Northern California Bankruptcy Lawyer

On The Bankruptcy Soapbox

The Soap Box

Bankruptcy Drives Credit Score Surprise

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credit score increaseBefore bankruptcy, a miserable credit score was no surprise.  My client reported a 498 credit score before he filed.

What was surprising is that, three month after he filed bankruptcy, his score was 614!

That’s a 116 point increase in his score in three months. 

That’s while his bankruptcy case is still active, and long before he gets a Chapter 13 discharge.

So let’s hear no more about bankruptcy always trashing your credit score.

Setting worries about future credit issue aside allows you to  focus on the health of your balance sheet.  And enjoy the peace that comes with reduced debts.

What credit scores measure

Credit reports and credit scores explained

Credit scores are supposed to measure the likelihood that a borrower will repay future credit. Makes sense that lenders would want to measure that.

But credit scores are based on information found in credit reports.  And credit reports are notoriously inaccurate. Twenty five percent of credit reports contain material errors, according to government studies.

Isn’t it ironic that the oh-so-precise number in your credit score is based on bad information?  As we say in number-obsessed Silicon Valley:  garbage in, garbage out.

Misuse of credit scores

As if inaccuracy isn’t bad enough, credit scores are increasingly used for issues far removed from the extension of credit.  Auto insurance rates, utility service,  employers and even immigration decisions are influenced by credit scores.

So questionable information invades your life far beyond issues of consumer credit.

And, even worse, in my view, is the commercial exploitation for profit of consumer’s focus on credit scoring.

Credit anxiety is profitable

The widening use of credit scores outside of finance created a entire industry of supplying credit scores, weekly or monthly, to consumers.

Originally credit scores were used by lenders, internally.  But these days, credit card companies, personal finance sites, and even my credit union, try to sell you access to your credit score.

And by the time they’ve convinced the public that their credit score is as vital a measure as blood pressure or body-mass index, lenders and debt collectors can use that belief to demonize bankruptcy.

But, as my client’s experience shows, it just isn’t so.  (And a national study says credit scores trend immediately upward after bankruptcy.)

More

Credit reports heal

The most compelling reason to file bankruptcy

Life after bankruptcy

New California Bankruptcy Exemptions

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california exemptions

Californians filing bankruptcy got an increase in the exemptions that protect their assets on April 1, 2019.

Every three years, the dollar amounts are adjusted for changes in the cost of living.

Californians don’t get to protect possessions under the Bankruptcy Code’s exemptions.  Instead, a California resident who files bankruptcy must use California exemption law. That’s the case even though bankruptcy is governed by federal law.

Don’t shed a tear for the bankruptcy exemptions:  the state exemptions are arguably better.

You have a choice of two exemption systems.  One choice is the standard California state law exemptions found in Code of Civil Procedure 704. These are the exemptions  applicable in state law collections as well as bankruptcy.

The second choice, appealing to those without significant equity in their home, is the California bankruptcy exemptions found at CCP 703.140(b).

What do debtors get to keep

Here’s the new  list of increasedCalifornia bankruptcy exemptions:

Principal residence$29,275
Vehicles$5,860
Household goods per item$725
Jewelry$1,750
Grubstake$1,550
Business assets$8,725
Loan value of life insurance$15,650
Personal injury claims$29,275
Other misc. exemptions703.140

Californians, because they are required to choose one state exemption system or the other rather than the federal bankruptcy exemptions, can also use the federal list of non bankruptcy exemptions.

Bankruptcy wild card exemption

The trickiest part of the California bankruptcy exemptions is what’s called the “wild card”. (It’s also called the “grubstake”.)    When 703.140(b)(1) and (b)(5) are added together, the debtor can protect $30,825 of equity in any asset or combination of assets.  That’s the wild card.wild card exemption

The wild card amount can be parceled out to protect some cash in a bank account;  some equity in a vehicle that exceeds the car exemption; stock; a  business or whatever else you have.

The point is that the exemption isn’t restricted to a certain kind of property. It can be used to protect anything.

How exemptions work

Exemptions protect the specified amount of equity in an asset.

If it’s a house, the exemption protects a certain amount of value in the property that exceeds the liens on the property.  It doesn’t matter if the value of the house is $200,000 or $1,200,000.  The exemption protects the specified amount of equity in the house.

If there is equity in a house over and above the total of liens and the homestead, a Chapter 7 trustee can sell the house and give the debtor the homestead exemption in cash.

That doesn’t happen very often.  Because, there has to be enough equity to pay the exemption, the costs of sale, any capital gains taxes and the trustee’s commission before the sale benefits creditors.

