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Chapter 11 bankruptcy is commonly known as a “reorganization” bankruptcy. It’s a tool that any individual that meets the requirements, or business, no matter what type of organization it is, can use if they are having trouble meeting their debt obligations.

While individuals can use Chapter 11 bankruptcy, it’s typically used by corporate entities that want to reorganize and continue operating afterward, rather than liquidating their assets and shutting down. 

Chapter 11 bankruptcy can be overly expensive and cumbersome, though, which provides challenges to small business owners. A few years ago, Congress passed a new bill that streamlines the Chapter 11 bankruptcy process, making it more affordable in the process.

Below, we’ll give a quick overview of Chapter 11 Sub Chapter V Bankruptcy for small businesses.

Types of business bankruptcy

There are four types of business bankruptcy, each of which is designed for a different purpose.

The most common type is Chapter 11, as it allows businesses to continue operating after the bankruptcy proceedings. Chapter 7 bankruptcy, by contrast, is a full liquidation and will result in the business immediately dissolving upon the bankruptcy filing.

Chapter 13 bankruptcy is similar to Chapter 11 in many ways, though it’s only a fit really for certain sole proprietors. Chapter 12 bankruptcy is one option that small fishing and farming operations have. It provides a framework for restructuring that family businesses can use so they don’t have to liquidate.

Chapter 11 for business

The reason why Chapter 11 is so popular for businesses is that it allows them to continue operating after the bankruptcy restructuring. Through the process, business owners will enter into repayment plans with their creditors so that they can pay them back over time — as opposed to the previous repayment arrangement.

The restructuring plan is created and then presented to the court, which must approve it before it goes into practice. The creditors will be part of the process as well.

Secured and unsecured debts in Chapter 11

During the Chapter 11 bankruptcy proceedings, most debtors enjoy a moratorium on repayment of general unsecured debts that will last anywhere from about six to 12 months. 

In the same period, though, debtors may still need to pay their secured debts, if the services, goods and/or property is needed to continue operating the business.

The Chapter 11 debtor in possession

The debtor in possession (DIP) is a term that refers to the debtor who will be the one to operate the business after the Chapter 11 bankruptcy petition is filed. The person is a fiduciary and basically has the powers and rights of a trustee in the bankruptcy proceedings.

The DIP can hire outside professionals such as accountants, appraisers and attorneys, as long as the court approves.

Subchapter 5 bankruptcy

Subchapter 5 bankruptcy is made available to certain small businesses that need to file bankruptcy. There are certain limits that apply for business owners to qualify, though.

Non-contingent debt limit

To qualify for Subchapter 5 bankruptcy, debtors must engage in commercial activity and have debt that totals less than $7.5 million total — both unsecured and secured combined.

In addition, at least half of that non-contingent debt must come from activities related to the business. When filing, the debtor has to specify that they want to file under Subchapter 5.

The Small Business Reorganization Act

The Small Business Reorganization Act of 2019 was enacted in August 2019, and became effective in February 2020. The original debt limit was set at $2.75 million, though that was increased to $7.5 million temporarily after the outbreak of the COVID-19 pandemic.

That $7.5 million limit is effective for any Subchapter 5 bankruptcy filed between March 27, 2022, and June 21, 2024. After that date, the limit will revert to the original $2.75 million, unless Congress acts to extend and/or change the limit.

Small business debtors

Subchapter 5 is available only to small business debtors. These organizations are determined based on the size of their debt, not the size of the company itself.

Protection for creditors

The debtor will come up with a repayment plan that will be presented to each class of creditors through the court. Assuming the plan meets all the requirements of the bankruptcy court, the plan will be approved if at least half of the creditors in the class approves it.

Equity security holders

Unlike typical Chapter 11 bankruptcy, Subchapter 5 allows all equity security holders to retain interests they have in a debtor over the objection of non-consenting creditors, and they don’t have to pay all other claims that are higher priority in full.

Subchapter V for individuals

Individuals can also qualify for Subchapter V, just as they can through traditional Chapter 11 bankruptcy. They must meet the same debt limits as outlined above, and must be engaged in business activities.

Single asset real estate debtor

People whose primary business activity is owning a single asset real estate is typically excluded from Subchapter V. There are some exceptions to this rule, including if a debtor’s multiple parcels of property are not considered a single property or project.

A bankruptcy attorney can help

While Subchapter V provides a streamlined approach to Chapter 11 bankruptcy, it’s still a complex and complicated process. Making a mistake can be extremely costly for small business owners.

That’s why it’s always important to hire an experienced bankruptcy attorney who can help guide you through the process. The professionals at Babi Legal have years of experience in business bankruptcy cases, and can help you get through the process in the best situation possible.

Bankruptcy court and the U.S. Trustee or Bankruptcy Administrator

Once a bankruptcy case is filed, a U.S. trustee or bankruptcy administrator is assigned to monitor the case, and all actions that are taken by the parties involved. 

In North Carolina and Alabama, a bankruptcy administrator is the person who will oversee all bankruptcy cases. In every other state, a U.S. bankruptcy trustee will be assigned to monitor bankruptcy cases.

Creditors’ committees

A creditors’ committee is a group that represents all creditors in bankruptcy proceedings. This committee is given broad responsibilities and rights, which includes coming up with a reorganization plan for companies that file bankruptcy, and ultimately deciding whether liquidation would be the best path forward.

