Chapter 7 Bankruptcy — Who Can File?
The bankruptcy “means test” and other Chapter 7 eligibility rules.
Filing for Chapter 7 bankruptcy can be a powerful tool for dealing with overwhelming debt. But it isn’t available to everyone. There are several situations in which you won’t be allowed to file Chapter 7 bankruptcy.
You Have Enough Income to Repay Your Debts
Under the old bankruptcy rules, the bankruptcy judge had the power to dismiss a Chapter 7 bankruptcy case if he or she thought the debtor had sufficient disposable income to fund a Chapter 13 repayment plan. There were no hard and fast rules dictating when a judge should dismiss a case on these grounds — it depended on the facts of the case and the attitude of the judge.
Now that the new bankruptcy law has gone into effect, however, there are clear criteria that dictate who will be allowed to stay in Chapter 7 bankruptcy — and who will be forced to use Chapter 13 bankruptcy if they want to file. Disabled veterans whose debts were incurred during active duty and people whose debts come primarily from the operation of a business get a fast pass to Chapter 7 bankruptcy. All others must meet the requirements set out below.
How High is Your Income?
Under the new rules, the first step in figuring out whether you can file for Chapter 7 bankruptcy is to measure your “current monthly income” against the median income for a family of your size in your state. Your “current monthly income” is your average income over the last six months before you file. If your income is less than or equal to the median, you can file for Chapter 7 bankruptcy.
If your income is more than the median, however, you must pass “the means test” — another requirement of the new law — in order to file for Chapter 7 bankruptcy.
Do You Have Enough Disposable Income to Repay Some Debts?
The purpose of the means test is to figure out whether you have enough disposable income, after subtracting certain allowed expenses and required debt payments, to repay at least a portion of your unsecured debts over a five-year repayment period.
For much more information on these new requirements, including detailed worksheets that will help you figure out whether you can use Chapter 7 bankruptcy, see How to File for Chapter 7 Bankruptcy, by Attorneys Stephen Elias, Albin Renauer, and Robin Leonard (Nolo).
You Previously Received a Bankruptcy Discharge
You cannot file for Chapter 7 bankruptcy if you obtained a discharge of your debts in a Chapter 7 bankruptcy case within the last eight years, or a Chapter 13 case within the last six years.
A Previous Bankruptcy Was Dismissed Within the Previous 180 Days
You cannot file for Chapter 7 bankruptcy if a previous Chapter 7 or Chapter 13 case was dismissed within the past 180 days because:
- you violated a court order
- the court ruled that your filing was fraudulent or constituted an abuse of the bankruptcy system, or
- you requested the dismissal after a creditor asked for relief from the automatic stay.
You Defrauded Your Creditors
A bankruptcy court may dismiss your case if it thinks you have tried to cheat your creditors or concealed assets so you can keep them for yourself.
Certain activities are red flags to the courts and trustees. If you have engaged in any of them during the past year, your bankruptcy case may be dismissed. These no-nos include:
- unloading assets to your friends or relatives to hide them from creditors or from the bankruptcy court
- running up debts for luxury items when you were clearly broke and had no way to pay them off
- concealing property or money from your spouse during a divorce proceeding, or
- lying about your income or debts on a credit application.
In addition, you must sign your bankruptcy papers under “penalty of perjury” swearing that everything in them is true. If you deliberately fail to disclose property, omit material information about your financial affairs, or use a false Social Security number (to hide your identity as a prior filer), and the court discovers your action, your case will be dismissed and you may be prosecuted for fraud.
Eliminating Tax Debts in Bankruptcy
Most taxes can’t be eliminated in bankruptcy, but some can.
You may hear radio commercials offering the hope of eliminating tax debts in bankruptcy. But it’s not as simple as it sounds. Most tax debts can’t be wiped out in bankruptcy — you’ll continue to owe them at the end of a Chapter 7 bankruptcy case, or you’ll have to repay them in full in a Chapter 13 bankruptcy repayment plan.
If you need to discharge tax debts, Chapter 7 bankruptcy will probably be the better option — but only if your debts qualify for discharge (see below) and you are eligible for Chapter 7 bankruptcy.
When You Can Discharge a Tax Debt
You can discharge (wipe out) debts for federal income taxes in Chapter 7 bankruptcy only if all of the following conditions are true:
- The taxes are income taxes. Taxes other than income, such as payroll taxes or fraud penalties, can never be eliminated in bankruptcy.
