Kentucky Bankruptcy Law

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Trending in Chapter 13 in the Eastern District of Kentucky

The trustee’s office appears to be taking a closer look at expenses in Schedule J of Chapter 13 cases. Specifically, they appear to be pushing for decreasing recreational/entertainment expenses and miscellaneous expenses. Previously, this trustee’s office tended to utilize the standardized amounts provided for in the means test as a gauge. As a result, if a debtor reported a particular expense in excess of those amounts, I would encourage them to engage in “belt-tightening” in that area.

The interesting thing about those standardized expenses is people who make less money have lower expenses while people who make more money have higher expenses even when the family size is the same. In the prior approach, the trustee’s made some allowance for this dynamic. The trustee’s current approach seems to be to cram those relatively higher income families into the expense structure of the lower-income Chapter 13 families. Now, even if expenses fall within the standard allowance of the means test, the trustee is looking for deeper cuts.

On the surface, this seems fair – after all, why should richer people get to have higher expenses and still discharge their debts at the end? The problem comes down to human nature. Once people develop a set point of expenses, then it is extremely hard for them to do substantial cuts in those expenses. When one is talking about the extended timeframe of five years in a bankruptcy, well the likelihood of successfully maintaining extensive cuts drops dramatically.

So, what is the goal of Chapter 13? I suggest that we are best served when people successfully complete Chapter 13 plans. This will not happen when budgets are made so tight as to be unwieldy over time. Debtors will get into a tight spot with unexpected expenses and be unable to make their payments. This is not to suggest that people should get to engage in lavish lifestyles in a Chapter 13; rather, I suggest a balance between belt-tightening and sustainable budgets. Clothing makes for a good analogy: a really tight dress may look really trim and neat, but no one can wear it day in and day out. Rather, one needs slightly roomy clothes to go about their day-to-day business. Such an approach will increase Chapter 13 successful outcomes and, thus, increase the overall return to unsecured creditors.

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May 28, 2014 Posted by | Bankruptcy, Chapter 13, Disposable Income / Budget, Plan, Plan payments | , , , , , , , , , , , , , | Leave a comment

Car Cares and the Chapter 13 Dilemma

While I often extol the virtues of Chapter 13 bankruptcy, there is one issue in them that can be most vexing to a Debtor in need of help. Nearly every Chapter 13 Debtor owns a car with a secured debt attached to it when they file. Previously I have talked about the benefit of being able to reduce the interest rate on high interest car loans through the Chapter 13 and even, when the debt is old enough, cram down the principal owed to the actual value of the car. These all remain true. However, there is a hidden danger to having a car loan in Chapter 13.

The danger lies in 11 USC Sect. 1235(a). This provision lists a number of things that must be true about a Chapter 13 plan for it to be confirmed. Conversely, if all the requirements of 1325 are met, the court must confirm the plan. Shaw v. Aurgroup Financial Credit Union, 552 F.3d 447 (6th Cir., 2009). The Sixth Circuit Court of Appeals has issued case law based on this code provision that severely restricts the flexibility of a Chapter 13 bankruptcy in this one area of car loans. Those decisions are In re Adkins, 425 F.3d 296, 300 (6th Cir.2005) and In re Nolan, 232 F.3d 528 (6th Cir.2000).

Essentially, these two court opinions determine that once a plan is confirmed and the car lender’s claim is allowed, then it shall always be a secured claim. This may not sound formidable, but here is how the scenario plays out: Debtor has a car worth $7,000.00 which is working okay at the start of the plan. The plan gets approved and the secured claim is filed by the lender for $7,000.00. Perhaps there is another claim for excess debt on the car that is treated unsecured, but that does not matter in this situation. A couple of years into the plan, the car starts messing up and it becomes more costly to fix than the car is now worth. The Debtor, who is paying all their disposable income into their Chapter 13 cannot get the car fixed. So, they seek to modify the plan, surrender the car, and purchase a more roadworthy vehicle. They can only manage this if they can reduce their plan payment. They can only reduce their plan payment if the deficiency of the car loan, what’s left after the car is surrendered and auctioned, is unsecured debt. However, In re Adkins and In re Nolan preclude this.

