I am continuing a series of posts on “don’ts” to be aware of if you are facing bankruptcy. This “don’t” is particular to filing a Chapter 7. Do not file a Chapter 7 if your income significantly exceeds your expenses. This takes a little explaining.
The means test determines whether you can file a Chapter 7 or not. However, it is not the end of the story. Because the means test is focused on the income of the six month preceding the month in which you file bankruptcy, it is somewhat arbitrary. Your current income on Schedule I is presumed to be the same as the average of those six months UNLESS there is something definite and quantifiable that is going to be different going forward.
For example, you may have just started or about to start a new job that pays MUCH better than what you had been making. That should be reported in your Schedule I. And, it may cause your disposable income (income minus reasonable living expenses) to be too high.
In my experience, I prefer a debtor going into Chapter 7 to have a disposable income of $150.00 or less per month on their Schedule I and J, but there is some wiggle room there. However, the worst case scenario if your disposable income is much higher than that is to either convert to a Chapter 13 or get dismissed from bankruptcy which causes greater legal expenses.
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.
The new year also ushers in tax season. Instead of sugar plums we have receipts of deductions dancing in our heads. This season creates some additional concerns pertaining to bankruptcy. If you are trying to file a Chapter 7 and you just squeak in under the means test, pay special attention to your deductions. If you have claimed too few tax deductions on your W-4, then the trustee might object that it is an abuse for you to get Chapter 7 protection (overcome the presumption from the means test). Another related issue is the size of your tax refund. If you have claimed too few deductions then you will likely have a refund coming to you.
Even if you pass the means test regardless of under-deducting, you still need to be mindful of your refund. If you receive your refund prior to filing your petition, it would be wise to spend in on household necessities like groceries or repairs that are long past due, but which will not substantially increase the value of your home or automobile. If you will not receive the refund until after filing, be sure to ask your attorney to see if there is a “wild card” exemption available that can cover it. Otherwise, you may have to surrender some or all of your refund to the trustee.
In general, it is not good to claim too few deductions. Sure, you and most people enjoy having the refund once a year, but you are essentially making an interest free loan to the government when you under-deduct. Along with that issue, add the concern about the means test and possibly losing your refund in a Chapter 7 and it is just wiser to claim the actual number of deductions available to you.
- 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
- Miscellaneous Hot Topics in the EDKY
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