More about secret exemptions

If neither California exemption system adequately protects your  assets, consider Chapter 13.

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Exemptions in Chapter 13

Debts of spouses

Wild card:

Image courtesy of Flickr and k2d2vaca.

How Chapter 13 Saves You Money

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chapter 13

Why should I file Chapter 13  if I have to pay all my creditors in full?

Because, I said, even a 100% repayment plan under Chapter 13 saves you money.

This client had a fistful of equity in a home;  that equity made a Chapter 13 the required choice of chapter for the man.

But he struggled with finding the benefit of using Chapter 13 to manage his debt.

I never would have filed bankruptcy if I realized I had to pay everyone 100%.

So I fired up Excel and crunched numbers to quantify the answer to “why file“.  In this client’s case, the answer was $20,000. 

When asset value drives Chapter 13 payment

Chapter 13 saved $20,000 over 5 years when compared to paying all the creditors what they were owed outside of bankruptcy.

It’s all about the interest rate

At base, the $20,000 bankruptcy savings for this client flowed from the difference between the interest rate in bankruptcy compared to the interest rates on taxes and credit cards in the non-bankruptcy world.

When creditors are entitled to get interest on their claims in bankruptcy, the interest rate that applies is the federal judgment rate.  When I did this exercise, the federal interest rate was 2.35%.  Find today’s judgment rate.

By contrast, I assumed credit card interest rate of 23% and the IRS interest rate to be 6%.

13 crushes credit card debt

Paying the approximately $39,000 in credit cards in 5 years (the same duration as the Chapter 13 plan)  according to contract terms  cost $27,000 in interest!  The total cost to pay off those cards was roughly $69,000.

The cost to pay off the same $39,000 in cards in Chapter 13 was $2250 in interest and $4121 in Chapter 13 trustee commission (assuming the maximum allowed rate of 10% of dollars the trustee receives.)

So, which would you rather pay to keep your house and get rid of your credit cards:  $27,000 or $6365?

Point: Chapter 13

Taxes score a draw

The savings on paying off taxes through Chapter 13 was less dramatic.

We were looking at $46,000 in taxes, some priority, some older than that.  To pay them off outside of bankruptcy would run up about $7300 in interest.

Paying those same taxes in Chapter 13 incurred $2550 in interest. But when you added the trustee’s commission to the bankruptcy interest, the transaction costs essentially equaled the cost of paying the taxes outside of bankruptcy.

Point: neither side

Snoozing creditors lose

The unpredictable further savings may lie in creditor ineptitude.  That’s because only creditors who file a timely proof of claim in a bankruptcy case share in the payments.

In my experience, it’s the rare case when every creditor follows through and files a claim.

So my client will get a discharge of all his liability to creditors who don’t file claims, without paying them a cent.

Point: too soon to tell

Non economic benefits

Here, we looked only at the dollars and cents differences between paying everyone in bankruptcy or outside of bankruptcy.

Not visible in a spreadsheet is the reduced stress that Chapter 13 brings, by corralling all creditors in a single proceeding and having the law to back you up on the schedule on which they are paid.

Stress kills

Chapter 13 keeps you in control of your assets, protected by law, while you pay off what you owe.

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How Chapter 13 can save your house

Credit Scores Trend Upward After Bankruptcy

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After bankruptcy, credit scores go steadily up, says a 17 year study released by  the Consumer Financial Protection Bureau.

Got that?  Go UP.  Every year.

Importantly,  credit scores start improving the same year that the bankruptcy is filed.

Think on that for a moment.

How collectors stoke fears about bankruptcy

Creditors and their shills shout that bankruptcy trashes your credit score;  the data show just the opposite.  There’s no dip post filing, but instead an immediate uptick.

This is how the CFPB puts it:

Median credit scores increase steadily from year-to-year after consumers file a bankruptcy petition.

Median scores for Chapter 7 filers recover more quickly than those for Chapter 13 filers possibly due to the much quicker and more likely discharge of Chapter 7 filings.  http://bit.ly/33kgOaf

Bankruptcy improves your balance sheet

Let’s be clear about what is important in your financial health. Your credit score is far less important in the big picture than your balance sheet.

Credit scores are a side show

A balance sheet looks at what you own and what you owe.  That’s the information that appears on a loan application.

Ditch the debt in bankruptcy and there’s less debt to weigh down your net worth.

Goose your credit score

You can take actions that may increase the rate of improvement.

Remember that credit scores are based on credit reports.  And credit reports are notoriously inaccurate.

A government study in 2012 found that between 20 and 25% of credit reports had material errors.

