Will Any Creditors Challenge the Discharge of the Debts in My Bankruptcy Case

You seldom need to worry about any creditor objecting to the discharge of your debt to it. They very seldom have the grounds to do so.


If you file bankruptcy, every debt you have a right to write off will almost always be written off. Unexpected challenges in the discharge (write-off) of debts do not happen often.

The Two Categories of Debts that Aren’t Discharged

The first category of not-discharged debts includes those that Congress has decided for some special reason should not be allowed to be discharged in bankruptcy. Among the most common ones of these are spousal and child support, most student loans, many tax obligations, and criminal fines and restitution. If you are being represented by a competent bankruptcy attorney, you will be informed before your case is filed if any of your debts fall into this category.

The second category of debts are those that are subject to not being discharged IF, and only if, the creditor files a formal challenge to the discharge, which can be done only under certain narrow grounds.  

Reasons Creditors Tend Not to Challenge Your Discharge of Their Debts

Creditors only raise challenges very seldom because:

1. As mentioned above, creditors have only narrow grounds to challenge the discharge of its debts. They would have to prove in court that you acted inappropriately in certain very specific ways–in essence, that you cheated the creditor in incurring the debt. The inappropriate behavior would have to involve fraud or misrepresentation in applying for or otherwise acquiring the debt, embezzlement, and such. This kind of behavior simply does not apply to most people and their debts.  So a creditor would just be wasting its time, and reputation, to challenge the discharge of its debt when it did not have any legal grounds for doing so.

2. The creditor would also be wasting its money. The creditor’s challenge is required to be in the form of a lawsuit filed in bankruptcy court, involving paying a filing fee and at least hundreds of dollars—and potentially thousands–in attorney fees. Most creditors wouldn’t waste their money on a lawsuit in which they had little or no chance to win.

3. Under bankruptcy law in general debts are presumed to be dischargeable if they are not one of the special nondischargeable types of debts in the first category referred to above (child support, taxes, etc.). So the creditor has the burden of providing the necessary evidence—your alleged fraud, for example—to establish that the debt is not dischargeable.

4. Bankruptcy law also provides that creditors risk being ordered to pay for your costs and attorney fees if you defend its discharge challenge and you win—you defeat the challenge. This is one more disincentive for creditors to raise a challenge, especially if its evidence against you is not solid.  

So, creditors will usually not challenge the discharge of its debts because they usually don’t have legal grounds to do so. And even a creditor thinks it has some grounds for raising a challenge, it takes significant financial risks doing so.

But What If a Creditor Does Believe It Has Grounds

First, creditors sometimes do really think that the way you incurred its debt gives them grounds for challenging that debt’s discharge. Also the law can favor them when it comes to certain actions by you such as incurring credit card debt or cash advances in the months before filing bankruptcy, writing bad checks even inadvertently, and similar actions which might not seem very egregious.

Second, you may have a creditor who is motivated less by economic good sense than by a desire to cause you trouble, say an ex-spouse or former business partner.

The best way to deal with these situations is:

  • be completely honest with your attorney in answering every question he or she asks you, whether during a meeting or when providing information in writing
  • if you have any concerns along these lines, make a point of voicing your concerns, and do so early in the process.

If you wonder whether you’ve acted inappropriately with any of your creditors, or if you have any personal creditors who are carrying a grudge, discuss it with your attorney. Not only will you be much better protected from rude surprises. Often you’ll feel the relief of learning that you have much less to worry about than you had feared.


Close Down Your Small Business, Get a Fresh Financial Start

Closing down a business can leave you with huge debts and no income to pay them. Bankruptcy may be necessary, and be easier than you think.


A Business Bankruptcy Means a Messy One?

A bankruptcy cleaning up the financial fallout from a closed business can be more complicated than a consumer bankruptcy case. But is not necessarily so.

In the next few blog posts I will show how a business bankruptcy can be quite a simple and effective solution.

Today I present one way a business bankruptcy can actually be easier than a consumer one

How so? Because under certain conditions a business bankruptcy case can avoid the Chapter 7 “means test,” allowing you to legally write off (“discharge”) all your debts quickly.

