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Abuse Determined as of Petition Date in Buffalo Case converted to 13 then back to 7: Karlstrom

Courts are divided as to whether Chapter 13 cases converted to Chapter 7 are subjected to the Chapter 7 'means test' of Bankruptcy Code Section 707(b). However, a Buffalo bankruptcy judge has determined that a case originally filed in Chapter 7, then converted to chapter 13 to avoid an abuse dismissal, then reconverted to chapter 7 due to a change in circumstances, will be considered abusive based on the circumstances at the time of the original filing. In re Karlstrom; Bankruptcy WDNY (Buffalo) #09-12267 (Judge Bucki; decision August 18, 2011).

I should note that whenever higher-income debtors file bankruptcy, they should expect that income and expenses will be reviewed very carefully by the bankruptcy system. In this case, the debtors had income of about $63,000, which, for a family of two in Western New York is above-average income. On my bankruptcy website I review in great detail the legal considerations above-average income debtors need to consider when filing a chapter 7. These cases require particularly careful analysis of household income and expenses. Above-average income debtors should seek the advise of expert and experienced bankruptcy practitioners.

In the Karlstrom case, the debtors filed Chapter 7 May 19, 2009, one month following the dismissal, for abuse, of a previous case. The Office of the US Trustee moved to dismiss the new case, and the debtors avoided an order of dismissal by converting to Chapter 13. The case was reconverted to Chapter 7 in January of 2011, and the US Trustee renewed its abuse motion. The debtors replied that there was a drop in income due to a work-related injury, and that this change in their financial circumstances should be considered in the renewed abuse motion.

The court determined that a case should be dismissed if "the granting of relief" would be abusive. The court concluded that the 'relief' referred to in the statute is the relief obtained when a case is initially filed, not when a discharge of debt is granted; therefore, the circumstances that would be applied to determine if granting relief is abusive would be the circumstances as of the petition date. Accordingly, in this case, the renewed abuse motion would be determined based on the debtors' financial circumstances in May 2009, when they filed the case, not January 2011 when it was reconverted to chapter 7.

Several courts have weighed in on the issue of whether a case originally filed in Chapter 13, then converted to chapter 7, would be subject to the Chapter 7 means test; that is, whether the debtor must file a chapter 7 means test form B22A, showing income during the six months prior to the initial Chapter 13 filing. If so, many converted cases would fail, as debtors who fie chapter 13 must have income that exceeds expenses in order to file a feasible chapter 13 plan. I do not believe that the bankruptcy court in Rochester or Buffalo has previously ruled on this issue. Courts that have required a means test analysis in converted cases include:

In re Willis, 408 B.R. 803 (Bankruptcy W. D. Mo. 2009)
In re Perfetto, 361 B.R. 27 (Bankruptcy D. R.I. 2007)
In re Kellett, 379 B.R. 332 (Bankruptcy D. Or. 2007)
In re Kerr, 2007 WL 2119291 (Bankruptcy W. D. Wash. 2007).

Courts that have gone the other way (no means test form required if chapter 13 case is converted to chapter 7) include:

In re Dudley, 405 B.R. 790 (Bankruptcy W. D. Va. 2009)
In re Guarin, 2009 WL 4500476 (Bankruptcy D. Mass. 2009)
In re Miller, 381 B.R. 736 (Bankruptcy W. D. Ark. 2008)
In re Ryder, 2008 WL 3845246 (Bankruptcy N. D. Cal. 2008)
In re Fox, 370 B.R. 639 (Bankruptcy D. N.J. 2007)
In re Chapman, 431 BR 216 (Bankruptcy D. Minn. 2010.)

The argument in these cases is whether a case originally filed in Chapter 13 was the type of case Congress intended to include in the chapter means test process. While the argument is often technical, a grammatical analysis of poorly-worded statutory phrases, the Chapman case cited above offers a good policy analysis of the problem.

Chapman observes that the means test in chapter 7 is designed to analyze the financial circumstances of the debtor when the case is freshly filed, and conversion to chapter 13 is a desirable option where a debtor can repay debts. But what is the purpose of dredging up the past when a debtor files chapter 13 at the outset, and, for good reason, is unable to proceed?

I am not sure that any of these other cases were considered in the Karlstrom case. My review of the docket does not indicate that any written opposition to the US Trustee's motion to dismissed was filed by the debtor. The US Trustee's motion to dismiss, filed May 2, 2011, only recites the facts of the previous decisions of the court to dismiss the debtors' cases as abusive, and that there was no "justification or explanation" for the reconversion to chapter 7. Neither the motion nor the decision cite any case law for its conclusion.

The Karlstrom debtors, if their current case is dismissed, could probably file a new chapter 7 case, under their current circumstances, and if they can show that the circumstances are materially different from the situation when they filed their two prior cases, they would probably be entitled to continue in chapter 7. But that seems to me to be a big waste of time and money.

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