Appointment of a case trustee according to the bankruptcy code

The U.S. trustee will appoint a bankruptcy case trustee, after consulting with all parties who have an interest in the case. Once selected, this case trustee must be approved by the bankruptcy court.

The plan of reorganization

The plan of reorganization is a comprehensive and complex document that will be prepared by a business debtor that will detail their plans for how they will repay their creditors over time, and how they will operate once the bankruptcy proceeding ends.

It’ll categorize creditor claims into different classes and describe how each class will be treated. Creditors will receive the plan and vote on it to approve it. Then, the bankruptcy court must give final approval.

Acceptance of the plan of reorganization

Each creditor class must vote on the reorganization plan. Under Subchapter V, at least half of the creditors in each class must approve the plan of reorganization for it to be approved. If not, the bankruptcy court will chime in on the process.

Post confirmation modification of the plan

After the plan is confirmed, it’s still possible to modify it, as long as the details of the modification meet certain requirements under federal bankruptcy code. The court also must determine that there are circumstances that warrant the original plan to be modified.

Post confirmation administration

A court order will initiate the post-confirmation administration of a reorganization plan. Some legal actions will be taken by a creditors’ committee or bankruptcy trustee if the debtor objects to certain claims or if they need to recover funds.

Student loan forgiveness has been a highly-debated topic for the last few years, as the federal government under both former President Donald Trump and current President Joe Biden has initiated various programs to delay repayments or forgive outstanding debt altogether.

Since the onset of the COVID-19 pandemic four years ago, there have been many twists and turns in the student loan forgiveness saga, leaving many borrowers unsure of what the future will hold.

Even still, millions of student loan borrowers have been able to benefit from different executive actions that relaxed rules for eligibility, modified programs in existence and streamlined all application processes. Some modifications to repayment systems have allowed some student loan borrowers to save as well.

Borrowers struggling with student loan debt may be able to qualify for forgiveness through various federal programs. Those who don’t qualify may not have many options, as we’ll dive into further below.

Federal student loans

Last June, the Supreme Court struck down a plan by Biden that would’ve canceled billions of dollars of student loan debt. In the time since, the White House has been working hard to find new ways to bring borrowers relief.

In mid-February, the latest plan was announced that would do just that. The latest update on student loan forgiveness will see more than 150,000 borrowers qualify for the cancellation of nearly $1.2 billion in total student loan debt.

Those who qualify are eligible under the SAVE plan, which is a repayment program for federal student loan debt based around income. Borrowers who have lower balances — $12,000 or less — and also have made repayments for at least 10 years qualify to have the remaining debt wiped away.

In total, the Biden administration has now canceled almost $138 billion in federal student loan debt, benefitting nearly 3.9 million borrowers in the process.

Student loan borrowers seeking discharge

While this latest announcement is surely a welcome one for many borrowers, it still leaves many students without any relief at all. Those who don’t qualify for the loan forgiveness through the SAVE program don’t have nearly as many options for automatic and immediate relief.

It’s possible to seek discharge of student loan debt, but that’s a more complicated and complex process, as we’ll dive into further. There are other options to lower payments, though.

Student loan debt relief

Even if you aren’t eligible for complete forgiveness of your student loan debt, you can still take advantage of other plans to lower your monthly repayments.

The SAVE plan, as mentioned above, offers some borrowers the ability to lower their monthly payments based on their income — even if they don’t qualify for full forgiveness. This can provide some significant relief to those who need it.

It’s also possible to refinance student loans in much of the same way that other loans are refinanced. In this option, you would be replacing your old loan with a new one that has more favorable terms.

If you’re able to lower your interest rate, it could help to reduce your monthly payments. At the same time, if you refinance to a private loan servicer, you would lose any benefits that the federal government provides or may provide in the future.

It also may be possible to seek temporary deferment of repayment depending on your situation. If this is something you’d like to look into, it’s best to reach out to your loan servicer directly.

Student loans and bankruptcy

Until recently, getting student loans discharged through bankruptcy was a very difficult process. That’s because student loan debt is treated differently than other types of debt in bankruptcy proceedings.

In the 1970s, Congress passed legislation that put protections in place, because they were afraid that wealthy people would eventually abuse the system to get their student loan debt discharged. 

This meant that in order to get student loans discharged through bankruptcy, a person had to sue the federal government and try to prove that the loan was causing them “undue hardship.”

That was a significant hurdle to overcome, not only because it was hard to prove the “undue hardship” but also because it was expensive to do so. 

A law professor at Villanova University actually conducted a study in 2020 that found that only a little more than one in 1,000 people who declared bankruptcy and had student loans were able to get that debt discharged.

Approval for student loan discharges in bankruptcy

In November 2022, the Department of Education updated rules to make it easier for student loan debt to be discharged through bankruptcy. Now, borrowers who wish to have their student loan debt discharged through bankruptcy have to fill out a form that’s 15 pages long. Then, attorneys working for the government will use new guidelines on exactly what would qualify as “undue hardship.”

This has made the process simpler and more effective for borrowers. In fact, in November 2023, the DOE reported that 99% of people who used this new process were successful in getting their student loan debt discharged through bankruptcy.

While that only included a little more than 600 people total, the department believes an increasing number of these filings will be made in the future.

Final extension of the student loan repayment pause

During the COVID-19 pandemic, the federal government instituted a pause on all federal student loan repayments. That stood in place for more than three years, but came to an end in September 2023. 