The Purpose of the “Means Test”

The point of the means test is to require people who have the means to pay a meaningful amount to their creditors over a reasonable period of time to in fact do so. They aren’t allowed to simply discharge their debts.

Essentially this disqualifies people who do not pass the means test from going through a Chapter 7 case, which allows a quick discharge of most debts. Instead they must go through Chapter 13, which generally requires them to pay creditors all that they can afford to pay them over a 3-to-5-year period.

The Challenge of Passing the Means Test

To pass the means test requires either having a relatively low income (no more than the published median income amount for the person’s state and family size) or having enough allowed expenses so that little or no “disposable income” is left over. Again, otherwise you will be stuck in a 3-to-5-year Chapter 13 payment plan.

In many scenarios, a former business owner needing bankruptcy relief would not be able to pass the means test and so would have to go through Chapter 13. For example:

  • If, after closing his business, the owner of that business gets a well-paying job before filing bankruptcy, the income from that job may be larger than the “median income” applicable to her state and family size.
  • If the business was operated by one spouse while the other continued working and earned a good income, that employed spouse’s income alone may bump the couple above their applicable “median income” amount, thereby not passing the “means test.”
  • A former business owner who now earns more than median income can’t deduct monthly payments to secured creditors on business collateral she is surrendering—vehicles and equipment, for example—or for other business expenses, such as rent on the former business premises. This reduces the likelihood that she will have enough allowed expenses to pass the “means test.”

Skip the “Means Test” in Business Bankruptcies

The good news is that the  means test only applies  if your “debts are primarily consumer debts.” (Section 707(b)(1) of the Bankruptcy Code.) So if your debts are primarily business debts—more than 50%–you avoid the means test altogether.

Let’s be clear about the difference between these two types of debts. A “consumer debt is a “debt incurred by an individual primarily for a personal, family, or household purpose.” (Section 101(8).)  The focus is on the intent at the time the debt was incurred. So, for example, if you had taken out a second mortgage on your home for the clear purpose of financing your business, that second mortgage would likely be considered a business debt for this purpose.

Certainly there are times when the line between a business and consumer debt is not clear. Given what may be riding on this—the ability to discharge all or most of your debts in about four month under Chapter 7 vs. paying on them for up to 5 years under Chapter 13—be sure to discuss this thoroughly with your attorney. Find out if you can avoid the means test under this “primarily business debts” exception.


Taking the “Means Test” All the Way to Its End

If your income is higher than the median and you have too much disposable income, you’ll need “special circumstances” to do a Chapter 7.


The “Presumption of Abuse”

The means test determines whether you qualify to file a Chapter 7 “straight bankruptcy” case—or whether instead you have too much “means” to do so. If you don’t pass the means test, your case is said to be presumed to be an abuse of Chapter 7. That’s just another way of saying you are not legally appropriate for this type of bankruptcy relief. Then you can’t proceed with your Chapter 7 bankruptcy case, and your case will either be dismissed (thrown out) or more likely converted into a Chapter 13 “adjustment of debts” type of bankruptcy instead.

There are a number of levels to this test. Once you pass it at any of the levels, you don’t have to go any further. My last few blog posts explored the earlier levels; today is about the final level. You only get here if you haven’t passed the means test on any of the earlier levels.

The Earlier Levels of the Means Test

You can avoid this presumption of abuse IF ANY of the following apply to you:

First, your income is no more than the median family income for your state and your size of family. See this website for the current median income amounts. Caution: “income” has a very specific and unusual definition for means test purposes. See my recent blog posts for more about this.

Second, if your income is more than the applicable median family income amount but, after subtracting a list of allowable expenses, your remaining monthly disposable income is less than about $125 per month, then you pass the means test.

Third, if your income is more than the applicable median family income amount, AND your remaining monthly disposable income after the allowable expenses is more than about $125 per month but no more than about $208 per month, then you may be able to still pass the means test. But that’s only if, when you multiply your monthly disposable income amount by 60, that total is less than 25% of your “non-priority unsecured debts” (debts not secured by collateral, excluding special “priority debts”—certain taxes, support payments, and such).

It’s somewhat rare that a person who needs and wants to file a Chapter 7 case would not have passed the means test through one of the above levels. A large percentage of people pass on the first level by simply having low enough income. Others pass at the second level because their income is low enough compared to their expenses. And others pass because the amount of their disposable income after expenses is low enough compared to the amount of their debt.

