirely legitimate planning to buy a car prior to filing the Chapter 13. If there is sufficient disposable income, buying a dependable car before a Chapter 13 can direct some of that income away from paying unsecured debts towards paying for a legitimate need of reliable transportation. After all, transportation allows for employment and having regular income is necessary for a Chapter 13.
If, after talking to your lawyer about it prior to Chapter 13, you decide to buy a car then there are some things to be careful about. Foremost, you want to buy a car that is reasonable. Forget the Rolls Royce or Jaguar and look for the Corolla or Focus. In other words, do not get a luxury vehicle but get one that is functional. Now, it does not have to literally be a Corolla or a Focus, but the idea is to minimize fuel and repair costs while having enough car to meet your families needs.
Second, you need to be aware of the timing of the purchase. Under 11 USC Sect. 546(c)(1), the seller of goods appears to be allowed to have a right to reclaim the car within 45 days (or 20 days of the petition date if within that 45 days). There appear to be no cases in the Sixth Circuit addressing this issue, but it has come up elsewhere. In one case from Alabama I reviewed, the seller of the car claimed 546(c)(1) gave them the right to take the car back and moved the court to lift the stay to do so. Ultimately the court ruled in favor of the debtor because they found no exception for reclamation in the automatic stay of bankruptcy for the seller, but who wants to go through the hassle of unnecessary litigation. So, if possible, it is best to make the purchase 45 days prior to filing the bankruptcy.
I have often written about Chapter 13 and how it is a great mechanism for resolving tax debt. And it is! When looking at income tax debt, there are basically two kinds: that which can be discharged and that which cannot be discharged. Simple enough.
The basic rules of figuring out which tax debts can be discharged are also simple, but the various times and ways the time-frames of these rules get “tolled” gets tricky:
- The most recent date (remember extensions) the filing was due is over three years ago.
- The tax was assessed at least 240 days ago.
- The tax return was actually filed more than two years ago.
- The tax return was not fraudulent.
- The taxpayer was not willfully trying to evade the taxes.
So, in a Chapter 7 or 13, the income tax debts that meet these rules get discharged. If there are tax debts that are not discharged, then in a Chapter 7 they keep on accruing interest and penalties and must get paid. In a Chapter 13, these non-dischargeable tax debts must be paid in full. So, if you have enough disposable income to accomplish it, then in three to five years the tax debt PRINCIPAL is paid in full on tax debt that cannot be discharged.
Ahhh, the rainbow is at hand! Oh, but wait, Federal tax debt can still accumulate 4% interest while in bankruptcy and Kentucky income tax can accumulate 5% interest. You see, 11 USC Sect. 1322(b)(10) has a little catch. A debtor in Chapter 13 can ONLY pay the accruing interest on these income tax debts IF AND ONLY IF all the claims filed by creditors are paid at 100%.
There is nothing for it other than to give plenty of advance notice to Chapter 13 debtors. There is no way to change the fact that the interest can accumulate and there is no way to make it get discharged. So, unless you have a 100% Chapter 13 plan, be prepared to have to pay the accumulated interest on your income tax debt EVEN after the Chapter 13 is closed out. Don’t fret too much though. When you have gotten that far, you are going to be much more freed up financially to take care of that last issue.
Last week I responded to a quest as to which was better, “Bankruptcy versus Foreclosure”. And in typical lawyer fashion, I said it was the wrong question. Actually, one must decide between a Chapter 7 and a Chapter 13. You can see that last post for the explanation of why. A Chapter 7 would be preferable if you either do not want to keep the house or if you cannot afford to keep the house. A Chapter 13 is preferable if you want to keep the house and can afford it with help.
In a Chapter 13, you can ‘force’ your home lender to let you catch up the arrears (past due amounts plus certain pre-petition fees) over the course of up to 60 months. The lender has to let you start paying the regular loan payments during the bankruptcy so long as the plan payments you propose are feasible and cover all the arrears. They cannot charge interest on those arrears (at least not in the Eastern District of Kentucky) and only certain other post-petition fees are allowed.
For a plan to be feasible, you have to show in your Schedule I and Schedule J (income and expenses or “budget”) that you can pay a large enough plan payment that all those arrears will be satisfied. In considering your budget, you exclude any unsecured debt you are currently trying to pay, such as credit cards or old doctor bills.
So, if you want to keep your house and you can engage in sufficient belt-tightening to pay the arrears over 60 months so long as all your unsecured debts essentially go away, then you should consider a Chapter 13. An added benefit for a few home owners is that a second mortgage might get stripped off entirely. I will write more about that in the next post.
Bifurcation sounds like a painful surgical procedure, but it merely means splitting a joint bankruptcy into two separate ones. Marriage takes tremendous effort (I should know – I have been married to the same woman for 23 plus years) and when a couple is also stretched and stressed by financial tribulations, the marital relationship can take hit after hit. Often, bankruptcy can provide the relief needed on the financial front that allows the husband and wife to redirect their emotional resources to restoring the marriage.
