Paul Kelly was a graduate student at the University of Nebraska and had been working on his Ph.D. since 1991. He expected to complete it in 1999. He was also working as a clerk in a liquor store approximately 32 hours per week and earning $5.85 per hour. His monthly expenses were $743, and his monthly take home pay was $761. Kelly borrowed money through student loans to enable him to pay tuition, fees, books, and other school-related expenses and expected to continue to do so until he finished his Ph.D. On July 26, 1994, the U.S. District Court in Minnesota entered a judgment in the amount of $30,000 against Kelly and in favor of Capital Indemnity Corporation. The Judgment was based on a misappropriation of funds by Kelly from a bank insured by Capitol. The courts order provided that the judgment was not dischargeable in bankruptcy.

Kelly filed a Chapter 13 petition. In his Chapter 13 plan, Kelly proposed to pay a total of $7,080 by paying off $118 per month, $100 of which would come from student loans. In the proceeding, Kelly testified that, among other things, he was currently qualified to teach at the college or university level and could earn about $20,000 but preferred to work part-time as a clerk while he completed his graduate school.

Capitol objected to the proposed plan on the ground that it was not proposed in good faith. Capitol contended that Kelly should not be allowed to languish in graduate school, remain underemployed, and obtain the benefit of Chapter 13 discharge. Capitol asserted that Kelly was attempting to discharge a debt that was nondischargeable under Chapter 7, proposed to make payments primarily from his student loans, and would be paying a dividend to an unsecured creditor of only 8.5 percent. These factors, Capitol contended, demonstrated that the plan had not been proposed in good faith and that it should not be confirmed. Should confirmation of Kellys plan be denied on the grounds that it was not proposed in good faith?