Consumer and non-consumer/business debt in bankruptcy

Here at Shenwick & Associates, we've written extensively about the "means test," which is a complex series of calculations based on household size and income to determine if a debtor is eligible to file for Chapter 7 bankruptcy. However, the means test only applies to individuals whose debts are primarily "consumer debts," as opposed to business debts, pursuant to § 707 of the Bankruptcy Code. Congress did not define the word "primarily," but most courts have defined the word to mean more than half. If more than 50% of the debtor's debts are non-consumer debts or business debts, the debtor is automatically eligible to file for Chapter 7 bankruptcy without doing the means test, and the presumption of abuse does not apply.

What are consumer debts? Section 101(8) of the Bankruptcy Code defines a consumer debt as "debt incurred by an individual primarily for a personal, family, or household purpose." Many bankruptcy courts have developed a "profit motive" test. If the debt was incurred with an eye towards making a profit, then the debt should be classified as business debt. Accordingly, a mortgage on an individual's home would be considered consumer debt; however, if a vacation home were purchased for investment purposes and rented out, then the mortgage would qualify as business debt. If an individual uses credit cards for consumer purchases, then those debts are consumer debts; however, if an individual used the credit card for business purposes, then in all likelihood that debt would be deemed business debt. If an individual guaranteed a debt for a business obligation, that personal guaranty would be deemed business debt, as would the investment losses.

According to the Office of the United States Trustee's position on legal issues arising under the means test regarding a declaration of non–consumer debts:

  • Less than 50% of total scheduled debt was incurred for personal, household or family purposes.
  • Purpose of debt is judged at the time the debt was incurred. 
  • Home mortgages are typically consumer debt.
  • Most tax debts are not typically consumer debt. 

However, with respect to tax debts, a number of bankruptcy courts outside the Second Circuit have held that those debts are business debts. See In re Brashers, 216 B.R. 59 (Bankr. N.D. Okla. 1998), which holds that the debtor's income tax obligations do not constitute consumer debt; see alsoInternal Revenue Service v. Westberry (In re Westberry), 215 F.3d 589 (6th Cir. 2000), which also holds that taxes are not consumer debt. Many subsequent courts examining this issue have followed the Westberry analysis.

For all of your questions regarding debts, whether they be credit card, medical, consumer, business, taxes, secured or unsecured, please contact Jim Shenwick.