A 12-part Series On All You Need To Know About The Process of Filing for Chapter 7 Bankruptcy
Part One – To File or Not to File, That Is the Question
Chapter 7 Bankruptcy is a great tool for dealing with debts… but it’s not the only tool. Sometimes debt settlement is a better way to handle debt problems. I have narrowed down whether or not a person should file Chapter 7 Bankruptcy by looking at four main factors (although there could be others). They are: 1. The Means Test; 2. Whether or not the debtor satisfies the resident requirements for California Exemptions; 3. Assets; and 4. Debts.
1. The Means Test
The Means Test acts as a financial bar disqualifying certain individuals from filing Chapter 7 Bankruptcy. When a debtor fails the Means Test there arises a presumption of abuse which means the bankruptcy will either be dismissed or will be converted to a Chapter 13. Although the Means Test and the presumption of abuse can be rebutted by providing additional expenses or adjustments to income, as a rule, if the income exceeds the threshold the debtor is disqualified from filing Chapter 7 Bankruptcy.
The Means Test looks at the debtor’s current monthly income based on a snapshot of the past six months. This means timing is everything. If income is expected to grow, filing quickly to capture as much of the past low wages is important. On the other hand, if income has dropped a debtor may have to wait until the numbers fall below the Means test threshold.
Income includes Gross Wages, Salary, Tips, Bonuses, Overtime, Commission etc. Remember this is “Household Income” which means a debtor’s spouse’s income is included. The Means Test Threshold changes from time to time and the number depends on how many members are in the debtor’s household. For example, the number will be higher if a debtor has three members as opposed to having two.
2. The Resident Requirement
California has some of the most generous exemptions when filing for bankruptcy. A game is played when a Chapter 7 Bankruptcy is filed. The game is how much property can we remove from the Bankruptcy Trustee. As soon as your Chapter 7 Bankruptcy is filed a Trustee is assigned and virtually all your property goes into a trust to be liquidated and dispersed to your creditors. If property is exempt, then the trustee does not get to touch that property.
You can file Chapter 7 Bankruptcy in California after residing in California for over 180 days. However, to use the California Exemptions you must have resided in California for at least two years. If a debtor does not meet the resident requirements, then the California Exemptions are out the window. If that happens, I generally do not have the debtor file for Chapter 7 Bankruptcy.
3. Assets
When looking at assets I look at what the debtor owns and what the value of those assets are. I mentioned the game we play with the Bankruptcy Trustee previously. I don’t like playing games where I lose…. Same here. If a debtor has assets that I cannot exempt that means they will be liquidated and dispersed to the creditors. The only way around that is to settle with the Bankruptcy Trustee and pay them money. The goal is to exempt everything. Generally, if I cannot apply an exemption to all assets (or at the very least most of them) I do not recommend Chapter 7 Bankruptcy.
This becomes very tricky if a debtor owns a home. Exemptions are broken up into two sections, California Code of Civil Procedure §703 and §704. A debtor must choose between the Wild Card Exemption and the Homestead Exemption. The Wild Card Exemption allows a debtor to exempt property up to a certain dollar amount as they see fit. The Homestead Exemption allows a debtor to exempt a certain dollar amount of equity in the debtor’s residence. You cannot have both. I have found if a debtor owns a home and has a lot of assets Like 2 or more cars) – those assets will likely be liquidated if they have value.
With assets, if a debtor cannot save their assets and file Chapter 7 Bankruptcy generally Chapter 7 Bankruptcy is not the way to go.
4. Debts
Bankruptcy is a great tool to deal with debts, but it does have a downside. Bankruptcy does impact a debtor’s ability to get credit and such. If a debtor wants a loan after filing bankruptcy it will probably have a higher interest rate than not having filed. Buying a car may prove to be very difficult after having filed Chapter 7 Bankruptcy. So, a debtor must weigh whether the downside of filing Bankruptcy is worth it. That usually is answered by how much debt is being discharged. If a debtor has a large amount of debt or a lawsuit pending, then it might make sense to file.