That $7,000.00 cannot be re-characterized as unsecured. Let’s say the loan after two years of payments through the Chapter 13 plan is now $6,000.00 but the car auctions only for $1,000.00. That leaves a $5,000.00 deficiency. That $5,000.00 remains a secured debt that MUST be paid in full during the remainder of the Chapter 13 plan. The Debtor still must pay the exact same amount in plan payments and thus cannot afford to buy another vehicle. Now they have no car but they still must pay for their surrendered car in full.

The Sixth Circuit used solid statutory construction and policy considerations in coming to this result. They wanted to keep a Debtor from being able to enjoy a car for a while and then shift the depreciation value to the creditor. However, because the creditor knows they will be paid in full regardless of what they do, they have no incentive to realize the actual fair mark value of the car that was surrendered. The Debtor cannot sell the car due to the lien in place and the because of the Chapter 13 bankruptcy so they are stuck. They might as well keep the car and make do for the life of the Chapter 13.

The main point in all of this is to do a careful assessment of one’s vehicles and car loans prior to filing. Going into a Chapter 13 with high value cars that also have a high debt load can leave one with almost no wiggle room for the life of the Chapter 13. It would be best surrender such vehicles prior to confirmation of the plan and obtain an inexpensive used car prior to filing. And, if they have cars with debt, the Debtor needs to have some comfort that the car will actually last the life of the bankruptcy.

March 3, 2014 Posted by | Uncategorized | , , , , , , , , , , , | Leave a comment

The Ramifications of Paying Off a Chapter 13 Early

I am often asked by Chapter 13 debtors if they can pay their Chapter 13 off early. This is a problematic question with no one clear answer. It is problematic because certain property of the debtor continues to come into the Chapter 13 estate while the bankruptcy is pending. This is different from a Chapter 7 where the property of the estate is established and remains static at the moment the bankruptcy is filed. The clearest example of this ongoing inclusion in a Chapter 13 are wages and other earned income of the debtor.

Since ongoing wages and earned income of the debtor comes into the estate of the Chapter 13 so long as the case is pending, then one cannot use those wages to pay your plan off early IF you were not below the median income on the means test OR you are paying 100% of unsecured debts in the Chapter 13. This makes sense because the idea with a Chapter 13 is that you repay creditors to the extent that you reasonably can. So, if you end up getting promotions or a better paying job during the bankruptcy, then you could reasonably pay a higher percentage of your unsecured debts.

Some Chapter 13 trustees require a new budget (Schedules I & J) to be submitted each year. If they see a substantial bump up in disposable income, they then require the plan to be modified to pay a higher percentage of the unsecured debts. In the Eastern District of Kentucky, the trustee does not automatically require this. However, if you begin to pay ahead on your Chapter 13 plan, they well may pay attention and decide you must be making more money. This can trigger a demand from the trustee for a new budget and probably a higher plan payment.

There are some things that clearly and unquestionably CAN be used to pay off a Chapter 13 plan early. If you use property of the estate that was exempt at the inception of the bankruptcy, such as a 401k account, then there should be no issue if you fell below the median on the means test. However, there are other things that need to be investigated and carefully considered by your attorney. Therefore, I must abstain from listing those things that are in the grey area here lest I miss some peculiarity of your situation.

January 27, 2014 Posted by | Bankruptcy, Chapter 13, Chapter 7, Discharge, Plan, Planning, Property (exempt | , , , , , , , , , , , , | Leave a comment

Consolidation loan conundrum

I had a consult scheduled with a potential client recently who did not make it in. No worries, I just reached out to her to see if she wanted to reschedule. She declined because she had initiated a consolidation loan process to pull together all her outstanding unsecured debts under one, lower interest rate. She was getting this consolidation loan by refinancing her house and using up any equity in the house to secure the loan. I still offered to meet with her – for free even though I likely would see no business result from the meeting. I did not want to talk her out of this plan; I simply wanted to make sure she had full knowledge of all the ramifications. This is because I know people who have done this successfully and avoided bankruptcy. I have known others who did this and it ended up putting their home at risk.

Essentially, a consolidation loan like the own my potential client was wrangling does not reduce debt principal. It usually does reduce interest costs over the lifetime but, to be sure of this, one must factor in the closing costs and fees associated with an equity loan secured by your house. What does happen is that unsecured debt gets converted into secured debt. Secured loans offer lower interest rates because the risk of total loss on the loan is mitigated by the value of the property securing the loan. In other words, if you do not pay they take your house.

