The majority of people who file chapter 13 bankruptcy do not do so because they want to devise an orderly way to pay their unsecured creditors as much as possible. Usually most people file chapter 13 because: (1) they are ineligible to file chapter 7 by virtue of having filed and received a chapter 7 discharge within the previous 8 years (2) they are ineligible to file chapter 7 by virtue of having flunked the chapter 7 means test (3) they are significantly in arrears on secured collateral they would like to retain (think a house or car) or (4) they have too much equity in certain collateral, which they would possibly otherwise have to surrender in a chapter 7, so they retain it by filing chapter 13.
While some chapter 13 filers do have almost exclusively unsecured debt and wish to pay it off entirely, the majority of chapter 13 filers primarily file under that chapter because of one of the circumstances mentioned above. Because they file for those reasons, the treatment of their unsecured creditors is usually not their first concern. However, it is important to note what unsecured creditors receive in a chapter 13 distribution.
The golden rule of unsecured creditors in a chapter 13 is they cannot be treated worse than they would have been treated in a chapter 7. While the vast majority of chapter 7 cases are no asset cases and unsecured creditors receive 0%, there are some chapter 7 cases where unsecured creditors receive a distribution from the trustee.
This is the scenario described in number 4 above. The debtor essentially has to choose between filing a chapter 7 and surrendering assets to the trustee or keeping the assets and filing a chapter 13 to pay it off. The over exempt amount the debtor keeps must be paid to the debtors unsecured creditors in a chapter 13, because that’s what the unsecured creditors would have received in a chapter 7 liquidation.
For example, lets say a debtor owns a $25,000 car free and clear. In Georgia, the debtor could protect $3,500 in equity in that vehicle, plus whatever amount of wild card the debtor had left, lets say $1,500 in this example. The debtor therefore has $20,000 in unprotected equity in the car. In a chapter 7, the trustee could liquidate this car to pay creditors that amount. Therefore, if the debtor wishes to keep the car in a chapter 13, the debtor must pay at least this amount to the unsecured creditor pool in the chapter 13. Note that this calculation was based on Georgia exemption law, and if you use another states exemption amount or the federal exemption amounts, it will vary.
The calculation above is more commonly described as a liquidation analysis, because it is based on what amount your unsecured creditors would get in a chapter 7 liquidation. The other method of determining what amount your unsecured creditors could get in a chapter 13 is to figure out what your disposable monthly income is under the chapter 13 means test.
The means test is used to determine if, and if so, how much, a debtor has to pay the unsecured creditor pool on a monthly basis. The debtor must pay the greater of that amount or the amount under the debtors liquidation analysis.
So if the debtors liquidation analysis was as described above and showed the debtor having to pay $20,000 to the unsecured creditor pool, the debtor would have to pay that even if it wished to retain that vehicle even if the debtor had no disposable income to pay its unsecured creditors. Conversely, if the debtor was in a 60 month plan and had $500 per month in disposable income, the means test disposable income calculation of $30,000 ($500 per month multiplied by 60 months) would be the amount the debtor must pay the unsecured creditor pool, since it exceeded the $20,000 in the liquidation analysis.
As one can imagine, there is a possibility that the debtor cannot fund the amount necessary to pay the unsecured creditor pool in the liquidation analysis considering the debtor also have to pay off other debts (priority creditors, secured creditors and living expenses). In such a scenario, the debtors plan will most likely not be confirmed, because it is not feasible that the debtor can make all the necessary payments.