Rest assured that the rate of errors on your credit report does not go down when you file bankruptcy.  That’s why you should pull your credit report a few months after you get your discharge, and look for errors.

Attorney Mike Cardoza lays out how to do that in How To Spot Credit Report Errors After Your Bankruptcy & Fix Them.

Is bankruptcy the right choice

Just because bankruptcy may improve your credit score is not a reason to file bankruptcy.  It’s just an issue to take off list of reasons not to file.

Lots of different facts influence whether bankruptcy is right, and whether the time is now.

I look at those factors in What Kenny Rogers Teaches Us About Getting Out Of Debt.

 

 

What’s Wrong With Most Get-Out-Of-Debt Advice

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consider bankruptcy

Get-out-of-debt gurus too often miss the essential truth known to every carpenter.

Measure twice, cut once

Too many trite lists of tips to help you get out of debt miss the vital first step.

Before you choose a get-out-of-debt path, assess your situation.

When you put bankruptcy at the bottom of the list, to be chosen only after everything else has failed, you may spend a lot of time  hopelessly floundering. A lot of stress. A lot of cash spent without achieving your goal.

Instead

Measure the size of your problem.

Inventory the tools you have available.

Know how long you have to get the job done.

There’s little point in attacking substantial tax debt by cutting out Starbucks.  Nor is bankruptcy the right tool for a couple thousand dollars in credit card debt.

There’s no one-size-fits-all when it comes to debt.  Whip out your financial tape measure, and check the factors that make a difference here.

 

 

When Can I File Bankruptcy Again

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filing bankruptcy againRemember the old high school cheer:  two, four, six, eight, who do we appreciate?

Turns out, that’s not just a cheer, it’s shorthand for the rule on when you can file bankruptcy again.

And it points out that when you can file again depends on what kind of bankruptcy you filed last time.

Here’s how it works.

If prior case was Chapter 13

You are eligible to file another Chapter 13 case TWO years from filing an earlier Chapter 13. [ This had to be a drafting error since nearly all Chapter 13’s run at least three years.  But I’ll take it.]

If you now want to file Chapter 7, you must wait SIX years.

If prior case was Chapter 7

You can file a Chapter 13 case FOUR years after an earlier Chapter 7.

But if you have your eye on Chapter 7, the wait is a whopping EIGHT years.

Put another way

Starting with the kind of case you filed before, as we did above,  is one way to look at eligibility.

But here’s how it looks if you know what kind of case suits your current situation best.

  • To file Chapter 13, your prior case must be at least TWO years ago
  • To file Chapter 13 when the earlier case was Chapter 7, the wait is FOUR years
  • To file Chapter 7 with an old Chapter 13 filing, the wait is SIX years
  • To file Chapter 7 following an earlier Chapter 7, EIGHT years must elapse.

Intervals between discharges

We’ve talked about the time between cases, and really glossed over the real measurement.

The statutory intervals really measure the time between cases in which a discharge is available.  The two, four, six, eight rule limits when you can file a new case in which you can get a discharge of your dischargeable debts.

When you don’t NEED a discharge

There are time when the discharge is less important than the automatic stay.  Most frequently, these are cases of “Chapter 20“, a Chapter 7 followed immediately by a Chapter 13.

The debtor doesn’t get a discharge  in the 13 following the 7, but they do get a stay of collection action and a court-enforced repayment plan.

Chapter 20 works well when the debts that survived the Chapter 7 aren’t dischargeable anyway.  These are times when the debtor really just needs time and space to pay off the nondischargeable debt that is left from the Chapter 7.

The Bankruptcy Code limits the frequency of getting a discharge, not the filing and completion of the bankruptcy case.

Counting between bankruptcy cases

It shouldn’t be complicated to count to eight, but it CAN be confusing.  Where do you start counting?

Count from the filing of the first case to the filing of the second case.

And count only cases in which you got a discharge.  If your earlier case was dismissed or concluded without a discharge, it doesn’t count.

So, let’s have a cheer for bankruptcy relief.

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When bankruptcy’s automatic stay doesn’t apply

Bankruptcy Discharge Slays IRS Form 1099

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In a duel between a Form 1099 and a bankruptcy discharge, bankruptcy wins every time.

The prize?  no tax on debt discharged in bankruptcy.

So, if you’ve already gotten your discharge, the creditor’s 1099, with your social security number on it, is no threat.

But you do need to file another form to secure the prize.

Bankruptcy is exception to tax

Normally, when an obligation is forgiven, the tax code treats the amount of forgiveness as if it were income.  And income is exposed to tax.

