Can chapter 13 debtors deduct voluntary 401(k) contributions under § 541(b)(7)(A) when calculating disposable income? If so, can they plan for bankruptcy in good faith by making pre-petition 401(k) plan contributions to their 401(k) plans prior to filing to decrease their disposable income? The Sixth Circuit recently broke with dicta from Seafort v. Burden (In re Seafort)[2] and answered the first question affirmatively in Davis v. Helbling (In re Helbling)[3] and Penfound v. Ruskin (In re Ruskin).[4] Neither Davis nor Penfound answered the second question directly, but both raised issues that consumer practitioners should keep in mind going forward.
401(k) Contributions and Disposable Income
The plain language of § 541(b)(7)(A) instructs that 401(k) contributions “shall not constitute disposable income” as defined in § 1325(b).[5] Yet, there are four different interpretations of it.[6] The “majority interpretation” of § 541(b)(7)(A) excludes all 401(k) contributions from a debtor’s disposable income.[7] Conversely, the “minority interpretation” essentially bans chapter 13 debtors from making 401(k) contributions during the life of their plans.[8]Two other interpretations allow debtors to deduct 401(k) contributions from their disposable income depending on the circumstances. The “monthly amount interpretation” excludes the monthly amount of 401(k) contributions consistently made pre-filing from debtors’ disposable income.[9] Additionally, the “six-month-average interpretation” excludes the average monthly 401(k) contribution made in the six months pre-filing.[10]
Seafort concerned 401(k) contributions and “projected disposable income” rather than “disposable income.”[11]The debtors in Seafort proposed a chapter 13 plan providing for repayment of a 401(k) loan followed by equal 401(k) contributions once they completed repaying the loans during the life of the plan.[12] The debtors proposed excluding the future 401(k) contributions from their projected disposable income.[13] The Sixth Circuit in Seafort held that debtors cannot exclude the income available to them after completion of a 401(k) loan during the life of their chapter 13 case from projected disposable income.[14] It also opined that it likely would adopt the minority interpretation if that issue properly came before it.[15] Davis and Penfound provided the Sixth Circuit with that opportunity.
In Davis, the debtor made monthly $220.66 401(k) contributions “[l]ong before her bankruptcy,” continuing up to filing.[16] She sought to continue making those contributions during her chapter 13 case and to exclude that amount from her disposable income calculation as a monthly expense.[17] In Penfound, a debtor contributed to his 401(k) at his previous employer from 1993-2017 but ceased making contributions in the months after that up to filing for bankruptcy in 2018, because his new employer lacked a 401(k) plan.[18] The debtor in Penfound proposed using his history of 401(k) contributions to exclude $1,375.01 per month from his disposable income.[19]
On those facts, in Davis[20] and Penfound[21] the Sixth Circuit rejected both the majority and minority interpretations. Neither Davis[22] nor Penfound[23] decided between the monthly amount and six-month-average interpretations because both produced the same outcome in each case. Davis held that the debtor could exclude her 401(k) contributions from her disposable income.[24] Penfound held that the debtor could not use his history of 401(k) contributions to exclude any amount from his disposable income because he had not made any contributions leading up to his filing.[25] Importantly, neither Davis[26] nor Penfound[27] abrogated Seafort’s holding stated above.