A bankruptcy, whether Chapter 7 or Chapter 13, shreds off most or all unsecured debt. So, in a bankruptcy situation, unsecured debt is good debt to have because you will not have it long. Secured debt does not pass away so quietly. You can sever the personal obligation to repay the debt, but there are only very narrow avenues by which the secured obligation – the liability on the property – can be done away with. An equity line on a house can only be completely discharged in a Chapter 13 IF there is absolutely zero equity to which the loan actually adheres.

So, if my potential client does follow through with this secured consolidation loan, then she has closed off the possibility of shedding that debt unless she sheds the house as well. This may be a great strategy. She may have enough income that is reliable enough to make that extra house payment and still meet her living expenses. I just want her to know that doing so commits her to that one way out of debt and to make that decision with as full knowledge as she can get. And, if it works out, I am glad for her. If it does not work out, well – perhaps I can still help her save the home with a Chapter 13.

December 3, 2013 Posted by | Alternate Debt Relief, Bankruptcy, Chapter 13, Chapter 7, Consolidation loan, Discharge, Planning, Pre-filing planning, Security interests | , , , , , , , , , , , | Leave a comment

Cars and Chapter 13

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.

October 30, 2013 Posted by | Additional Debt, Bankruptcy, Chapter 13, Disposable Income, Financing, Plan, Planning, Pre-filing planning, reaffirm or surrender), Security interests | , , , , , , , , , | Leave a comment

Chapter 13 Planning: Purchasing a car prior to filing part 1

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.

September 27, 2013 Posted by | Bankruptcy, Chapter 13, Disposable Income, Disposable Income / Budget, Fraud, Plan, Plan payments, Planning, Pre-filing planning | , , , , , , , | Leave a comment

Chapter 13 and Tax Debt: The surprise at the end of the rainbow

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:

  1. The most recent date (remember extensions) the filing was due is over three years ago.
  2. The tax was assessed at least 240 days ago.
  3. The tax return was actually filed more than two years ago.
  4. The tax return was not fraudulent.
  5. 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.

September 25, 2013 Posted by | Additional Debt, Bankruptcy, Chapter 13, Chapter 7, Discharge, Disposable Income, Plan, Priority debt, Tax Debts | , , , , , , , , , , , , , | 2 Comments

Refinancing during Chapter 13: Do not shoot yourself in the foot!

A couple of days ago I wrote a post about refinancing your home loan during an active Chapter 13. In that post I addressed the issue of how such refinancing impacts your budget and plan payment. You need to think long-term in refinancing, because your will not be able to hold onto the savings from the lower mortgage payments. This is aggravating, but benign.

There is a much more sinister trap that refinancing can land you in. You need to be careful when looking at refinancing within an active Chapter 13 as to how to any existing arrears on the original loan are treated. If you are paying substantial arrears through the plan, but refinance, then those pre-petition arrears are most likely to be paid off with the new loan. Essentially, a lender with arrears is not going to release their lien to allow a new lien to take priority over theirs until all sums due are paid. This includes those arrears.

If that happens, then your plan payment is still going to be just as high or higher depending on your new loan payment. But, where a certain amount of those payments were going to pay off the arrears at zero (0%) percent interest, now you will be paying interest on the same arrears in the new loan. Not only that, but the percentage of your plan going to unsecured creditors will likely increase significantly. This may all be fine with you if your heart’s desire is to pay as much of your debts as possible. However, it needs to be a conscious decision rather than one your stumble into.

So, if you are paying $10,000 in arrears at 0% interest in the plan on the original loan and then refinance, the $10,000 arrears gets “paid” from the proceeds of the new loan. Your principal is now $10,000 higher than on the original loan, but your plan payment stays the same or higher. You essentially just cost yourself $10,000 plus interest. Your may not feel it, though, because the actual month to month cost remains relatively stagnant.

When looking at refinancing, it is best to look at all factors to make a wise decision: new interest rate and savings from that, length of time left on mortgage, amount of arrears in the plan, and how much additional interest you will pay if the arrears are then out of the plan and in the new note.