Insolvency is another exception to tax on forgiven debt

But forgiveness in bankruptcy in the first exception to the rule.

Debt forgiven in bankruptcy is not treated as income.

Creditor is clueless

So, if bankruptcy is outside the IRS rule, why are you getting a form 1099?

Because there’s another rule, requiring creditors to report to the IRS, just the way your employer is required to send the IRS your W-2.

And seemingly, the creditor can’t figure out that the reason its claim is worthless is because of the bankruptcy discharge.  So it’s easier for the creditor to just send out Form 1099, and make it your problem.

Fixing the 1099 problem

The solution is simple:  file IRS form 982.

Title 11 is the part of the United States Code on bankruptcy.  Cases are filed under different chapters of that title

Form 982 is your rebuttal to the report that you have taxable income because your debt was forgiven.  Check the very first box on the form claiming the bankruptcy exception.

This debt is excluded from income because of  Discharge of indebtedness in a title 11 case 

The IRS provides a set of instructions for filing  your “get out of tax” form.  Form  982 Instructions.

Other tax consequences of discharge

If you have real property, you may have to reduce your basis in assets by the amount of debt discharged in your bankruptcy.

But thankfully, there is an exception to this rule too:  no reduction in basis is required with respect to your principal residence claimed exempt in your bankruptcy case.  IRC 1017(c).

Tax action plan

So there you have the skinny on form 1099 and your bankruptcy discharge.

Bankruptcy has other tax implications:

Taxes dischargeable in bankruptcy

Unfiled tax years are never dischargeable

Chapter 13 gets an interest-free tax repayment plan

Your accountant needs to know about your bankruptcy

What to do with a flat-wrong 1099

 

California Homestead Works In Other States, Too

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California homestead law drives bankruptcy exemptions even for those who no longer live in California.

Strange, when the homestead statute was state law originally written for Californians.

Two things have expanded its reach:  bankruptcy “reform” and the concept of extraterritoriality.

The third driver, of course, is mobility:  we seem much more likely these days to have moved between states.

I was reminded of the long reach of the homestead last week by a call from a couple in Colorado.

They used to live here,  were filing bankruptcy in Colorado, and wondered if they could use the California homestead to protect their Colorado home.

The answer, on their facts, is YES.

So here’s how that works.

California exemptions for former residents

The 2005 amendments to bankruptcy law tried to limit debtors from moving to a state with more generous exemptions before filing bankruptcy.

Several states, most notably Texas and Florida, have an unlimited exemption for the value of your home. Shack or Taj Mahal, if you live there, it’s protected from creditors.

So the Congressional “fix” was to say that if you hadn’t lived for two years in the state where you filed bankruptcy,  you must use the exemptions from the state in which you lived two years ago.  (It has a few more wrinkles, but broadly, that’s the new law.)

The folks on the phone were California residents two years ago.  They “must” use California exemptions to protect their home in Colorado, where they will file.

Instead of the $75,000 homestead in Colorado, they can claim the $100,000 exemption provided in California law.

Neat.

Homestead beyond California

Extraterritorial is a long word for the idea that the state law in question applies to property outside the territory of the state.

The concept gained importance with the 2005 changes to bankruptcy law.  What if the state you lived in two years ago doesn’t allow extraterritoriality?

Some states hold their exemptions have extraterritorial effect;  other deny extraterritoriality.

North Carolina, for example, limits use of its state exemptions to residents of North Carolina.  See the lawyerly piece by my friend Billy Brewer.

By contrast, California’s exemption laws are available for property  outside the state.  The 9th Circuit case of Arrol, decided long before bankruptcy “reform”, allowed the debtor who had just moved back to Minnesota to claim a homestead the Michigan house in which he lived in a bankruptcy filed in California.

More on where you file and what you claim exempt

Bankruptcy law required that he file in California, having just moved back to Michigan less than six months ago.  The appeals court said that California law, where his case was filed, applied to the home he was living in when he filed, even if it was outside the state of California.

California allowed extraterritorial application of its exemptions.

If Arrol had moved from North Carolina to California, he couldn’t use North Carolina exemptions because they don’t apply to non residents.  The laws of North Carolina aren’t extraterritorial.

In that case, the debtor can use the federal bankruptcy exemptions if the exemptions of the required state aren’t available.

Home truths

The moral of this piece is bankruptcy can be complicated for the well-traveled debtor.

Choose an experienced bankruptcy lawyer; share the tale of your travels; and explore your exemption options.

