11: Abuse test, cont.; Coordinating Chapter 13 choice

© Charles Tabb 2010

The means test formula• Step One: Reduce a debtor’s current monthly income (101(10A)) by all

allowable monthly deductions (§ 707(b)(2)(A)(ii)-(iv) =net monthly income• Step Two: Multiply that net monthly income by 60 (representing the 60 months

that debtor would have to pay creditors in chapter 13) = total projected repayment capacity

• Step Three: Compare that figure (Step Two Total) with the statutory “trigger” amount, which is the lesser of–25% of the debtor’s nonpriority unsecured claims or $7,025, whichever is greateror $11,725. If the amount computed in Step Two (debtor’s total projected repayment capacity) is ≥ the abuse trigger amount (Step Three), then abuse is presumed. § 707(b)(2)(A)(i).

tiers

• Tier One: < $28,100 of unsecured debt. $7,025 = trigger

• Tier Two: unsecured debts between $28,100 and $46,900.

≥ 25% of the debtor’s unsecured debts; the repayment range is between $7,025 and $11,725.

• Tier Three: >$46,900 of unsecured debt. $11,725 = trigger

Trigger points

• Monthly repayment < $117.09: NEVER

• Monthly repayment > $195.41: ALWAYS

• Between 117.09 & 195.41: is it ≥ 25% debt?

2.12(a)

Calculate whether a presumption of abuse arises in the following scenarios:

a. Debtor has: * $28,000 in nonpriority unsecured debt* current monthly income of $5,125* allowed deductions of $5,000 a month.

Answer 2.12(a)

• Net = $125 ($5,125- 5,000)• Multiply by 60 • Total repayment capacity = $7,500• Trigger = $7,025 (tier one -> debts 28K, which

is < $28,100) = $7,025• Capacity ($7,500) > Trigger ($7,025)

abuse

2.12(b)

Calculate whether a presumption of abuse arises in the following scenarios:b. Debtor has:* $800,000 in nonpriority unsecured debt* current monthly income of $4,000* allowed deductions of $3,800 a month.

Answer 2.12(b)

• Net = $200 ($4,000 - $3,800)• That is ALWAYS an abuse (> $195.41)

• Under formula, total repayment capacity is $12,000 ($200 x 60), and the highest trigger is $11,725, so = ABUSE

POLICY? – Note DR presumed to be ch 7 abuser even though can only pay 1 ½ % of his debt!

2.12(c)

Calculate whether a presumption of abuse arises in the following scenarios:c. Debtor has: * $10,000 in nonpriority unsecured debt* current monthly income of $4,500* allowed deductions of $4,400 per month.

Answer 2.12(c)

• Net = $100 ($4,500 - $4,400)• That is NEVER an abuse (< $117.09)

• Under formula, total repayment capacity = $6,000 (60 x $100), and lowest trigger = $7,025

• Policy? Note that here DR can pay 60% of debts but is NOT presumed abuser

Rebuttal

• “special circumstances”• “no reasonable alternative”• Burden on DR• Gives judge discretion

Rebuttal example

• IRS local standards - vehicle operation expense of $358 per month for 2 cars, debtors documented $577 per month due to special circumstances:

- commutes of 40 and 60 miles to work- Rising gas prices

- hazardous drives that resulted in multiple collisions with deer

- insurance company -> any further claimsassociated with deer collisions will cancel auto insurance

Abuse without a presumption

• Under § 707(b)(3)• Alternative way to establish “abuse” under

707(b)(1)Means test (b)(2)

Abuse (b)(1) or

Bad faith/totality (b)(3)

Why need?

• Catch “abusive” Drs who either:

Immune from means test: - historic income (CMI) < state median- but income NOW is much higher

Pass the means test in a dubious way- historic income artificially low- expenses too high

Consider repayment capacity?

