Chapter 7 is often the preferred form of bankruptcy relief for individuals, but not everyone qualifies. Most debtors must satisfy the “means test,” which is used to demonstrate that they have insufficient income to repay any portion of their debt. However, debtors who hold a large amount of business debt are exempt from the Chapter 7 means test.
Until 2005, the basic requirement for Chapter 7 was that the debtor be insolvent; that is, unable to stay current with all debt payments. But Congress became concerned that people were abusing Chapter 7. Some filers had surprisingly large incomes and were rendered insolvent only by their reckless use of consumer debt and lavish spending. In response, the means test was established. It examines the debtor’s gross income for the six months prior to filing. If that figure is less than the median income for a household of similar size in the debtor’s state, the debtor passes means test. If it is more, then the debtor can deduct certain expenses in order to show that he or she does not have enough remaining income to repay at least 25 percent of unsecured debts. This can be a difficult hurdle to overcome.
However, debtors holding primarily business debt are fully exempt from the means test. Business debt is that which is associated with operating a trade or business enterprise. Examples are promissory notes on production machinery or raw materials as well as debts and expenses associated with commercial real estate, business vehicles, office equipment, office utilities and the like.
Certain other debts that one would not ordinarily associate with commerce may nonetheless be classified as business debt for Chapter 7 purposes. They include:
- Income taxes
- Medical expenses
- Promissory notes or expenses for some types of investment properties
- Liability for negligent acts or omissions
- Personal guarantees of debts
In order to exempt a Chapter 7 debtor from the means test, business debts must constitute a greater percentage of total debt than personal debt such as home mortgage loans, personal-use car expenses, family support obligations and personal credit cards.
If the debtor cannot show that at least 51 percent of debt is business-related, there are alternatives to Chapter 7 that do not require a means test. One of these is Chapter 13, which creates a reorganization plan under which the debtor must repay at least a portion of their outstanding debts over a period of three or five years. But Chapter 13 is available only if total secured and unsecured debts fall below certain ceilings. For individuals with debt exceeding those amounts, another remedy is Chapter 11, which also allows for reorganization and repayment of debt over an extended period of time.
Jeff Field & Associates is a Georgia bankruptcy and debt relief firm with six locations in the Atlanta, Marietta and Athens areas of Georgia. Feel free to contact us online or call 404-381-1278 for free initial consultation.