More

California homestead is a superpower

A homestead isn’t what you think

Secret bankruptcy exemptions

 

 

Skip Bankruptcy’s Means Test

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skip means test

The couple was despondent when another bankruptcy attorney told them that, despite $100,000 in old taxes, they couldn’t file Chapter 7.

This fine fellow told them that the means test showed they had $3000 of disposable income per month.  A Chapter 7 would be an abuse of  bankruptcy under the law.

Only Chapter 13 was possible, he said, and the monthly payment would be $3000.  That didn’t seem like any kind of relief from debts.

Only he never apparently considered the gating question:  were their debts were “primarily consumer debts”.

He forgot the gotcha baked into the means test:  it only applies to ***consumers.***

Only consumers have to prove they are worthy of the Chapter 7 discharge.

Folks with primarily business debts or, taxes aren’t subject to the means test.

So, lots of disposable income is not a bar to Chapter 7 when your debts are primarily taxes.

Who takes the means test

So, just why are some above median income families not subject to the means test?

Bankruptcy Code § 707 allows a judge to dismiss a Chapter 7 case  filed by an individual debtor under this chapter whose debts are primarily consumer debts …. if it finds that the granting of relief would be an abuse of the provisions of this chapter.

The means test is the tool for determining whether the debtor is (supposedly) able to pay their debts.

But,  the means test only applies to debtors whose debts are “primarily consumer debts”.

So, we need to know…

What is consumer debt

The Bankruptcy Code defines consumer debt:

 The term “consumer debt” means debt incurred by an individual primarily for a personal, family, or household purpose. § 101(8)

So, the gating question is:  why was the debt “incurred?”

Tort damages aren’t consumer debts either

Obviously, business debt was not incurred for a personal purpose.

Further, taxes are not incurred by choice, say the cases;  taxes are imposed by government.  And therefor, not a consumer debt.

And that’s the rule, even when the taxes are on personal, household income, or property taxes on the family home.

So, if the total of taxes (and other, non-consumer debt) is greater than the balance of the other debt a person owes, their debt is not “primarily” consumer debt.

And the means test ONLY applies to debtors whose debts are primarily consumer debts.

Skip the means test

The couple who were told that they couldn’t file Chapter 7 because of their generous income, in fact, can file Chapter 7 because their debt is overwhelmingly back taxes.

It doesn’t matter that most of their taxes are so old that the tax is dischargeable.

If it’s tax, it isn’t consumer debt.  And they don’t have to take the test.

More

Cheat sheet to pass means test

Discharging taxes

 

Resolve To Thrive In The New Year

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May I suggest a 2020 New Year’s resolution?  It doesn’t involve diets or workouts or commitments to huge personal transformation.

Take a hard look at your financial situation.

How much of your available income goes to paying existing credit card balances?

What expenses for health care, repair, or just household maintenance are you putting off?

What big dollar items are ahead?

What have you saved for retirement?

Consider whether a fresh financial start makes sense.

Just getting by

A life of minimum payments, minuscule bank accounts, and no retirement savings is a life fraught with financial danger.  One illness or even a short stretch of unemployment can spell disaster.

Too often, my clients try to pretend that all is well if they can make the minimum payments on credit cards.  They juggle no-interest offers to move money from card to card.

But debt remains and savings are postponed.

Paying off debt versus paying for old age

Take a look at a little exercise that contrasted paying off a modest credit card debt by making minimum payments with devoting the same about of money to retirement savings.

The results are mind boggling.  Paying off $20,000 in credit card debt takes 37.5 years.  Put the same money into an IRA for the same period and you have almost $316,000.

You can count on having less income in your old age than while you’re working. Take a look at your annual statement from Social Security and calculate how you are going to live on that amount.

The bankruptcy alternative

The secret bankruptcy alternative

Clients walk into my office hoping that I have a magic wand, The Alternative to Bankruptcy, that I can wave and allow them to solve the debt problem without bankruptcy. For most, there is no such secret, unknown cure to debt.

A university study done about 20 years ago found that one in 7 American families would be better off if they filed bankruptcy.  At the time, about one in 17 families actually filed. My experiences over 40 years of practicing bankruptcy law suggest that the finding remains true today.

Fear or pride keeps far too many from the rational solution for a difficult situation.

Resolve to take a hard look at your long term financial health.  It may be time to swallow your pride, file bankruptcy, and devote the energy now spent on managing debt to saving for the future and enjoying the present.

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Is bankruptcy the right choice for you?

Pick the right bankruptcy chapter

How to interview a bankruptcy lawyer

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Suite 403
Redwood City, CA 94063
Phone: (650) 694-4700

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