The Last Level

BUT, if after all this you haven’t passed the means test that your case is still under a presumption of abuse, you still have one more last chance, one last level of the means test to pass. You can show “special circumstances.” The Bankruptcy Code lays out this out as follows:

[T]he presumption of abuse may… be rebutted by demonstrating special circumstances, such as a serious medical condition or a call or order to active duty in the Armed Forces, to the extent such special circumstances… justify additional expenses or adjustments of current monthly income for which there is no reasonable alternative.

Congress did not make clear what counts for “special circumstances” beyond the two examples provided.

The Means Test Ends Up Being Not So “Objective”

So when pushed to the last level, a test that was intended to be an objective way to decide who qualifies to file a Chapter 7 bankruptcy comes down to a very subjective question about whether any “special circumstances” apply. Talk to your attorney about how this phrase is being interpreted in your local bankruptcy court.


The “Means Test” Tries to Be Objective

The point of the “means test” is to objectively judge whether you have the means to pay your creditors. But this test is very arbitrary.


As we explained in last week’s blog post, the “means test” is supposed to be an objective way to decide who qualifies to file a Chapter 7 bankruptcy. That decision used to be more in the hands of bankruptcy judges, who were apparently seen as being too lenient with debtors (which is odd because the majority of the judges are former creditor attorneys!).

The “Objective” Rule

As also discussed in the last blog post, there is a very specific formula for determining if you can do a Chapter 7 case: if your budget shows that you have some money left over each month—some “disposable income”—it all depends on its amount and how it compares to the amount of your debts. This is how “objective” this rule is:

  1. If your “monthly disposable income” is less than $125, then you pass the means test and qualify for Chapter 7.
  2. If your “monthly disposable income” is between $125 and $208, then you go a step further: multiply that “disposable income” amount by 60, and compare that to the total amount of your regular (not “priority”) unsecured debts. If that multiplied “disposable income” amount is less than 25% of those debts, then you still pass the “means test” and qualify for Chapter 7.
  3. If EITHER you can pay 25% or more of those debts, OR if your “monthly disposable income” is $208 or more, then you do NOT pass the means test. BUT you still might be able to do a Chapter 7 case IF you can show “special circumstances,” such as “a serious medical condition or a call or order to active duty in the Armed Forces.”

Where Do Those Crucial Amounts—$125 and $208—Come From?

Notice the huge difference in effect of these numbers. If you have less than $125 to spare, you are “presumed” to qualify for Chapter 7; if you have more than $208 to spare, you are
“presumed” to not qualify for Chapter 7, unless you can show “special circumstances.” And if you have an amount in between, then you must apply that 25% extra condition.

That’s a huge difference in consequences for a spread of only $83 per month.

So where do these hugely important numbers come from?  The Bankruptcy Code actually refers to those numbers multiplied by 60—$7,475 and $12,475. When the law was originally passed in 2005 these amounts were actually $6,000 and $10,000 (therefore, $100 and $167 monthly), but they have been adjusted for inflation since then.

So where did those original $6,000 and $10,000 amounts come from?

They are arbitrary. Why was anything less than $6,000 (now $7,475) considered low enough to allow a Chapter 7 to proceed, while anything more than $10,000 (now $12,475) was considered high enough to not allow it? Some creditor lobbyist or Congressional staffer likely just came up with those numbers, and maybe they were negotiated in Congress. In any event, somewhere in the process Congress decided that it needed to use certain numbers, and those are the ones that made it into the legislation. It’s the law, regardless that there doesn’t seem to be any real principled reason for using those amounts in determining whether a person should or shouldn’t be allowed to file a Chapter 7 case.

The Bottom Line

Sensible or not (and there is a lot in the “means test” which is not!), if your income is under the published median income amount, then you pass the “means test” and can proceed under Chapter 7 (see our earlier blog about that). But if you are over the median income amount, then the amount of your “monthly disposable income” largely determines whether you are able to file a Chapter 7 case. (Remember that most people needing a Chapter 7 case qualify easily by having low enough income, skipping the complications covered in today’s blog post.)


