When people hear the word “bankruptcy” there is a generally negative connotation attached. Most clients will panic in disbelief that this is happening to them. They must start facing the realities of their financial situation and that is likely why they have come to you or your firm for help. In the world of bankruptcy, the phrase you should be used to repeating is “fresh start.” You want to frame this as a new opportunity, starting fresh with zero credit card debt (Sidebar: did you know only 1% of Americans have no credit card debt? Thats an extremely exclusive group). Remember: bankruptcy is not a bad word, it is an opportunity not a disaster.
Since 2007/08 all bankruptcy filings are up considerably throughout the country as a direct result of the economic problems our country is facing. Congress made changes to the Bankruptcy Code in October of 2005 and as a result of these changes, there was a large run up in filings leading up to the code’s enactment in October 2005 in order to avoid the stricter criteria. The Means Test is now used to determine whether someone is eligible for Chapter 7 bankruptcy and C.C.C.P. §703-704 now requires pre and post-filing credit counseling by an approved provider.
There are two types of bankruptcy: Chapter 7 and Chapter 13 – we will deal primarily with Chapter 7, the most common type of bankruptcy. Your goal as the Chapter 7 attorney is to get the client through the bankruptcy process without liquidation of their property or with minimal liquidation. The effect of this is the debtor is allowed to keep exempt property while the Chapter 7 trustee collects the debtor’s non-exempt property and turns over the proceeds after liquidation to the debtor’s unsecured creditors based on a formula, usually a pro rata basis. Chapter 13 is generally used with extremely large amounts of debt and the property cannot be protected if filed as a Chapter 7.
When a new client walks in the door, you must ask yourself two questions: (1) Does the debtor qualify for a Chapter 7 bankruptcy? and if so, (2) Can you protect all of their assets from liquidation? The answer to Question 1 primarily depends on the client’s current monthly income and the Means Test calculation as set forth in Official Form 22A: Chapter 7 Statement of Current Monthly Income and Means-Test Calculation. The answer to Question 2 primarily depends on C.C.C.P. §703 and §704. You cannot pick which parts of each section best benefit your client, you must pick one statute or the other.
The Means Test
The Means Test primarily looks at your client’s monthly income and determines whether or not all sources of income fall above or below the median income of a family of that size (and determined by census data). To do this, you look to the last 6 months prior to filing and excluding the current month. This means if it is March 1, start with February and work backwards 6 months. Then you will evaluate the client’s income and compare to a family of comparable size (again, using census data).
To determine if the client passes the Means Test, you first evaluate the client’s income from all sources taking a broad view. This includes wages, self-employment wages, social security, disability, pensions / 401(k), rental incomes, mutual funds, gifts/inheritance from family members over the last 6 months, and even spousal or child support is considered income for purposes of the Means Test. Next, you will compare the client’s income to the median income of a similar family size in California. If the client’s income is higher than the median income, go to step two of the Means Test: is the client’s property exempt from liquidation? Can you protect their property? C.C.C.P. §703 exemptions protect cash and value in vehicles. C.C.C.P. §704 exemptions protect equity in the primary residence. Remember that you cannot pick and choose which parts of each statute best benefit your client, you must pick one and stick with it. Reasonable expenses can be excluded: mortgage, property taxes paid on a monthly / semi-annual basis, state and Federal income taxes monthly and social security, car payments and specified amounts for car insurance, child care expenses based on the actual amount spent, dollar-for-dollar, unreimbursed medical expenses, term life insurance, etc. (and when 50% of the debt is non-consumer debt, you can by-pass the Means Test by checking a box). However, many things you think would be excluded are not, including the non-filing spouses income which matters for purposes of the Means Test – but may be excluded if reasonable, for example, if the client is just married and there are no reasonable means for accessing the non-filing spouses income or they are are separated and keeping completely separate accounts.
If the client does not pass the Means Test to qualify for Chapter 7 bankruptcy and / or the client’s property is exposed to liquidation by the Chapter 7 trustee, you should explore alternatives with the client to Chapter 7 – negotiations with creditors or Chapter 13.
Chronology of a Typical Chapter 7 Bankruptcy:
It is now required that a credit counseling course be a prerequisite of filing a Chapter 7 bankruptcy. The debtor must complete a pre-filing course given by a U.S. Department of Justice approved provider at least one day before filing. You must first petition for the Chapter 7 and then fill out a series of forms or schedules as outlined below:
- Schedule A – Real Property
- Schedule B – Personal Property
- Schedule C – Property Claimed as Exempt
- Schedule D – Creditors Holding Secured Claims
- Schedule E – Creditors Holding Unsecured Priority Claims
- Schedule F – Creditors Holding Unsecured Non-Priority Claims
- Schedule G – Executory Contracts and Unexpired Leases
- Schedule H – Codebtors
- Schedule I – Current Income of Individual Debtor(s)
- Schedule J – Current Expenditures of Individual Debtor(s)
Additionally, you will need related documentation regarding when the client / debtor paid you and how much and you must identify the limited scope of representation and the debtor’s most recently filed income tax return must be mailed to the Chapter 7 trustee. Usually, 30 to 45 days after the petition is filed there is a meeting of creditors and the client’s attendance is mandatory. He / she must appear with their original social security card and a driver’s license. Reaffirmation agreements will be negotiated with the creditors and must be filed and entered with the Court prior to the entry of the discharge order and the creditor’s objection to discharge expires 60 days after the initial meeting of the creditors. Therefore, at least 60 days must elapse from the initial meeting of the creditors before the court has jurisdiction to enter the discharge order.
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