Kentucky Bankruptcy Law

Counsel with Care

Overcoming a “Presumption of Abuse” in Chapter 7 Bankruptcy

Overcoming the “presumption of abuse” in Chapter 7 bankruptcy is not always as daunting as it may sound. In order to qualify for an individual Chapter 7 one either must have predominantly business debts or qualify for it under a “means test”. The means test essentially looks at your household income for the six month preceding the month in which the bankruptcy is filed. Certain things can be deducted out of that income as well as certain standardized costs of living. Once the information has been run through the formula, a potential debtor either falls under the median income for their household size and state of residence, thus qualifying for a Chapter 7, or it does not.

One might be tempted to think that failing to fall under the median income is the end of the story and they cannot file a Chapter 7 (they almost always can still do a Chapter 13). This is true for the majority of persons where the presumption arises. However, it is not automatically the end of the analysis that your bankruptcy attorney should engage in. They need to also explore any changes in circumstances that would justify going into the Chapter 7 anyway.

So, having an income above the median only creates a “presumption” that doing a Chapter 7 would be abusive of the bankruptcy process. This presumption can be overcome by a showing of a change of circumstances. For example, a sudden change in one’s health could decrease the current income or increase health costs that can be deducted from that income. Such a sudden event may not show up in the means test results for months since one is looking at a six month snapshot but, one may not be able to wait that long to file.

The way to overcome that presumption of abuse requires your attorney to prepare two extra documents. First, they should prepare a sworn statement for you to sign (an affidavit) that explains the change in circumstance that justifies overcoming the presumption. Second, they should prepare a mock means test showing what that change in circumstances would look like over time. These can be filed  concurrently with the petition.

The United States Trustee would look at these extra documents and make their own determination whether to pursue dismissal of the Chapter 7 or decline to pursue it. Even if the US Trustee declines to pursue the presumption of abuse dismissal, individual creditors could still pursue it, though they are unlikely to do so.

November 19, 2014 Posted by | Bankruptcy, Chapter 13, Chapter 7 | , , , , , , , , , , , , , | Leave a comment

How Creative Can One Get?

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.

January 13, 2014 Posted by | Adequate protection, Assets, Automatic Stay, Bankruptcy, Chapter 13, Chapter 7, Conversion, Discharge, Disposable Income, Disposable Income / Budget, Exemptions, Foreclosure, Plan | , , , , , , , , , , , | 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

Chapter 13 plan percentages

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.

June 19, 2013 Posted by | Bankruptcy, Chapter 11, Chapter 13, Chapter 7, Disposable Income, Plan, Plan payments, Tax Debts | , , , , , , , , , , | Leave a comment

When “abandonment” is a good thing

Despite my reassurances, debtors always have anxiety about the meeting of creditors. When the 5 to 10 minutes that the meeting takes have passed, they are invariably relieved. Bu, then the trustee often says something that perplexes them. He or she says, “I am going to abandon the estate’s interest in…”.

Abandonment sounds like a bad thing and usually it is. But, in bankruptcy it is a good thing. When the bankruptcy is filed, all the property of the debtor goes into an estate. The trustee has control over that estate. He or she can liquidate non-exempt assets of the estate; sell them and distribute the cash to creditors. For nearly all of my clients, all assets are exempted under the more generous Federal exemptions. When this is the case, then the trustee has nothing they can liquidate which would realize money for the creditors.

For any asset that is fully exempt or of no value to the estate, then the trustee will abandon that asset. That means he or she relinquished the ability to control or sell the property. So, in bankruptcy abandonment is a good thing.

May 15, 2013 Posted by | Bankruptcy, Chapter 7, The estate | , , , , | Leave a comment

Not so mobile home and Chapter 7

A decision in the Bankruptcy Court for the Eastern District of Kentucky highlights a mistake made too often in Chapter 7s where the debtor lives in a mobile home. In Kentucky, mobile homes are not terribly mobile and often remain in place  for decades. So, the name “mobile home” is a bit misleading. The legal term for mobile homes is “manufactured home” which also seems silly because all homes are manufactured in one way or another. Anyway, mobile homes get physically fixed to the land and people stop thinking of them as titled property such as cars, boats, trucks and trailers. However, they are titled. Even though physically fixed to the land, they may not be legally affixed to the land.

