A Chapter 13 bankruptcy (also known as a Debt Consolidation) will bundle together all of a person’s debts so that the person filing makes only one payment per month to the Court. From there, the Court handles paying each of your creditors what they are supposed to receive under the bankruptcy laws. But how does the Court determine the amount of a person’s payment? Unfortunately it isn’t as simple as adding together your debts and dividing by the number of months in your plan. There are three different ways the Court looks at your case to determine what your payments will be. For simplicity’s sake, let’s call them the Debts Test, the Income Test, and the Means Test.
The Debts Test
The Debts Test is where the Court examines what your monthly payment would need to be based on what debts you owe. First, the Court assigns each type of debt a classification. For example, Secured Debts refer to those debts where you pledged some collateral on the loan. Car loans are the best example of Secured Debts. Debts without collateral are called Unsecured. In a Chapter 13 case, Secured Debts are always entitled to be paid in full with some interest, while unsecured debts are not entitled to be paid in full and do not receive interest in most situations.
After classifying your debts and determining how much each creditor is entitled to receive, the Court will divide the total amount by the number of months in the plan to come up with the minimum possible amount that your payment could be. However, two more tests are necessary to see if you qualify for such a low payment.
The Income Test
Next is the Income Test. Here, the Court does not look at the debts you owe, but instead looks at what income you have and what living expenses you have. The Court looks at income based on a “per household” basis, not a “per individual” basis. This means that you must disclose the number of people who live in your household to the Court as well as the total income of everyone who lives in the household, regardless of whether or not they are filing bankruptcy. The Court will take this total income and deduct the expenses that you report for each month, such as rent, groceries, and transportation costs.
The number that the Court comes up with is the total amount you can afford for your monthly payment. In an ideal situation, your income under this test would be just enough to pay your living expenses and also afford to make the payment that the Court calculated in the first test. If you don’t make enough to afford the payment, then the Court would not allow a Chapter 13 case to go forward, and you should consider Chapter 7 bankruptcy.
The Means Test
Last is the Means Test. The Means Test is very similar to the Income test, but it is more restrictive. I often compare the Means Test to doing your taxes, because instead of taking into account all of your expenses you can only claim a certain set of expenses as deductions and even then only in certain amounts. The type of deductions and the amounts allowed for each deduction are controlled by IRS guidelines. So even if your income and expenses are balanced under the Income Test, the payment calculated under the Means Test can be completely different.
Luckily, not everyone has to go through the full Means Test. It only applies if your household income is higher than the median income for a household of your size in your geographical area. If you are below that line, then you don’t have to go through all the itemized Means Test deductions.
The Important Part
After doing each of these tests, the Court will set your monthly payment for which ever amount is highest. So even if your Debts Test amount is very low but your Income Test shows a higher amount, then the Income Test amount is where the Court will set your payments.
So, whenever a prospective client calls asking about how much their Chapter 13 payments would be, I always tell them to come in for a consultation since it can get too complicated to handle with just a simple phone call. However, at Bond & Botes all of our initial consultations are free, and you’ll have to opportunity to meet with one of our experienced attorneys who is familiar with all types of personal bankruptcy. We have several convenient locations throughout Alabama, Mississippi, and Tennessee. If you’re having financial problems and need advice on whether bankruptcy is the best solution for you, please contact us.