Means Test for Conversion to Chapter 7? Appeals Court Soon to Weigh In

by Craig Andresen, Minneapolis, MN, Bankruptcy Attorney

February 6, 2011

When a chapter 13 bankruptcy debtor’s circumstances change during the case, making it difficult for the debtor to continue making payments under the chapter 13 plan, the debtor should ask his or her lawyer about converting the case to chapter 7.  North Carolina bankruptcy lawyer Adrian Lapas posted an article here recently (February 4, 2011) explaining how converting a chapter 13 case to one under chapter 7 can solve the problem of the debtor’s inability to continue making required chapter 13 plan payments.

While converting to chapter 7 may be a powerful remedy for some chapter 13 debtors, courts are split on whether the debtor must file a Form B22A (the “means test” form) and whether the debtor must “pass” the chapter 7 means test when converting from chapter 7 to chapter 13.  To date, six lower courts have ruled that the means test applies to a conversion to chapter 7.  However, six other lower courts have differed and ruled that the means test does not apply to a converted chapter 7.  The question whether a means test must be filed with a conversion to chapter 7 is critically important to debtors who filed chapter 13 because they could not pass the chapter 7 means test.

Thankfully, a federal appeals court is set to rule on this question in the near future.  On February 1, 2011, the Bankruptcy Appellate Panel, Eighth Circuit, heard oral arguments on this issue.  In re Chapman/Cruse, Nos. 10-6046, 10-6047 (8th Cir. BAP).

Here’s the problem: for debtors who filed chapter 13 because they could not pass the chapter 7 means test, upon a conversion from chapter 13 to chapter 7 the U.S. Trustee might file a motion seeking dismissal of the chapter 7 under section 707(b), arguing that the means test applies in the converted case.  This amounts to a startling Catch-22: the debtor tried his or her best to perform under a chapter 13 plan; despite the debtor’s best efforts he or she could not make the payments; the debtor in desperation converts to chapter 7; the U.S. Trustee then argues for dismissal under section 707(b) based on the outdated original means test figures.  Although this may sound like an illogical trap cooked up by overly aggressive Justice Department lawyers, six courts to date have agreed with this view, and the chapter 7 cases were ordered dismissed as a result.

However, there still are ways to address a conversion to chapter 7 by chapter 13 debtors who could not pass the chapter 7 means test.  For a debtor whose income has dropped significantly during the chapter 13 case, it may be advisable to allow the chapter 13 case to be dismissed for nonpayment, with the intention of filing a new chapter 7 case in which the debtor can pass the means test using the now-smaller income figures.

The chapter 13 debtor can also try converting the case to chapter 7, while explaining in the means test’s “special circumstances” line the reasons why chapter 13 is no longer feasible.  When using this approach, care must be taken to anticipate that the U.S. Trustee will review such a statement to evaluate whether it agrees that special circumstances really do prevent the debtor from continuing in chapter 13.

The chapter 13 debtor can also convert to chapter 7, even if the debtor fails the means test, relying on the court to rule that the means test does not apply in a conversion to chapter 7.  As noted above, six bankruptcy courts have agreed with this view.  It is also possible that the issue will not be raised by the U.S. Trustee for tactical reasons in a particular case, because the case law is still developing regarding this issue.

Another strategy is for the conversion to chapter 7 to include a means test which uses the debtor’s income figures for the six months preceding the conversion, rather than the six months preceding the filing of the chapter 13.  The benefit of doing so is that the means test thus captures the debtor’s income at a time when the income was at its lowest level, possibly enabling the debtor to pass the means test.  However, this might result in a challenge from the U.S. Trustee, which could argue that the debtor must obtain court approval under section 101(10A)(A)(ii) in order to use the six months preceding the conversion as a basis for the debtor’s means test income.

While conversion to chapter 7 may be appropriate for struggling chapter 13 debtors, those who filed chapter 13 at a time when they would have failed the chapter 7 means test need to take care that their conversions are not challenged under section 707(b) and the bankruptcy means test.  It is to be hoped that the appeals courts will soon provide helpful guidance to debtors in this situation considering conversion to chapter 7.

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Craig W. Andresen is a consumer bankruptcy lawyer in Bloomington, Minnesota, with 22 years’ experience in consumer and small business bankruptcy cases. He is the Minnesota chair of the National Association of Consumer Bankruptcy Attorneys, and is a member of the Minnesota State Bar Association’s Bankruptcy Section. Mr. Andresen lectures often on the topic of consumer bankruptcy at local and national legal seminars.

Last modified: February 6, 2011