Interest began accruing again on September 1, while repayments resumed on October 1.

When the payments were put on pause, interest rates were dropped to 0% as well, so that debt wouldn’t continue to rack up as borrowers didn’t make payments. Once those payments resumed, the interest rates returned to whatever their fixed rate was.

There is a 12-month “on-ramp” as part of this resumption of payments, though. Through September 30, 2024, borrowers who aren’t able to make repayments won’t default on their loans. However, interest still accrues if payments aren’t made, adding to the total outstanding debt.

This has caused many borrowers to be faced with the daunting challenge of fitting student loan repayments back onto their already tight budgets.

Challenges for borrowers seeking loan forgiveness through bankruptcy

While the Department of Education has made it easier for borrowers to seek loan forgiveness through bankruptcy, it’s still not as straightforward as having credit card debt discharged. It’s not an automatic that this debt will be forgiven. The federal government still needs to agree that the loan is causing “undue hardship,” even if the guidelines by which they make that decision have been relaxed.

That’s why it’s important to work with an experienced bankruptcy law firm if you have student loan debt that you wish to discharge. Babi Legal has a team of experienced professionals who can help you navigate the complicated web of student loan debt forgiveness, giving you a better chance of having it discharged through bankruptcy.

Further student loan forgiveness reading

Babi Legal has provided additional reading on student loan forgiveness for you to review, including the impact of bankruptcy on student loans, and the pros and cons of student loan forbearance.

Embarking on the intricate landscape of bankruptcy involves unraveling the complex web of claims and their prioritization. In this comprehensive guide, we’ll explore the nuances of the priority of claims in bankruptcy proceedings, shedding light on how creditors are categorized and paid. From secured debts to unsecured priority claims, join us on this journey through the bankruptcy code, navigating the hierarchy that dictates how creditors receive their share.

Whether you’re a debtor seeking to understand the implications or a creditor aiming to comprehend your position, this exploration of priority claims will provide valuable insights into the dynamics of the bankruptcy process.

Priority claims

Priority claims occupy a unique position in the bankruptcy hierarchy, enjoying preferential treatment over other unsecured claims. These claims, outlined in the bankruptcy code, cover specific obligations that hold a higher priority for repayment.

Examples of priority claims include domestic support obligations, unpaid wages, and certain taxes. The concept of priority aims to ensure that essential debts are satisfied before other creditors receive their share of the debtor’s remaining assets.

As we delve deeper, we’ll dissect the various priority claims and their implications within the bankruptcy process.

Unsecured priority claims

Among the different types of priority claims, unsecured priority claims play a distinctive role. These are obligations without collateral but hold a higher priority than general unsecured claims. Examples include certain tax claims and unpaid wages.

In the intricate landscape of bankruptcy proceedings, understanding the nuances of unsecured priority claims is crucial. We’ll explore their significance, treatment, and impact on the distribution of assets to creditors, shedding light on how they navigate the bankruptcy process.

Unsecured creditors

Unsecured creditors constitute a diverse group of claimants in bankruptcy, holding debts not backed by collateral. Unlike secured creditors, who have specific assets securing their claims, unsecured creditors lack such security. This category encompasses various obligations, including credit card debt, medical bills, and personal loans.

Priority Unsecured Debts?

Priority unsecured debts are obligations that, despite being unsecured, receive preferential treatment in bankruptcy proceedings. They are granted a higher priority for payment compared to general unsecured claims when it comes to distributing the debtor’s assets. Some key examples of priority unsecured debts include certain tax claims, unpaid wages, and domestic support obligations such as child support or alimony.

The prioritization of these debts is governed by specific rules outlined in the bankruptcy code. These rules establish the order in which different types of debts must be satisfied from the available assets. By placing priority unsecured debts ahead of general unsecured claims, the legal system aims to address the importance of certain obligations that society considers crucial.

In practical terms, when a debtor files for bankruptcy, available funds or assets are distributed among creditors. Priority unsecured debts are paid in a specific order, ensuring that certain essential obligations receive satisfaction before other unsecured claims. This prioritization recognizes the significance of fulfilling obligations related to taxes, employee wages, and family support.

Creditors holding priority unsecured claims have a higher chance of receiving payment compared to those with general unsecured debts. Understanding these distinctions is vital for both debtors and creditors navigating the bankruptcy process, as it influences the outcome of asset distribution and the resolution of financial obligations.

Are the Rules Really “Absolute?”

While the term “absolute priority rule” is commonly used, it doesn’t imply an unyielding or inflexible standard in all situations. The concept of absolute priority is a foundational principle in bankruptcy law, emphasizing the hierarchical payment structure among different classes of creditors. However, there are instances where deviations or exceptions to the absolute priority rule may apply.

Bankruptcy courts have some flexibility to confirm reorganization plans that deviate from the absolute priority rule under certain conditions. For example, if all impaired classes consent to the plan, a court might approve it even if it doesn’t strictly adhere to the absolute priority rule. This flexibility is exercised to facilitate the acceptance of viable reorganization plans that promote the debtor’s successful emergence from bankruptcy.

The idea behind the term “absolute priority” is to underscore the general importance of respecting the established priority structure. It serves as a guide for equitable distribution of assets among creditors. Still, the practical application of the rule can involve considerations of fairness and the specific circumstances of each case.

