The Car Ownership Deduction and the Bankruptcy Means Test

The car ownership/lease deduction can help you pass the Chapter 7 bankruptcy means test.

by: , Attorney

If you lease or make payments on a car loan, the means test allows you to deduct a car ownership or lease expense to further reduce your disposable income. This means that if you have a car loan or lease, you typically have a better chance of qualifying for Chapter 7 bankruptcy than a debtor with similar income who owns his or her car free and clear. Read on to learn more about how the car ownership deduction can help you qualify for Chapter 7 bankruptcy.

To learn more about what the bankruptcy means test is and how it works, see The Means Test and Other Eligibility Issues in Chapter 7 Bankruptcy.

Difference Between the Car Ownership Deduction and the Car Operation Deduction

There are two separate deductions associated with owning and operating a vehicle on the means test. The vehicle operation expense allows you deduct a specific amount (based on IRS local transportation expense standards for your area) for expenses related to operating a car such as gas, maintenance, and registration fees. You can claim the operation expense deduction regardless of whether you have a car loan or not.

But in addition to the operation deduction, the means test has a separate expense deduction for the cost of owning or leasing a car. The ownership/lease expense deduction is designed to take into account the additional cost of leasing or having a car loan (discussed below).

You can find the law and instructions you need to file for bankruptcy in Nolo’s How to File for Chapter 7 Bankruptcy.

Who Can Claim the Car Ownership Deduction?

According to a recent United States Supreme Court decision, only debtors who make car loan or lease payments are entitled to claim the car ownership deduction on the means test. If you own your car free and clear, you can’t take advantage of the car ownership deduction. (Previously, some courts allowed debtors to take the deduction even if they didn't have a car loan or lease payment.)

Currently, the national standard car ownership deduction is $517 a month per car (up to two cars) regardless of where you live. But this figure is updated periodically. (You can find the most up-to-date figure on the U.S. Trustee's website at www.justice.gov/ust/eo/bapcpa/meanstesting.) In addition, if you have a car loan or lease, you can deduct the full amount of your average monthly loan payment if it is greater than the standard car ownership deduction. Here’s how it works.

Calculating Your Car Ownership Deduction

To calculate your average monthly loan payment, the means test looks at how many payments are still contractually due in the next 60 months (five years) and divides the total by 60. This means that if your car loan is due to be paid off in less than five years, your 60-month average loan payment on the means test will be less than your actual monthly payment amount.

If your 60-month average loan payment is greater than the $517 standard car ownership deduction, you can deduct the higher loan payment amount on the means test. But if your 60-month average is less, you still get to deduct the full amount of the standard car ownership deduction.

Example: Brian’s monthly car loan payment is $700. Under his loan agreement, he still has 65 more payments to make. Because Brian is obligated make a $700 a month car payment for the next 60 months, his 60-month average loan payment is still the same at $700. On the means test, he can deduct the entire $700 loan payment (a benefit of $183 over the standard car ownership deduction). But if Brian only had 30 more payments to go, his 60-month average payment would be $350 per month (his remaining balance of $21,000 divided by 60). Since his 60-month average is now less than the standard deduction, he can’t deduct his actual $700 monthly expense on the means test. But he can still claim the $517 standard deduction.

The Car Ownership Deduction Helps Debtors Qualify for Chapter 7 Bankruptcy

As we discussed, only debtors who lease or make payments on a car loan are allowed to deduct the car ownership expense on the means test. This means that for individuals with above median income, debtors with car loans usually have a much better chance of qualifying for Chapter 7 bankruptcy than debtors who own their cars free and clear.

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