The bankruptcy Means Test is a mathematical formula designed to determine whether the total household income of a person filing for bankruptcy is above or below a certain amount.
That amount is the median average income for a household of the person’s size in that person’s state.
In either Chapter 7 or Chapter 13 bankruptcy, it is better to be below that median average than it is to be above the median average.
These are the rudimentary answers to the question, “What is the bankruptcy means test?”
However, there is more to be said about the Means Test than that.
What Is the Bankruptcy Means Test For?
Simply, the Means Test exists because lobbyists pressured Congress in the early 2000s to do something about the number of consumers successfully discharging their credit card and other debt through the Chapter 7 bankruptcy process.
In response to this outside influence, Congress enacted the BAPCPA bankruptcy “reform” law, which amended the US Bankruptcy Code in a number of key respects.
One of these amendments added the Means Test to the process.
Prior to 2005, when BAPCPA became effective, the bankruptcy process in the United States still involved a certain level of scrutiny whereby “bad faith” bankruptcies could be dismissed. That is, bankruptcies filed for fraudulent intent.
Since the Code’s original enactment in present form in 1978, the bankruptcy process in the US has always contained a process for rooting out attempts to misuse bankruptcy for “bad faith” purposes.
However, prior to 2005, this process did not include a black-and-white, numbers-based delineation between “abusive” and “non-abusive” Chapter 7 bankruptcy filings.
Instead, bankruptcies that involved high asset debtors, an exorbitant amount of income relative to expenses, debt incurred by way of fraud, and other indicators of “bad faith” were denied discharge and/or dismissed after a fact-intensive exploration of the merits or demerits of a particular case.
This was not satisfactory to the lobbyists funding Congress in 2004.
The Means Test was inserted in order to—in addition to the old method of scrutinization for bad faith—simply deny debtors who earn “too much money” prior to the filing of the bankruptcy case the right to receive a complete discharge of debt in a Chapter 7 bankruptcy regardless of whether or not their particular circumstances demonstrate the existence or not of any shade of “bad faith.”
The Means Test exists, in other words, to force debtors of good faith into Chapter 13 bankruptcy, a process in which creditors are repaid something rather than nothing.
Even then, in the Chapter 13 context, it functions to require debtors to repay more to their creditors than they otherwise might—and sometimes more than they can actually afford.
This will be discussed in greater detail below.
How Does the Means Test Work?
The Means Test averages gross income earned by each member of the filing debtor’s household for the 6 months prior to the month in which the bankruptcy is filed— whether those other earners are jointly filing the bankruptcy or not.
Gross income means your full income before any deductions are made, including taxes, insurance, retirement deductions, union dues, and so on.
That gross income is then averaged and multiplied by 12 (months) to arrive at what the Means Test thinks your annual household income is.
That annual household income average amount is then compared to the median income in the state in which the bankruptcy is to be filed for a household of the same size.
The median income numbers are updated and published by the US Trustee’s Office (a division of the US Department of Justice) twice per year, in April and November.
If the household’s gross annual average income is above the median, the Means Test is “failed”—at least initially.
It is possible that the debtor will be required to file for Chapter 13 rather than Chapter 7 bankruptcy.
If the household’s average annual income is below the median, the debtor is eligible for Chapter 7 bankruptcy.
A Chapter 13 need not be filed unless the debtor needs to accomplish something for which Chapter 7 is not well-suited, such as saving a home from foreclosure.
For the over-median debtor, the Means Test calculation is not, however, yet complete at this state. But let’s look at an example of this initial calculation before proceeding:
Earner A, who is filing the bankruptcy, earns $3,000 gross per month. Earner B—a spouse who is not filing the bankruptcy jointly with Earner A—earns $5,000 per month.
They have no children and are thus a household of 2.
The combined household income of $8,000 per month is multiplied by 12 to result in annual average income of $96,000 per year.
As of this writing, the median income in Michigan for a household of 2 is $67,015 per year.
Thus, Earner A is well above the median and is very likely to be required to file a Chapter 13 or seek debt relief outside of the bankruptcy process, if available.
The second part of the Means Test calculation applies to above-median debtors such as Earner A only.
In this section, deductions of the gross income are made in order to reduce that $96,000 number to a result allegedly replicating what the household’s post-deduction and post-necessary expense “in pocket” net income is on a monthly basis.
Taxes paid are deducted from that gross income number. As are health insurance and health savings plan payments.
Statutory deductions are available (based on household size and geographic location) for rent or mortgage payments, utilities, and other necessary household expenses.
Home security expenses can be deducted up to a certain point.
Childcare and daycare expenses can be deducted.
There are a host of deductions available that are only competently applied by an experienced bankruptcy attorney.
Online Means Test Calculators and other “easy” web-forms do not do an adequate job of either properly applying these deductions or, most importantly, accounting for the specific judicial decisions concerning such deductions issued by specific judges in specific Bankruptcy Courts around the country.
The important thing to remember amount Means Test deductions is that they do not, in fact, fully replicate a person’s real-life household budget.
