How Does My Income Affect My Qualification for Bankruptcy? Seniors

This continues my series of blogs about legal and practical considerations for older Californians, focusing today on income considerations. Note that most of today’s blog will apply to people in every age group who are on a fixed income and/or receive any kind of Social Security benefits.

1. Fixed Income

Many seniors, as well as others, have absolutely no capacity to increase their income. The consequences of this include:

a. If it’s impossible to pay your essential minimum expenses because of your debts, without the ability to increase you income you likely do not have any sensible choice but to file a bankruptcy case to eliminate or greatly reduce those debts.

b. Your options within bankruptcy are affected by your inability to generate more income, sometimes in unexpected and positive ways. For example, relatively low fixed income would almost certainly qualify you for a quick Chapter 7 “straight bankruptcy,” and sensibly make you shy away from a multi-year Chapter 13 “adjustment of debts.” However, if, for example, your most important debt is your vehicle loan, and you simply don’t have the cash flow to make the payments, you may qualify under Chapter 13 for a “cramdown” of that loan. That could significantly reduce your monthly payment, along with lowering the interest rate and the total amount you’d pay for the vehicle before you’d own if free and clear. This could enable you to keep a vehicle that you could not have done so under Chapter 7.

c. But with no ability to increase income, your options within bankruptcy are negatively affected as well. Bankruptcy has its limits. For example, if your primary problem is your monthly mortgage amount, bankruptcy cannot directly lower that amount. It can likely eliminate or lower your other debt obligations so that you can afford the mortgage payment, and could possibly even eliminate a second or third mortgage, and help you get a mortgage modification from the lender. But if you simply can’t afford your house payment after using all the applicable tools of bankruptcy, then your inability to increase your income could still not it possible for you to keep your home.

d. Low but reliable income can make for a very smooth Chapter 13 case, and help make that a better option even if you qualify for Chapter 7. Just because your income is relatively low does not necessarily mean that you shouldn’t consider the benefits of Chapter 13. All that is required by law is for you to have “income . . . sufficiently stable and regular to enable [you] to make payments under a plan . . ..” Especially if you have certain special debts that you want to or must pay even after you filed a Chapter 7 case, Chapter 13 can give you some extremely helpful tools. For example, if you are behind on your vehicle loan or mortgage, you can have as much as five years to catch up, making it cost less per month to do so. During that time you and the collateral are protected from those creditors, and from your other creditors. Or if you owe some recent income tax debts or other debts that can’t be discharged (legally written off) under Chapter 7, you would have up to 5 years to pay these, usually without any additional interest or penalties.

The biggest risks in a Chapter 13 case are reductions and increases in income—reductions because they threaten your ability to finish the case successfully and increases because they potentially require more to be paid to the creditors than originally planned. So if your income is fixed and steady you don’t have these risks, making Chapter 13 that much more attractive.

2. Lower Income Makes Passing the Chapter 7 “Means Test” Easy

Most people who want to file a Chapter 7 case qualify to do so under the “means test” because their income is no more than the median income for their state and family size. That is all the more likely if you are a senior on a modest fixed income. In California the current median income amounts (for cases filed on 5/1/13 and thereafter) are:

*Add $8,100 for each individual beyond 4.

Income for this purpose is calculated in an unusual way—the total money received from virtually all sources (NOT just taxable income) during the last SIX full calendar months before the bankruptcy filing, multiplied by 2. Most California seniors in financial trouble will likely have income lower than these median amounts and thus easily qualify for Chapter 7, if that is what is best for you.

3. Social Security NOT Counted for the “Means Test”

Social Security payments are definitely not included as income for purposes of the “means test,” making it even easier to pass.

This will be of practical importance mostly if your combination of Social Security and other income is relatively high, where your total income would push you over the median amount but for Social Security not counting.

But be careful if you pass the “means test” but your actual income still exceeds your actual expenses (which you must report separately from the “means test” disclosures). Even if your income falls under the median income amounts (in part by Social Security not counting), having more actual income than expenses could still disqualify you from filing Chapter 7. Your attorney will discuss this with you if this might apply to you.

Although Social Security is not counted as income for the “means test, many other kinds of benefit income DO count, including state and private disability income, as well as unemployment compensation. Since most people receiving these kinds of benefits do not have income that is higher than the applicable median amounts, including these benefits as income almost never causes a problem.

4. Social Security Also Doesn’t Count in Determining Chapter 13 Length

Under Chapter 13, whether your court-approved plan requires you to pay into it for 3 years or 5 years depends on the same kind of income calculation as for the Chapter 7 “means test.” So not counting Social Security as income can help keep the MINIMUM length of your plan shorter. That often means paying less to the creditors, finishing your case earlier, and potentially getting an earlier start to rebuilding credit.

Note, however, that you are almost always allowed to pay longer than three years—not to pay more in total but simply to stretch out the time to pay however much you have to pay, thus lowering your monthly payments. Having this flexibility can make Chapter 13 easier month by month and thus more likely successful. But it’s also helpful to avoid being forced to pay for 5 years because of higher-than-median income. Not counting Social Security as income makes this more likely.