Saturday, January 15, 2011

Supreme Court Decision: Not All Consumers can use Car Ownership Deduction

The means test is a test required under the new bankruptcy law to determine a debtor's eligibility to file for bankruptcy under Chapter 7 of the Bankruptcy Code. If your income is greater than the median income for your state of residence and family size then you fail part A of the means test and must refer to part B.

In part B of the means test, you must take into consideration certain expenses as defined by the Bankruptcy Code and IRS relating to allowable housing expenses, utility expenses and other deductions, such as regular charitable donations (up to 15% of your income), school expenses, payments on 401(k)/IRA loans, and health insurance. If you are filing for Chapter 13 Bankruptcy, part B of the means test is also used to determine the amount of money left over in your budget for payment on a Chapter 13 Plan.

In either instance, there are two allowable deductions for owning a car: the "ownership" deduction and the "operating" deduction. If you own a car you can take the operating deduction in which the IRS standard estimates your cost for use of your car. If you owe money on your car then you can take the amount of your loan as an "ownership" deduction as well, and the court also provides an IRS standard estimate for the "ownership" deduction. But what if you don't owe any money on your car, or your lien expense is less than the standard "ownership" deduction?

This question was answered differently by a number of appeals courts in the U.S., and on Tuesday, January 11, 2011, the U.S. Supreme Court resolved the inconsistency by upholding a 9th Circuit decision on this issue. The Supreme Court in Ransom v. Fia Card Services (Judge Kagan's first decision on the high court), decided that a consumer who does not have a lien on their car in a Chapter 13 case cannot use the "ownership" deduction to reduce their payment. Although, not addressed directly by the Court, this decision would also presumably apply to use of this deduction to meet the Chapter 7 Part B Means Test.

The Court rejected the debtor's argument that this application of the law would result in unfair policies favoring people who owed money on their car (i.e. bought newer cars before filing bankruptcy), and based their decision primarily on the Court's interpretation of the use of the word "applicable" in the statute. Judge Scalia in his dissent points out the absurdity of this reading and the confusion it may create. Specifically, this ruling does not clarify whether the "ownership" deduction can be taken in whole when the lien payment is less. Although meeting the standard of being an "applicable" deduction, this result would not really make sense in light of the court's ruling.

Regardless of whether the ruling is completely consistent, it is now the law, and for Chapter 13 consumers that have paid off cars, this means they will be making higher payments to their creditors.

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