Filing for bankruptcy can provide meaningful financial relief for individuals and families struggling with overwhelming debt. However, qualifying for Chapter 7 bankruptcy, may depends on passing the “Means Test” in the Bankruptcy Code. See 11 USC § 707. The Bankruptcy Means Test is designed to determine whether a person truly lacks the financial ability to repay creditors. It determines whether a debtor with primarily consumer debt may qualify for Chapter 7 bankruptcy or whether they must file under Chapter 13. In this blog we will examine what expenses a debtor may take when calculating a Chapter 7 bankruptcy Means Test.
The Means Test in Chapter 7 Bankruptcy
If a debtor’s average monthly income (calculated over a six-month period prior to the filing) is below the median income level for their household size in the state in which they reside, then the Means Test would not apply and that debtor may qualify for Chapter 7 without any further calculations. In determining a debtor’s average monthly income, almost any income from any source counts as income under the test. This includes wages, 1099 income, pension income, bonuses, commissions, business income, and rental income. However, the income calculations in the Means Test specifically exclude a few categories of benefits, including Social Security benefits and Veteran’s and Department of Defense benefits as defined by the HAVEN Act.
If a debtor’s income is above the median, then the means test applies and their monthly expenses are evaluated under the test using mainly IRS local and national standards (instead of their actual living expenses). These standard expenses are based upon data from the IRS and the Census and may not reflect a debtor’s true monthly expenses. The local standards include figures for housing, utility expenses, and transportation expenses. The national standards cover five necessary expenses: food, housekeeping supplies, apparel and services, personal care products and services as well as miscellaneous expenses. If a debtor passes the test, then they may qualify for Chapter 7 bankruptcy. However, if they fail, then they are restricted to Chapter 13 bankruptcy.
Secured Payments in the Means Test
In addition to IRS standards, the Means Test also permits deductions for certain secured payments. Secured debts are obligations tied to collateral, such as mortgages and vehicle loans. Debtors may generally deduct average monthly payments contractually due to secured debts during the applicable calculation period. These deductions can significantly reduce disposable income and can affect whether a person qualifies for Chapter 7 bankruptcy or not. This is especially the case when the debtor has high mortgage payments and/or financed or leased car payments.
Additionally, if a debtor is behind on their secured payments, they are allowed to deduct the total amount of arrears necessary to cure the default in the Means test. The total arrearage is divided by 60, and this figure is then used as a deduction to offset the average monthly income. Deducting mortgage (or sometimes even past due car payments) arrears can make it potentially easier to pass the means test to qualify for Chapter 7, or in a Chapter 13, reduce the amount that the debtor is legally required to pay back to unsecured creditors in their repayment plan. This is especially the case, when the debtor is trying to qualify for a chapter 7 case and there are significant mortgage arrears.
Understanding “Other Necessary Expenses” and Additional Expense Deductions
Beyond secured debt payments, the Means Test also involves two other categories of expenses: “Other Necessary Expenses” and “Additional Deductions.” Properly identifying and documenting these expenses can be critical because such allowable deductions can substantially impact eligibility for Chapter 7 bankruptcy.
“Other Necessary Expenses” are categories recognized under standards derived from Internal Revenue Service (IRS) guidelines and have been incorporated into the bankruptcy Means Test. These expenses are intended to account for necessary living costs that go beyond standard housing, transportation, and food allowances. To qualify, expenses generally must be actual, necessary, and reasonable. Bankruptcy trustees may review these deductions carefully to determine whether they satisfy the legal requirements under the test.
Allowable “Other Necessary Expenses” and Additional Expense Deductions:
Taxes
Certain tax obligations may be deducted in the Means Test calculation, including federal, state, and local income taxes, as well as Social Security and Medicare taxes. The deduction is generally based on actual payroll withholdings. Certain taxes are generally excluded from this category, including real estate taxes, sales taxes, and use taxes. Additionally, non-dischargeable priority taxes for closed tax years and tax liens on necessary assets can be factored in or deducted to reduce disposable income in the Means Test.
Charitable Contributions
Regular charitable contributions or tithing may also qualify if they are legitimate and consistent with the debtor’s historical giving practices. Disproportionate or irregular contributions may receive additional scrutiny during the bankruptcy process.
Term Life Insurance
The Means Test may permit deductions for certain life insurance premiums, but the rules are limited. Generally, only term life insurance premiums are deductible, and the coverage must usually relate to the debtor or a jointly filing spouse. Policies such as whole life or universal life insurance are excluded. Also excluded are life insurance policies covering dependents.
