The Chapter 7 Liquidation Test: Why Your Non-Exempt Assets Require Chapter 13 Plan

The Liquidation Test: When facing financial distress, many people are drawn to the simplicity of Chapter 7 bankruptcy. However, if you have substantial assets you wish to keep, you’ll find that Chapter 7 isn’t an option. This article explains the Chapter 7 Liquidation Test, the requirement used in Chapter 13 bankruptcy. This test ensures that creditors receive their fair share by setting the absolute minimum you must pay into your plan, a figure determined entirely by the value of your unprotected, non-exempt assets.

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

Updated on October 3, 20245.

Listen: The Professor’s Audio Briefing.

Key Points: The Liquidation Test

• With Chapter 13 bankruptcy, you must pass a “Liquidation Test” (aka “Best Interests Test”).
• The liquidation test is based on a hypothetical Chapter 7 liquidation. It assesses the value of your non-exempt assets (not protected by bankruptcy exemptions) and determines how much creditors would receive if those assets were sold.
• Exemptions are key. Bankruptcy exemptions protect certain assets from being seized in bankruptcy. However, to which your assets are protected varies per state. The liquidation test focuses on the non-exempt portion of your assets.
• In Chapter 13, unsecured creditors must pay at least as much as they would if the hypothetical Chapter 7 were filed.

The Critical Test in Chapter 13: The Best Interests of Creditors

As a professor and author focused on consumer bankruptcy law, one of the most common surprises for clients researching Chapter 13 is the existence of the “Liquidation Test.” This requirement, also formally known as the Best Interests of Creditors Test, is mandatory for every Chapter 13 plan.

Simply put, this test ensures that your unsecured creditors receive at least as much value in your Chapter 13 reorganization plan as they would if you had filed a hypothetical Chapter 7 bankruptcy.

Step 1: Start with the Hypothetical Chapter 7 Liquidation

To apply the Best Interests Test, we must first determine what would happen in a Chapter 7 bankruptcy. This requires two steps:

1. Valuation: We total the fair market value of all assets you own (real estate, vehicles, bank accounts, investments, personal property, etc.).
2. Exemptions: We apply your state’s specific bankruptcy exemptions to protect as much of that property value as legally allowed.

Here’s a Quick Example:

Suppose, after valuing all your personal property and applying your available state bankruptcy exemptions, you find that $6,000 of equity is non-exempt (not protected).

In a true Chapter 7 filing, the bankruptcy trustee would be legally entitled to seize or collect that amount to settle the estate. You would typically have a short period (usually 10 to 12 months) to pay the Trustee that non-exempt amount to keep your property, or you would be forced to surrender the assets for auction.

Step 2: Incorporating the Non-Exempt Value into Chapter 13

While you are allowed to keep all your property in Chapter 13 (that’s the primary benefit!), you cannot ignore the non-exempt value. This also assumes you can afford to pay back the value of the non-exempt assets. You also have the choice of surrendering the asset.

Avoid Common Mistakes in Bankruptcy Filing

Chapter 13 requires you to fund your repayment plan with both your disposable income and the value of your non-exempt assets.

If your hypothetical Chapter 7 analysis determines that the liquidation value is $6,000, then your proposed Chapter 13 plan must include at least the same amount that is used to pay your unsecured creditors.  

The Consequence of Failure

If your Chapter 13 repayment plan does not meet this minimum payment requirement, if your unsecured creditors would receive less than they would in a Chapter 7, the Bankruptcy Trustee will file an objection. This objection will prevent the Judge from confirming (approving) your plan, and your case will ultimately be denied confirmation and dismissed.

The Importance of a Qualified Bankruptcy Attorney

Because the Chapter 7 Liquidation Test involves complex calculations of property valuation, state-specific exemptions, and strict adherence to the payment threshold, the assistance of a qualified bankruptcy attorney is not just recommended; it is essential. This is not a test you should take alone.

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.

Updated initially on September 9, 2025.