To start off, an ideal Chapter 13 candidate should have a regular source or sources of income. This doesn’t necessarily need to be employment income, but instead could be Social Security income, rental income, support income, or any combination of sources. Regardless of the source(s) of the income, the income more importantly needs to be regular and reasonably sustainable for three to five years.
Secondly, a model Chapter 13 candidate will not have more than $360,745 of unsecured debt (credit cards, medical bills, loans without collateral, etc.) or $1,081,400 in secured debt (home loans, car loans, loans with collateral, etc.) While on occasion (before certain bankruptcy judges) a debtor may be able to get a Chapter 13 plan confirmed where the debtor exceeds these debt limits, it is not the norm and almost always requires the Chapter 13 debtor to be proposing full payment to unsecure creditors over the life of the plan.
Beyond the above-detailed characteristics, there are at least 3 situations where a debtor may be able to reap the most benefit from a Chapter 13 bankruptcy versus a Chapter 7.
- Lien StrippingThe most well known occasion by the general public to file a Chapter 13 is where a debtor wants to avoid the attachment of a consensual lien to their property. Or, in other words, strip or avoid a second or third mortgage. The lien to be avoided may be a purchase money lien, it may be a home equity line of credit, or it may even be some other consensual lien granted in consideration of a different type of loan. But, the key principle to a successful lien avoidance motion in a Chapter 13 is that lien sought to be avoided cannot be secured by even a single penny of equity.This means that the value of the home cannot exceed (not even by one cent) the amount due on the first mortgage. It is important that the debtor, or his attorney, has a reliable source for the valuation of the property. While the debtor’s statement of value may be considered as evidence of the value of the property; if the value of the property is close to the amount owed on the first mortgage, the debtor is likely going to have the valuation challenged by the lien holder of the lien to be avoided.
Most Judges in this region (Southern California) believe that the lien strip is not technically effective until the debtor completes his or her plan. So, although a debtor may think that once the lien avoidance motion (LAM) is granted, it is final; this is not usually the case and the lien may re-attach if the debtor does not complete the confirmed Chapter 13 payment plan.
- Behind on Mortgage PaymentsIn the last few years, a significantly increased number of people in Southern California have fallen behind on payments on their first and/or second mortgage. One of the amazing benefits of a Chapter 13 is that it allows debtors to repay these missed payments over 3 or 5 years rather than in one lump sum payment as is many times demanded by the lender.If a debtor can show the ability to complete a plan where they are able to, at least, pay the total amount due their mortgage lender(s) due to missed payments over the next 3 or 5 years, they will be able to take advantage of the protections of a Chapter 13. In this scenario, a debtor must be current with mortgage payments on a going forward basis, however their lender cannot continue with any foreclosure proceeding or dun them for payment on the arrearages while the debtor is engaged in the Chapter 13.
A Chapter 13 is ideal for an individual or a family who has had an interruption in their income for a series of months and now has an increased or stable income again. Chapter 13 allows this debtor to stay in their home, not be bothered by creditors during the term of the Chapter 13 plan, and potentially discharge other debt at the same time.
- Significant Tax DebtAlthough tax debt is occasionally dischargeable in either a Chapter 7 or Chapter 13, more often it is not. In situations where a debtor has non-dischargeable tax debt and potentially other unsecured debt, a Chapter 13 can provide an avenue by which the debtor can get considerable relief from the IRS collector and be allowed to pay off or pay down this tax debt over the life of the plan.Unlike curing all mortgage arrearages during the life of a Chapter 13, it is not mandatory that the debtor be able to pay off all the non-dischargeable tax debt within 5 years in a Chapter 13. In a situation where a debtor is able to propose a plan which lasts 5 years and only pays a portion of the non-dischargeable tax debt, the debtor still garners significant protection from their bankruptcy filing because of the relief they are granted from the IRS collection process. Any amount still owed by the debtor to the IRS or FTB at the end of the plan is still owed. However, the debtor will have gained 5 years of relief, have likely paid down a large portion of the total due the IRS and be better situated to resolve the remaining debt.
An even better circumstance for a Chapter 13 candidate is where they are able to propose and execute a Chapter 13 plan which provides for payment of their non-dischargeable tax debt in full over 5 years, but leaves nothing remaining to be paid to other general unsecured creditors. For example, if a debtor owes the IRS $40,000 for tax years 2010 and 2011 (non-dischargeable tax debt) and owes $100,000 to various credit cards (general unsecured creditors). This debtor may be able to propose and confirm a 5 year Chapter 13 plan whereby they pay only the $40,000 to the IRS over the next 5 years and the remaining $100,000 that the debtor owes to various general unsecured creditors will be discharged.
Please keep in mind that there are a multitude of other considerations that must be examined in order to determine if Chapter 13 is right for a particular debtor. Just because a debtor wants to strip their second, has mortgage arrears or non-dischargeable tax debt, this does not mean they definitely qualify or are an ideal candidate for a Chapter 13 bankruptcy. However, the three examples detailed are situations where a debtor may possibly take full advantage of Chapter 13 versus a Chapter 7 and enjoy some of the benefits under the bankruptcy code that don’t extend to Chapter 7 filings.