Taking Advantage of the Rigidity of the Chapter 7 “Means Test”

Because of how precisely the amount of your “income” is calculated, filing bankruptcy just a day or two later can make all the difference.


Passing the “Means Test”

Our last blog post was about most people passing the “means test” by making no more than the median income for their state and family size. We also made clear that “income” for this purpose has a very broad meaning, by including non-taxable received from irregular sources such as child and spousal support payments, insurance settlements, cash gifts from relatives, and unemployment benefits. Also, we showed how time-sensitive the “means test” definition of “income” is in that it is based on the amount of money received during precisely the 6 FULL CALENDAR months before the date of filing. This means that your “income” can shift by waiting just a month or two, or even by waiting just a few days until the turn of the month (since that changes which 6 months of income is at issue).

Why is the Definition of “Income” for the “Means Test” So Rigid?

One of the much-touted goals of the last major amendments to the bankruptcy law in 2005 was to prevent people from filing Chapter 7 who were considered not deserving. The most direct means to that end was to try to force more people to pay a portion of their debts through Chapter 13 “adjustment of debts” instead of writing them off Chapter 7 “straight bankruptcy.”

The primary tool intended to accomplish this is the “means test,” Its rationale was that instead of allowing judges to decide who was abusing the bankruptcy system, a rigid financial test would determine who had the “means” to pay a meaningful amount to their creditors in a Chapter 13 case, and therefore could not file a Chapter 7 case.

The Unintended Consequences of the “Means Test”

The last blog post explained the first part of the means test: comparing the income and money you received from virtually all sources during the six full calendar months before filing bankruptcy to a standard median income amount for your state and your family size. If your income is at or under the applicable median income, then you generally get to file a Chapter 7 case. If your income is higher than the median amount, you may still be able to file a Chapter 7 case but you have to jump through a whole bunch of extra hoops to do so. Having income below the median income amount makes qualifying for Chapter 7 much simpler and less risky.

Filing your case a day earlier or later can matter so much because of the means test’s fixation on the six prior full calendar months, AND because you include ALL income during that precise period (other than social security).

So if you receive some irregular chunk of money, that can push you over your applicable median income amount, and jeopardize your ability to qualify for Chapter 7.

An Example

It does not necessarily take a large irregular chunk of money to make this difference, especially if your income without that is already close to the median income amount. An income tax refund, some catch-up child support payments, or an insurance settlement or reimbursement could be enough.

Imagine having received $3,000 from one of these sources on October 15 of last year. Your only other income is from your job, where make a $42,000 salary, or $3,500 gross per month. Let’s assume the median annual income for your state and family size is $45,000.

So imagine that now in the early part of April 2014, your Chapter 7 bankruptcy paperwork is ready to file, and you would like to get it filed to get protection from your aggressive creditors. If your case is filed on or before April 30, then the last six full calendar month period would be from October 1, 2013 through March 31, 2014. That period includes that $3,000 extra money you received in mid-October. Your work income of 6 times $3,500 equals $21,000, plus the extra $3,000 received, totals $24,000 received during that 6-month period. Multiply that by 2 for the annual amount—$48,000. Since that’s larger than the applicable $45,000 median income, you would have failed the income portion of the “means test.”

But if you just wait to file until May 1, then the applicable 6-month period jumps forward by one full month to the period from November 1 of last year through April 30 of this year. Now that new period no longer includes the $3,000 you received in mid-October. So now your income during the 6-month period is $21,000, multiplied by 2 is $42,000. This results in your income being less than the $45,000 median income amount. You’ve now passed the “means test,” and qualified for Chapter 7.


The Easiest Way to Pass the Chapter 7 “Means Test”

Most people considering Chapter 7 “straight bankruptcy” have low enough income to qualify.  Find out if you do.


The “Means” Part of the “Means Test”

When Congress passed the last major set of changes to the bankruptcy laws nine years ago, it explicitly said that wanted to make it harder for some people to file Chapter 7.  The idea was that those who have the means to pay a significant amount of their debts should do so. Specifically, those who can pay a certain amount to their creditors within a three-to-five-year Chapter 13 payment plan ought to do so, instead of just being able to write off all their debts in a Chapter 7 case.

