When Should You File to Pass the Means Test?

WHAT’S THE MEANS TEST?

The means test determines whether or not you qualify for Chapter 7 “straight bankruptcy.”

Those who don’t pass the test are considered in the eyes of the law to have the “means,” or the ability, to pay a meaningful part of their debts to their creditors. So instead of going through a relatively quick Chapter 7 case they would likely have to go through a multi-year Chapter 13 “adjustment of debts” case. So instead of “discharging” (legally writing off) all or most of their debts, they would usually have to pay a portion of all their debts over time.

IS IT A HARD TEST TO PASS?

Most people who need to file a Chapter 7 case can successfully pass the “means test.” But it does create a roadblock for some people.

It’s a multi-step, potentially very complicated test. But if you pass the first step, you pass the whole test and don’t have to mess with the other more complicated steps.

This first step of the means test focuses on your “income.” Because most people who pass the means test do so at this first step, the rest of this blog post will focus only on this step.

HOW DO YOU PASS THIS “INCOME” STEP OF THE MEANS TEST?

Your “income” simply needs to be no higher than the “median income” for your family size in the State of California. (I’m writing here for California residents.) So if your “income” is not too high, you pass the means test at this first step. You don’t have to go through any of the other steps.

WHAT’S MY “MEDIAN INCOME” AMOUNT?

First, the median income in any state is the income level at the point where half of the people in the state have higher incomes and the other half have less. It’s a more representative number to use than the average income amount which tends to be skewed by unusually high and low income amounts. Median income is the standard that Congress chose to use for the means test.

Second, as to the actual median income amounts, they are calculated by the U.S. Census Bureau and published by the U.S. Trustee Program. These median income amounts are adjusted for changes in the cost of living two or three times a year. As of this writing the amounts were last adjusted effective November 1, 2015.

Third, the median income amounts applicable to you, assuming you are living in California, are as follows:

These amounts will be adjusted two or three times in 2016 and in subsequent years. You can find the current median income amounts, as well as the amounts for the other states, here.

If your “income” is no more than these amounts, you pass the “means test.”

BUT WHAT DO YOU MEAN BY “INCOME”?

I’ve been putting “income” in quotes because the means test uses a rather unusual definition of income. It’s precisely this unusual definition which creates the timing opportunities that I’m about to get into.

For purposes of the means test:

1) Almost all sources of money are counted as “income,” not just what you might normally include. It’s not just taxable income, but instead pretty much includes all money received from any source, except for Social Security. It includes, for example, cash gifts received from any source and regular and irregular payments of child and spousal support.

2) The period of time during which your income is counted is precisely the last SIX FULL CALENDAR months before the date of filing bankruptcy. So, this excludes income received more than 6 months ago. It also excludes any money received during the calendar month that your case is filed.

So, for example, if you filed a Chapter 7 case on any day in February of this year, “income” for purposes of the means test would include all money received from precisely August 1 of last year through January 31 of this year. It would exclude money received before August 1 or on or after February 1.

HOW DOES THIS UNUSUAL DEFINITION CREATE OPPORTUNITIES FOR THE MEANS TEST?

If your employment income is exactly the same month to month, and you never get any other money from any other sources, then your “income” as applied to the means test stays the same no matter when you file your Chapter 7 case. The timing doesn’t matter because your “income”—the amount of money you received from all non-Social Security sources during the last 6 calendar months—doesn’t change.

However, even if your current employment income is very steady but you started the job within the last 6 months or so, your “income” amount could change depending when you file your Chapter 7 case. If you were unemployed before getting the job, or had another job at a different rate of pay, the timing of your bankruptcy filing can matter.

And even if your pay from employment is absolutely steady over the past 6 months, you may have recently received some irregular sum(s) of money that could make a big difference. Within the last 6 months you may have:

• taken some money out of an IRA or 401(k) plan to pay some crucial bills or put food on the table
• had a friend or family member help you out by paying a mortgage or vehicle payment or two for you
• received some money before Christmas from a relative so that you could afford to buy gifts for your kids
• gotten an extra chunk of child or spousal support arrearage from your ex-spouse or your support enforcement
• been paid rent by a roommate or housemate
• received unemployment benefits
• had some modest gambling winnings
• received disability benefits through private disability insurance

Because the definition of “income” is so broad, and because the only the last 6 full calendar months of “income” is included, the timing of the filing can make all the difference.

