Chapter 13 bankruptcy divides debt into several categories: secured debt, priority unsecured debt, and general unsecured debt. How much you must pay for each type of debt differs. For instance, you will have to pay all of your priority debt in your Chapter 13 bankruptcy plan (examples of priority debts include child support and certain incomes tax debts). You’ll make your secured debt payments (such as a mortgage and car loan) if you intend to keep the property serving as collateral (the house or car).
All debts other than priority and secured obligations are general unsecured debt—and the amount you’ll pay to your general unsecured creditors in Chapter 13 bankruptcy depends on several factors.
(To learn more about the Chapter 13 plan, the difference between secured, unsecured, and priority debts, and how much you must pay on secured and priority claims, see The Chapter 13 Repayment Plan.)
In Chapter 13 bankruptcy, you must devote all of your "disposable income" to repayment of your debts over the life of your Chapter 13 plan. Your disposable income first goes to your secured and priority creditors. Your unsecured creditors share any remaining amount.
Disposable income is what you have left over at the end of every month after you pay your reasonable and necessary living expenses. The court determines your disposable income by reviewing the Chapter 13 means test forms. The forms are similar to the Chapter 7 means test forms used to decide whether or not you qualify for a Chapter 7 bankruptcy.
The "best interest of creditors" test calculates the minimum amount you must pay to your nonpriority unsecured creditors through your Chapter 13 plan. The test ensures that creditors will not be disadvantaged just because you filed for Chapter 13 rather than Chapter 7 bankruptcy. If you can't repay this minimum amount, the court will not confirm your Chapter 13 plan (which means you won’t be able to proceed with your case).
The amount that you must pay unsecured creditors must at least equal the value of your nonexempt property (property that a bankruptcy exemption doesn’t protect). This holds true regardless of whether you file for Chapter 7 or 13 bankruptcy; however, the way creditors get paid will differ depending on the chapter that you file.
As a result, the best interest of creditors test figures out how much your creditors with nonpriority, unsecured claims would have received had you filed for Chapter 7 bankruptcy. You must repay these creditors at least this much in your Chapter 13 bankruptcy.
Example. Say you own a car worth $10,000, and you can only exempt $3,450. The nonexempt value is $6,550. If you had filed Chapter 7, hypothetically the trustee would have sold your car, paid you your exemption, and paid the remaining $6,550 to your general unsecured creditors pro rata. That means that in your Chapter 13 case, your unsecured creditors must receive, as a group, at least $6,550. Each creditor will receive a percentage of that amount, depending on the amount of its claim.
The income of some filers is high enough that they’re required to fully repay all of their creditors in the repayment plan. Other filers have to pay back all of their debt because they own (and keep) a substantial amount of nonexempt property. The repayment plan in either situation is commonly known as a 100% plan.
In Chapter 13 bankruptcy, a zero percent plan is a three- to five-year repayment plan that doesn’t pay anything to nonpriority unsecured debts, such as credit card balances, medical bills, student loans, or personal loans. Instead, a filer can use all available income to catch up on a mortgage or car payment or to pay off priority debts, such as back taxes or domestic support arrearages.
Each bankruptcy chapter offers different benefits to filers. For instance, even though Chapter 7 bankruptcy is an excellent way to quickly wipe out qualifying debts without paying into a repayment plan, Chapter 7 bankruptcy doesn’t have a mechanism that allows a debtor to catch up on secured debt, such as an overdue mortgage or car payment.
So, even though filing a Chapter 7 case might temporarily delay foreclosure or repossession, ultimately, the filer would likely lose the house or car secured by the defaulted loan. To keep the property, a debtor behind on a house or car payment would need to file for Chapter 13 bankruptcy.
Not all courts allow a zero percent plan, but for those that do, a debtor who qualifies for a discharge in a Chapter 7 bankruptcy (or a three-year repayment plan) is in the best position to get a break on a Chapter 13 monthly payment.
Unlike most Chapter 13 filers, a debtor who qualifies for a zero percent plan doesn’t need to pay anything toward nonpriority debts, such as most credit card balances, personal loans, medical bills, and student loans. The best part is that these nonpriority debts will still get wiped out (discharged) in a bankruptcy case (except for student loans and a few other nonpriority debts). (Learn more in Debts That Survive Chapter 13 Bankruptcy.)
A debtor will have to pay any monthly mortgage payment, plus the following amounts spread out over three to five years:
Of course, the debtor will have to be able to pay monthly living expenses, too. And, as with any Chapter 13 case, a debtor must prove that sufficient income exists to cover the plan payment before a bankruptcy court confirms (approve) the plan.
The required repayment plan payment might seem overwhelming; however, there are ways to make it more affordable. For instance, a car balance, arrearages, and priority debt balances can be stretched out over three to five years—thereby lowering the monthly payment amount—if it helps make the plan payment work.
Example. After falling ill, Josh found himself three months behind on both his $1,000 mortgage payment and his $300 car payment. He also wasn’t able to make the $250 payment on $8,000 of credit card debt. Josh wanted to keep his house and car, so even though he qualified for Chapter 7 bankruptcy, he filed a Chapter 13 case and proposed a zero percent five-year plan at $1,083 per month. The plan payment covered his monthly mortgage payment, $3,000 in mortgage arrearages, and his $2,000 car loan balance. His low income allowed him to avoid paying anything on the credit card debt, making it a zero percent plan. Better yet, his payment was substantially less than the $1,550 he typically paid, and at the end of five years, he was caught up on his mortgage payment, had paid off his car in full, and wiped out his credit card debt. (Note that in an actual case, a debtor must pay trustee fees as well.)
(To learn more about this strategy, read How a Chapter 13 Bankruptcy Zero Percent Plan Can Save Your Home and Car.)