- You did not commit fraud or willful evasion. If you filed a fraudulent tax return or otherwise willfully attempted to evade paying taxes, such as using a false Social Security number on your tax return, bankruptcy can’t help.
- The debt is at least three years old. To eliminate a tax debt, the tax return must have been originally due at least three years before you filed for bankruptcy.
- You filed a tax return. You must have filed a tax return for the debt you wish to discharge at least two years before filing for bankruptcy.
- You pass the “240-day rule.” The income tax debt must have been assessed by the IRS at least 240 days before you file your bankruptcy petition, or must not have been assessed yet. (This time limit may be extended if the IRS suspended collection activity because of an offer in compromise or a previous bankruptcy filing.)
You Can’t Discharge a Federal Tax Lien
If your taxes qualify for discharge in a Chapter 7 bankruptcy case, your victory may be bittersweet. This is because bankruptcy will not wipe out prior recorded tax liens. A Chapter 7 bankruptcy will wipe out your personal obligation to pay the debt, and prevent the IRS from going after your bank account or wages, but if the IRS recorded a tax lien on your property before you file for bankruptcy, the lien will remain on the property. In effect, this means you’ll have to pay off the tax lien in order to sell the property.
For More Information
To find out more about which debts you can eliminate in bankruptcy, see The New Bankruptcy: Will It Work for You?, by attorney Stephen Elias (Nolo).
How Bankruptcy Stops Your Creditors: The Automatic Stay
After you file for bankruptcy, the automatic stay offers potent legal protection against bill collectors.
When you file for bankruptcy, something called the automatic stay immediately stops any lawsuit filed against you and most actions against your property by a creditor, collection agency, or government entity. Especially if you are at risk of being evicted, being foreclosed on, being found in contempt for failure to pay child support, or losing such basic resources as utility services, welfare, unemployment benefits, or your job (because of a raft of wage garnishments), the automatic stay may provide a powerful reason to file for bankruptcy.
What the Automatic Stay Can Prevent
Here is how the automatic stay affects some common emergencies:
- Utility disconnections. If you’re behind on a utility bill and the company is threatening to disconnect your water, electric, gas, or telephone service, the automatic stay will prevent the disconnection for at least 20 days. Although the amount of a utility bill itself rarely justifies a bankruptcy filing, preventing electrical service cutoff in January in New England might be justification enough.
- Foreclosure. If your home mortgage is being foreclosed on, the automatic stay temporarily stops the proceedings, but the creditor will often be able to proceed with the foreclosure sooner or later. If you are facing foreclosure, Chapter 13 bankruptcy is usually a better remedy than Chapter 7 bankruptcy, if you want to keep your house.
- Eviction. If you are being evicted from your home, the automatic stay may provide some help — but the new bankruptcy law makes it easier for landlords to proceed with evictions. If your landlord already has a judgment of possession against you when you file, the automatic stay won’t affect these eviction proceedings; the landlord can continue just as if you hadn’t filed for bankruptcy. And if the landlord alleges that you’ve been endangering the property or using controlled substances there, the automatic stay won’t do you much good, either. In other cases, the automatic stay might buy you a few days or weeks, but the landlord will probably ask the court to lift the stay and allow the eviction — and the court will probably agree to do so.
- Collection of overpayments of public benefits. If you receive public benefits and were overpaid, normally the agency is entitled to collect the overpayment out of your future checks. The automatic stay prevents this collection. However, if you become ineligible for benefits, the automatic stay doesn’t prevent the agency from denying or terminating benefits for that reason.
- Multiple wage garnishments. Filing for bankruptcy stops garnishments dead in their tracks. (And not only will you take home a full salary, but you also may be able to discharge the debt in bankruptcy.) Although no more than 25% of your wages may be taken to satisfy court judgments (up to 50% for child support and alimony), many people file for bankruptcy if more than one wage garnishment is threatened.
What the Automatic Stay Cannot Prevent
In a few instances, the automatic stay won’t help you.
- Certain tax proceedings. The IRS can still audit you, issue a tax deficiency notice, demand a tax return (which often leads to an audit), issue a tax assessment, or demand payment of such an assessment. However, the automatic stay does stop the IRS from issuing a tax lien or seizing your property or income.