The Code’s Order of Priority

The Bankruptcy Code establishes a priority order for distributing funds among creditors. Secured creditors, with collateral-backed claims, take the top spot, followed by priority unsecured creditors, including specific claims like domestic support obligations and employee wages. General unsecured creditors, without collateral or statutory priority, come next and receive a pro-rata share after secured and priority claims.

Equity holders, like shareholders, are at the bottom and only receive payment if assets remain after higher-priority claims are satisfied. This structured approach ensures a fair allocation of resources in bankruptcy proceedings.

Most Priority Debts are Nondischargeable

Many priority debts are nondischargeable, meaning they survive the bankruptcy process and the debtor remains obligated to pay them. Many of the debts mentioned earlier, such as domestic support obligations, certain tax claims, and debts for death or personal injury caused by the debtor’s intoxicated driving are examples of nondischargeable priority debts.

The nondischargeable nature emphasizes the importance of addressing these obligations even in bankruptcy.

The Supreme Court, Jevic and the Order of Claims in Bankruptcy

The Supreme Court’s decision in the Jevic case significantly impacted the traditional order of claims in bankruptcy. In the Jevic case, the Court addressed structured dismissals and the distribution of assets in a way that deviated from the usual priority rules. The decision introduced flexibility in certain situations, allowing for deviations from the absolute priority rule under specific circumstances. This landmark ruling reshaped how bankruptcy courts approach the prioritization of claims and highlighted the need for careful consideration of the unique aspects of each case.

How Does Priority Debt Affect a Bankruptcy Filing?

Priority debt plays a crucial role in the bankruptcy filing process, influencing the distribution of assets and the satisfaction of creditors. In a bankruptcy case, certain debts are designated as priority claims, and they are entitled to be paid before other claims.

The order in which these priority claims are settled can significantly impact the outcome for both debtors and creditors. For instance, certain tax debts may take precedence over other unsecured claims, influencing the distribution of available funds. The intricate nature of these priorities reflects the legal framework’s attempt to ensure fair treatment among creditors while considering the distinctive characteristics of each debt category.

Absolute Priority Rule (APR) in Bankruptcy Code

The Absolute Priority Rule (APR) is a fundamental concept embedded in the Bankruptcy Code, dictating the order in which creditors are repaid during bankruptcy proceedings. This rule establishes a hierarchy, ensuring that certain creditors receive payment before others. The key principle behind the APR is that creditors with higher priority must be satisfied in full before those with lower priority receive any payment.

Under the APR, secured creditors are generally the first to be repaid, followed by priority unsecured creditors, and finally, general unsecured creditors. This rigid structure aims to maintain fairness in the distribution of assets and provides a framework for determining the order of claims. However, exceptions and complexities exist, and navigating the nuances of the APR requires a comprehensive understanding of bankruptcy laws and procedures.

Secured Claims (1st or 2nd Lien)

Secured claims, whether first or second lien, play a pivotal role in the bankruptcy process, guided by the Absolute Priority Rule (APR). When a debtor files for bankruptcy, secured creditors holding collateral – such as a mortgage lender with a property lien – are typically positioned at the top of the priority hierarchy. In the event of liquidation or asset distribution, secured creditors receive payment from the sale of the collateral before other creditors.

The APR dictates that secured claims must be satisfied in full before unsecured creditors receive any payment. While first and second lienholders share this fundamental priority, nuances may arise based on the value of the collateral and the specific terms outlined in the bankruptcy proceedings. 

Finding the Right Debt Relief Option for You

Navigating the myriad of debt relief options requires careful consideration of various options to find the right solution for your unique financial situation. From debt consolidation and credit counseling to bankruptcy and negotiation with creditors, each avenue comes with its own set of implications. Analyzing factors such as the amount and type of debt, income, and long-term financial goals is crucial in determining the most suitable course of action.

Debt consolidation involves combining multiple debts into a single monthly payment, potentially with a lower interest rate. Credit counseling provides guidance on budgeting and debt management plans. Bankruptcy, while carrying significant consequences, may offer a fresh start for those facing overwhelming debt. Negotiating with creditors can lead to modified repayment terms.

Choosing the appropriate debt relief option requires a comprehensive understanding of your financial circumstances and the potential impact on your credit score. Seeking professional advice from financial experts or bankruptcy attorneys can provide valuable insights and help pave the way to a more stable financial future.

Babi Legal’s experienced team is dedicated to assisting individuals in finding the most effective debt relief solution tailored to their specific needs, offering guidance through every step of the process to achieve a more secure financial future.

Chapter 11 and Chapter 7 Creditor Recoveries Claims

Chapter 11 and Chapter 7 bankruptcies present distinct scenarios for creditors seeking recoveries.

In Chapter 11, a reorganization process, creditors may have the opportunity to influence the debtor’s restructuring plan, potentially leading to better recoveries. On the other hand, Chapter 7 involves liquidation, where a trustee sells the debtor’s assets to repay creditors.

The hierarchy of creditor claims, secured or unsecured, significantly impacts the recovery amounts. Navigating these complexities requires a keen understanding of bankruptcy laws and strategic decision-making. Creditors need to assess their positions, evaluate potential outcomes, and make informed choices to maximize their recoveries in either Chapter 11 or Chapter 7 proceedings.

