Chapter 13 bankruptcy: The Best Interest Test
In order to be confirmed, a Chapter 13 repayment plan must meet the Best Interest Test.
The Best Interest Test is found in Section 1325(a)(4) of the bankruptcy code. It requires that your unsecured creditors receive at least as much under the Chapter 13 repayment plan as they would have under a Chapter 7 liquidation. Essentially, the goal is to make sure that your creditors are no worse off under Chapter 13 bankruptcy than they would have been under a Chapter 7 bankruptcy.
To understand how the Best Interest Test works, you must first understand how a Chapter 7 liquidation works. In a Chapter 7 bankruptcy, your nonexempt property is liquidated and sold. The proceeds from the sale are used to pay back as much of your debt as possible.
When you file for Chapter 13 bankruptcy, a hypothetical Chapter 7 liquidation is performed to determine how much your creditors would have received. The amount they receive under your Chapter 13 repayment plan must be at least equal to this amount.
Quite often a debtor is determined to have no assets, so the unsecured creditors would have received nothing under a Chapter 7 liquidation. Of course, this does not actually mean that the debtor has no assets at all. Rather, it means that the assets the debtor does have are all protected from liquidation through exemptions.
In these cases, it is proper for the debtor’s unsecured creditors to receive nothing under the Chapter 13 repayment plan, and the plan will be approved provided that it is offered in good faith and passes the disposable income test.