401(k) Contributions and Good Faith
Davis cautions that its interpretation of § 541(b)(7)(A) does not negate the good-faith analysis for chapter 13 plan confirmation under § 1325(a)(3), although it might “necessitate a more searching good-faith analysis to minimize the risk that a debtor contemplating bankruptcy might begin making 401(k) contributions prior to filing to lower the amount she must ultimately repay her creditors.”[28] However, Davis also acknowledged that its interpretation of § 541(b)(7)(A) might incentivize debtors to “enhance dramatically” their 401(k) contributions[29] but adopted that interpretation anyway, because it followed from Congress’s decision “in BAPCPA to introduce several debtor-friendly protections into the Bankruptcy Code.”[30] Moreover, neither the six-month-average interpretation nor the monthly amount interpretation rules out a debtor only making four months, for example, of 401(k) contributions prior to filing.[31] Nor does either interpretation explicitly require debtors to begin making 401(k) contributions more than six months prior to filing.[32]
Neither Davis nor Penfound clarifies when debtors must begin making 401(k) contribution under the six-month-average and monthly amount interpretations, either generally or for good-faith purposes, and it remains open whether chapter 13 debtors in the Sixth Circuit can plan for bankruptcy in good faith using § 541(b)(7)(A).
[1] Marc Buchman serves as a judicial law clerk to Hon. Bonnie L. Clair of the U.S. Bankruptcy Court for the Eastern District of Missouri. Opinions or comments provided are from the author’s own experiences and are not representative of the U.S. Bankruptcy Court for the Eastern District of Missouri or any of the author’s former employers.
[2] See Seafort v. Burden (In re Seafort), 669 F.3d 662, 674 n.7 (6th Cir. 2012).
[3] See Davis v. Helbling (In re Davis), 960 F.3d 346, 357-58 (6th Cir. 2020).
[4] See Penfound v. Ruskin (In re Penfound), 7 F.4th 527, 533-34 (6th Cir. 2021).
[5] See 11 U.S.C. § 541(b)(7)(A).
[6] See Davis, 960 F.3d 351-52.
[7] See RESFL Five LLC v. Ulysse, No. 16-CV-62900, 2017 WL 4348897, at *3 (S.D. Fla. Sept. 29, 2017); see also Baxter v. Johnson (In re Johnson, 346 B.R. 256, 263 (Bankr. S.D. Ga. 2006) (stating majority interpretation).
[8] See RESFL Five LLC v. Ulysse, No. 16-CV-62900, 2017 WL 4348897, at *3 (S.D. Fla. Sept. 29, 2017); see also In re Prigge, 441 B.R. 667, 672-78 (Bankr. D. Mont. 2010) (stating minority interpretation that disposable income excludes 401(k) contributions only to extent of funds held by an employer at date of filing for bankruptcy).
[9] See Davis, 960 F.3d at 352, 357 (citing In re Thompson, No. 17-02877, 2018 WL 1320171, at *2 (Bankr. S.D. Ala. Feb. 28, 2018) (applying Burden v. Seafort (In re Seafort), 437 B.R. 204, 210 (6th Cir. B.A.P. 2010))).
[10] See Davis, 960 F.3d at 352, 357 (citing In re Anh-Thu Thi Vu, No. 15-41405, 2015 WL 6684227, at *4 (Bankr. W.D. Wash. June 16, 2015)).
[11] See Seafort, 669 F.3d at 663, 674 n.7.
[12] Id. at 663-64.
[13] See id.
[14] Id. at 663.
[15] Id. at 674, n.7.
[16] Davis, 960 F.3d at 349.
[17] Id.
[18] Penfound, 7 F.4th at 529.
[19] Id.
[20] Davis, 960 F.3d at 351-52, 357.
[21] Penfound, 7 F.4th at 533.
[22] Davis, 960 F.3d at 357.
[23] Penfound, 7 F.4th at 533, 534.
[24] Davis, 960 F.3d at 357.
[25] Penfound, 7 F.4th at 534.
[26] Davis, 960 F.3d at 357.
[27] See Penfound, 7 F.4th at 534.
[28] See Davis, 960 F.3d at 358.
[29] See id. at 356-57.
[30] See id. (listing §§ 541(b)(7), 1322(f) and 1325(b)(2)(A)(ii) as examples of debtor-friendly protections added by BAPCPA).
[31] See id. at 352; Penfound, 7 F.4th at 533.
[32] See Davis, 960 F.3d at 352; Penfound, 7 F.4th at 533.