One of the most confusing things about filing bankruptcy is the means test analysis. The Means Test calculates the debtor’s income for purposes of comparing it to the median income but does it in a complicated way. You must be precise in your calculations or it could throw off the whole test. This blog post explains how to do it properly.
What is the Means Test?
The Means Test is a qualifying test to determine whether a debtor is eligible to file Chapter 7, or whether she must file Chapter 13. The Means Test is the name given to Official Form 122A-1 for use in Chapter 7, or Official Form 122C-1 in Chapter 13. It’s called the Means Test because it decides whether a debtor has the ability, or the means to file Chapter 13. It does this by comparing the debtor’s annual income to the median income of a family of the same size in the county where the debtor lives. If the debtor’s income is below the median income, the debtor is eligible to file Chapter 7. In that case, it’s typically said that the debtor “passes the Means Test.” If the debtor’s income is above the median income, the debtor is considered to have the ability, or means, to fund a Chapter 13 plan. In that case the debtor might be ineligible to file Chapter 7.
How does the means test work?
The Chapter 7 means test calculation is a two-step analysis. However, if the debtor’s income as calculated in the first step is below the median, the second step isn’t necessary. For this article, we’re only concerned with the first step. If your calculations determine you are an above-median debtor, Step 2 is very complicated, and you should seek professional help.
Step 1: Comparing your income to the median income
In Step 1 of the means test, the debtor compares her gross household income to the median household income for a family of the same size in her state. The median household income is determined by the U.S. Census Bureau and is updated multiple times per year. The most up-to-date information about the current median income for every state is available from the Office of the United States Trustee (sometimes called the UST’s office). Because this information changes frequently, DO NOT rely on so-called Means Test Calculators that can be found online. The algorithms they use might be based on outdated information and give incorrect results. The only place to be sure of finding current median income data is the U.S. Trustee’s website.
To determine the family size, include in the debtor’s household all people living there for whom the debtor has responsibility. This would include spouses, children, grandchildren, parents of the debtors and anyone else considered dependents of the debtors.
Calculating gross income for the means test
There are strict rules for how to calculate income for purposes of the means test. The UST’s office routinely reviews the means test calculations of Chapter 7 filers, so it’s important to get this part right; otherwise, you may think you qualify when you really don’t or worse yet, you qualify for Chapter 7 bankruptcy without realizing it.
(1) What’s the relevant time-period?
The Means Test compares the debtor’s annual income to the annual median income in the county. But the debtor’s annual income is calculated from what is called the debtor’s Current Monthly Income, or CMI. This, in turn, is the average of the debtor’s income from all sources during the six months before the month in which the debtor files. So, for example, if the debtor plans to file in September, the six-month time-period is the six months ending August 31: March 1 through August 31. If there is a delay and the debtor ends up filing in October the relevant time period will move up accordingly. Now the relevant time frame is from April 1 through September 30.
The fact that this calculation of CMI is a moving target is very important to keep in mind, especially if income fluctuates. Someone who would have easily passed the means test for a September filing may not qualify for an October filing if they get their annual bonus paid out in September. Conversely, sometimes it pays to wait. Suppose the debtor received a large bonus in March. By waiting to file until October, March’s income drops out of the calculation. Similarly, someone whose income is seasonal, such as workers in lawn and garden maintenance, might find it helpful to wait to file until late fall or winter.
(2) Review sources of income
While this can get really complicated if the debtor is a business owner, or shares their household expenses with roommates, for wage earners it’s relatively straight forward. All gross pay (whether salary or paid by the hour) is included on the Means Test. Gross wages are what the paycheck says is earned before all the taxes and other deductions are taken out. If the debtor works more than one job, all pay from all jobs is included. If the debtor had a job at any time during the six-month period, that pay must be included even if the debtor no longer works at that job or even if the debtor just started the job two months ago.
In addition, there are other forms of income that must be included:
All amounts received on a regular basis to help with household expenses. This can be child support (pursuant to a court order or otherwise), contributions to the household income from an unmarried partner, or money you receive from your parents or other relatives to help with expenses.
Income from business, including income from a rental property
Unemployment income or government benefits of any type
Pension and retirement income
For purposes of the means test, income does not include benefits received under the Social Security Act, including monthly SSI and SSDI.
Once the debtor has her income from all sources for the prior six months, she adds it up and divides the total by six to get her average monthly income. This is what is known as CMI (Current Monthly Income). The debtor then multiplies CMI by 12 to arrive at her calculated gross annual income.
Comparison to Median Income
Once the debtor has calculated her gross annual income, the rest is pretty straight-forward. Pull up the UST’s website on all things means test and scroll down to the drop-down menu titled “Data Required for Completing the 122A Forms and the 122C Forms.” Once you’ve made a selection in the drop down menu, you’ll be brought to another section of the UST’s website, which, at long last, will give you a link to the “Median Family Income Based on State/Territory and Family Size.” That, in turn, will show you the median income for a household with the same number of people as yours. If that number is greater than the calculated gross annual income, the debtor has “passed” the Means Test and is eligible to file Chapter 7.
❗❗ This is the only way to make sure you’re looking at the most current number. Since the numbers change, there is no single link you can bookmark that will always give you the most up to date numbers without going through the process described above. ❗❗
Above Median – Don’t Despair Yet
If calculated gross annual income is greater than the median income, a more complex calculation is required to determine whether Chapter 7 remains an option for this person. That’s Step 2. While an analysis of how to complete Step 2 is beyond the scope of this article, here’s how it works.
In Step 2 the debtor calculates her living expenses. This is the really complicated part because the Means Test tells you what your monthly expenses can be. For example, the Means Test has a “housing allowance” that takes the place of what a debtor actually pays for mortgage payments or rent. It has a “medical expenses” allowance that takes the place of actual expenses. The Step 2 calculations bear even less resemblance to an individual debtor’s reality than does the Step 1 calculation of annual income. These “allowances” are based on IRS Living Standards, which also change periodically, so the Step 2 analysis involves constant reference to these IRS Standards.
Once the permitted expense allowances are calculated, they are subtracted from the debtor’s calculated CMI. If the difference is negative, i.e., the permitted monthly allowances exceed CMI, the debtor can still file Chapter 7 even though she didn’t pass Step 1 of the Means Test. Even if the monthly allowances are less than the CMI, if the difference (called Disposable Monthly Income, or DMI) is not enough to pay back at least 25% of the debtor’s unsecured debt (we’ll discuss priority, secured and unsecured debt in another post) over the course of a 60-month (5-year) plan, the debtor can file Chapter 7.
If a debtor calculates CMI as above and finds that the gross annual income is above the median, she should consult a bankruptcy attorney to complete the Step 2 analysis before concluding that she must file Chapter 13.
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