Needs-based bankruptcy

An essential component of the reforms of the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA) is found in Title I, which establishes a new “needs-based” bankruptcy process. The needs-based approach is based on the premise that the previous system was flawed because there were no rules to determine whether Chapter 7 debtors have the means to repay at least some of their debts that would otherwise be wiped clean.The bankruptcy law now provides a very detailed formula for determining when abuse arises in the case of an individual debtor with primarily consumer debts. Congress carefully crafted the means test to ensure that it is flexible for debtors who have special circumstances that justify adjustments to income and expenses.To determine if an individual debtor qualifies to file a Chapter 7 case and is not abusing the process, a means test was developed to ascertain if a debtor can repay some debts. The means test is the foundation of BAPCPA. It provides a detailed formula to determine when abuse arises in a case of an individual debtor with primarily consumer debts. If a debtor’s estate does not consist of primarily consumer debt, the debtor is not subject to the means test.The Act creates a presumption that a Chapter 7 proceeding should be dismissed for “abuse” if, over five years, the debtor has the ability to repay the lesser of:

  • $11,725, or
  • 25% of the debtor’s total non-priority, unsecured claims (but which must be at least $7,025).

The debtor’s ability to repay is based on a “means test” calculation, which takes the debtor’s average income over the previous six months and deducts certain allowable expenses set by the IRS, as well as categories of the debtor’s actual expenses and actual payments for secured and priority debts. The means test is flexible for debtors who have special circumstances that justify adjustments to income or expenses for which there is no reasonable alternative.

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