Special Classification of Unsecured Debt in Chapter 13

In a chapter 13 plan, the basic plan treatment for non-priority unsecured claims (which include items such as medical bills, credit cards, many judgments) is to treat all such claims the same way. In some chapter 13 plans, this might mean paying nothing to each and every non-priority unsecured claim. Other times, each such claim might be paid the same percentage (either a fixed percentage or a percent calculated based on available funds). Oftentimes, this is a perfectly acceptable way to handle these claims. However, it will sometimes be desirable to adjust this treatment so that different general unsecured creditors are paid differently. In chapter 13 bankruptcy, this is the concept of special classification.

Classification Basics

Classification of claims is authorized in chapter 13 under section 1322(b)(1) of the bankruptcy code, providing that the plan may "designate a class or classes of unsecured claims, as provided in section 1122 of this title, but may not discriminate unfairly against any class so designated . . .". Section 1322(a)(3) requires the same treatment for each claim within a class. Here, chapter 13 bankruptcy law explicitly borrows from chapter 11 bankruptcy concepts of claim classification.

Routine Classification -- Who is Liable on the Claim

By far the most common sort of special classification is meant to protect a co-debtor. A co-debtor is a individual who is also liable on a debt. One might call them a co-signer, a guarantor, or simply a co-borrower. A bankruptcy discharge only gets rid of the liability on the loan for the person or people who filed bankruptcy. This means that if a debt is unpaid at the end of a chapter 13 bankruptcy, the creditor could still pursue the balance against the co-debtor. A simple co-debtor protect classification sets the chapter 13 plan to pay the debt off in full, so there can be no collection after the discharge, as there would be no debt remaining. The co-debtor stay of chapter 13 bankruptcy protects the co-debtor during the pendency of the case.

Paying co-debtor claims in full might not be an affordable option. Special classification of co-debtor claims doesn't require payment in full, although payment in full would be necessary to accomplish the goal of preventing future collection activity. Nevertheless, special classification and partial payment of a co-debtor claim reduces the balance on this claim, and might be a more efficient use of funds already being committed to a chapter 13 plan. Special classification of consumer debts that have a co-debtor is expressly allowed by the bankruptcy code, section 1322(b)(1).

Joint and Separate Debts of Spouses

Classification of unsecured claims is also used regularly when married couples own valuable assets. The best-interests-of-creditors test requires that chapter 13 plans pay to unsecured creditors what they would have received had the valuable asset been sold in a chapter 7 bankruptcy. If only one spouse owns the property, there is no reason why the other spouse's creditors ought to be paid because of it. In such a case, the special classification pays a different amount or percentage to creditors with a claim against one spouse than to creditors with a claim against only the other spouse. When tenancy by the entirety is involved, there may be yet another class reserved for joint debts.

Unusual Classification

Classification based on who is liable is the most common special classification in chapter 13 plans. However, any classification system that does not unfairly discriminate could be placed into a confirmable chapter 13 plan. Unfair discrimination is an equitable concept where the bankruptcy judge has to determine if the proposal is fair. As chapter 13 classification cross-references chapter 11 classification (where classifying claims is much more common), the case law for both chapters is instructive on whether a particular classification proposal is confirmable. Ultimately, courts evaluating whether there is unfair discrimination tend to look to whether there is a good reason for discrimination and whether the extent of discrimination is proportional to the reasoning.

The most common contraversy over special classification relates to special treatment of non-dischargeable student loans. Broadly speaking, courts have not been terribly receptive to such classification when it leads to preferential payment (or non-payment) of the student loan, although exceptions do apply.

Most commonly one thinks of different treatment between classes of claims as meaning payment of differing amounts of the claims. However, treatment of classes could also vary in timing of payments. This is common in chapter 11, when different classes of claims might be paid at different times. The motivation for doing so in chapter 13 is not as frequently present, but there could in principle be a reason to favor paying certain unsecured creditors faster that others.

Resolving Classification Disputes

Bankruptcy Rule 3013 authorizes the bankruptcy court determine what claim is in what class separate from the plan confirmation process and separate from the claim objection process. Either through motions under this rule or by claim objection, there is an opportunity to get the court to resolve uncertainty about treatment of a particular claim. It is unfortunately common that a filed claim would be ambiguous as to who is liable on the debt, or as to other details that would important for determining the classification of the claim.