Chapter 7 Bankruptcy: Means Testing Explained

By Alexander Hernandez, J.D., Professor, and Author of Consumer Bankruptcy Law (Routledge).

Chapter 7 bankruptcy can be complicated, even though the process may have been simplified thanks to forms and templates. In this blog post, I review some of the issues to be made aware of when it comes to filing Chapter 7 bankruptcy.

Updated on January 11, 2025.

Listen: The Professor’s Audio Briefing.

Key Points:

In this Podcast, I summarize Chapter 7 bankruptcy. Issues that are discussed are as follows:

• Chapter 7 is known as a liquidation, but that doesn’t mean all of a debtor’s assets are liquidated.
• Because of exemptions or protections afforded under the Bankruptcy Code, assets are protected. An example is used based on Florida and the motor vehicle exemption of $1,000.
• Means testing is discussed, and how it focuses on the last 6 months of income in order to qualify in part for Chapter 7 Bankruptcy; however, common mistakes made with the means test are analyzed.
• Besides the means test, debtors also have to list their income for the month of filing in Schedule I of the bankruptcy petition. Schedule I and Schedule J (expenses) are compared for purposes of determining disposable income.

Introduction to Bankruptcy.blog

All right, everybody, this is the second video I made, so I’m moving along. I’m learning new things and figuring out how to blog, podcast, and make videos. So, not bad for an old guy, right? You can teach an old dog new tricks.

Since I’ll be fifty-two years old in a couple of days, hopefully, I’m doing it right. If not, I’ll tell myself I am right to boost my confidence.

So today, we’re going to talk about Chapter 7 bankruptcy. We’re only going to scratch the surface and not get into the weeds as today, it’s only a summary, and future blogs, videos, and podcasts will go into detail.

Whether you’re a paralegal student using my bankruptcy law textbook in your course, an up-and-coming bankruptcy lawyer, or just trying to learn about the bankruptcy process, these blogs will help you.

The videos will also help you get a better understanding of the process. Suppose you are a debtor and plan on hiring a bankruptcy lawyer. In that case, you’ll have a deeper understanding of the process since lawyers don’t always explain everything to their clients, and clients walk out of a lawyer’s office with deer in the headlights look. Like doctors, some lawyers have comparable bedside manners.

So today, we’re just going to scratch the surface since it wouldn’t be possible to discuss Chapter 7 bankruptcy in one day.

What You Need to Know About Chapter 7 Bankruptcy

When it comes to Chapter 7 bankruptcy, there are a few things you need to know. I will point out the mistakes that most people make.

First, Chapter 7 bankruptcy is the most common type of bankruptcy filed. Approximately sixty percent plus, and roughly thirty-five percent for Chapter 13 bankruptcy.

Chapter 13 is a court-approved payment plan lasting 36 to 60 months. We’ll get into the weeds with Chapter 13 as well. Today, it’s Chapter 7, along with the issues focused on.

Chapter 7 Bankruptcy and Liquidation

Chapter 7 bankruptcy is known as a liquidation. However, that implies assets will be liquidated, but the key is to focus on exemptions.

Exemptions will determine if any assets are going to be liquidated.  Exemptions, and I like to call them protections, determine what assets are protected and to what extent. Of course, exemptions vary per state.

For example, Florida has a very low exemption for your car, which is $1,000.

Updated: Note Florida increased their exemptions after this blog post was published to $5,000 for the motor vehicle exemption.

Texas, I believe the motor vehicle exemption is $7,500. Considering the standard of living is high, California might be half of that. But you see how the numbers change based on your state.

Now, let’s use the Florida motor vehicle exemption as an example.

How Exemptions Work in a Bankruptcy Case

Let’s say the car is worth $5,000. Apply the exemption, so that’s $1,000, which means $4,000 is nonexempt. I always explain it as now there is a $4,000 problem because that’s what is at issue.  

Let’s say there is negative equity, which means you owe twenty thousand on the car loan, but the car is worth fifteen thousand. What does the bankruptcy trustee do? Nothing. There’s nothing they can do with your vehicle. They’re not interested in your car. They can’t sell it and make money from the sale.

Remember, the bankruptcy trustee has one job: finding money. For example, trustees love going after tax refunds. It’s easy picking; it’s easy money. So, always ask your bankruptcy lawyer about tax refunds. Below is a post dedicated to the issue of tax refunds and bankruptcy.

It’s Tax Season and the Taxman and Trustee Want your Taxes

With no equity, the trustee moves on to the next case, but what if there is nonexempt equity? What options do you have at this point?

