Chapter 6 Making the Decision

• Library: Chapter 13 Bankruptcy (Nolo) (2020 Ed.)

CHAPTER 6: Making the Decision

Now you have all of the information you need to decide whether you can—and should—file for Chapter 13 bankruptcy. This chapter provides a fictional transcript of a consultation between a debtor and a lawyer. It covers many of the issues you'll likely be confronted with, so reading through it should help you evaluate your own situation and come to a decision that's right for you.

As you'll see, the debtor, Kylie Cox, is trying to figure out whether to file for bankruptcy under Chapter 7 or Chapter 13. She has decided to consult with a bankruptcy lawyer to help her with her decision. The questions the lawyer asks will help remind you of the factors you should consider as you evaluate your own situation.

Lawyer: Good morning. What's your name?

Debtor: Kylie Cox.

Lawyer: Hi, Kylie. How can I help you today?

Debtor: Well, I've run up quite a bit of debt, and I've decided to file for bankruptcy. I know there are different types of bankruptcy, but I think I need to learn more about them. I need some help figuring out what my options are.

Lawyer: Okay, I can help you with that. The two basic types of bankruptcy for individuals are Chapter 7 bankruptcy and Chapter 13 bankruptcy. There are a couple of significant differences between them. In a Chapter 13 bankruptcy, you pay down some or all of your debts over a three- to five-year period and discharge (cancel) whatever is left after you complete the plan. In a Chapter 7 bankruptcy, you don't pay down any of your debt, and the entire process takes between three and four months. But you may have to give up property you own so it can be sold and the proceeds distributed to your creditors.

In either type of bankruptcy, some debts will survive your bankruptcy, such as criminal fines and penalties. Some liabilities will survive a Chapter 7 bankruptcy but will be discharged at the end of a Chapter 13 bankruptcy, such as an obligation to an ex-spouse under a marital settlement agreement.

But we'll get to that later. Are you with me so far?

Debtor: Yes. I kind of already knew most of what you just told me by reading some articles on the Nolo website. Right now, I'm leaning toward Chapter 7 since it's over a lot sooner and seems like it's a lot simpler. But I wouldn't want to choose Chapter 7 if Chapter 13 would be the better choice for me.

Lawyer: Okay. Well, let's start by figuring out whether you even have a choice. Some people aren't eligible to file for Chapter 7 bankruptcy. If both options are available to you, then we can talk about which one makes more sense.

Debtor: Okay.

Lawyer: What state do you live in?

Debtor: New Hampshire.

Lawyer: Who lives with you as part of your household? That includes not only relatives and dependents, but anyone else whose income and expenses are combined with yours to maintain your home.

Debtor: Just me and my two children. One is eight and the other just turned 12.

Lawyer: Okay. And do you operate a business?

Debtor: Actually, I do. What difference does that make?

Lawyer: Well, in some cases, your eligibility for Chapter 7 may turn on whether your debts are classified as business or consumer debts.

Debtor: Okay. I run my own business, repairing used electronic equipment.

Lawyer: Have you incorporated your business or is it a partnership?

Debtor: No, just me, a sole proprietor.

Lawyer: And do you have other work? In other words, do you have a regular job and operate your business on the side?

Debtor: No, just the business.

Lawyer: Is your income pretty steady?

Debtor: It was until recently. Near the end of 2019, my business failed. I'll be lucky to bring in half of what I was earning before. Also, I receive alimony and child support, but my ex was laid off and can't seem to find another job, so I expect that source of income will dry up as well.

Lawyer: So, to dig in a little deeper about the nature of your debt, I see from the worksheet you completed when you first contacted me that you have about $100,000 in mortgage debt and that you currently don't owe any back taxes. Is that right?

Debtor: Yep.

Lawyer: I gather from the worksheet that your overall debt, other than your mortgage, is far short of $100,000, is that right?

Debtor: Right again.

Lawyer: Well, since your home mortgage counts as personal debt, that means that your personal debts are higher than your business debts. If your business debts comprised more than 50% of your debts, you would qualify for Chapter 7 without having to deal with what's known as the means test, which we'll get to in a moment. But since that's not the case, we'll have to see if your income is low enough to qualify you for Chapter 7. First, let's look at your income over the previous six months. More specifically, what was your gross income from all sources, taxable or not, minus the expenses that were reasonable and necessary for operating the business?

Debtor: About $3,000 a month after expenses.

Lawyer: You mentioned you've been receiving child support and alimony. How much during those six months?

Debtor: About $1,000 a month in alimony and $800 a month for child support.

Lawyer: Any other income?

Debtor: No, that's it.

Lawyer: So, it looks like your average monthly earnings over the past six months are $3,000 from your business, $1,000 in alimony, and $800 for child support, for a total of $4,800. Does that sound right?

Debtor: Yes.

Lawyer: Under the bankruptcy law, if your income is less than the median annual income for a family of your size in your state, you are automatically eligible to file for Chapter 7 bankruptcy. You don't have to fill out a lengthy form comparing your income to your expenses and deductions for contractual obligations, such as a car note and mortgage. Does any of this sound familiar to you?

Debtor: Yes, I remember reading a few years ago that higher-income people aren't able to file for Chapter 7. Is that what you are talking about?

Lawyer: Yes, that's it. Also, if your income is less than the median for your state and you decide to file a Chapter 13 bankruptcy anyway, your repayment plan only needs to last for three years. On the other hand, if your income is more than the median, your plan would have to last for five.

Debtor: I didn't know that.

Lawyer: So, let's see how these numbers work out. Your annual income based on your gross income for the last six months is $57,600. The New Hampshire median income for a household of three people is $100,278. So, you're well under the median income and...