Now, when one files a Chapter 7, everything they own and everything they owe goes into an estate. They pull things back out by using exemptions and reaffirming secured debts. Often debtors keep their homes because they have enough exemption to cover the equity in their home and are able to pay the secured debt payments (the mortgage) when all their other debts are discharged. Each person can claim almost $23,000 in homestead exemption using the Federal exemptions. So, if you own a home worth $120,000 and you owe $100,000 secured on the house, then you can use the exemption and keep the house by reaffirming the $100,000 secured debt with the remainder exempted.

Here is where the problem comes in for mobile homes. The only way a loan is secured against a mobile home is on the title as described in KRS 186A.190. Actually, there is one other way, but it involves surrendering the title and filing stuff with the county clerk and effectively converting the mobile home into a house from a legal standpoint. Anyway, most people do not do that. So, if there is a defect with the security interest on the title, then the loan is not perfected and cannot be reaffirmed. That may leave a very HIGH amount of equity in the mobile home requiring exemption.

If the mobile home is also on land that you own, then you have the challenge of applying the homestead exemption to your land and then also hoping you have sufficient exemption to cover the value of the mobile home. If the title has not been surrendered and the mobile home affixed to the land legally, then you must exempt two separate assets: the land and the manufactured home. If the home has been affixed, you are in far better shape because it is one asset, but you still must make sure the loan is properly secured.

Like in In re Owens, 09-62087 (Bankr.E.D.Ky., 2010), if the title is defective in regards to the security interest, then you could lose your home. In other words, if there is a problem with the title then you may have no secured loan to reaffirm and not enough exemption to cover the difference. Then, the trustee will keep the mobile home, sell it (if you can’t come up with money to redeem it), and distribute the proceeds to all unsecured creditors. If you live in a mobile home, be sure that your bankruptcy attorney examines the title and makes sure that any security interest is properly in place.

The bottom line is that if your home is a manufactured home and you are looking at bankruptcy, make sure your attorney does a thorough check as to the title, security interest, and exemption issues.

April 22, 2013 Posted by | Bankruptcy, Chapter 7, Discharge, Exemptions, Foreclosure, Planning, Pre-filing planning, Property (exempt, reaffirm or surrender), Security interests, The estate | , , , , , , , , , , | Leave a comment

What happens to my tax refund in a Chapter 13?

A couple days ago I addressed an issue that can arise over large tax refunds in a Chapter 7. It will help you understand this post if you go back and read that one. In a Chapter 13, instead of a large tax refund threatening to knock your out of a Chapter 7, the threat is to your plan payment. In Kentucky and many other districts, the Chapter 13 plan payment is determined by your Schedule I income minus your Schedule J expenses. The trustee in the Chapter 13 examines your income to make sure it is accurate and scrutinizes your expenses to make sure they are reasonable.

Part of this analysis of expenses includes a look at your tax refund. If you have a sizable tax refund (some say over $1,200.00), then the trustee may demand that your pay the excess into the plan. So, if you receive around $6,000.00 total in refunds each year, then the trustee will argue that you can pay about $500.00 more per month into your plan.

If you have a sizable refund for this past tax year but you have reason to show that it will not be like that going forward, then be sure to make that argument. Changes is deductible expenses or number of dependents can help show that last years refund was a fluke. However, you will want to make sure that the number of exemptions you claim through your employer is correct so that you have only a small refund next year. If you have a large refund again, the trustee will demand and increase in your plan payments.

April 12, 2013 Posted by | Bankruptcy, Chapter 13, Plan, Plan payments | , , , , , , , , | 1 Comment

What happens to my tax refund in a Chapter 7?

A couple of days ago I talked about the tax refund issue that is involved in both a Chapter 7 or a Chapter 13 bankruptcy. Today I will talk about the issue that arises only in a Chapter 7 (sort of). To qualify for a Chapter 7, your household income must be lower that the median income for your family size in the area where you live. This information can be found at the Trustee’s website on means testing. If your gross income is too high, you can go through a second time and deduct certain expenses. These include taxes taken from your paycheck.

