The scope of this article is to provide a basic understanding of the Chapter 13. It does not attempt to encompass all aspects of Chapter 13. A Chapter 13 can resolve IRS and State problems, while dealing with other creditors, secured and unsecured, and providing protection from the Court.

When the petition is filed in Federal court, all creditors including the IRS must stop all collection activity and release wage garnishments and bank levies. Creditors are precluded from foreclosing on real estate, obtaining possession of property, or commencing or continuing any proceedings against the debtors. Under Chapter 13 a Petitioner enters into a "plan" approved by the Court to be administered by a Trustee. The "plan" provides for payment of tax and nontax obligations over a period of three to five years. Once the Petition and Plan are filed, all interest and penalties cease as long as the Petitioner completes the "plan" as approved by the Court (in less than five years). If the Petitioner does not complete the "plan", the IRS can assess retroactively the interest and penalties from the date of filing the Petition and once again begin collection activity.

In a Chapter 13, all creditor claims are put into one of three classes: Secured, priority, or unsecured.

Secured Claims are held by creditors who hold a lien on collateral, such as a car or furniture, to secure payment of their loan. Even the IRS can be secured if they have recorded a lien. Secured claims get paid 100% on a dollar plus 10% interest on an amount equal to the fair value of equity in the collateral. If the creditor is undersecured (i.e., their claim exceeds the fair value of the collateral), part of their claim is paid as unsecured.

Priority Claims are usually taxes where: (1) the returns were due less than three years ago; (2) the returns were filed less than two years ago; or (3) the taxes were assessed less than 240 days ago. Trust fund taxes are also priority. Priority Creditors are paid dollar for dollar under the "plan".

Unsecured Claims are those claims that do not qualify as Secured or Priority claims (taxes included). They are paid only the amount which the Petitioner can afford to pay within the 3-5 year "plan" period. Some plans pay as little as 0% to unsecured creditors (but in no case can the "plan" pay less than would be paid under a Chapter 7 liquidation).

Who can file? Individuals (and their spouses) who have "regular" income are eligible. Sole proprietors are also eligible and can continue their business without direct court supervision.

How much is paid to the Trustee? We determine the amount to be paid to the trustee by taking the Petitioner's gross monthly income and deducting the standard withholdings (i.e., Federal tax, FICA, state tax). This amount is known as "take home pay". Then all necessary and reasonable living expenses are deducted (i.e., rent and/or mortgage payments, gas, electric, telephone, food, publications, child care, entertainment, automobile payments, etc.) The balance after deducting living expenses from the take home pay is called disposable income. The disposable income is paid monthly to the Chapter 13 trustee who pays creditors according to the "plan". If the projected payments are sufficient to complete the "plan" within the 3-5 year period, the court will probably approve it. If you do not have sufficient disposable income to pay priority and secured creditors within a 3-5 year period, the Court will reject the "plan" and refuse to give protection.

There are limits to a Chapter 13. The amount of unsecured and secured debts allowed under the "plan" are limited to approximately $250,000 and $750,000 respectively. The filing of the Petition does not stay fraud or criminal investigation. As stated above, if the "plan" is not completed, the effect can be voided. However, under most circumstances, a Chapter 13 "plan" provides a method of repaying certain creditors on the terms of the Petitioner, not on the terms of the creditor.

By Gary A. Quackenbush

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