New Legislation

What the New Bankruptcy Laws Mean to You

On April 20, 2005, President Bush signed a sweeping piece of legislation that completely changed the nation’s bankruptcy laws. The new law went into effect on October 17, 2005. Bankruptcy cases filed prior to this date are controlled by the old law. Cases filed now (2008) are controlled by the new law.

The purpose of the new law is to discourage Chapter 7 filings and to push debtors into Chapter 13 repayment plans - preferably plans that pay 100% to creditors. As your attorney, my goal is exactly the opposite - if I can fit you into a Chapter 7, I will try to do that, otherwise, I will try to put you into a Chapter 13 plan that pays less than 100% to your unsecured creditors.

Here is how the new bankruptcy law works:

First, when you meet come into see me, I will ask you to provide me with “pay advices” (pay stubs or any other evidence of payment) for the past 6 months, not including the current month. If you are married, I need both spouse’s pay advices, even if only one spouse is filing. So, for example, if you meet with me in March, I will need September through February’s pay advices.

I then add up all of your household gross income and divide by 6 to get a 6 month average.

I will then compare your “average monthly income” to the “median,” or average monthly income of a similarly sized family unit in the county where you live. This is called the “median income” test.

If your average monthly income is below the “median,” you have passed the test and we can proceed with Chapter 7 as we would have prior to the new law.

If your average monthly income exceeds the median, then we have to proceed to a second calculation called the “means” test.

In a means test analysis, we prepare a budget that limits what you can spend each month to figures that the IRS says are “reasonable.” As the IRS figures are the ones used in tax compromise cases, they are not very generous. In some cases the IRS budget ends up with a bottom line similar to real life, whereas in other cases, the IRS budget is hundreds or even thousands of dollars off.

If the IRS budget calculation determines that you have more than $100 left over at the end of the month, you cannot file Chapter 7 and you have to file Chapter 13.

Impact of the Means Test in Real Cases

I have run a means test analysis for a number of clients who would have easily fit into Chapter 7 prior under the old law. Now, the means test says that they have disposable income, and have to file a Chapter 13. The problem, of course, is that in real life, people spend money on reasonable expenses the the IRS test says are not approved, including:

repayment of a 401(k) loan
mortgage payments in excess of IRS guidelines (if the IRS says you can spend $1,400 a month, but your monthly mortgages total $2000, you cannot claim the $600 on your means test worksheet)
car payments in excess of IRS guidelines
“dual household” expenses used to support a college aged child
repayment of a personal loan to mom or dad
private school tuition beyond $125 per month per child

Are You Bound by the Means Test Budget in Your Chapter 13?

No. The means test is a tool to qualify or disqualify you from Chapter 7. If you “fail” the means test, you may be able to claim your actual, real life expenses in your Chapter 13 budget.

What if Your Income During the Past 6 Months is Significantly
Higher or Lower than Your Current Income?

The new law’s use of an average household income derived from looking at your last six month’s worth of pay advices is one of the more controversial components of the new law. A Christmas bonus can mess up your calculation and recently laid off debtors could be caught in an income trap.

It appears that bankruptcy judges are going to give debtors some help by allowing debtors to present evidence that the six month average is not an accurate representation of income (see my colleague attorney Scott Riddle’s blog entry about this current monthly income calculation in the 11th Circuit here).

What You Can Do

At Ginsberg Law Offices, we continue to encourage our clients to contact their Senators and Representatives to express their dissatisfaction with this new law. Perhaps if enough of our elected representatives hear that voters do not appreciate how the credit card and bank industries essentially bought legislation, they might consider changes to some of the more objectionable parts of the new law.

We encourage you to contact your elected representatives by letter or e-mail. Express your dissatisfaction with this change to the nation’s bankruptcy

Click on this link for the addresses and e-mail links to Senators Chambliss and Isakson along with several local Members of Congress.

Your vote is the only meaningful response to millions of dollars in special interest campaign contributions. Your elected representatives will respond to your letters and calls. We urge you to contact your elected representatives now!

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