A Chapter 7 bankruptcy filing is a helpful and valuable tool for struggling households because it can make debt go away, but it is not for everyone. For example, larger businesses cannot avail themselves of Chapter 7.
In addition, not every household can use Chapter 7 for debt relief. The law is intended to help people with lower and moderate incomes get a fresh start. However, it is sometimes possible for people with higher incomes to use Chapter 7.
Before their process can move ahead, the bankruptcy court will need to verify that they meet the requirements. Bankruptcy law wants people with higher incomes to file for Chapter 13, which sometimes requires them to pay back debts over time as opposed to eliminating them.
Filers will be subject to the Chapter 7 means test. This looks at your disposable income and ability to repay debts. First, the court will take your average monthly income from the six months before your bankruptcy filing.
The good news is that if your income is below the median for your state, you do not need to go through a more detailed analysis. You are automatically eligible for Chapter 7 bankruptcy.
If your income is above the median for your state, the court will then look at certain monthly expenses of yours. These could include:
As you can see, the expenses are those that you need to live, and they exclude discretionary spending. The court would total up all of your necessary expenses and subtract them from your monthly income to arrive at your disposable income.
This is where your case gets more complicated. The court would use a formula, comparing your debt to your disposable income to see if you have enough left over each month to pay your creditors. The thought is that if people have disposable income, they should be using it to pay their debts. If the court sees that you do not have money to keep up with your debts, you pass the threshold test for a Chapter 7 bankruptcy.
There are still some tests beyond the means test that you must go through before you can qualify for a Chapter 7. Nonetheless, this is the analysis that the court uses as a gatekeeper to reserve this powerful form of debt relief for people who need it the most.
When it comes to the means test, never assume that you would not qualify for Chapter 7 just based on your income alone. Instead, you should always check with a bankruptcy attorney to see whether you meet the requirements. You do not know until you run the numbers.
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