entrepreneur.jpgI had coffee with a great friend of mine who began his own bankruptcy practice a few years ago.  He explained that he recently acquired a very difficult case involving a debtor with a high paying job and he expected a brutal Chapter 13 confirmation process—i.e, he expected the Trustee to demand a significant monthly payment.  Apparently the debtor had bad luck in a business venture and was now deep in SBA loan debt requiring a bankruptcy despite his job that paid a six-figure salary.  As I continued to question my friend about the nature of his client’s debt, it became clear that the majority of his debt came from the business failure.  The good news for my friend and his client is that there would be no brutal Chapter 13 confirmation hearing.  In fact, there would not even be a Chapter 13 case at all.

One of the greatest loopholes in bankruptcy law allows debtors with high income to qualify for the speedy Chapter 7 discharge even though it is obvious that they have the financial ability to repay some or all of their debt.  Generally speaking, if a debtor has the ability to repay some or all of his debt, then Chapter 7 is not allowed and a debtor must commit to repaying a portion of the debt in a 3 to 5 year Chapter 13 payment plan.  However, if a majority of the debt is not consumer debt a person is allowed to file Chapter 7 regardless of their income or ability to repay debt. 

Bankruptcy Code section 707(b) provides the general rule:

“After notice and a hearing, the court, on its own motion or on a motion by the United States trustee, trustee (or bankruptcy administrator, if any), or any party in interest, may dismiss a case filed by an individual debtor under this chapter whose debts are primarily consumer debts, or, with the debtor’s consent, convert such a case to a case under chapter 11 or 13 of this title, if it finds that the granting of relief would be an abuse of the provisions of this chapter.”

Omaha millionaire Ted Baer was allowed to complete a Chapter 7 case despite objections filed by a creditor and a monthly budget that allowed $4,580 for retirement savings, $2,000 of food expenses and $1,500 per month for vehicle payments on monthly income of $20,065.  Why?  Because most of his debts were business related.

In the case of Dr. Steven Lapke, (Case number 07-81140) the Nebraska Bankruptcy court stated the following:

“For purposes of § 707(b), a debtor’s debts are primarily consumer debts if more than half of the dollar amount owed is on consumer debts. In re Coleman, 231 B.R. 760, 761 (Bankr. D. Neb.1999); In re Shelley, 231 B.R. 317, 319 (Bankr. D. Neb. 1999); accord Price v. U.S. Trustee (In rePrice), 353 F.3d 1135, 1139 (9th Cir. 2004); In re Booth, 858 F.2d 1051, 1055 (5th Cir. 1988); In re Beacher, 358 B.R. 917, 920 (Bankr. S.D. Tex. 2007); In re Snyder, 332 B.R. 641, 643 (Bankr.M.D. Fla. 2005); In re Praleikas, 248 B.R. 140, 144 (Bankr. W.D. Mo. 2000). This calculation is to be made as of the date of bankruptcy filing. In re Penny, 297 B.R. 737, 739 (Bankr. C.D. Ill. 2003).”

Debts normally classified as “consumer” debts include credit card debt, medical bills, student loans, home mortgages and auto loans.

Bankruptcy attorneys frequently assume the nonconsumer debt exception only applies to business debts, however it also includes tax debts, personal injury claims and other tort debts.  If credit cards were used primarily to fund business operations, that too may be deemed a nonconsumer business debt.  Some debtors have argued that student loan debts are not consumer debts but have received little success. 

If the majority of debts are not consumer debts, it is important that the bankruptcy schedules reflect this fact.  The list of debts in such a case should specifically state whether each debt is a consumer or nonconsumer debt, and it is helpful to provide the U.S. Trustee with a worksheet that totals each type of debt.