August 8, 2013 Posted by | Additional Debt, Bankruptcy, Chapter 13, Home Loan Modification, Home loan modifications, Plan, Plan payments, Planning, Secured loan arrears, Uncategorized | , , , , , , , , , | Leave a comment

Tax Refunds: A “hidden” bit of disposable income

In a Chapter 13, the debtor puts together a budget they present to the court. This budget encompasses Schedule I (income) and Schedule J (expenses). In order to get a Chapter 13 plan confirmed, it has to be feasible. Part of showing that a plan is feasible involves demonstrating that the debtor can actually make the payments proposed by the plan. If the money left over (the disposable income) when expenses are subtracted from income is substantially less than the proposed plan payment, then the plan is not feasible.

Sometimes the plan calls for payments that are just a bit of a stretch for debtors. This happens when the debtor is using the Chapter 13 to pay off arrears on a house facing foreclosure or when there is priority, non-discharged income tax debts that have to be paid in full during the plan. In these instances, the debtor and their attorney will likely engage in “belt-tightening” by shaving off amounts from expense items that they believe they can realistically accomplish.

However, there is a source of disposable income that may be lying hidden in all the paperwork. Many people over-withhold on their taxes. Some do this to avoid owing a tax debt at the end of the year and others like to have a self-created bonus. This latter practice is essentially loaning the United States government money for several months at zero percent interest. So, while it is a nice little psychological trick to force one to save money up, it is definitely not maximizing use of one’s resources.

Worst of all, if you have engaged in the belt-tightening on your budget as I mention above then you have created a set-point in the eyes of a trustee. They assume that is your actual budget. So, when they see tax refunds exceeding $1,200.00 per year (state and federal combined), then you belt-tightening budget may backfire.

Let me unpack that a little. In my hypothetical scenario, the debtor gets back an average of $3,600.00 per year in tax refunds. That comes to $2,400.00 more than the threshold that many trustees look too for reasonable withholding levels. This is $200.00 per month. The trustee would argue, and rightly so, that if the debtor used the proper withholding levels, they would have $200.00 more in pocket each month.

Now, in order to achieve the $200.00 plan payment needed to pay off the arrears on the house during the five-year bankruptcy, the debtor “shaved” expenses down by $200.00 each month less than actual expenses. This makes the budget really tight and barely sustainable, but the debtor thinks they can manage it. However, at the meeting of creditors, the trustee challenges the tax refunds and insists on a $400.00 per month plan payment reflecting what the debtor proposed plus the $200.00 per month that has been withheld in excess of taxes actually owed.

A quandary develops. The only way to preserve the $200.00 plan payment is to go back and amend Schedule J to show actual expenses. Ah, but that set-point I mentioned is already established. Now, the debtor will have to produce documentation to support higher expenses than they originally claimed (under oath I might add). Most people do not keep records accurate enough to document all their expenses.

So, if your attorney suggests that you plan to change your withholding on taxes so that less is taken out of your paycheck, trust them. This will allow you to set expenses at reasonable, sustainable levels from the very beginning and yet meet the needs of the plan. Honestly, $200.00 more in hand each month is exactly the same as $2,400.00 once a year. Actually, it is more because when you let that money build up with the Internal Revenue Service, you are losing a tiny bit of the “time value” of those dollars.

July 25, 2013 Posted by | Bankruptcy, Chapter 13, Discharge, Foreclosure, Plan payments, Planning, Pre-filing planning, Priority debt, Secured loan arrears, Tax refund, The estate | , , , , , , , , , , | Leave a comment

Bankruptcy versus Foreclosure

I was asked a question today by someone who had fallen behind on their house payments. They asked if it would be better for them to file bankruptcy or to go through a foreclosure proceeding. Unfortunately, this is the wrong question. It really is not a choice between one or the other unless a bankruptcy will allow you to keep the house. If you go through a foreclosure and the house is auctioned, there will certainly be a deficiency debt remaining.

A deficiency debt is when a house (or car for that matter) is auctioned off for less than what is owed. Many people think there debt is satisfied by the foreclosure on their house (or repossession of a car), but it is not. That deficiency debt can lay there for years. Often it is sold to a credit collection company. Eventually, though, they will come to collect. They will file a lawsuit at some point.

So, if you go through a foreclosure then you will also end up going through a bankruptcy. The actual question is whether you should go through a Chapter 7 or through a Chapter 13. The answer to this comes by deciding two things: 1) do I want to keep the house, and if I do, 2) can I afford to keep the house. I will take this question up in my next post.

July 12, 2013 Posted by | Bankruptcy, Chapter 13, Chapter 7, Foreclosure, Planning, Pre-filing planning | , , , , , , , , , | Leave a comment