General Unsecured Claims (“GUCs”)

General Unsecured Claims (GUCs) represent debts without any collateral or specific priority. In bankruptcy proceedings, these claims are lower in the hierarchy, and their treatment depends on the available funds after higher-priority claims have been satisfied.

In both Chapter 7 and Chapter 11 bankruptcies, GUCs often receive repayment only if there are remaining assets after satisfying secured and priority claims. Creditors holding GUCs face a higher risk of partial or no repayment compared to those with secured or priority claims.

Preferred and Common Equity Holders

Preferred and common equity holders are distinct classes of shareholders in a company, each with its own set of rights and preferences. Preferred equity holders have a higher claim on a company’s assets and earnings than common equity holders. They typically receive dividends before common shareholders and have a preference in the distribution of assets in the event of liquidation.

On the other hand, common equity holders have residual rights in a company, meaning they are entitled to the remaining assets and earnings after all other obligations have been satisfied. While common equity holders have voting rights and potential for higher returns, they stand lower in the hierarchy of claims compared to preferred equity holders.

Understanding the differences between preferred and common equity is crucial for investors, as it influences their potential returns, voting power, and overall position in the company’s capital structure.

Waterfall Payment

A “waterfall payment” refers to the systematic order in which creditors are repaid from the available assets of a debtor. The term “waterfall” is used to illustrate the cascading flow of funds down the hierarchy.

In a bankruptcy proceeding, the waterfall payment typically starts with priority claims being satisfied first. Once these priority claims are addressed, the remaining funds, if any, move down to the next tier of creditors, such as secured creditors. The process continues until all claims in the established hierarchy have been addressed or until the available assets are exhausted.

Common Complications of the Payment Process

Navigating the payment process in bankruptcy can be fraught with complexities, and several common complications may arise. One challenge involves the prioritization of claims, where creditors vie for repayment based on their claim status. Secured creditors may face difficulties if the value of collateral falls short of the debt owed. Additionally, disputes may arise over the classification of certain claims, impacting their position in the payment hierarchy.

Another complication stems from the potential insufficiency of available assets to meet all creditor demands. In such cases, the waterfall payment system becomes critical, determining the order in which creditors receive satisfaction. Furthermore, disputes may emerge among creditors, particularly if there’s uncertainty or disagreement regarding the validity or priority of claims.

How Do Creditors Get Paid?

Creditors receive payment in a structured manner through a process governed by bankruptcy rules. The payment hierarchy, or “waterfall,” outlines the order in which creditors receive satisfaction from the available assets.

Secured creditors, holding liens on specific assets, are typically the first to be paid. They receive satisfaction from the sale or use of the collateral securing their debt. Following secured creditors, priority claims are addressed. Unsecured creditors, including general unsecured claims and credit card debt, come next in line.

The specific order of payment can vary, and the bankruptcy code provides guidance on the classification of claims and the treatment of different creditor classes.

Understand the Restructuring and Bankruptcy Process

The restructuring and bankruptcy process involves several key steps. It begins with a financial assessment, exploring alternatives like debt restructuring or bankruptcy. If bankruptcy is chosen, a petition is filed, triggering an automatic stay on creditor actions. A creditors meeting is held for transparency.

In Chapters 11 and 13, debtors propose a repayment plan, while Chapter 7 involves asset liquidation. Once a plan is confirmed, debtors work to implement it. Successful completion leads to a discharge of eligible debts. Babi Legal’s experienced professionals can guide you through this process, providing essential expertise to ensure a smooth resolution tailored to your specific situation.

Navigating the intricate terrain of bankruptcy, the concept of preferential transfers takes center stage. In the financial intricacies of insolvency, understanding what constitutes a preferential transfer and its implications is paramount.

What Is a Preferential Transfer?

A preferential transfer in bankruptcy involves a payment made to a creditor shortly before filing for bankruptcy, potentially favoring one creditor over others. Identifying and addressing preferential transfers is essential for ensuring fair treatment among creditors and maintaining equitable distribution of assets in bankruptcy proceedings.

Five Elements Define Preferential Transfers

Preferential transfers in bankruptcy involve five crucial elements:

• Payment to a Creditor: A payment must be made to a creditor.
• Within the Preference Period: The payment should occur within the defined preference period.
• Antecedent Debt: The payment is linked to an antecedent debt.
• Debtor’s Insolvency: The debtor must have been insolvent at the time of the payment.
• Creditor Receives More: The payment results in the creditor receiving more than in a Chapter 7 distribution.

Ordinary Course of Business

In bankruptcy, the term “ordinary course of business” refers to the normal and routine transactions a debtor conducts with its creditors. When evaluating preferential transfers, the court examines whether a payment made to a creditor was consistent with the ordinary course of business.

If a payment aligns with the historical dealings between the debtor and the creditor, it may be deemed an ordinary transaction and not subject to avoidance as a preferential transfer. Understanding what constitutes the ordinary course of business is crucial for both debtors and creditors navigating bankruptcy proceedings.

What Is Preferential Payment in Bankruptcy?

A preferential payment in bankruptcy refers to a payment made by a debtor to a creditor before filing for bankruptcy that gives the creditor an advantage over other creditors. The bankruptcy code allows the bankruptcy trustee to avoid or undo such preferential transfers to ensure fair treatment among creditors.

To qualify as a preferential payment, the transfer must meet specific criteria, including being made to a non-insider creditor, occurring within a certain time frame before the bankruptcy filing, and allowing the creditor to receive more than they would in a Chapter 7 liquidation.

