WHAT IS CHAPTER 13?
Chapter 13 cases are sometimes called “wage earner plans,” but in fact Chapter 13 is a reorganization option available to anyone with “regular income.” Under Chapter 13, a portion of the future income of the debtor is used to satisfy part, or sometime all, of the debt, while being protected from the creditors. Most commonly, Chapter 13 is used for the following reasons:
1. To save the home from foreclosure when the mortgage in arrears;
2. Because the debtor does not qualify for a Chapter 7;
3. To pay non-dischargeable tax or other “priority” debt (often without incurring continuing interest and penalties); or
4. To save non-exempt property which a Chapter 7 trustee would otherwise obtain and liquidate for creditors.
EXAMPLES OF THE BENEFITS OF CHAPTER 13:
Example 1: Debtor owns his home and is three months behind on his mortgage payment. The house is ready to go into foreclosure. If the debtor has to ability—by reducing or eliminating payments to other creditors–to cure the home arrearage in a reasonable period of time (generally three to five years), he can file a Chapter 13 to do so.
Example 2: If a debtor does not qualify for Chapter 7 because of the “means test,” an income and expense test, then usually significant relief is available under Chapter 13.
Example 3: Debtor owes non-dischargeable priority tax obligations to the IRS of $10,000. In a Chapter 13, the debtor would be able to pay that obligation over a five year period without incurring additional interest and penalties, often by reducing or eliminating payment of other debts.
Example 4: Debtor owns a vehicle which is worth well over the exempt amount and which in a Chapter 7 the trustee would take and liquidate. In a Chapter 13 case, the debtor would likely be able to keep that vehicle by paying the Chapter 13 trustee the non-exempt amount over a period of three to five years.
Chapter 13 provides a variety of other benefits, some of which make the much longer period that it takes more than worthwhile. These include the ability to cure a support arrearage while under protection from the ex-spouse or state support agency, and under certain circumstances to “strip” a second mortgage lien on your home.
ELIGIBILITY FOR CHAPTER 13 RELIEF
Chapter 13 can only be used by individuals with regular income who have unsecured debts of less than $360,475 and secured debts of less than $1,081,400. Chapter 13 relief is not available to corporations or other entities.
THE CHAPTER 13 PLAN
Under Chapter 13, the debtor must propose a plan to pay part of his debt—or sometimes all of the debt—over a period of three to five years. The “plan payments” are made to the Chapter 13 trustee, who distributes the money to some or all of the creditors based on the terms of the plan after it is approved by the bankruptcy judge.
If the debtor’s current monthly income is greater than the applicable state median (for a household of similar size), then the debtor must make payments for a period of five years. Otherwise, the debtor must make payments for three years. Sometimes plans are in between three and five years, but they are not allowed to be longer than five.
The source of the payments to be made to the Chapter13 trustee are normally the future earnings of the debtor – however may include other sources such as the proceeds of the sale of property, and sometimes even the proceeds of a refinancing (although that is rare in today’s credit climate).
The amount of the payments which the debtor must make is the greater of following two calculations:
1. The amount which creditors would receive in a Chapter 7 liquidation; and
2. The debtor’s projected “disposable income” over the life of the debtor’s plan.
For example, a Chapter 13 debtor has non-exempt assets which, in a Chapter 7 bankruptcy could be liquidated for an amount which, after administrative expenses, would provide total payments of $18,000 to creditors. The debtor’s income is above the median income of the state where his lives, and therefore the debtor must propose a five year (60 month) plan. The debtor’s projected monthly disposable income is $250. The projected disposable Income over the 60 month life of the plan is therefore $15,000. In this case, the debtor’s total payments under his Chapter 13 plan must be at least $18,000 – the liquidation value of his non-exempt assets. If the liquidation value of debtor’s non-exempt assets is $12,000 – rather than $18,000 – then the total payments must be at least $15,000, i.e. the projected disposable income of the debtor over the life of the plan.
Upon successful completion of the Chapter 13 plan, the debtor will receive a discharge of the dischargeable debts. Most, but not all the exceptions to discharge in Chapter 7—such as domestic support obligations, student loans, many taxes, etc.—are also applicable to Chapter 13. Under certain limited circumstances, the debtor can receive a “hardship discharge” without completing his Plan payments.