How the Law Determines Whether You Have Too Much “Means”

The “means test” measures people’s “means” in a peculiar, two-part way, the first part based on income, the second part based on expenses.

The income part is relatively straightforward; the expense part involves an amazingly complicated formula of allowed expenses.

The good news is that if your income is low enough on the income part of the “means test,” then you’re done: you’ve passed the test and can skip the rest of the test. The other good news is that most people who want to file a Chapter 7 case DO have low enough income so that they do pass the “means test” based simply on their income.

Is YOUR Income Low Enough to Pass the “Means Test”?

Your income is low enough if it is no higher than the published “median income” for a household of your size in your state. You can look at your “median income” on this website (for bankruptcy cases filed on or after April 1, 2014).

A Peculiar Definition of “Income”

Here’s what you need to know to compare your “income” (as used for this purpose) to the “median income” applicable to your state and family size:

1. Determine the exact amount of “income” you received during the SIX FULL calendar months before your bankruptcy case is filed. It’s easiest to explain this by example: if your Chapter 7 case is filed on March 25, 2014, count every dollar you received during the six-month period from September 1, 2013 through February 28, 2014. After coming up with that six-month total, divide it by six for the monthly average.

2.When adding up your “income” include all that you’ve acquired from all sources during that six-month period of time, including unconventional sources like child and spousal support payments, insurance settlements, unemployment benefits, and bonuses. But EXCLUDE any income from Social Security. (That’s good news too.)

3. Multiply your six-month average monthly income by 12 for your annual income. Compare that amount to the published median income for your state and your size of family in the link provided above. (Make sure you’re using the current table.)


If your “income”—calculated in the precise way detailed here—is no more than the median income for your state and family size, then you have passed the “means test” and can file a Chapter 7 case.

But if your income is higher than that, you may still be able to pass the “means test” and file a Chapter 7 case. That’s covered in the next blog post.


Major Advantages of Chapter 13 “Adjustment of Debts”

Chapter 7 “straight bankruptcy” is quick and often gives you what you need. But in many situations, Chapter 13 gives you SO much more.


The last blog post showed how a simple Chapter 13 case works. That example illustrated one of the special advantages you get with Chapter 13: if you have a debt which can’t be discharged (legally written off) in a regular Chapter 7 case—such as a recent IRS income tax debt or back child support—these kinds of special debts can be conveniently paid over time through a Chapter 13 payment plan. The crucial advantage here is that throughout the 3-to-5-year plan such creditors can’t take any collection action against you or your assets.

That’s just the first major way that Chapter 13 buys time and protection that Chapter 7 simply cannot provide. Here are some of the other main advantages of Chapter 13:

1. You can keep your possessions that are not protected by property “exemptions,” preventing a Chapter 7 trustee from taking them from you. Thus you retain much more control over the process of saving your assets, avoiding the unknowns of negotiating payment terms with a Chapter 7 trustee in order to keep your non-exempt possessions. Also, in a Chapter 13 case, you have 3 to 5 years to pay to protect such possessions, instead of the few months that Chapter 7 trustees generally allow.

2. Similarly, if you fell behind in payments on your home’s first mortgage, you have the length of your plan—the same 3 to 5 years–to catch up. That’s in contrast to the few months of payments that a mortgage lender would generally allow if you negotiated directly with it after filing a Chapter 7 case.

3. You may be able to “strip” a second (or third) mortgage from your home’s title, and avoid paying all or most of that mortgage. This can happen if the value of your home is less than the balance of your first mortgage. Mortgage “stripping” may save you hundreds of dollars per month and potentially many tens of thousands of dollars over time. This is completely unavailable in a Chapter 7 case.

4. You may be eligible for “cramdown” of your vehicle loan. If you purchased and financed your vehicle more than two and a half years before filing your Chapter 13 case, and the vehicle is worth less than the balance on the loan, your monthly payments and the total amount you pay for your vehicle can be significantly reduced. This could enable you to keep a car or truck that you couldn’t otherwise. In contrast, in a Chapter 7 straight bankruptcy case you are usually almost always stuck with the monthly payment and loan balance dictated by the vehicle loan contract.