I have encountered a few couples, though, where the relief of bankruptcy was insufficient for them to turn back towards each other. I am sad for these times when one or both decide that they have gone too far and divorce must happen. When this happens after a joint Chapter 7 has been filed, then there is no impact on the bankruptcy. However, in a Chapter 13 the couple will probably opt to split the case. At the point of divorce, the parties financial interest and desire for maximum separation makes the case split, or bifurcation, necessary. After all, who wants to keep pooling resources with an ex-spouse.
The process to bifurcate is simple enough. An entirely new filing fee is assessed by the court for the new case. A motion to split the cases must be filed and served on all creditors and the trustee in the case. Typically, the motion provides for a 14 day notice and opportunity to object to the case split, but each district is likely to have variations on this. After that period has run and the fee paid, then clerks create two identical cases.
Once the split occurs, though, each party must file new Schedules I & J showing their individual budgets. They also must create separate payment plans, modifying the confirmed plan or amending a pending plan. If there is real estate, at least one party is likely surrendering the house in their plan. If either party could have filed a Chapter 7 to begin with or their new income would qualify them for a Chapter 7, then that party may opt to convert to a Chapter 7.
If you consult with a bankruptcy lawyer about a possible Chapter 13, then you will likely hear them tossing around phrases such as, “100% plan” or “7% plan”. This sounds foreign, but I want to give you a quick explanation. When one files a Chapter 13, they propose a plan. This is very much like the reorganization of debt plans that businesses (and sometimes individuals) use to restructure in a Chapter 11. On a miniature scale, the individual debtor in a Chapter 13 is restructuring their debt via their plan.
One aspect of a plan that can be confirmed (approved by the court) is that it divides debts and creditors into different classes. The common classes are priority debts, such as recent income tax debt; secured debt, such as a car loan or mortgaged loan on your house; and unsecured debts, such as most credit cards. There are different rules for each class. For example, priority debts get paid in full in a plan. The rule for unsecured creditors is that each gets treated the same and will receive a pro-rata share of the payments made over an above what is required to pay priority and secured debts.
So, unsecured creditors are the last on the list of who gets paid and they only receive the leftovers. They must get as much in leftovers as they would have gotten in a Chapter 7, but this bottom number is usually zero. That is, most individual Chapter 7 bankruptcies have no non-exempt assets to be liquidated, divided and distributed. But, if your assets in the Chapter 13 are not entirely exempt, then you may have a higher dollar amount that must go to unsecured creditors. For example, if you can exempt all but $10,000.00 of the equity in the home you are keeping, then your unsecured creditors will have to collectively receive $10,000.00 over the course of your Chapter 13.
Now, the percentages I referred to above speaks to the pro-rata share each unsecured creditor will receive through the plan. Ordinarily, trustees will give higher scrutiny to expenses listed in your budget (Schedule J) when your plan only pays a very low percentage. Despite this, there are plans that get approved for debtors who are barely getting by where unsecured creditors get zero percent payment. From my experience, though, the average Chapter 13 debtor is going to repay 3 to 7% of their unsecured debts.
I have seen a number of 100% plans for debtors with relatively high income who fell behind because of a temporary job loss or some snowball effect of debt. In these plans, the trustees are typically less concerned about relatively high expenses and lifestyles.
A couple of days ago I wrote about ways income and expenses influence your Chapter 13 plan payments. Today I want to encourage people preparing for bankruptcy to invest time into a careful look at your income and expenses. Because your plan payment in a Chapter 13 must be at least the amount of your disposable income, then accuracy matters in figuring out what that is. Once you have put the amounts in your Schedules (Schedule I is income an Schedule J for expenses), you are locked into them unless you can verify changes with documentation.
It is incredibly common, though, that people really do not know what they spend on expenses. Sometimes, people do not have an accurate idea of income either. This is less of an issue if all your income show up on pay advices (pay stubs) from wages. It is a bigger challenge for independent contractors and business owners. Almost no one, though, accurately tracks all personal expenses.
Despite the challenge presented by the lack of tracking, it is crucial to be as accurate as possible with expenses. If you underestimate your expenses, your plan payment may end up being too high to maintain resulting ultimately in dismissal of your case. Over-estimating your expenses may keep you from being able to show a plan payment of a certain amount (an amount required to pay arrears on a house, priority tax debt, or other mandatory items) to be feasible.
So, it is worth spending a few hours going back over bank statements or other documents that can help show average monthly expenses. If you have time before filing, it would be helpful to do a detailed tracking of expenses for a month. This can be very revealing and may also help you figure where things can be cut.
This accuracy, though, in determining income and expenses can mean the difference between a successful Chapter 13 bankruptcy and one that is dismissed or converted to a Chapter 7.
- What your bank CAN and CANNOT do when you file bankruptcy
- Tax Time!
- Interest Rates on Secured Claims in Chapter 13 Cases in the EDKY
- CAUTION: Tax Refund
- When Business Owners Should File Bankruptcy
- To File or Not to File: Attorney decision making
- Deadlines for Filing Prepetition Tax Returns in Chapter 13 Cases
- Delinquent Property Tax Claims in Chapter 13 Cases
- Lessons Learned the Hard Way
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