• Debate: may a court consider a DR’s repayment capacity under bad faith/totality?

argument NO – that is done by the detailed means test

argument YES – need in order to catch abusive DRs who have repayment capacity but escape means test-> note ONLY way to catch below-median DR

Winner? YES – may consider repayment capacity

Common examples bad faith/totality

Scenario 1: DR’s income goes UP-- ex. gets new job, much higher

pay

example

• Scenario 2: DR has massive secured debt

Discretion = “chancellor’s foot”

• Judges exercise discretion very differently• Old maxim about the different lengths of the

“chancellor’s foot” as measure – may differ!• Chancellor (judge) # 1:

• Chancellor (judge) # 2:

Examples of discretion

• Judge # 1:

$250K home, mortgage = $2,100/month = ABUSER

• Judge # 2:

$800K home, mortgage $4446; motor home $396; boat $760 ≠ ABUSER

Problem 2.13(a)• Debtors’ CMI = $8,000 • above the state median income • Allowed means test expenses = $9,100• monthly disposable income = -$1,100 • they pass the means test. • Few days after filing chapter 7, the woman takes new job as teacher, net

monthly income of $2,800. • She had not worked prior to bankruptcy because she stayed home to

care for their 5-year old daughter, who had surgery.

• With the additional $2,800 in income, Debtors now have monthly disposable income = $1,700

• Can pay 100% of their unsecured debts under a chapter 13 plan

Answer 2.13(a)

• HELD: AbuseIn re Henebury, 361 B.R. 595 Bankr. S.D.Fla. 2007

Do you agree?

What is best reason to find abuse?

Appropriate to consider POST-petition events? For how long?

As an incentive matter, what is the moral of Henebury?

2.13(b)

• Same facts as in question (a), except Drs are below median income

Answer 2.13(b)?

• What the fact of below-median income adds is that now the totality/bad faith test is the ONLY way to find DRs are abusers because they can repay 100% of their debts

• Should that matter?

2.13(c)

• Debtors built million dollar home in 2003; at time their financial situation was very strong

• Few months later, after home completed, DR had to take a $5,000 a month cut in pay

• file bankruptcy in 2008• owe $1.1 million on their mortgage, and the home is

worth $900,000 • mortgage payment is $6,000.

-> Given that large secured debt, they pass the means test.

Answer 2.13(c)

• HELD: NOT Abuse

• In re Johnson, 399 B.R. 72, Bankr. S.D.Cal. 2008

Do you agree?

- What is best reason to find abuse?- What is best reason NOT to find abuse?- Incentives?- Why not just ask DRs to sell their house?

2.13(d)

• Same as question (c), except built home in 2007

Abuse?

Answer 2.13(d)

• Much more likely to find abuse

• At time incurred debt on million-dollar home, salary was lower

• Incurred secured debt shortly before filed bankruptcy

Coordinating the chapter 13 choice

• Since rationale of “abuse” test is mostly to kick supposed “can-pay” DRs out of ch 7, so they could (if they wish) make payments to unsecured creditors in chapter 13, MUST ask whether, in fact, chapter 13 is workable

• Must coordinate the ch 7 abuse test and the ch 13 plan requirements

Or Dr stuck in “never-never” land

• Can’t go under Chapter 7 -> dismiss for abuse• Can’t confirm a feasible Chapter 13 plan

Examples of coordinating rules

Ch 7 means test -> subtract secured debt due next 60 months-> subtract priority claims, which would have to pay in full in ch 13 plan-> subtract ch 13 administrative expenses

Time period = 60 months if above-median DR– For means test, also required ch 13 plan period

“projected disposable income”

• In ch 13, DR must commit all of her “projected disposable income” to plan payments (see § 1325(b)(1)(B))

• What is “Projected Disposable Income”?–On income side, look at “current monthly income” to determine “disposable income,” which is then “projected”– On expense side, for above-median DR, use IRS standards

from means test• Also subtract charitable contributions

For how long?

