CONVERSION TO CHAPTER 7: WHEN LIFE CHANGES, YOUR CHAPTER 13 CAN, TOO
Chapter 13 bankruptcy may appear to be an inescapable, 5-year prison term at first glance. It is a form of consumer bankruptcy, after all, in which a debtor makes an agreed upon monthly payment toward the debt owed by the debtor for up to 5 years.
As compared to a Chapter 7 bankruptcy, in which no such payment is made at all, a Chapter 13 bankruptcy proceeding can feel like a very long slog.
Then again, is it?
In a Chapter 13 bankruptcy, you are not making any other payments to creditors, with only a very few exceptions, such as an ongoing mortgage or car payment (when your bankruptcy attorney agrees that it is advantageous to you to pay it outside of your Chapter 13 payment “plan” and you are eligible to do so).
In a Chapter 13 bankruptcy, no creditors may contact you by phone or mail, invoice you, sue you or any (human) co-debtors for payment, garnish you—anything.
In a Chapter 13 bankruptcy, you are paying to your creditors only what is left over each month after your necessary household expenses, such as food and clothing and medicine and utilities, are accounted for. Whatever amount your creditors get from your Chapter 13 payment plan is all that they get, the balance they may still be owed on paper at the end of the 3-5-year payment plan totally discharged under Federal by the US Bankruptcy Court.
It is the best “debt consolidation” that you can obtain under US law. And, other than objecting to this or that term of the Chapter 13 payment plan that you (and your bankruptcy lawyer) propose, your creditors can’t do a thing about it.
It is not such a long slog, given the advantages of the Chapter 13 bankruptcy process. People apply for car loans with 6- or 7-year terms at egregious interest rates these days and think nothing of it.
A Chapter 13 is a good deal.
All that said, life does have a way of throwing curve balls. Jobs come and go. Hours are cut, overtime is reduced. Spouses are transformed into ex-spouses. New medical conditions increase monthly expenses unexpectedly.
A monthly Chapter 13 plan payment premised upon your average monthly income and expenses which is reasonable one day becomes quickly impossible when life foists these sorts of changes upon you.
The good news is that your Chapter 13 bankruptcy process can change with your circumstances.
If your circumstances change to the extent that even a modification or adjustment of the terms of your Chapter 13 plan, even a reduction in the amount of your monthly Chapter 13 plan payment, still don’t work for you, it is then possible to convert your Chapter 13 to a Chapter 7 bankruptcy.
However, it is a step to take carefully and only with the expert guidance of an experienced Michigan bankruptcy attorney.
CONVERSION TO CHAPTER 7 BANKRUPTCY: WHEN IT MAKES SENSE
It does not always make sense to convert to Chapter 7 bankruptcy, even when you are suffering a hardship.
In particular, a hardship of a one-time nature will usually not provide a basis for a conversion to Chapter 7 bankruptcy.
The need for a new car, the expense related to a one-time medical or dental procedure, a short-term lay-off from employment, and other such occurrences are best dealt with in other ways.
A Chapter 13 plan can be modified to reduce a Plan payment so that it can be accommodated by a permanent change in income or expenses.
A temporary income reduction can be handled with a temporary modification allowing a payment or two to be “forgiven” or skipped, a Federal tax refund to be utilized for an emergency expense rather than to be turned over and paid into the Plan (ordinarily required in Detroit Chapter 13 proceedings), and other such modes of relief.
A change in circumstances must be permanent, leaving entirely insufficient resources to fund a Chapter 13 plan at any appreciable payment level.
Otherwise, a conversion filed too soon will be opposed by the US Trustee.
The US Trustee is the division of the US Department of Justice tasked with, among other things, ensure that the Chapter 7 bankruptcy process—which requires no payment to one’s creditors—is not abused.
If you convert from a Chapter 13 to Chapter 7 and still possess the means to make a meaningful distribution (payment) to your unsecured creditors, the US Trustee will file a motion to dismiss your Chapter 7 case.
CONVERSION TO CHAPTER 7 BANKRUTPCY: WHAT IT REQUIRES
When it is the right step to take, you have a near absolute legal right to convert to Chapter 7 automatically with the filing of a Notice of Conversion with the US Bankruptcy Court.
You will need to provide your bankruptcy attorney with all of the documentation substantiating your change in financial circumstances prior to the conversion to Chapter 7.
Post-filing tax returns, paystubs, letters of termination or changed terms of employment from employers, Michigan unemployment compensation award letters, retirement contribution documentation, business income documentation—all of these things will (again) be required from you.
While you can convert, at least in the Eastern District of Michigan, with the filing of a simple Notice of Conversion, you will also need to file other documents.
