In re Flores: Ninth Circuit Overturns Kagenveama

On August 29, 2013, the Ninth Circuit issued an en banc opinion in the case of In re Flores, holding that above-median income Chapter 13 debtors only qualify for five-year plans, even if the Means Test shows a negative disposable income. This decision overturns In re Kagenveama (541 F.3d 868, 9th Cir., 2008), which had held that three-year plans were permissible in such cases.

When you file a Chapter 13 bankruptcy case, one of the documents you must file is the “Chapter 13 Means Test.” You add all the money you’ve earned over the past six complete months and divide by six. If that number is below the median household income in your state for a household of your size, you are a “below-median debtor,” and you qualify for a three-year plan. (A three-year plan may not be in your best interest, but at least you qualify for one.)

If the six-month average is above your state’s median for your household size, things get more complicated. You deduct standard amounts that the government thinks people nationwide spend on certain necessities. You deduct state standard amounts for other necessities. You deduct amounts that are specific to your situation, such as taxes, health insurance, payments on priority and secured debts, and so forth.

When you get to the end of the analysis, after all the deductions are accounted for, the resulting number is your Disposable Monthly Income (DMI). That number is the minimum amount that, based on this analysis, your unsecured creditors must receive per month through your plan. (There are other factors that also affect how much you pay your unsecured creditors, such as your assets and your anticipated future income.)

Under Kagenveama, if that number was negative (i.e. your allowed expenses exceeded your six-month average income), you could qualify for a three-year plan, despite having above-median income.

But in 2010, the U.S. Supreme Court decided the case of Hamilton v Lanning (130 S. Ct. 2464, 2010), which rejected a “mechanical approach“ to payments to unsecured creditors; bankruptcy courts were required to take into consideration “known or virtually certain changes” in a debtor’s income. (Lanning dealt with a debtor who, in the six-month period, had received a bonus she would never receive again, but such a “known or virtually certain change” could also be a layoff or a promotion.)

In Flores, the Court held that Kagenveama was “clearly irreconcilable” with the rationale of Lanning. True, an above-median debtor with a negative DMI would probably be paying nearly nothing to her unsecured creditors. However, with the forward-looking, non-mechanical approach dictated by Lanning, such a debtor has to be kept in her plan for five years due to the possibility that she might experience an increase in income, which would enable her to pay more.

Flores isn’t a great decision for debtors, but Lanning was, and the result in Flores is necessary to maintain logical consistency. Moreover, I think its impact will be somewhat small since (in my experience) relatively few above-median debtors with negative DMI would actually benefit from a shorter plan.  And what’s more, if a debtor is paying 100% to her unsecured creditors, a less than 60-month plan will still be available.

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