• “applicable commitment period”• Depends on whether DR CMI above or below

state median income – If below, 3 years– If ≥ median, 5 years

When “CMI” as “PDI” goes awry

• The catch: – CMI is solely backward-looking – uses historic

income only (see 101(10A)(A))– PDI’s function is solely forward-looking – what Dr

will be using to fund a ch 13 plan in the future

• Thus, when Dr’s income or expenses CHANGE, CMI ≠ PDI

Dr has MORE $ available

• Example, In re Kagenveama, 541 F.3d 868 (9th Cir. 2008)

• Historic capacity (see form B22C): – net repayment capacity = -$4.04

• Actual capacity going forward (see Schedule I (income) minus Schedule J (expenses)):– Net repayment capacity = $1,523

-> difference apparently due to much higher expenses under form B22C

Income goes UP

• Common example where CMI ≠ PDI is where DR’s income goes way UP from pre-bankruptcy period to projected post-bankruptcy period

• For example, Dr in Pak case was unemployed for 4 of 6 months in which CMI calculated, but got job paying $104K/year

Could pay more

• If Dr’s actual future net payment capacity > formulaic means test prediction, then DR actually could pay more in a ch 13 plan than a strict reading of “PDI” suggests

-- so could confirm a plan paying a lot less than actually could pay

Modify?

• In “under-prediction” scenario, Q whether ct could simply immediately modify plan post-confirmation under 1329 to reflect Dr’s actual repayment capacity?

Nothing’s different

• Problem with modification is that nothing has changed since confirmation

• Cts reluctant to “modify” a confirmed plan when nothing is different

Opposite problem (Lanning)

Formulaic means test & CMI says DR has a lot MORE net income (and thus payment capacity) than she actually does

Lanning:– “CMI” calculus: Stephanie Lanning had monthly

disposable income of about $1,115 (and monthly income of $5,343)

– Reality: only had disposable income of $149 a month (based on an actual monthly income of only $1,922).

– The radical disparity arose because of the one-time buyout Lanning received in the pre-bankruptcy period

Catch-22

• Ch 7 – fails means test (over $1100 month can-pay!) – so kick out of 7– Although could try to “rebut” by showing special circumstances

• Ch 13 – if have to commit historic “CMI” to ch 13 plan payments Cannot confirm plan at all

* Not FEASIBLE, 1325(a)(6)-- not actually making that much $

Statutory train wreck

• Backward looking (mechanical):– “projected disposable income”

• “’disposable income’ means current monthly income”, 1325(b)(2)• “current monthly income” defined 101(10A)

– historic (i.e., backward looking) only

• Forward looking:– “all of the debtor’s projected disposable income to be

received during the applicable commitment period … will be applied to plan payments”

Backward vs forward

• Thus, statute apparently commands the impossible: how is it possible for past income [CMI] “to be received” in the future?

• Only works if past is in fact an accurate predictor of the future

Does that make any sense??

SCOTUS – disfavor “senseless” reading

“In cases in which a debtor's disposable income during the 6 month look-back period is either substantially lower or higher than the debtor's disposable income during the plan period, the mechanical approach would produce senseless results that we do not think Congress intended. In cases in which the debtor's disposable income is higher during the plan period, the mechanical approach would deny creditors payments that the debtor could easily make. And where, as in the present case, the debtor's disposable income during the plan period is substantially lower, the mechanical approach would deny the protection of Chapter 13 to debtors who meet the chapter's main eligibility requirements.”

“projected”?

• What meanings might “projected” have as a modifier of “disposable income”?

• Must serve some role (surplusage argument), because Congress used “projected DI” in 1325(b)(1)(B) and then used just “DI” (sans “projected”) in the very next subsection (1325(b)(2))

Competing meanings of “projected”

• Scalia dissent in Lanning; 9th in Kagenveama: Mechanical approach, backward-looking ONLY

plan simply must project the Form B22C “disposable income” (as measured by CMI, i.e., historic only ) over the applicable commitment period to determine the amount that “will be applied to make payments”

-- i.e., simply a multiplier

SCOTUS on “PROJECTED”

• However, Majority in Lanning adopted the “forward looking” meaning, i.e.,

– While in most cases will simply use the multiplier approach (using historic CMI), is not inexorable

– > may consider changes in debtor’s financial circumstances that are “known or virtually certain at the time of confirmation”