Nonexempt Issues in Bankruptcy

Well, you can buy back the equity from the trustee. You can tell the trustee you want to keep your car and buy it back for $4,000. But there’s a catch. The bankruptcy trustee will only give you ten to twelve months to get this done.

So, can you pay back $4,000 in the next ten to twelve months? If you can, pay the bankruptcy trustee the amount distributed to creditors.

Option two is that Chapter 13 bankruptcy should have been filed if you can’t afford it. The payment plan for Chapter 13 bankruptcy is between thirty-six to sixty months.

Ten percent of trustee administrative fees are added to the monthly payment, and the balance of attorney’s fees is also added.

The third option is to surrender the car to the bankruptcy trustee.

Which option you choose depends on your situation. For example, approximately one year ago, one client faced that situation.

The bankruptcy trustee claimed the car’s value at a ridiculous amount. The car was worth more than when my client bought it, after adding 70,000 miles, plus a car accident and mechanical issues.

My client handed over the keys to the bankruptcy trustee. Why? Because the nonexempt amount was not worth buying back the car. So, if we use the same example of $4,000 nonexempt, my client can use that towards purchasing a new vehicle. Since he would use a cosigner, this was to my client’s favor.

So, research to confirm what your best choices are. Too many times, people read online about Chapter 7 bankruptcy and conclude that’s what they want to do. It’s not that simple.

The Chapter 7 Bankruptcy Means Test

The means test looks back at your last six months of income. The figures vary per state and other factors such as dependent children, single versus married, etc.

For our hypothetical, let’s suppose the magical number is $45,000. Most debtors conclude they make less, say $35,000, and conclude they qualify for Chapter 7, and that’s the best choice.

However, let’s assume there are no exemption issues because the car has minimal value or negative equity. However, is there disposable income?

For example, a recent blog post based on a client’s situation was that the debtor turned in the car without telling me. If the car payment was $500, now there’s $500 in disposable income.  

Other examples are clients moving in with friends or family to save money, renting a room in their home, or being divorced or separated. This causes changes in the figures and may prevent a debtor from qualifying for bankruptcy.

Another situation is that disposable income increases because a debtor should stop making credit cards before filing for bankruptcy.

For example, if you pay $500 monthly on credit cards, Schedule I of the bankruptcy petition, which is the income section, is compared to Schedule J, where expenses are listed.

When comparing both schedules, there’s likely no money left over because credit card payments can’t be included in Schedule J. So if there’s money left over, in this case $500 in disposable income, a Chapter  13 bankruptcy is required. Approximately that amount will be paid monthly to the bankruptcy trustee for three to five years.

But, unfortunately, debtors don’t realize that. They look at the bankruptcy forms, which don’t even explain that, but these are the tricks and tools of the trade. I’ve been doing this for 24 years, so I know all the ins and outs of bankruptcy.

However, disposable income is one crucial factor that affects bankruptcy. Any change means you qualified for Chapter 7 bankruptcy one minute and don’t the next.

In closing, remember that when you are considering bankruptcy, you must consider exemptions, means testing, and disposable income.

How much disposable income is also an issue. If it’s more than $100, there could be issues. What those deductions are, and how much is also relevant?

For example, some districts do not allow IRA and 401k deductions from your pay stubs. It wasn’t an issue in Miami, but I’ve read in other districts where bankruptcy trustees always object.

So keep that in mind. Practices change from one district to the next. How bankruptcy cases are handled in the Southern District of Florida differs from that in the Middle or Northern District. So keep that in mind.

Keep looking out for new blog posts. My latest one on rapper GHerbo is out, and it discusses his criminal cases and how not all debts can be discharged in bankruptcy. That blog post is below.

Understanding Nondischargeable Debts in Bankruptcy

Another blog post was also published on Rudy Giuliani, the former mayor of New York, who filed for Chapter 11 bankruptcy. That blog post focuses on his bankruptcy case and issues with golf and you can read it by clicking below.

I like to tie newsworthy events to bankruptcy to be practical. I’ve always believed that not all answers are in the book, so outside material such as this blog helps fill the gaps.

Colleges and universities can purchase my bankruptcy law textbook directly from Routledge Publishing. Paralegals and students who are buying single copies can do so via Amazon Books. To access my YouTube channel, click this link. You can also listen to my podcast on Spotify.

You can learn more about filing for bankruptcy and the bankruptcy petition via this link. Information on the bankruptcy court system, contact information for trustees, and your state’s exemptions can be found here. The federal bankruptcy exemptions are listed here. The latest version of the 341 Meeting of the Creditors can be found here.

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Please note that the information on this site does not constitute legal advice and should be considered for informational purposes only.