Upon Conversion, your bankruptcy lawyer will need to file a Chapter 7 Means Test and Amended Schedules listing your property, among other things.
It is important to remember that a Chapter 7 bankruptcy isn’t just a “pay nothing to creditors bankruptcy.” It is also known as a “liquidation bankruptcy” because creditors are, instead, paid from the proceeds of the liquidation of debtors’ assets.
Property is never liquidated in a Chapter 13 bankruptcy, and this is one reason why many people opt to file Chapter 13 instead of Chapter 7, even though it comes with a monthly price-tag.
In a Chapter 7 bankruptcy, in other words, your assets can be seized by an individual known as the Chapter 7 Trustee, and sold off in order to generate a pool of income to distribute to your creditors.
While, generally, the assets which are subject to seizure by the Chapter 7 Trustee are those which you owned as of the date of filing of the original (Chapter 13) bankruptcy case, the Chapter 7 Trustee’s liquidation power can pose a danger to property which was not fully exempted and protected upon the date of original Chapter 13 filing.
It can also be a serious problem if your home has appreciated in value since the original Chapter 13 filing date. There is well-settled case-law on the books holding that the Chapter 7 Trustee “owns” any new equity in the property since that original date of filing. If your home now has more equity than the available “homestead exemption” will protect, conversion to Chapter 7 may be a very bad idea.
In that case, if the Chapter 13 is unmanageable, a voluntary dismissal of the bankruptcy may be a better option.
Likewise, the Chapter 7 Trustee will be free to pursue fraudulent transfers or “preference payments” you made prior to the original filing and to engage in other activities on behalf of your creditors that do not occur in a Chapter 13 bankruptcy proceeding.
For example, if you repaid a loan of $2,000 to your grandmother 4 months before filing the original Chapter 13, this is known as an “insider preference payment.” You preferred to pay your grandmother rather than your other creditors.
A Chapter 13 Trustee has no power to pursue your grandmother for the recovery of that $2,000. A Chapter 7 Trustee does—and will.
In short, what conversion to Chapter 7 requires above all else is a thorough review of your case with your bankruptcy lawyer to ensure that you are not creating more problems with the conversion than the conversion solves.
CONVERSION TO CHAPTER 7 BANKRUPTCY: WHAT HAPPENS AFTER CONVERTING
After filing your Notice of Conversion, Chapter 7 Means Test and Affidavit of Changed Circumstances (if necessary), amended Schedules, and other documents, your case will continue as if you had just filed a Chapter 7 bankruptcy from the get-go.
The Bankruptcy Court will assign a Chapter 7 Trustee to the case and schedule a new Chapter 7 341 Meeting of Creditors with that Trustee.
Meanwhile, the US Trustee will review your filings to determine whether any abuse of the Chapter 7 process is occurring.
If your newly filed Chapter 7 Means Test discloses income in excess of that allowed for Chapter 7 eligibility, the US Trustee will file something called a Statement of Presumed Abuse.
This may be a likely occurrence, especially if you originally filed your Chapter 13 because you indeed, at that time, did earn too much to be eligible for Chapter 7 bankruptcy. The Chapter 7 Means Test that is filed upon Conversion from Chapter 13 is still calculated with the 6 month income history leading up to the original Chapter 13 filing date.
On paper, that is, not much will have changed, even if your income has since collapsed.
The US Trustee will request documents from your bankruptcy attorney, investigate, attend the new Chapter 7 341 Meeting if desired, and perhaps hold a separate “2004 Examination” (like a deposition) to allow for more extended questioning and for further documentation turnover demands.
If the US Trustee is satisfied that no abuse is underway, they will file a “Statement of Declination,” essentially withdrawing the Statement of Presumed Abuse.
Once the 341 Meeting is completed, if the Chapter 7 Trustee is not liquidating any of your assets or pursuing funds or property transferred prior to the original Chapter 13 filing, you will receive your discharge approximately 60 days from the date on which the 341 Meeting is concluded.
CONVERSION TO CHAPTER 7 BANKRUPTCY FROM CHAPTER 13: THE BOTTOM LINE
The bottom-line is that Converted Chapter 7 bankruptcy cases are relatively common.
The Chapter 13 process foresees that life changes. It is not a cage from which one cannot escape for 5 full years. It can be flexible—and it can be converted.
However, it is essential that you discuss the option to convert with your attorney. It may or may not be the “Get Out of Jail” card you are hoping for.
Attorney Walter Metzen has represented thousands of consumers in Chapter 7 and Chapter 13 bankruptcy cases in Michigan.
The Law Offices of Walter A. Metzen & Associates offers free consultations for those interested in the bankruptcy process and is experienced in determining and advising as to the best course of action when filing a Chapter 7 or Chapter 13 bankruptcy in Michigan.