Do you own large dogs and spend $200 per month on pet food? There is no Means Test deduction for that, as an example.
In our example above, it is highly unlikely that a childless couple such as Earner A and Earner B will deduct away enough gross income to slide Earner A into a Chapter 7 bankruptcy.
Is it impossible? No. Perhaps Earner A is a paraplegic with a crippling disease requiring ongoing and expensive monthly medical support. Perhaps Earner B, as a non-filing spouse, has her own enormous monthly debt service that can be deducted.
However, for the average household without such exceptional circumstances, expectations for Chapter 7 should be kept low if income is above average.
If, otherwise, enough is deducted from the gross income to reduce the average in this example to something less than $67,015, a Chapter 7 bankruptcy may be possible.
Again, only an experienced bankruptcy lawyer is likely to calculate this properly.
The Means Test and Chapter 13 Bankruptcy
Even if you know that you are going to be filing a Chapter 13, the Means Test must also be completed in that form of bankruptcy.
In the Chapter 13 context, the Means Test has a different purpose than does the Chapter 7 Means Test described above.
The purpose of the Means Test in Chapter 13 is to determine:
- How long the Chapter 13 payment plan must be (3 vs. 5 years);
- How much unsecured creditors must minimally be paid.
It is outside the scope of this article to describe the Chapter 13 process in detail. If you have no idea how it works, review our Chapter 13 bankruptcy page here before proceeding.
The Chapter 13 version of the Means Test will, after the same calculation (with certain exceptions) described above, determine whether the debtor filing the case either is required to file a full 5-year Chapter 13 plan of reorganization, or whether the debtor is permitted to file only a 3-year Chapter 13 plan.
If the debtor remains “above median” after all deductions are made, he or she will be required to file a 5-year Chapter 13 plan and make payments toward his or her debt for 60 months.
If the debtor is “under median” as an initial Means Test calculation matter, or after deductions are applied, the debtor will be permitted to file the shorter plan—although a longer plan may still be filed to keep the monthly payments lower.
The Chapter 13 Means Test will also produce a number at the end of the calculation called “Disposable Monthly Income,” or “DMI.”
If the debtor is under-median, the DMI will be $0 or will be negative.
In that situation, there will be no set minimum amount of money that the debtor’s unsecured creditors (who are paid last in a Chapter 13, after all other creditors and expenses) will be required to be paid.
If the debtor’s unsecured debt total is $100,000, those creditors may split 35 cents between them at the end of the day, the balance discharged in full at the end of the Chapter 13 process.
If the debtor is over-median after all deductions are applied, the DMI will be a positive number.
The rule, then, is this: unsecured creditors must be paid no less than DMI multiplied by the number of months in the proposed Chapter 13 plan.
Thus, if DMI is $100 in a 60-month plan, unsecured creditors must—as a pool—receive no less than $6,000, after all other creditors and Plan expenses (attorney fees, Trustee’s fees) are paid.
If the debtor’s proposed plan payment is, say, $200 per month, this amount is unlikely result in unsecured creditors receiving $6,000, even if there are no higher priority or secured debts to be paid. Attorney fees and Trustee’s fees will consume most of that $200.
The debtor will need to re-examine his or her budget, reduce expenses, and try to come up with a plan payment of sufficient amount to result in that required distribution to unsecured creditors.
If this is impossible, the feasibility of the Chapter 13 will need to be re-examined in discussion with an experienced bankruptcy attorney.
Such conclusions should not be presumed without professional advice.
Exceptions to the Means Test
Before concluding, it is worth noting that the Means Test simply does not apply at all to certain debtors.
If the majority of your debt is “non-consumer debt,” you will be eligible for Chapter 7 bankruptcy without the need to calculate the Means Test.
What is “non-consumer” debt? Discuss with your bankruptcy lawyer.
Certain disabled veterans are also excepted from the need to calculate the Means Test, as are certain military reservists and national guardsmen.
The requirements for these exceptions are specific and do not apply on a blanket basis.
If you think these exceptions apply to your potential Chapter 7 case, you will want to discuss this with your bankruptcy attorney as well.
The Bankruptcy Means Test: The Bottom Line
The bottom line with regard to the Chapter 7 and Chapter 13 bankruptcy Means Test is that, contrary to popular misconception, “failing it” does not mean that you are not eligible for bankruptcy protection.
At worst, you will be required to file for Chapter 13 rather than Chapter 7—but even a Chapter 13 bankruptcy is a far better response to overwhelming debt than virtually anything offered by unscrupulous “debt consolidation” or settlement “services” outside of the bankruptcy context.
The further bottom line is, as noted repeatedly above, that it takes a bankruptcy lawyer with the experience and knowledge required to properly calculate a Means Test and to apply the deductions as they have been allowed in your local Federal jurisdiction.
Attorney Walter Metzen has successfully assisted thousands of consumers through the Chapter 7 and Chapter 13 bankruptcy process in Michigan and is a Board-Certified Bankruptcy Expert.
If you are considering filing bankruptcy, contact us to schedule your free, initial consultation.