- Support actions. A lawsuit against you seeking to establish paternity or to establish, modify, or collect child support or alimony isn’t stopped by your filing for bankruptcy.
- Criminal proceedings. A criminal proceeding that can be broken down into criminal and debt components will be divided, and the criminal component won’t be stopped by the automatic stay. For example, if you were convicted of writing a bad check, sentenced to community service, and ordered to pay a fine, your obligation to do community service won’t be stopped by your filing for bankruptcy.
- Loans from a pension. Despite the automatic stay, money can be withheld from your income to repay a loan from certain types of pensions (including most job-related pensions and IRAs).
- Multiple filings. If you had a bankruptcy case pending during the previous year, then the stay will automatically terminate after 30 days unless you, the trustee, the U.S. Trustee, or a creditor asks for the stay to continue and proves that the current case was filed in good faith. If a creditor had a motion to lift the stay pending during the previous case, the court will presume that you acted in bad faith, and you’ll have to overcome this presumption to get the protection of the stay in your current case.
How Creditors Can Get Around the Automatic Stay
Usually, a creditor can get around the automatic stay by asking the bankruptcy court to remove (“lift”) the stay, if it is not serving its intended purpose. For example, say you file for bankruptcy the day before your house is to be sold in foreclosure. You have no equity in the house, you can’t pay your mortgage arrears, and you have no way of keeping the property. The foreclosing creditor is apt to go to court soon after you file for bankruptcy and ask for permission to proceed with the foreclosure — and that permission is likely to be granted.
For More Information
For more information on the automatic stay and how it might apply in your situation, see
The New Bankruptcy: Will It Work for You?, by attorney Stephen Elias
What Bankruptcy Can and Cannot Do
Bankruptcy is a powerful tool for debtors, but some kinds of debts can’t be wiped out in bankruptcy.
Bankruptcy is good at wiping out credit card debt, but you may have trouble eliminating some other kinds of debts, including child support, alimony, most tax debts, student loans, and secured debts.
What Bankruptcy Can Do
If you are facing serious debt problems, bankruptcy may offer a powerful remedy. Here are some of the things filing for bankruptcy can do:
Wipe out credit card debt and other unsecured debts. Bankruptcy is very good at wiping out credit card debt. Unless you have a special “secured” credit card, your credit card balance is an unsecured debt — that is, the creditor does not have a lien on any of your property and cannot repossess any items if you fail to pay the debt. This is precisely the kind of debt that bankruptcy is designed to eliminate. Besides credit card debt, you may have other unsecured debts, and bankruptcy can wipe these out as well.
If you file for Chapter 13 rather than Chapter 7, you may have to pay back some portion of your unsecured debts. However, any unsecured debts that remain once your repayment plan is complete will be discharged.
Stop creditor harassment and collection activities. Bankruptcy can stop creditor harassment, but if the “harassment”‘ is simply phone calls and letters, there are simpler ways to stop it; . If the harassment is more serious — for instance, if the creditor is about to repossess your car or foreclose your mortgage — bankruptcy can help;.
Eliminate certain kinds of liens. A lien is a creditor’s right to take some or all of your property and will survive bankruptcy unless you invoke certain procedures during your bankruptcy case. For more information, see How to File for Chapter 7 Bankruptcy, by attorney Stephen Elias, attorney Albin Renauer, and Robin Leonard, J.D. (Nolo).
What Bankruptcy Can’t Do
Here’s what bankruptcy cannot do for you:
Prevent a secured creditor from repossessing property. A bankruptcy discharge eliminates debts, but it does not eliminate liens. So, if you have a secured debt (a debt where the creditor has a lien on your property and can repossess it if you don’t pay the debt), bankruptcy can eliminate the debt, but it does not prevent the creditor from repossessing the property.
Eliminate child support and alimony obligations. Child support and alimony obligations survive bankruptcy — you will continue to owe these debts in full, just as if you had never filed for bankruptcy. And if you use Chapter 13, your plan will have to provide for these debts to be repaid in full.
Wipe out student loans, except in very limited circumstances. Student loans can be discharged in bankruptcy only if you can show that repaying the loan would cause you “undue hardship,” a very tough standard to meet. You must be able to show not only that you cannot afford to pay your loans now, but also that you have very little likelihood of being able to pay your loans in the future.
Eliminate most tax debts. Eliminating tax debt in bankruptcy is not easy, but it is sometimes possible for older debts for unpaid income taxes. There are many requirements to be met, however.
