The two most common forms of consumer bankruptcy filings are Chapter 7 and Chapter 13 petitions. Under Chapter 7, also known as liquidation, you are allowed to permanently discharge certain debts in exchange for the sale of non-exempt assets. Some debts, such as child support arrearages, student loans, and certain tax obligations, may not be discharged in a Chapter 7 proceeding. Furthermore, you generally cannot rid yourself of any secured debt (like a house or car), and still keep that property. With a Chapter 13 bankruptcy, also known as reorganization, you enter into new payment arrangements with your creditors, generally agreeing to repay debts over a three-to-five-year period. Whether you seek protection under Chapter 7 or Chapter 13, you are entitled to the benefits of the automatic stay, which prohibits creditors from calling, writing or taking legal action against you (outside of the bankruptcy proceeding) to collect the debt.
Before the 2005 revisions to the bankruptcy laws, there were few restrictions on who could file for Chapter 7 bankruptcy. One of the goals of the new law was to reduce the number of cases where debtors simply walked away from large amounts of debt. As a result, lawmakers changed the eligibility requirements for Chapter 7, mandating that anyone seeking to permanently rid themselves of debt submit to a “means test.” Under the means test, you must provide the bankruptcy court with information about assets, income and obligations, so the court can determine whether you have the financial “means” to repay your creditors.
The means test is applied based on information unique to the state in which you live. When conducting the means test, the court will look at your average income for the six month period before you filed for bankruptcy and compare it to the median income in your state. If you are below the median, you automatically qualify to file under Chapter 7.
If your average income exceeds the median income for your state, the court will look at other factors, starting with a careful examination of your discretionary income. To determine this figure, the court will subtract your living expenses from your income and multiply it by 60 (the amount of extra income you would have over a five year period). If the funds available for debt reduction exceed $10,000 ($166.66 per month), you may only file under Chapter 13. If the amount available for debt repayment is less than $100 per month, you may file under Chapter 7.
If your discretionary income falls between $100 and $166.66 per month, your eligibility for Chapter 7 is determined based on the percentage of your discretionary income to your debt, with 25% as the cutoff. If your discretionary income over 60 months exceeds 25% of your debt, you must file under Chapter 13. If it is less, you can file under Chapter 7.
You may also be ineligible to file for Chapter 7 if you have previously discharged debt in a bankruptcy proceeding. A debtor cannot eliminate debt under Chapter 7 within 8 years of the discharge of debt in another Chapter 7 proceeding.
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