Wednesday, January 12th, 2011
Yesterday, the U.S. Supreme Court issued a creditor friendly decision in the case of Ransom v. Fia Card Services. At issues was the "ownership expense" deduction in the means test.
The means test is a calculation used to determine whether a debtor has enough "disposable income" to afford a Chapter 13 repayment plan.
In the Ransom case, the debtor (Jason Ransom) claimed a means test deduction for both operation of a vehicle ($338 per month) and for ownership ($471 per month). The problem – Mr. Ransom owned his vehicle free and clear.
In an 8-1 decision written by Obama appointee Elena Kagan (the lone dissent issued by conservative Justice Scalia), the Supreme Court held that a debtor who owns his vehicle free and clear can only claim a deduction for vehicle operation but not a deduction for ownership.
In Mr. Ransom's case, this means that for bankruptcy calculation purposes, he has an extra $471 sitting around that he can use to pay credit card companies in a Chapter 13.
At first blush, the Supreme Court's decision would seem to make sense – why should a debtor get to claim an ownership deduction if he does not have a car payment?
Here is the issue: Chapter 13 cases last 5 years. Assuming that Mr. Ransom has a paid off car, it is likely that his car is not new. What happens when Mr. Ransom needs to replace his car? He will have no funds to do so because any funds that he might have left over are being used to fund his Chapter 13.
Further, the means test budget is derived from IRS numbers that are used in tax settlement cases. These means test budgets are a little better than a "rice and beans" budget but there is very little else. Is it reasonable to expect that a debtor will have no emergencies during the next five years – a funeral to attend? a roof to fix? a major car repair?
The Supreme Court's decision ignores the realities of life. In the immediate near term the debtor may have $471 to pay towards his Chapter 13, but is it reasonable to expect that this "disposable" money will be there month after month? The Chapter 13 trustee will expect it, and these funds will come out in a payroll deduction. But I fear that even more Chapter 13 cases will fail when debtors lose their jobs because they do not have transportation or checks for mortgages will bounce because the funds were used for plumbing repairs or other emergencies.
The Ransom decision also sends a very strange message to debtors entering the bankruptcy process. Instead of encouraging people to avoid debt, the Ransom decision encourages filers to incur more debt prior to filing. In this upside down logic, a debtor would benefit from taking out a car title loan prior to bankruptcy since having debt owned on a car will allow that debtor to claim an ownership expense.
Creditors like credit card companies are concerned about getting as much as they can as quickly as they can, and such an position makes sense in a business context. But who loses when court supervised repayment plans (Chapter 13) are doomed to fail because there are no accommodations for emergencies or other likely needs during a looming 5 year time span.
Posted in 13, Bankruptcy budgets, Creditor, Filers, Means Test issues, Obama, Ransom, Ransom v. Fia Card Services, a, afford, appointee, automobile operation expense, automobile ownership expense, card, case, chapter, court, decision, dissent, elena, emergencies the, encourages, fia, friendly, issued, kagan, lone, means test budgets, month, mr, owned, ownership in, plan in, problem, repayment, services , supreme, the, u s, v, yesterday, | Comments Off
Sunday, July 4th, 2010
On June 7, 2010, the United States Supreme Court released its decision in the case of Hamilton, Chapter 13 Trustee v. Lanning. The Supreme Court rarely hears argument in consumer bankruptcy cases so the Lanning decision is big news to consumer bankruptcy lawyers.
The issue in Lanning is one that has troubled bankruptcy lawyers since 2005, when the "means test" was added to the Bankruptcy Code. The means test functions as a test – do you have the "means" or disposable income to fund a Chapter 13 repayment plan? If the means test shows that you do not have sufficient disposable income to make a Chapter 13 work, then you qualify for Chapter 7.
As one of the assistant United States trustees once told me – the purpose of the means test is to disqualify as many people as possible from Chapter 7, and to force them into Chapter 13.
In practice, the means test does not work very well in predicting who can make a Chapter 13 work. One of the biggest complaints has to do with the mechanical nature of means testing. To run a means test, I have to gather pay stubs from the past 6 months. I then create a monthly average, which represents available income. Next I prepare a means test budget, but I do not use actual expense amounts. Instead, the means test tells me how much my clients are allowed to spend for food, medicine, utilities, etc. And where do these budget numbers come from? Means test numbers are based on IRS budgets used in delinquent tax repayment plans. In other words, the means test budget allocations are not especially generous.
This explanation of the means test is somewhat oversimplified, but you get the main idea – every bankruptcy debtor's income and expense numbers have to be run through the means test, and not surprisingly this somewhat mechanical test produces some absurd results.
The classic example of absurd results occurs when a debtor has received a Christmas bonus or a one time payment. That bonus/one time payment has to be included in the monthly income numbers even if it is not guaranteed or likely to happen again. In other situations a debtor may have earned a comfortable income but has now lost his job – under a strict reading of the means test, he earns too much money to file Chapter 7. And he can't afford to file a Chapter 13 because he now has no income.
The Supreme Court has injected some common sense into this situation. In the Lemming case, which was filed in Topeka, Kansas, the debtor's 6 month average was skewed by a one time payment arising from a buyout from her former employer. The debtor filed a Chapter 13 plan that called for a payment that the debtor could afford based on her actual, current income. The trustee objected on the grounds that the means test dictated a higher number (that the debtor clearly could not afford based on his actual income).
The Topeka bankruptcy judge agreed with the debtor and approved a plan that Ms. Lemming could afford. The trustee appealed and lost in the 10th Circuit Court of Appeals. The trustee appealed again and the Supreme Court granted certiorari.
The Supreme Court affirmed the decision of the 10th Circuit Court of Appeals and held that bankruptcy judges need not apply a "mechanical approach" to means testing in Chapter 13 cases. Instead, judges should "take into account other known or virtually known certain information about the debtor's future income or expenses." Rather than looking backwards, judges can take a forward looking approach and consider the realities of a debtor's income. This forward looking approach should be considered in cases with unusual facts and the Lemming decision should not be construed as an invalidation of the means testing formula.
Despite the Supreme Court's warning that a "forward looking" approach should only be used in limited situations, I suspect that bankruptcy judges will use "Lemming arguments" mitigate some of the harsh results of Chapter 13 in general. Bankruptcy judges recognize that Chapter 13 cases often do not work because means testing and aggressive trustee arguments force debtors to agree to plans that commit debtors to pay every last dime to the trustee. Unfortunately, family emergencies and unexpected things happen over the course of a five year bankruptcy plan and many plans will fail – not because the debtor did anything wrong, but because there is no "give" in the plan.
I predict that judges will use the rationale of Lemming to reduce some of the harsh results of the means test and help debtors improve their chances at success in Chapter 13.
If you want to read the Lemming decision, click on the link. I also found a nice summary of Lemming in attorney Jordan Bublick's fine South Florida bankruptcy blog.
Posted in 13, 2010, Chapter 13 issues, Debtors, Hamilton Chapter 13 trustee v. Lemming, Means Test issues, Trustee, Trustee objections in Chapter 13, affirmed, aggressive, and, argument, arguments, cases, certiorari the, chapter, chapter 13 plans, court, decision, facts, force, formula despite, granted, hamilton, hears, lanning , lemming, means, means testing, rarely, read, released, states, supreme, testing, the, trustee objections to chapter 13, united, unusual, v, work | Comments Off
