What is the "Best Interests of Creditors Test" in Bankruptcy?

               Surprising as it may be, just now I was working on a Chapter 13 bankruptcy petition for one of my Indiana bankruptcy clients.  Specifically, I was making sure that before I filed their petition that was no issue with the Best Interests of Creditors Test.  Hence, my blog inspiration to explain what the heck a best interests of creditors test means for someone filing Chapter 13 bankruptcy.

               Even though many of the potential clients I meet want to avoid Chapter 13 bankruptcy (in favor of Chapter 7 bankruptcy), there are many situations in which filing a Chapter 13 can be very beneficial.  One situation in which it is very beneficial to file a Chapter 13 instead of a Chapter 7 even if you qualified is when you have more assets than Indiana exemptions.  If you have read my blog before you know that there are limits to how much equity you can have in your home, personal property and cash (click here to read about Indiana exemptions).  However, some people own property above and beyond the allowed exemptions that they want to keep.  Chapter 13 is great because by making payments to the Chapter 13 trustee over the course of 3 to 5 years folks are often able to keep all of their property, even that which is over the exemption amounts and would have been seized by the trustee in a Chapter 7.

               But as with just about every other legal conclusion, there is a catch.  Through 11 USC section 1325(a), the bankruptcy code dictates that in a Chapter 13 bankruptcy you must pay in at least as much as would have been paid to unsecured creditors had there been liquidation in a Chapter 7 bankruptcy.  So what does this mean in English?  Let me try to explain through an example:

              If Sally and Bob own a home in Indiana that is their primary residence they are entitled to exempt $35,200.00 of equity in that home in a Chapter 7 bankruptcy.  Therefore, if Sally and Bob own a home worth $100,000.00 and owe $50,000.00 they have $50,000.00 in equity.  They are allowed to have up to $35,200.00 in equity that is exempt; meaning that a Chapter 7 trustee can't take this value from them in bankruptcy.  However, in this example Sally and Bob have another $14,800.00 that is not exempt.  Since Sally and Bob have non-exempt home equity they, in theory, would have to turn over $14,800.00 to a Chapter 7 trustee to buy back their un-exempt equity if they wanted to keep the house. Otherwise, the Chapter 7 trustee would have the option to sell the house, pay Sally and Bob the $35,200.00 in allowed equity and distribute the remaining $14,800.00 to Sally and Bob's creditors.

            So, in this example it might make sense for Sally and Bob to file a Chapter 13 bankruptcy in which they make payments to the Chapter 13 trustee over a period of 3 to 5 years.  Filing a Chapter 13 could allow Sally and Bob to keep their house without paying a large, lump sum payment to a trustee.  However, in order for the Chapter 13 to work for Sally and Bob their repayment plan must meet the best interest of creditors test.  This means that Sally and Bob's unsecured creditors must receive as much money through payments over time in Chapter 13 as they would have received in a Chapter 7 if the trustee had liquidated the un-exempt asset.  In this example it means that unsecured creditors must receive at least a total of $14,800.00 over the course of Sally and Bob's Chapter 13 repayment plan.  So long as Sally and Bob agree to pay in more than this amount to unsecured creditors in their Chapter 13 the un-exempt property they would have lost in a Chapter 7 is protected in a Chapter 13.

If you live in the Indianapolis area including Carmel, Fishers, Noblesville, Tipton, Kokomo, Zionsville or Westfield and are contemplating filing a bankruptcy I am more than happy to meet with you.  Please call me at 317-575-8222 to schedule your free consultation at our Carmel offices or click here and we will contact you for an appointment time.

Halcomb Singler, LLP, is a debt relief agency.  It helps people file for bankruptcy under the bankruptcy code.  No attorney-client relationship with the firm of Halcomb Singler, LLP, is created through this blog. Also, please note that Erika Singler is an attorney licensed in Indiana and does not seek to practice law in any jurisdiction in which they are not properly authorized to do so.  The information contained in this blog is general in nature and should not be relied upon for the circumstances of any individual(s) or businesses.