If you pass the means test on the second round, the U.S. Trustee still can look at your income and expenses and see if you could actually pay a significant amount into a Chapter 13 plan. If you actually have over $160 in disposable income despite passing the means test, then the trustee may object and move to kick you out of the Chapter 7 (either as a dismissal or conversion to a Chapter 13).

Part of the trustee’s analysis is looking at your tax refund. If you received a substantial refund (I heard one trustee say $1,200.00 was the range they began looking), then they may demand that the excess taxes paid be attributed to your income. So, if you receive a $6,000.00 refund, you arguably could have $500.00 more per month to pay creditors. In practice, I have not seen this kind of challenge happen often, but it is a potential issue.

April 10, 2013 Posted by | Bankruptcy, Chapter 7, Tax refund, The estate | , , , , , , , | Leave a comment

Can I keep my tax refund?

Timing is very important when considering bankruptcy and during the tax season one aspect of timing is when to file in regard to when one will be receiving their tax refund. This is one of those fact driven determinations where no one answer can be given in a general post like this, so be sure to consult with an attorney about your particular situation. What is surprising to many, though, is that even though they have not yet received their refund check, it is an asset of a bankruptcy estate. This is because they have already earned the money prior to filing a Chapter 7. So, if one files a Chapter 7 today and then receives their refund next week, the trustee can take that money to distribute to creditors.

Here is where making a decision on filing gets a little more complicated. Each person has certain exemptions they can use to hold onto property and assets through a Chapter 7 bankruptcy. If you have sufficient left over exemptions to cover your tax refund, then it does not matter if you file before or after receiving it. However, if you do not have spare exemptions, but you still really need to file a Chapter 7 soon, then it would be best to try and get that refund before filing.

Now, it becomes important to use that refund money carefully to keep from getting on the wrong side of the trustee or the bankruptcy code. The guiding idea is to use it for necessities for your family and NOT to pull one over on creditors. You cannot use it to buy luxury items (there is a specific dollar amount limit in the code) and you cannot use it to pay one creditor over others.

You can use it to buy necessities. For example, stock up on food stuffs and if your clothes are getting threadbare, get a few items of clothing but be REASONABLE about it. If you have children, get them some school clothes if they actually need them. Do not get fancy clothes – just basic items. In doing this, you are basically converting non-exempt cash into exempt personal property. You could also use the refund to pay for the bankruptcy. AGAIN: Consult with an attorney regarding your particular situation and plan and do not blindly apply these general principles to your particular situation because there are limits to personal property or household items exemptions.

March 20, 2013 Posted by | Bankruptcy, Plan, Planning, Pre-filing planning, Property (exempt | , , , , , , , | 2 Comments

Aaarrrggghhh – Paperwork!

If you have started the process of filing bankruptcy, your attorney has likely asked you to produce a large quantity of documents. This can be a daunting task for many because, truth now, many of us are horrible about record keeping. However, if you are in need of a fresh start financially, then you want your bankruptcy to go smoothly. And, you could actually be prevented from receiving a discharge of debt in your Chapter 7 if you failed to keep good records:

11 USC Sect. 727(a)(3) states that a debtor will get a discharge unless “the debtor has concealed, destroyed, mutilated, falsified, or failed to keep or preserve any recorded information, including books, documents, records, and papers, from which the debtor’s financial condition or business transactions might be ascertained, unless such act or failure to act was justified under all of the circumstances of the case;” (emphasis added)

Basically, if you are in financial trouble and looking at the prospect of bankruptcy, keep track of what you are spending things on. One way to help with this is to hold on to receipts, bank statements, pay stubs and other income documents. Trustee’s rarely get down to the level of looking at receipts for debtors, but every once in a while, expenses get challenged and it would be great to have documents handy to answer the challenge.

January 9, 2013 Posted by | Bankruptcy, Chapter 7, Discharge, Documentation, Pre-filing planning | , , , , , , , | 1 Comment