Bankruptcy courts are an arena where you can see the intersection of the aging of our population and a failure to save sufficiently for retirement. Even if retirement-age individuals want to continue working to supplement their income, jobs can be hard to come by. We see an increase in older clients who have done their best to reduce expenses and increase income, but who still can’t make ends meet. And while social security retirement income can help, clients often wonder how it factors into a potential bankruptcy. While each situation is unique, the general trend is to exclude social security income from consideration during a bankruptcy case.
The impact of social security income may arise in Chapter 7 cases when it would allow an individual to make partial payments to creditors after paying regular living expenses. Congress created a “Means Test” ten years ago to fight abuse of the bankruptcy process by limiting the ability of consumer debtors to file Chapter 7 when they could pay creditors in a Chapter 13 case. However, Congress specifically excluded social security income from consideration under the Means Test. But bankruptcy law also permits parties to dismiss a Chapter 7 case if it is an abuse when considering the “totality of the circumstances.” Some courts have ruled that they can consider social security benefits as part of the totality of the circumstances, although most have ruled they should not be considered.
A bankruptcy judge in Virginia recently decided that the court should not consider social security benefits when deciding if an individual was abusing the Chapter 7 process. The case is In re Moriarty, 530 B.R. 637 (Bankr. W.D. Va. 2015). The judge relied in part on a section of the social security law which specifically says that social security payments can’t be garnished or “subject … to the operation of any bankruptcy or insolvency law.” The court reasoned that if it included social security income as part of the totality of the circumstances and decided that a debtor was abusing Chapter 7, it would effectively force a debtor to convert their case to Chapter 13 and use their social security to pay creditors. The court decided that would violate the social security laws.
What about a Chapter 13 case where debtors voluntarily repay creditors over time? Can an individual be forced to use their social security income for this purpose? No, according to virtually all courts, although you can voluntarily use social security income to make Chapter 13 plan payments. The Sixth Circuit Court of Appeals, which includes Kentucky, Ohio, Michigan and Tennessee decided this over four years ago. Despite this ruling, parties still object to Chapter 13 plans which exclude social security income, claiming that leaving it out fails the “good faith” test for approval of plans. Again, most courts rule that because the bankruptcy definition of income excludes social security benefits, excluding them from a Chapter 13 plan payment is not bad faith, and individuals can’t be forced to use their social security income to repay creditors in bankruptcy, any more than a creditor could take social security payments outside of bankruptcy.
If you are experiencing financial distress and receive social security income, it’s important to know your rights. We can help you evaluate your situation and discuss your options.