Eliminate other nondischargeable debts. The following debts are not dischargeable under either Chapter 7 or Chapter 13 bankruptcy:
- debts you forget to list in your bankruptcy papers, unless the creditor learns of your bankruptcy case
- debts for personal injury or death caused by your intoxicated driving, and
- fines and penalties imposed for violating the law, such as traffic tickets and criminal restitution.
If you file for Chapter 7, these debts will remain when your case is over. If you file for Chapter 13, these debts will have to be paid in full during your repayment plan. If they are not repaid in full, the balance will remain at the end of your case.
In addition, some types of debts may not be discharged if the creditor convinces the judge that they should survive your bankruptcy. These include debts incurred through fraud, such as lying on a credit application or passing off borrowed property as your own to use as collateral for a loan.
What Only Chapter 13 Bankruptcy Can Do
Chapter 7 can’t help you with these situations, but Chapter 13 can:
Stop a mortgage foreclosure. Filing for Chapter 13 bankruptcy will stop a foreclosure and force the lender to accept a plan where you make up the missed payments over time while staying current on your regular monthly payments. To make this plan work, you must be able to demonstrate that you will have enough income in the future to support such a repayment plan.
Allow you to keep nonexempt property. You don’t have to give up any property in Chapter 13 because you use your income to fund your repayment plan.
“Cram down” secured debts that are worth more than the property that secures them. You can sometimes use Chapter 13 to reduce a debt to the replacement value of the property securing it, then pay off that debt through your plan. For example, if you owe $10,000 on a car loan and the car is worth only $6,000, you can propose a plan that pays the creditor $6,000 and have the rest of the loan discharged. However, under the new bankruptcy law, you can’t cram down a car debt if you purchased the car during the 30-month period before you filed for bankruptcy. For other types of personal property, you can’t cram down a secured debt if you purchased the property within one year of filing for bankruptcy.
For more information on Chapter 13 bankruptcy, see Chapter 13 Bankruptcy: Repay Your Debts, by attorney Stephen Elias and Robin Leonard, J.D. (Nolo).
Defenses to Foreclosure
Challenge a foreclosure by bringing a defense such as unconscionability or lender mistake.
Until recently, successful defenses against foreclosure were relatively rare. But that is changing rapidly – more homeowners are successfully challenging foreclosure actions.
This sea change is due, in large part, to the unearthing of more and more evidence that the real estate industry has been rife with fraudulent and predatory lending practices. Because of this evidence, courts that once rubber-stamped foreclosure actions are now beginning to shift their sympathies towards homeowners.
Homeowners and their attorneys are taking advantage of this change in judicial attitude, and challenging foreclosure actions in many different ways. Here’s a review of some of the most common defenses to foreclosure, and how to raise them in court.
How to Raise a Defense to Foreclosure
In order to raise a defense to the foreclosure action, you must bring the issue before a judge. This is automatic in about half the states, where foreclosures are typically accomplished through civil lawsuits and judicial foreclosure orders.
In the other states, foreclosures typically take place outside of court (these are called non-judicial foreclosures) and you have no automatic means to mount a legal challenge. To have your defenses ruled on by a judge in these states, you have to file a lawsuit alleging that the foreclosure is illegal for some reason and asking the court to put the foreclosure on hold — pending the court’s review of the case.
Common Foreclosure Defenses
As courts are increasingly sympathetic to challenges to foreclosure actions, attorneys across the country are raising many different types of defenses. Below is a description of the most common of these.
The Terms of the Mortgage Are Unconscionable
Over the years, attorneys have used a branch of law called “equity” to come up with a panoply of approaches to defending against foreclosure. The equity branch of law focuses on fairness in situations where a legal statute doesn’t provide adequate relief. It usually isn’t enough to simply claim that the foreclosure is unfair; rather, you have to come up with a specific justification for your position that has previously been recognized by the courts.
One such justification is a principle known as unconscionability — that is, the terms of your mortgage, or the circumstances surrounding it, are so unfair that they “shock the conscience of the judge.” In one case where this defense was successful the borrower spoke very little English, was pressured to agree to a loan that he obviously couldn’t repay, was not represented by an attorney, and was unaware of the harsh terms attached to the loan (such as an unaffordable balloon payment ).
