As background, Chapter 13 is a payment plan and the percentage of payback unsecured creditors will receive is determined by the amount of the debtor’s “disposable monthly income” (DMI). For debtors with income above the state median, DMI is determined using the “means test” and the means test allows deductions for payments to secured creditors. If a debtor is allowed to deduct payments on secured claims, that will necessarily lower the debtor’s leftover income that could be used to pay unsecured creditors.
The plain language of the statute seems to indicate that secured claims can be taken as a deduction whether the claim is reasonable or not. However, in two Ninth Circuit cases (Smith and Martinez), the Court said that if the debtor is surrendering the property to the secured creditor, the debtor cannot claim the deduction because it would not be reasonable. Smith and Martinez seemed to put a reasonableness limit on deductions that can be taken in Chapter 13. (There is no such limit for the Chapter 7 means test, although there a separate test in Chapter 7 that does look at reasonableness.) However, the Welsh case has now significantly limited any potential expansive reading of Smith/Martinez by explicitly stating that those cases only applied where the debtor is surrendering the collateral.
In Welsh, the debtor was making payments on an expensive house and 6 vehicles. The Ninth Circuit found this was allowable. In addition, the Court found that this was not a violation of the good faith requirement of Chapter 13, because if the debtor was allowed to take a deduction under the means test, it could not be a violation of good faith to take that deduction.