Projecting as a forecast

-- DR’s actual circumstances at the time of plan confirmation are taken into account in order to “project” (in other words, to “forecast”) how much income the debtor will actually receive during the commitment period, which, after deducting permitted expenses, then “will be applied to make payments” to the unsecured creditors, as the statute requires

Ordinary usage

• 1st: ordinary usage supports

– “in ordinary usage future occurrences are not ‘projected’ based on the assumption that the past will necessarily repeat itself”

Knew how to

• 2nd SCOTUS argument re “projected” as ≠ “multiplier” – “knew how to”

– “when Congress wishes to mandate simple multiplication, it does so unambiguously – most commonly by using the term ‘multiplied’”

Pre-BAPCPA practice

• 3rd SCOTUS argument that “projected” is forward-looking consistent with well-established chapter 13 practice prior to enactment of BAPCPA

Not amend 2005? Get real

• Majority said “Congress did not amend the term ‘projected disposable income’ in 2005” and thus is legit to follow pre-2005 practice

• But surely that is disingenuous at best – because –as Scalia points out – 2005 act DID include, for first time, a defined “current monthly income” term (which uses historic income ONLY) for “disposable income” part of “projected disposable income”

Scalia’s surplusage argument

“It would be pointless to define disposable income in such detail, based on data during a specific 6-month period, if a court were free to set the resulting figure aside whenever it appears to be a poor predictor. …”

“The Court … can arrive at its compromise construction only by rewriting the statute”

Harmony with rest of statute?

• Lanning majority: (forward-looking) “projected” links “disposable income” and “to be received in the applicable commitment period”

* if DR actually will NOT receive past CMI during plan period, then mechanical

approach effectively reads the “to be received” language out of statute

As of effective date of plan

• Compute PDI “as of the effective date of the plan”, i.e., date plan is confirmed

• If simply meant for mechanical multiplier approach, could have used date plan was filed

“disposable income” defined as “CMI”

• BUT -- what about fact that “disposable income” is defined as “current monthly income”?

• Scalia, Kagenveama: requires backward-looking

• Lanning: CMI still can be given meaning – Presumptively, in vast majority of cases– Also – describe categories of $ that qualify as

“income” –just don’t give conclusive effect to TIMING

presumption

• One approach under forward-looking is to give CMI effect as a presumption

• Assume IS dispositive measure of “PDI” unless Dr rebuts

• Majority in Lanning basically did this

Making stuff up

• Rebuttable presumption approach easily criticized by backward-looking advocates

• Creates a presumption with no supporting statutory language

• And Congress “knew how to” create rebuttable presumptions – See, e.g., means test!

Scalia critique of “presumptive”

“That construction conveniently avoids superfluity, but only by utterly abandoning the text the Court purports to construe. Nothing in the text supports treating the definition of disposable income Congress supplied as a suggestion. And even if the word “projected” did allow (or direct) a court to disregard § 1325(b)(2)'s fixed formula and to consider other data, there would be no basis in the text for the restrictions the Court reads in, regarding when and to what extent a court may (or must) do so. If the statute authorizes estimations, it authorizes them in every case, not just those where changes to the debtor's income are both “significant” and either “known or virtually certain.”

Legislative history?

• Congress knew about the problem and acted anyway!

witnesses at hearings

Congress

Policy: Make Drs pay?

• Can we solve problem by resorting to Congressional intent that wanted can-pay Drs to pay if they could?

Favors forward-looking

• Can-pay intent favors forward-looking in Kagenveama type case, where DRs actually CAN pay more

• Also favors forward-looking in Lanning type case, because allows Drs to confirm a ch 13 plan and make payments– Which could not do under backward-looking test

Now what?

After Lanning – what will happen?

1st – most of the time – will just mechanically multiply the past CMI

2nd- concern raised that is BAD for debtors b/c increases uncertainty, cost – now how much will have to pay is not necessarily mechanical – court’s discretion involved* and as are seeing in “bad faith” cases, courts exercise discretion very differently