Series: #10 0f 13
In our last article, we took a look at ways to liquidate large tax and other priority obligations in a Chapter 13 bankruptcy, as it sometimes provides the debtor with more time than a non-bankruptcy setting would allow. Another reason to choose to file Chapter 13 rather than Chapter 7 is to help avoid liquidating a debtor’s non-exempt assets.
How to Avoid Liquidation of Non-exempt Assets
As discussed in an earlier article in this series, a Chapter 7 bankruptcy attempts to obtain funds for unsecured creditors by liquidating debtor assets. A debtor who has non-exempt assets (and wishes to retain those assets) may do so through the filing of a Chapter 13 bankruptcy.
11 USC § 1325*(a)(4) states that the court shall confirm a plan if (among other things) “the value, as of the effective date of the plan, of property to be distributed under the plan on account of each allowed unsecured claim is not less than the amount that would be paid on such claim if the estate of the debtor were liquidated under chapter 7 of this title on such date.” This section is referred to, in the Indianapolis district at least, as the “Best Interest of Creditors Test” or “BIT” for short.
Note carefully that the plan language of the Code states that creditors must receive as much as they would have in a hypothetical Chapter 7. It does not state that creditors must receive all funds over and above the debtor’s allowable exemptions.
Accordingly, in the hypothetical Chapter 7 the costs of sale and Chapter 7 trustee fees (as well as exemptions and underlying liens) would all be deducted before paying any money to the unsecured creditor pool.
In addition, the statute is clear that the BIT test can also be used to pay down priority unsecured taxes. For example, a debtor has $20,000 of personal property (including a $10,000.00 lien free auto). In addition the debtor owes $5,000.00 to the IRS for income taxes owed from 2009. Subtracting the $9,350.00 exemption from the $20,000.00 personal property leaves $10,650.00. However, hypothetical trustee fees of $1,815.00 and roughly $1,000.00 cost of sale would provide only $7,835.00 that would be paid to the unsecured creditor pool. Of that amount $5,000 would be paid to the IRS and $2,835.00 would be left for the general unsecured creditors.