Court-Ordered Payments
Ongoing court-ordered obligations may qualify as deductible expenses. Common examples include child support and alimony or maintenance payments. The obligation must generally be ongoing at the time of filing. These expenses may also be deducted in the Means Test since they are required payments that have a special priority within the Bankruptcy Code. Much like mortgage arrears, 1/60 of the pre-petition balance of court-ordered payments can be used as a deduction on the Means Test.
Care for Family or Household Members
The Means Test may permit deductions for expenses associated with caring for elderly, chronically ill, or disabled family or household members. To qualify, the care generally must be necessary, and the recipient must be unable to pay for the care independently.
Additional Health Care Expenses (Non-Insurance)
Debtors may also deduct certain unreimbursed medical expenses that are necessary for health and well-being to the extent that they exceed the allowed medical expense in the IRS standards. These can include prescription costs, medical copays, treatment expenses, and medical supplies. These deductions are separate from health insurance premiums and must represent actual out-of-pocket costs that are not reimbursed by insurance. Due to the increasing cost of medical services and prescription drugs, recent cutbacks to Affordable Care Act subsidies, and high deductibles, this category will become increasingly relevant.
Health Insurance, Disability Insurance, and HSAs
Reasonably necessary expenses for health insurance, disability insurance, and Health Savings Account (HSA) contributions may qualify as deductions if they are necessary for the debtor’s health and financial stability.
Involuntary Deductions
Involuntary deductions are expenses required by an employer as a condition of employment. Common examples include union dues, mandatory retirement contributions, and required uniforms or other work-related assessments. Voluntary deductions, such as optional retirement contributions or elective payroll deductions, usually do not qualify in determining eligibility for Chapter 7 but may be used to when calculating a Chapter 13 Means Test.
Education Expenses
Some education-related expenses may qualify if they are necessary and reasonable. This can include continuing education required to maintain employment or professional licensing, as well as certain special needs education expenses for dependent children. Ordinary educational costs that are not job-related or medically necessary generally do not qualify.
Education Expenses for Children Under 18
Certain educational expenses for dependent children under age 18 may qualify as additional expenses under the Means Test. Debtors may need to provide documentation showing the amount of the expense, why it is necessary, and why the cost is reasonable.
Childcare Expenses
Reasonable childcare expenses are commonly deductible under the Means Test. Qualifying expenses may include daycare, babysitting services, and preschool costs.
Marital Adjustment
If a married debtor is filing individually, they can deduct the amount their non-filing spouse spends on certain personal expenses or obligations that do not benefit the debtor or the household. This is referred to as the marital adjustment. Here are some common examples of expenses that may qualify for a marital adjustment:
- Credit card payments for individual debts;
- Student loan payments;
- Child support obligations from a prior relationship;
- Retirement contributions;
The expense must be reasonably necessary and solely attributable to the non-filing spouse, rather than a shared household expense in order to be included as a marital adjustment. Please note, this only applies when the non-filing spouse is employed. If the non-filing spouse is not working, there is no martial adjustment.
Why These Deductions Matter
These deductions can substantially reduce a debtor’s calculated disposable income under the Means Test. They can determine whether a debtor qualifies for Chapter 7 bankruptcy relief or must instead proceed under Chapter 13. If a debtor is subject to the Means Test, properly identifying all allowable deductions can improve the likelihood of Chapter 7 eligibility and provide a more accurate picture of a debtor’s financial hardship. However, underreporting expenses may unfairly increase disposable income calculations, while overstating or misclassifying expenses could lead to objections from the bankruptcy trustee or other complications in the case.
Documentation and Compliance
Accurate documentation is critical when claiming Means Test deductions. Bankruptcy trustees or, potentially the United States Trustee may request proof supporting claimed expenses, including pay stubs, tax returns, insurance statements, childcare invoices, court orders, medical bills, and receipts. Trustees may review bankruptcy schedules and Means Test forms for inconsistencies or unsupported deductions. Inaccurate filings can result in case delays, conversion to Chapter 13, objections to discharge, or even dismissal of the bankruptcy case.
“Other Necessary Expenses” and “Additional Deductions” can play a major role in the Bankruptcy Means Test calculation. Expenses such as taxes, involuntary payroll deductions, childcare costs, out-of-pocket health care expenses, term life insurance premiums, and charitable donations can significantly affect disposable income calculations and eligibility for Chapter 7 bankruptcy.
Contact The Law Offices of David I. Pankin, P.C.
Individuals considering filing for bankruptcy in New York and are possibly subject to the means test, should strongly consider seeking experienced legal guidance to ensure that all allowable deductions are properly evaluated to sufficiently determine which bankruptcy chapter they qualify for. At the Law Offices of David I. Pankin, P.C. we have almost 30 years of experience of representing clients on bankruptcy matters and have handled means test cases since its inception. To begin your path to a fresh financial start, please contact us today to arrange a free consultation by using our easy online contact form.
