Can I File for Bankruptcy If I Am Unemployed?

Although the bankruptcy rules don't specifically require you to be employed, your past and present income status can affect your ability to qualify for both Chapter 7 and Chapter 13 bankruptcy in entirely different ways.

For instance, you might not qualify for Chapter 7 bankruptcy if you've recently lost a high-earning position. By contrast, unemployed people won't be eligible for Chapter 13 if the lack of employment income will prevent them from paying into a repayment plan. In this article, you'll learn about the impact of unemployment on Chapter 7 and Chapter 13 bankruptcy.

Employment Status When Filing for Bankruptcy

Chapter 7 and Chapter 13 each offer unique benefits to filers. The first allows filers to cancel debt quickly while the second lets people keep property in exchange for paying into a payment plan.

Because each chapter has different qualification standards, how your unemployment will affect your bankruptcy will depend on some of the following factors:

• how long you've been unemployed
• how much you made at your prior place of employment
• whether you'll start another job soon
• whether you have another source of income, and
• whether you plan to file for Chapter 7 or Chapter 13 bankruptcy.

(Find out about the different chapters in Should I File for Chapter 7 or Chapter 13 Bankruptcy?)

How Chapter 7 Bankruptcy Works

Chapter 7 bankruptcy wipes out qualifying unsecured debts, such as credit cards and medical bills. It works well for low-income filers who have little or no assets.

Debtors don't lose everything in this chapter. They can keep the property they need to maintain a household and job, called exempt property. Nonexempt property that you can't protect with an exemption gets sold and the sales proceeds are distributed to creditors.

In many cases, creditors don't receive anything because the debtors don't have any nonexempt property to sell—but that's not always the case. The average Chapter 7 case takes approximately three to four months to complete.

Qualifying for Chapter 7 Bankruptcy

Not everyone qualifies for a Chapter 7 debt discharge—the order that wipes out debt. However, being unemployed usually makes the bankruptcy process easier (but not always—more below).

A debtor must pass an income-qualifying test called the means test. The means test compares your household income against your state's median income for a similar household. It's a two-part test, but each part isn't always required. Here's what the test entails.

• Comparing your total income to the state median income. You'll add together the gross income earned by all family members during the full six months immediately preceding your filing date. If the total amount is below the median, you'll qualify and won't need to proceed to step two. If it's above the median, you'll go to the next step.
• Subtracting allowable expenses from your gross income. This step determines your disposable income by subtracting certain costs from your gross income. For instance, you'll deduct the amount you actually spend on some things, such as income taxes, mandatory income deductions, and childcare. You'll be allowed to deduct a certain amount for other expenses, such as food, utilities, and housing costs. If, after completing the calculations, you don't have sufficient disposable income to make a meaningful monthly payment to your creditors, you'll pass the means test.

You Might Not Qualify If You're Newly Unemployed

Passing the means test can be challenging if you've recently lost a high-paying job—at least temporarily. Even if you aren't earning anything currently, you'll still have to report the amount you received during the prior six months on the means test, and if the figure is high enough, you'll fail.

The solution? Wait a few months. If you remain unemployed, your six-month average income will drop quickly. Keep in mind, however, that you'll have to report any unemployment earnings you receive.

(Learn more by reading The Bankruptcy Means Test: Are You Eligible for Chapter 7 Bankruptcy?)

You Might Not Qualify If You Get a New Job

You could run into a problem if you find a job during your Chapter 7 case because the court looks at more than just the means test. It will also consider how much you have left over after you pay your bills each month. The court does this by deducting the reported monthly expenses on Schedule J: Your Expenses from your actual monthly income you report on Schedule I: Your Income. (Learn more in How to Fill Out Bankruptcy Forms.)

So, if you land a new job with a hefty salary and your expenses are low, you could end up with a substantial amount of discretionary income each month. In that case, the bankruptcy trustee assigned to your matter might recommend that the court convert your Chapter 7 to a Chapter 13.

How Chapter 13 Bankruptcy Works

If you are filing a Chapter 13 and you're unemployed, you'll likely have a difficult time getting your case approved (confirmed). Why? Chapter 13 allows a debtor to repay creditors over time and it takes income to do so.

Here's how it works.

In a Chapter 13 bankruptcy, a debtor pays back all or a portion of debts through a three- to five-year repayment plan—a benefit that isn't available in Chapter 7 bankruptcy. For instance, a debtor can catch up on mortgage arrears, get rid of a second mortgage, cram down car loans, or pay back nondischargeable debts such as domestic support or certain taxes through the repayment plan. Because it's set up for monthly plan payments, Chapter 13 works well for debtors with regular income.

(You'll learn more in Chapter 13 Bankruptcy.)

You'll Need Some Type of Income to Qualify for Chapter 13

You can still file for Chapter 13 bankruptcy if you're unemployed. However, if you don't have employment income, you'll have to show that you have some kind of income from a verifiable source and that you can afford your plan. Otherwise, the court will dismiss your case.

For instance, an unemployed debtor might have business or rental income that can be used to fund a plan. You can even use unemployment benefits, Social Security funds, or retirement benefits. As long as you can show that you have enough income coming in from some source, then your case will likely get approved by the court.