How Far Back Can the Bankruptcy Trustee Look for Preferential Transfers?

The bankruptcy trustee can typically look back for preferential transfers up to 90 days before the debtor filed for bankruptcy. This period is extended to one year if the preferential transfer involves an insider, such as a family member or business partner. The ability to scrutinize transactions within these time frames helps the trustee identify and address preferential payments made by the debtor before the bankruptcy filing. It’s essential for creditors and debtors alike to be aware of these look-back periods and the potential implications for preferential transfer claims.

Preferential Payment Cases Designed to Protect All

Preferential payment cases are designed to protect all creditors by preventing debtors from favoring certain creditors over others before filing for bankruptcy. The bankruptcy code aims to ensure fair treatment of creditors by allowing the trustee to recover payments made to specific creditors within a specified timeframe before the bankruptcy filing.

This helps distribute the debtor’s assets more equitably among all creditors, discouraging preferential treatment and maintaining the integrity of the bankruptcy process.

The Look-Back Period for Insider Creditors vs. Regular Creditors

In bankruptcy, the look-back period for insider creditors, such as family members or business partners, differs from that of regular creditors.

While regular creditors are subject to a 90-day look-back period, insider creditors face a more extended scrutiny period of one year before the bankruptcy filing. This distinction is crucial as it allows the bankruptcy trustee to review transactions involving insiders for a longer period, preventing potential abuse or preferential treatment within the year leading up to the bankruptcy.

What Preferential Treatment Looks Like

Preferential treatment occurs when a debtor favors one creditor over others by making payments to that specific creditor before filing for bankruptcy. This preferential payment might involve paying off an old debt, providing an unsecured creditor with more than they would receive in the bankruptcy proceedings, or giving special treatment to certain creditors.

Payments Not Considered Preferential Transfers

Certain payments made by a debtor are not considered preferential transfers under bankruptcy law. For example, payments made in the ordinary course of business, payments made in accordance with ordinary business terms, or payments that qualify as substantially contemporaneous exchanges for new value are typically excluded from being deemed preferential transfers.

What Is an Avoidance Lawsuit?

An avoidance lawsuit, in the context of bankruptcy, refers to legal actions initiated by a bankruptcy trustee to undo certain transactions that could be detrimental to the overall distribution of assets to creditors.

The trustee has the authority to avoid or set aside specific transactions, such as preferential transfers or fraudulent conveyances, which may impact the fair and equitable distribution of assets among creditors. These lawsuits aim to recover the transferred property or funds so that they can be included in the bankruptcy estate and distributed according to the priorities established by bankruptcy laws.

Avoidance lawsuits play a crucial role in maintaining the integrity of the bankruptcy process and ensuring an equitable outcome for all parties involved.

Are There Exceptions to Preferential Transfers?

Yes, there are exceptions to preferential transfers. While bankruptcy law allows trustees to avoid and recover preferential transfers, certain transactions are exempted or may be protected by defenses.

Common exceptions include:

• payments made in the ordinary course of business
• payments made for new value received by the debtor
• transactions that meet the criteria for the contemporaneous exchange for new value defense.

Additionally, certain types of creditors, such as employees for wage claims, may receive preferential payments without facing avoidance actions. It’s essential to understand the specific circumstances and criteria that may exempt a transfer from being deemed preferential, and consulting with a bankruptcy attorney can provide guidance on available defenses and exceptions.

Preferences and Secured or Priority Debt

Preferences in bankruptcy primarily relate to unsecured creditors, and the concept is not typically applied to secured or priority debts.

Secured debts, which are backed by collateral, and priority debts, such as taxes and domestic support obligations, operate under different rules. The bankruptcy code generally prioritizes the repayment of secured and priority debts over unsecured debts.

Therefore, preferences, as defined in bankruptcy law, focus on transactions involving unsecured creditors rather than those holding secured or priority claims.

A Bankruptcy Lawyer Can Help You Organize Your Debts

Navigating the complexities of bankruptcy can be challenging, and seeking the assistance of a skilled bankruptcy lawyer can be invaluable. A bankruptcy lawyer can help you organize your debts, assess your financial situation, and guide you through the legal processes involved in filing for bankruptcy.

At Babi Legal, we understand the complexities involved and are here to guide you every step of the way. Our team of experienced bankruptcy lawyers is dedicated to helping you organize your debts, assess your financial situation, and navigate the legal processes seamlessly. With personalized advice tailored to your unique circumstances, we empower you to make informed decisions aligned with your financial goals. Whether you’re exploring Chapter 7 or Chapter 13 bankruptcy, our expertise ensures you have the support needed for a successful outcome.

Exceptions to the 90-Day Rule

In bankruptcy, the 90-day rule refers to the preferential transfer period, during which certain payments made by the debtor to creditors before filing for bankruptcy might be scrutinized.

However, there are exceptions to this rule that can impact the assessment of preferential transfers. These exceptions often revolve around specific types of creditors, the nature of payments, and the relationship between the debtor and the creditor.

1. Contemporaneous Exchange: Payments made in the ordinary course of business and in a substantially contemporaneous exchange for new value might be exempt from the 90-day rule. This recognizes that some transactions are part of normal business operations.
2. Ordinary Course of Business: If a payment is consistent with the ordinary course of business between the debtor and the creditor, it may be considered an exception to the 90-day rule. This acknowledges that routine transactions are less likely to be preferential.
3. New Value Exception: Payments that secure new value for the debtor and are made to the creditor can be exempt from avoidance. This exception encourages creditors to continue dealing with financially troubled debtors.

