Filing for bankruptcy can help you relieve the pressure of mounting debt. Many individuals faced with these liabilities choose to pursue what is known as a Chapter 7 bankruptcy. However, not everyone is eligible for this type of filing.
If you happen to earn enough income and are able to pay your financial obligations, you will not be eligible for Chapter 7. Instead, you would file under Chapter 13. To determine whether you qualify for Chapter 7, the court will use what is known as the “Means Test.”
Excluded from the Means Test: Business Debts and Disabled Veterans
Now, it is important to note that the means test applies only to “consumer” debts. This means that if the majority of the money you owe is from transactions related to a business you own, you do not need to take the means test. In this situation, it is important to speak with an attorney to confirm that you meet this criterion.
Also, you may skip the means test if you are a disabled veteran and your debts were incurred while you were on active duty.
Calculate Your Current Monthly Income
Keep in mind that the means test looks at your average income in the six months leading up to filing for bankruptcy. So, if you are in a situation where your income fluctuates or you recently lost your job, your attorney will help you determine the best time to file.
Income that is included in the calculator includes money from most sources including:
- Wages
- Overtime pay
- Commissions
- Interest
- Dividends
- Rent payments
- Pension/retirement
- Child/spousal support
- Any other regular contributions to household expenses (from roommates, parents, etc.)
- Unemployment compensation
- Worker’s compensation
- State disability insurance
- Annuity payments
- Lump-sum windfalls (like inheritance or lottery winnings)
Note that social security benefits and income tax refunds are NOT considered income for the purposes of the means test calculation.
Determine Your Household Size
Once your monthly income has been calculated, the next step is to determine your household size. While the law regarding household members is not completely clear, Southern California generally follows what is known as the “heads-on-beds” approach.
This simply means that if someone is living in your home, they are deemed part of your household. It’s important to note that this includes all people under your roof, including non-relatives.
However, bear in mind that there are two other interpretations that the court could use. One considers household members to be only those that you can claim as a dependent on your tax return. The other interpretation is that the household includes anyone that is part of a “single economic unit”. In other words, those individuals whose finances are closely intertwined with yours.
As you can see, this determination can get complicated if you have children that split time between two households or you are a parent of an adult that occasionally lives at home. For that reason, it is always best to speak with an attorney for advice regarding your unique circumstances.
Compare Your Income to the State Median
After calculating your monthly income and determining your household size, the next step is to compare these figures to the state annual median. This number is updated regularly and will be different for each state.
That said, for California, the gross annual median income is as follows:
- For one person: $60,360
- For two people: $79,271
- For three people: $88,235
- For four people: $101,315
Note that if you have more than four people in your household you add $9,000 for each additional person.
Now, if your income is less than the state median, you passed the means test and you are likely eligible to file for Chapter 7. However, if your income is over the state median you are not necessarily ineligible. But, you will need access to information about your expenses.
If Your Income is Over State Median
As discussed, under the means test, you can deduct certain expenses if your income is over the limit. The expenses that you are allowed to deduct are based on national and local standards for these expenditures. In other words, they are set numbers and may not reflect what you actually spend.
That said, for certain expenses, you can deduct what you actually paid for the item or services. Examples include:
- Taxes
- Health insurance
- Court-ordered payments (including spousal/child support)
- Education costs for a disabled child
- Care for an elderly or disabled family member
You can also deduct the actual cost of regular charitable contributions. However, you must be able to provide proof this is something you regularly do. Also, keep in mind that this list is not exhaustive. For that reason, if you are over the median income limit, it is best to talk to an attorney that can thoroughly evaluate your situation.
Now, once you have taken all deductions allowed by law, the money that is left over is considered your “disposable income”. If this number is less than $136.25 per month, you have passed the means test.
If the amount is over $227.50 per month, you did not pass the means test and can’t file for Chapter 7. Finally, if your number is between $136.25 and $227.50 per month the matter is more complicated and requires consideration of your total unsecured non-priority debt. This is highly technical and is best done with the assistance of an attorney.
Step After Passing the Means Test
It’s important to understand that passing the means test does not necessarily mean that you will qualify for a Chapter 7 bankruptcy. Keep in mind that the court will look fully into your income and expenses.
If the judge finds that you have enough income after expenses to pay your creditors, your filing may get dismissed or converted to a bankruptcy under Chapter 13. A situation where this might arise is if your income is low, but you also have very few expenses.