5. In that same situation, if you are behind on the vehicle loan payments you don’t have to catch up those back payments. In a Chapter 7 case, almost always you must quickly pay off any arrearage if you want to keep the vehicle.

6. If you owe an ex-spouse non-support obligations, you can discharge (write-off) them under Chapter 13—not under Chapter 7. Non-support obligations include requirements in a divorce decree to pay off a joint marital debt or to pay the ex-spouse in return for getting more of the marital property. Discharging such debts can make a huge difference, often making Chapter 13 well worthwhile.

7. If you have any student loans, under Chapter 13 you could likely delay paying on them for three years or more. That can be especially helpful if you have some other debts that are essential to pay off during your case (like child support arrearage or recent income taxes). Also, if you have a worsening medical condition, you may be better situated to qualify for a “hardship discharge” of your student loans if you wait until later in your Chapter 13 case.

People often assume they need and want a regular Chapter 7 bankruptcy, and it’s often exactly what they do need. But the above short list gives you some idea of the benefits of Chapter 13 that may make it a much better option. That’s one of the reasons you should talk with an experienced bankruptcy attorney, and do so with an open mind. That’s because sometimes Chapter 13 can give you a huge unexpected advantage, or a series of smaller advantages, which may swing your decision in that direction.


Don’t Let a Creditor Get a Judgment Preventing its Debt from Being Written Off in Bankruptcy

Some creditor judgments are very dangerous since the prevent you from writing off the debt later in bankruptcy. Try to avoid judgments.


Consequences of Allowing a Judgment

In recent blog posts we’ve written about the most direct reason to avoid letting a creditor which has sued you get a judgment against you–it gives the creditor powerful ways to make you pay the debt, such as by garnishing your paychecks or bank accounts. Also, if you own any real estate, including your home, a judgment usually creates a lien on your real estate, another way to force you to pay the debt.

But there’s another reason we mentioned earlier–you should avoid a judgment whenever possible because it can result in that debt not being written off (“discharged”) when you file bankruptcy. Or even if that debt can be discharged, it may become much more difficult to do so. This blog post is about these kinds of judgments.

How a Judgment Can Affect Whether a Debt Can Later Be Discharged

So how can a judgment turn a debt that could have been discharged into one that can’t, or is much harder to discharge?

A very basic principle of law states that once one court has decided an issue, other courts must respect that decision. The idea is that litigants should be able to use court resources only once to resolve a specific dispute. Once a court decides an issue, the losing party shouldn’t be able to hunt around for another court to hear and decide the same dispute (except for appeals to a higher court).

The original court—usually a state court—could potentially resolve a lawsuit in a way that would later makes the debt not dischargeable under bankruptcy law. A creditor could allege that the person owing the debt incurred it in some fraudulent or inappropriate way. If the lawsuit is resolved with the judgment reflecting that that’s what happened, then later when the debtor files bankruptcy the bankruptcy court would likely be bound by that decision by the original court. The judgment having been previously entered by the original court, the debtor would not have an opportunity to challenge its conclusions after filing bankruptcy.

Many Judgments Do NOT Cause Discharge Problems

Most creditor lawsuits are about only one thing: whether the debt is legally owed. So the judgments arising from such lawsuits usually establish nothing more than that the debt is a valid debt, at a certain amount, plus certain fees and interest. Such judgments, which don’t make any determination about a debtor’s fraudulent or otherwise inappropriate behavior, do not impact the discharge of the underlying debt in a subsequent bankruptcy.

It’s Safer to File Bankruptcy Before a Judgment is Entered

The problem is that it’s not always clear what exactly the initial lawsuit decided in its judgment, and thus whether the judgment makes the debt not dischargeable or at least harder to discharge. Specifically, the language of the judgment may not mesh exactly with the bankruptcy laws about fraudulent debts, which makes difficult to determine whether that issue is still open for determination by the bankruptcy court.

A related question is whether the matter was “actually litigated” if the person against whom the judgment was entered did not appear to defend the lawsuit or did not have an attorney.  In other words you may or may not be able to get your day in bankruptcy court depending on whether in the eyes of the law you really already had your day in the prior court.  