Navigating these exceptions requires a nuanced understanding of bankruptcy law. At Babi Legal, our experienced team can provide guidance on how these exceptions may apply to your specific situation, helping you make informed decisions during the bankruptcy process.

Embarking on a journey through Chapter 7 bankruptcy? Get ready to navigate the crucial means test – a key determinant for debt relief eligibility. We unravel the complexities surrounding median income, disposable income, and monthly expenses, as well as delve into the nuances of the means test, exploring the ins and outs of its calculation, national and local standards, and its pivotal role in the bankruptcy process. Let’s explore the means test and guide you through the path to financial recovery.

How Does Bankruptcy Means Testing Work?

Bankruptcy means testing, a pivotal aspect of Chapter 7 and 13 bankruptcy, as it involves comparing a debtor’s current monthly income to the state’s median income for a similar household size. If the income is below the median, the debtor typically qualifies for Chapter 7 or the debtor has an option in Chapter 13 to do a 3, 4, or 5 year bankruptcy repayment plan. For those exceeding the median, additional calculations assess disposable income, factoring in allowable expenses and deductions. This meticulous evaluation determines eligibility, ensuring a fair and tailored approach to debt relief.

Find Out If You’re Eligible For Chapter 7 Bankruptcy

To determine your eligibility for Chapter 7 bankruptcy, you can start by gathering information on your monthly income, expenses, and debts. Utilize means test forms and calculators available online, which often follow the criteria outlined in the bankruptcy code.

Alternatively, consult with an experienced bankruptcy attorney who can provide personalized guidance based on your financial situation. They can help you navigate the complexities of the means test, assess your eligibility, and offer insights into the best course of action for your specific circumstances. Remember, seeking professional advice is crucial to ensuring accuracy and understanding the nuances of your eligibility for Chapter 7 bankruptcy.

Step 2

Step 2 involves analyzing your income to determine if it falls below the state’s median income for your household size. The means test compares your average monthly income over the past six months to the median income in your state. If your income is below the median, you may qualify for Chapter 7 without further means testing.

However, if your income exceeds the median, you proceed to the next step, where additional calculations assess disposable income and allowable expenses. Consulting with a bankruptcy attorney during this process can provide valuable insights and help you navigate the intricacies of the means test.  A good bankruptcy attorney can still qualify you for chapter 7 bankruptcy even if your income exceeds the median income of the means test, but other special circumstances, factors and considerations must be evaluated first.

Chapter 7

Also known as “liquidation bankruptcy,” Chapter 7 involves the sale of non-exempt assets to pay off creditors, offering a fresh start to debtors. The means test plays a crucial role in Chapter 7, determining eligibility based on income, expenses, and other financial factors. If you pass the means test and meet certain criteria, you may be eligible for Chapter 7, allowing for the discharge of qualifying debts and the opportunity to rebuild your financial life.

Use the Chapter 7 Means Test Forms

Navigating Chapter 7 bankruptcy involves a pivotal step: completing the Chapter 7 Means Test Forms. These forms meticulously evaluate your financial landscape, weighing income against allowable expenses. Ensuring precise and thorough completion, ideally with guidance from a bankruptcy attorney, is crucial. Successful completion of the means test is vital for determining eligibility and setting the course for a Chapter 7 bankruptcy filing tailored to your financial circumstances.

If You Fail The Means Test

If you fail the Chapter 7 Means Test, it doesn’t necessarily mean the end of your bankruptcy options. Failing could redirect you toward Chapter 13 bankruptcy, providing an alternative route for debt relief. In Chapter 13, you might develop a court-approved repayment plan based on your income and expenses, offering a structured path to manage and eventually discharge your debts.

Monthly income

Monthly income plays a crucial role in the Chapter 7 bankruptcy means test. To determine eligibility, the debtor’s current monthly income is compared to the state’s median income for a household of similar size. The calculation involves averaging the monthly income over a six-month period, considering various sources such as wages, rental income, and other financial resources. If the debtor’s income exceeds the state’s median, further analysis of allowable expenses and deductions is required to assess disposable income and overall eligibility for Chapter 7 bankruptcy relief.

What Information Is Needed for a Bankruptcy Means Test?

For a bankruptcy means test, specific information is required to assess eligibility for Chapter 7 bankruptcy relief. Essential details include:

1. Income Data: Accurate documentation of all income sources, including wages, rental income, and any other financial resources, is crucial. The debtor’s average monthly income over a six-month period is a key factor in determining eligibility.
2. Expense Documentation: Detailed records of monthly living expenses, such as rent or mortgage payments, utilities, food, transportation, and healthcare costs, are necessary. The means test considers allowable expenses to calculate disposable income.
3. Debt Information: A comprehensive list of all debts, categorized as consumer or business debts, is essential. This includes credit card balances, medical bills, car loans, and other financial obligations.
4. Family Size: The number of individuals in the debtor’s household influences the means test calculation, as it impacts the state’s median income threshold.
5. Special Circumstances: Any exceptional circumstances affecting the debtor’s financial situation, such as disability or military service, should be documented. Special circumstances may influence the means test results.