You Are a Servicemember on Active Duty
If you’re on active military duty, the Servicemembers Civil Relief Act (SCRA) provides you with special protections. Most importantly, if you took out your mortgage before you were on active duty, your foreclosure must take place in court even if foreclosures in your state customarily occur outside of court. If a foreclosure is initiated while you’re on active duty, you can automatically receive a nine-month postponement of the proceeding by requesting it from the court in writing.
The Foreclosing Party Didn’t Follow State Procedures
In some cases, the foreclosing party doesn’t follow state procedural requirements for bringing a foreclosure action (for example, it fails to properly serve on you a Notice of Default required by state law). If this happens, you may be able to challenge the foreclosure. If your challenge is successful, the court will issue an order requiring the foreclosing party to start over.
Virtually all judges will overlook errors that are inconsequential, such as the misspelling of a name. Similarly, if the foreclosing party’s error doesn’t actually cause you any harm, it may not be worth fighting over. More serious violations will get a more serious response from the court.
The Foreclosing Party Can’t Prove It Owns the Mortgage
In federal courts (where some large lenders prefer to bring their foreclosure actions), only the mortgage holder (the owner or someone acting on the owner’s behalf) may bring the action. If your mortgage, like many, has been sold and bought by many different banks, lenders, and investors, proving just who owns it can be difficult for the last holder in the chain.
Though state courts are usually looser than federal courts about who can bring a foreclosure action, appropriate documentation of who owns the mortgage must nevertheless be presented, and this is often difficult for the foreclosing party to do.
The Mortgage Servicer Made a Serious Mistake
Mortgage servicers (entities who contract with banks and other lenders to receive and disburse mortgage payments and enforce the terms of the mortgage) make mistakes all the time when they’re dealing with borrowers. A study by law professor Katherine M. Porter showed that in 1,700 Chapter 13 bankruptcy cases, a majority of the claims submitted by mortgage owners had errors. (Misbehavior and Mistake in Bankruptcy Mortgage Claims, Texas Law Review 2008.)
You may be able to challenge the foreclosure based on mistakes such as:
- crediting your payments to the wrong party (so you weren’t, in fact, delinquent to the extent asserted by the foreclosing party)
- imposing excessive fees or fees not authorized by the lender or owner, or
- substantially overstating the amount you must pay to reinstate your mortgage.
Mistakes on the amount you must pay to reinstate your mortgage are especially serious. This is because an overstated amount may deprive you of the main remedy available to keep your home. For example, if the mortgage holder says you owe $4,500 to reinstate (perhaps because it imposes unreasonable costs and fees), when in fact you owe only $3,000, you may not have been able to take advantage of reinstatement (say you could have afforded $3,000, but not $4,500).
The Original Lender Engaged in Unfair Lending Practices
You may be able to fight your foreclosure by proving that your lender violated a federal or state law designed to protect borrowers from illegal lending practices. Two federal laws protect against unfair lending practices associated with residential mortgages and loans: the Truth in Lending Act (TILA) and an amendment to TILA commonly termed the Home Ownership and Equity Protection Act (HOEPA). TILA applies to all loans. HOEPA only applies to “high cost” loans – certain loans that have an unusually high interest rate or that come with unusually high up-front processing fees.
Lenders violate TILA when they don’t make certain disclosures in the mortgage documents, including the annual percentage rate, the finance charge, the amount financed, the total payments, the payment schedule, and more.
In the case of loans covered by HOEPA, lenders must comply with various notice provisions and are prohibited from using certain mortgage terms, such as balloon payments in loans with terms of less than five years.
The right to rescind the loan. TILA and HOEPA provide a number of remedies for the borrower if these laws are violated. However, the key remedy in foreclosure actions is the borrower’s ability to retroactively cancel or rescind the loan. This is referred to as the right to an “extended rescission.” Unfortunately, the right to an extended rescission under these federal laws applies only if the loan is a second or third mortgage that you used for purposes other than buying or building your home (for instance you used it to pay off your unsecured credit card debt). Also, the violation must be considered “material” (that is, significant or substantial).
State-law remedies for “high-cost” loans. A few states have special protections for people facing foreclosure on “high-cost” mortgages. If your state is one of these, and the lender has violated any of its provisions, you might be able to raise that violation as a defense in your foreclosure case.
To learn more about these defenses, and other ways to avoid foreclosure, get The Foreclosure Survival Guide, by Stephen Elias (Nolo).