To avoid these kinds of ambiguities, and to avoid the risk of losing your chance to defend your case in bankruptcy court, don’t wait until after a judgment has been entered against you to see a bankruptcy attorney. This is especially critical if a lawsuit’s allegations against you refer to any inappropriate behavior other than not repaying the debt.

The bottom line is that if you get sued by any creditor you should quickly see an attorney, even if you don’t plan on fighting the lawsuit. Getting to an attorney quickly enables you to learn if the lawsuit could lead to a judgment making the debt not dischargeable, or more difficult to discharge, in bankruptcy. If so, you would then have the option of filing the bankruptcy to prevent such a harmful judgment from being entered, instead of being stuck with it if you file a bankruptcy later.


Mistakes to Avoid–Don’t Sell or Borrow Against Assets Protected in Bankruptcy

Give yourself a fresh financial start not just with your debts, but also with your assets.


How to How to Get the Most Out of Your Bankruptcy

The focus in bankruptcy is on dealing with your debts, wiping out and getting a handle on the negative side of your balance sheet. But getting a financial fresh start means not just getting relieved of your debts, but also protecting your essential assets—the positive side of your balance sheet. You can maximize this crucial benefit of bankruptcy by not selling, using up, or borrowing against your protected assets BEFORE filing your bankruptcy case.

In my daily work as a bankruptcy attorney, I constantly meet with new clients who have sold, spent, or borrowed against important assets in desperate attempts to keep their heads above water. Some of them have even done so thinking that they would just lose that asset once they file a bankruptcy so why hang onto it. But it is much more difficult to get your financial footing if you have nothing to stand on—if you don’t have at least basic housing, household goods, clothing, transportation, and, where appropriate, tools of trade, unemployment or disability benefits, and retirement savings.

Bankruptcy Protects Assets

If you are like most people, bankruptcy will protect all of your assets. First, Chapter 7 “straight bankruptcy” protects all “exempt” assets, so that a very high percentage of people who file under Chapter 7 keep everything they own. Second, if you have assets which are worth more than the applicable “exempt” amounts provided by law, Chapter 13 “adjustment of debts” can almost always protect those “non-exempt” assets as well. And third, if you do have assets that are not “exempt,” with wise pre-bankruptcy planning with a knowledgeable bankruptcy attorney those assets can be all the better protected once your bankruptcy case is filed.

Get Legal Advice BEFORE Wasting Your Assets

Bankruptcy cannot protect what you’ve already squandered. When people sell, spend, or borrow against their assets before filing bankruptcy, most of the time those assets would have been completely protected had they filed bankruptcy while they still had them.

Think about this: if you are considering spending, selling, or borrowing against any of your assets, do you know whether that asset is one which would be protected in bankruptcy?  Do you know the full consequences of whatever you are planning on doing, either in your effort to avoid filing bankruptcy or to position yourself for filing?

These kinds of decisions can have serious long-term consequences, so they shouldn’t be made without legal advice about the alternatives. Consider a person in her late-50s cashing in a substantial amount of her 401(k) retirement plan to keep paying creditors when those creditors could be—and eventually are–written off in bankruptcy. That decision would likely significantly harm the quality of her retirement lifetime, with no tangible benefit to show for it.  IRAs, for example are exempt to $1 million, and in may cases even more.  I once had a client from La Quinta, California, a town near my main office in Cathedral City.   He was rocked with catastrophic medical bills, but had almost $750,000 in a rollover IRA.  I was able to save all of it while getting rid of the medical debt in  a Chapter 7 bankruptcy.

Or consider a husband and wife selling a free-and-clear vehicle that’s in good condition on the assumption that they’ll lose it once they file bankruptcy, using the money to pay creditors that could be—and eventually are written off in bankruptcy—only to be left with a single older vehicle that won’t reliably get them to work. That decision would lead to anything but a fresh start for them. Of course they would have been better off to find out if their reliable vehicle could have been protected, which it almost certainly could have through either Chapter 7 or Chapter 13, possibly assisted by some asset protection planning beforehand.

For understandable reasons and some not so sensible ones, people tend to get legal advice only when they are in serious trouble, and after they have made and acted on these kinds of harmful decisions. Please avoid this. You can get a better fresh start by getting the necessary advice so that you can preserve your important assets before they are gone.