Gathering this information is a critical step in the bankruptcy process, facilitating a thorough means test assessment and ensuring accurate eligibility determination for Chapter 7 bankruptcy relief.

First, Determine the Relevant Time Period

The first step in a bankruptcy means test is to determine the relevant time period for calculating income. This typically involves looking at the debtor’s average monthly income over the six months preceding the bankruptcy filing. The income during this period is used to assess whether it falls below the state’s median income for a household of the same size.

This initial phase sets the foundation for the means test calculation, guiding the subsequent evaluation of income and allowable expenses to ascertain eligibility for Chapter 7 bankruptcy relief. By establishing the relevant time frame, the means test ensures a comprehensive and standardized approach in evaluating a debtor’s financial situation.

How To Calculate Your Gross Income for the Means Test

Calculating your gross income for the means test involves considering various sources of income over the relevant time period. Gross income includes earnings from wages, self-employment, rental income, business income, and other financial resources.

To determine your gross income, gather information on your pay stubs, business records, rental income statements, and any other sources of income. Include all forms of financial inflow during the specified six-month period, providing a comprehensive overview of your earnings.

Understanding your gross income is crucial as it serves as a foundational element in the means test calculation, influencing the subsequent evaluation of disposable income and overall eligibility for Chapter 7 bankruptcy. Accurate documentation of your income sources ensures a precise assessment, enabling you to navigate the means test effectively.

Finally, Compare Your Income to the Median Income in Your State

Once you’ve calculated your gross income for the relevant time period, the next step in the means test process is to compare it to the median income in your state. The comparison determines whether your income exceeds the median and affects your eligibility for Chapter 7 bankruptcy.

Refer to the current median income figures provided by the U.S. Census Bureau or the Department of Justice. If your income is below the median, you may automatically qualify for Chapter 7. However, if your income exceeds the median, additional steps in the means test will assess your disposable income and potential eligibility.

This comparison to the median income is a pivotal point in the means testing process, shaping the trajectory of your bankruptcy case and influencing the subsequent calculations and considerations that follow.

Do You Have Enough Disposable Income to Repay Some Debts?

Following the assessment of whether your income exceeds the median, the next crucial step in the means test is determining if you have enough disposable income to repay some of your debts. This calculation involves subtracting allowable expenses from your monthly income to ascertain the disposable income available for debt repayment.

The means test formulas consider various expense deductions, including national and local standards, actual expenses, and certain deductions allowed by the bankruptcy code. If, after deducting allowable expenses, you have sufficient disposable income, you may face challenges qualifying for Chapter 7. In such cases, Chapter 13 bankruptcy, which involves a repayment plan, might be a more viable option.

Need More Bankruptcy Help?

If you’re navigating the complexities of bankruptcy and need more guidance, consulting with a knowledgeable bankruptcy attorney is a prudent step. Bankruptcy laws are intricate, and a legal professional can provide tailored advice based on your unique circumstances.

At Babi Legal Group, we understand the complexities of bankruptcy law and the challenges you may be facing. Our dedicated team of experienced bankruptcy attorneys is well-equipped to guide you through the entire process. Whether you’re grappling with the means test, seeking debt relief through Chapter 7 or Chapter 13 bankruptcy, or dealing with other financial issues, our legal professionals are here to help.

We prioritize providing personalized solutions tailored to your specific circumstances. With our in-depth knowledge of bankruptcy laws and a commitment to client advocacy, our team ensures that you receive comprehensive and reliable guidance at every step. Don’t navigate the intricacies of bankruptcy alone – rely on Babi Legal’s experienced team to help you make informed decisions and work towards a more secure financial future.

If You Pass the Chapter 7 Means Test

If you successfully pass the Chapter 7 means test, you may qualify for Chapter 7 bankruptcy relief. This means that your income and financial situation align with the eligibility criteria, allowing you to pursue a Chapter 7 bankruptcy filing. With the assistance of our skilled legal team at Babi Legal Group, we can help you navigate the means test, ensuring accuracy in calculations and providing guidance on the best course of action for your unique financial circumstances. Passing the means test is a significant step towards obtaining debt relief and a fresh financial start.

Debt Settlement or Debt Relief

When facing financial challenges, individuals often consider options like debt settlement or debt relief to alleviate their burden. Debt settlement involves negotiating with creditors to settle debts for less than the total amount owed, offering a potential reduction in the overall debt. On the other hand, debt relief encompasses a broader range of strategies aimed at managing or reducing debt, including debt consolidation, debt management plans, or, in more severe cases, bankruptcy.

Navigating the complexities of debt settlement or debt relief requires careful consideration of one’s financial situation and goals. Consulting with our experienced team at Babi Legal can provide personalized insights and guidance, helping individuals make informed decisions tailored to their unique circumstances. Whether exploring settlement negotiations or pursuing a comprehensive debt relief strategy, our team is dedicated to assisting clients on their journey to financial recovery.

What Types of Expenses Can Be Deduced in Part 2 of the Means Test?

In Part 2 of the means test, certain expenses can be deducted to determine disposable income. These deductions include allowable expenses such as housing, utilities, transportation, taxes, mandatory payroll deductions, and certain other living expenses. However, it’s crucial to use national and local standards to determine the allowable amounts for these deductions. Understanding the specific expenses eligible for deduction and ensuring accurate calculations are essential steps in completing Part 2 of the means test.