HOW CAN A NEW REGULAR INCOME AFFECT TIMING OF FILING?

If your regular income has increased in the last few months or is about to increase, that may push your means test “income” higher than your applicable median

income amount. Filing your Chapter 7 case quickly may enable you pass the means test, which may not happen if you waited. A delay of a few weeks, or even just a few days, can in some circumstances make a huge difference.

Similarly, if your regular income has decreased in the last few months or is about to do so, your means test “income” may be more than median income now but could be less than the median a few months from now.

CAN YOU GIVE ME AN EXAMPLE?

Sure. Assume you live in California in a household of two people, and your employment income has been a steady $5,000 gross per month. So your annual employment income is $60,000. That is well below the current $66,428 median income for a household of two. But if during the last 6 months you also received $900 per month in child support (or rent, etc.), that would push your monthly income to $5,900, and your annual income to $70,800. So then you’d be above the median income threshold.

But now let’s say that the monthly child support payments only started arriving on January 1 of this year, and it’s now mid-March. So in calculating “income” the applicable 6-full-calendar-months period is from the beginning of September of last year to the end of February of this year. That period included 6 months (September through February) of employment income (6 X $5,000 = $30,000) plus 2 months (January through February) of support payments (3 X $900 = $2,700), or a total of $32,700. Multiply that by 2 to get the annual “income” amount of $65,400. That’s below the $66,428 median income amount.

However, if you filed the Chapter 7 case not in March but in April, that short delay can make a huge difference. It would increase your 6-full-calendar-month “income” by one more support payment—now including the one of March 1. Adding that additional $900 to the above 6-month amount of $32,700 totals $33,600 for the October through March period. Multiply that by 2 to get the annual “income” amount of $67,200. So now you’re OVER the applicable median income amount of $66,428.

Notice that this increase in “income” happens as of April 1, because at the beginning of each month the applicable 6-full-calendar-month period shifts forward by one month. In this case whatever money that was received in September no longer counts and whatever was received in March now does. So a delay in filing of even one day—from March 31 to April 1—would have the effect here of shifting your means test “income” from being below median income to above it.

HOW CAN A NEW IRREGULAR SOURCE OF INCOME AFFECT THE TIMING?

A similar result can happen when there’s a single irregular payment. But it plays out a little differently. You again benefit from filing sooner. But this time you take advantage of the fact that money received earlier within the same calendar month that your Chapter 7 case is filed doesn’t count as “income” for the means test. Money received during the last 6 prior FULL CALENDAR counts, but not that received earlier in the current month.

AGAIN, COULD YOU GIVE A SIMPLE EXAMPLE?

Yes, take the above example of gross monthly pay of $5,000. But instead of getting monthly support payments of $900 you got a catchup payment consisting of 4 months of arrearage paid all at once, $3,600, on the first of March. If you didn’t file a Chapter 7 case until April, that $3,600 would count as “income” for the means test since it arrived during the prior 6 calendar months (October through March). Adding $3,600 to the employment income of $30,000 adds up to $33,600 for the 6-month period. Multiply that by 2 equals $67,200, which is more than the $66,428 median income amount. So you’d not pass this step of the means test.

If instead you filed the Chapter 7 case before then end of March, that $3,600 received on March 1 would NOT count as “income” for the means test. With your annual income from just the employment being $60,000, that’s less than the $66,428 current median income amount. So this way you’d pass the means test.

HOW CAN AN EARLIER IRREGULAR SOURCE OF INCOME AFFECT THE TIMING?

One last twist on this: if instead you’d received that $3,600 lump sum in September of last year, and nothing else other than the $5,000 per month gross employment pay, it’s better to delay filing a Chapter 7 case. If you file in March, then the appropriate 6-month period is September of last year through February of this year. That would include that $3,600 received in September. As in the above calculation, your annual “income” would be $67,200, more than $66,428 median income amount. You’d not pass the means test.

But if you just waited to file until April, money received in September, including that $3,600, would not count. Only the employment pay would count, totaling $60,000, which is well below the median income amount. So you’d pass the means test.