Not Eligible to File Bankruptcy? An Analysis of What is Required

Not Eligible to File Bankruptcy? An Analysis of What is Required

The most common types of bankruptcy filings are under Chapters 7 and 13 of the Bankruptcy Code.  Chapter 7 bankruptcy is sometimes referred to as the “liquidation” bankruptcy as all property of the debtor becomes the bankruptcy estate. A bankruptcy trustee then liquidates the non-exempt property of the estate and distributes the resulting proceeds according to certain priorities to creditors. Most cases, however, do not result in any liquidation and distribution to creditors and are labelled “no asset” cases.  In comparison, Chapter 13 is a debt adjustment plan under which the debtor may keep property while repaying creditors, at least in part, over a period of time, between 3-5 years depending on the debtor’s income.

The Bankruptcy Code authorizes a “person” that resides or has a domicile, a place of business, or property in the United States, or a municipality, to be a “debtor,” and thus be able to file for bankruptcy protection. A “person” may be a Chapter 7 debtor. “Person” is defined to include individuals, partnerships, and corporations. A corporation may file bankruptcy only with the proper authorization.  Without the requisite authorization, the bankruptcy court can dismiss a corporate bankruptcy.   Proper authorization means a valid resolution of the board of directors that is adopted before the case is filed.  Absent some contrary provision in the corporate by-laws, a majority of the directors is necessary to constitute a quorum and thereby authorize a bankruptcy filing.  Shareholders of a corporation in their capacity as shareholders have no authority to initiate voluntary bankruptcy proceedings for a corporation as they do not have the power of management.

For individuals, the means test is their biggest barrier to filing for Chapter 7 bankruptcy relief. In Chapter 7, the means test applies to individual debtors whose debts are primarily consumer debts. Analyzing how the means test works is beyond the scope of this article but it is comprised of several stages. First, the debtor’s “current monthly income” must be determined. It is comprised of the debtor’s average monthly income in the six-month period before he or she filed for bankruptcy relief. The “current monthly income” is then compared to the median income for a family of comparable size in his or her state.   If a debtor’s current monthly income is below-median, no additional calculations are needed, and the debtor is eligible to file chapter 7.  If above-median, additional calculations are required to determine chapter 7 eligibility.

Chapter 13 is available only to “individual(s) with regular income.”  Corporations cannot file for Chapter 13 bankruptcy relief.   “Individuals with regular income” is defined to be individuals “whose income is sufficiently stable and regular to enable such individual to make payments under a plan.” Debtors with regular income not only include those that are salaried but also those that are self-employed, those that receive government benefits, and those that receive alimony or support payments.

Chapter 13 eligibility is also based on certain debt limits. Eligibility debt limits are strictly construed.1 Chapter 13 is not available to debtors with over $394,725 of non-contingent, liquidated, unsecured debt or over $1,184,200 of non-contingent, liquidated, secured debts.2  These amounts do not change for debtor couples.  Eligibility is determined by reference to a debtor’s originally filed schedules, checking only to see if the schedules were made in good faith.3

Secured versus Unsecured:  The unsecured portion of an undersecured debt must be deducted from the “secured debt” total and added to the “unsecured debt” total.4  A debt is undersecured when the amount of the debt exceeds the value of the collateral that secures the debt.

Liquidated versus Unliquidated: Debt is liquidated if the amount is readily ascertainable, notwithstanding the fact that the question of liability has not been finally decided.5  An example of a liquidated debt is a collection judgment.  An example of an unliquidated debt is a tort claim for personal injuries and pain and suffering which has not been reduced to a judgment.

Contingent versus Non-Contingent: A debt is non-contingent if events giving rise to liability occurred before the bankruptcy case was filed.6   If “the debtor will be called upon to pay [it] only upon the occurrence or happening of an extrinsic event which will trigger the liability of the debtor to the alleged creditor” then the debt is contingent and not counted for eligibility purposes.7

So what happens if a Chapter 13 debtor runs afoul of either the regular income requirement or the debt limits?  The debtor is then faced with either dismissal of the case or the conversion of the case to Chapter 7.

Successive filings also pose an eligibility issue.   A debtor can file a Chapter 7 petition at any time after a previous filing, but will not be eligible for another discharge if the second filing  is less than eight years after a preceding Chapter 7 filing or six years after a previous Chapter 13 filing.   A debtor can similarly file a Chapter 13 petition at any time after a previous filing, but will not be eligible for another discharge if the second filing is less than four years after a preceding Chapter 7 filingor two years after a previous Chapter 13 filing.  Successive filings also may result in the automatic stay being terminated. The stay is automatically terminated 30 days after the petition was filed if an individual was a debtor in a previously dismissed case which was pending within the preceding year.  The bankruptcy court, however, can continue the automatic stay after notice and a hearing completed prior to the expiration of the 30 day period if there is a finding that the latter case was filed in good faith as to the creditors who are stayed by the filing. If two or more cases were pending within the previous year and were dismissed, the stay does not even go into effect upon the filing of the latter case.  In that situation a party in interest can request that the court promptly enter an order confirming that no stay is in effect.

Eligibility issues are real and can force a debtor to properly plan a bankruptcy filing.  Various considerations come into play before the case should be filed.

[1] In re: Soderlund, 236 B.R. 271, 274 (9th Cir., BAP 1999)
[2] 11 U.S.C. Section 109(e). Amounts periodically adjust for inflation. See 11 U.S.C. Section 104
[3] In re: Scovis, 249 F. 3d 975, 982 (9th Cir. 2001)
[4] See Scovis, supra, at 983
[5] See In re: Castellino Villas, AKF, LLC, 836 F.3d 1028 (9th Cir. 1016)
[6] See In re: Knight, 55 F.3d 231 (7th Cir. 1995)
[7] Id