Personal bankruptcies have skyrocketed lately. Is anyone surprised? The primary reason is not Katrina or Rita as some might think, although I am sure hurricane floodwaters pushed quite a few over the edge. The real culprit is the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005.
Following are some of the highlights of the bill.
1) Before anyone can file bankruptcy under the Bankruptcy Reform Act, they must receive a certificate from an approved non-profit credit counseling agency that states that they have received a briefing on opportunities for available credit counseling and have been assisted in performing an individual budget analysis. The legislation mandates that the agencies offering the counseling be nonprofit in nature, such as the Consumer Credit Counseling Service of America (CCCS). But according to Jeffrey Morris, resident scholar at the American Bankruptcy Institute, the amount of time necessary to complete the counseling may take debtors away from work, which would put the struggling debtor even farther behind.
2) A small but vitally important part of the 500-page bill is the six-page section dealing with a "means test." The "means test" is the system by which the IRS determines who can legitimately file for bankruptcy and who cannot. The test is a rigorous process involving examination of the debtor's income and expenses, calculations as to whether or not their expenses meet the standards of their area, and judgments relating to whether or not they genuinely qualify for a Chapter 7 filing. If the combined gross income of your family is greater than the median family income in your state, you may be required to file a Chapter 13 repayment plan where you repay a percentage of your debts over a 36-60 month period, and not allowed to file a traditional Chapter 7 bankruptcy where your debts are eliminated. The "means test" is an inflexible standard designed to leave no leeway for debtors to abuse the system, but in the process it is bound to penalize a great many people who have fallen into bad circumstances through no fault of their own.
3) If required to file a Chapter 13 under the means test, your monthly expenses will be compared to the IRS National and Local Standard Expense guidelines. The Bankruptcy Reform Act strictly limits the amounts you can claim as expenses.
4) Another provision of the bill places the burden of proof for bankruptcy on the debtor's lawyer, requiring the attorney's signature on the petition and verification that they have investigated the claim sufficiently and found it to be solid. Many lawyers will demand their fees up front, or they will decide the case isn't worth their time.
Back in April I chimed "Anyone currently on the edge will be best advised to file for bankruptcy BEFORE this bill takes affect in October. There is an incentive now, if at all in doubt to file now and get it over with. I expect a dramatic increase in bankruptcies before this bill kicks in."
Well Surprise, Surprise, Surprise. Here we are with bankruptcy filings soaring as the October 17th deadline looms. The following chart says it all.
Thanks to The Washington Post for that chart. Let's tune in to what the article is saying:
Two weeks before a new, more restrictive national bankruptcy law goes into effect, financially strapped Americans are rushing to file for protection from their creditors, with filings climbing to an unprecedented average of 13,000 a day last week.The Charlotte Business Journal is singing verse two of the same song. Let's take a look:
Week after week records are toppled. Last week's 68,287 filings surpassed the record set the week before by 24 percent, and this week's total is likely to be higher, according to data released yesterday by Lundquist Consulting Inc., a financial research firm. Daily filings averaged 10,367 in September, compared with an average of 6,079 in September 2004.
The surge is in anticipation of the new bankruptcy law, long sought by the financial industry, which takes effect Oct. 17. The law will make it harder and more expensive for people to completely wipe out their debts under Chapter 7 bankruptcy.
"We are seeing a rush, mainly from people we saw a year ago," Northern Virginia bankruptcy lawyer Robert Weed said. A year ago his clients thought they would be able to work their way out of debt without filing for bankruptcy, he said, "but now they're in a panic to get in before the law is changed."
It's boom time for bankruptcy in the Charlotte region. But it's hard to find a personal bankruptcy lawyer who's happy about it. "We're scraping by with as little sleep as possible," says Susan Robicsek, a solo practitioner who does bankruptcy work for individuals. "The number of calls is staggering."Indeed. That last sentence says it all. It’s also why I have a hard time feeling sorry for credit card companies with interest rates of 30% and fees for damn near everything bitching about not collecting every last penny from people they have no business lending to in the first place. Profits are at record levels but greed has been insatiable. Yes, some people have taken advantage of the system, but the bulk of filers have been those hit with huge medical bills, the loss of a job, or nasty divorce proceedings. Bush's "ownership society" striving to make second class citizens out of renters has not helped, nor have teaser rates on loans. With the economy slowing there will be another rush of filings next year in the aftermath of Katrina and Rita and the bursting of the housing bubble.
"We are seeing some people who say, 'I have heard it will be hard for me later, so I will go ahead and file now,'" Robicsek says.
The increase in filings began in the spring, when Congress approved the provisions and President Bush signed them into law.
Cases filed in the three divisions of the U.S. Bankruptcy Court covering the 12-county Charlotte region are up 25% from a year ago. As of Tuesday, 4,110 Chapter 7 filings have been made in the region this year, up from 3,127 by that point in 2004.
"I'm getting very close to booked up -- and very tired," says Dave Badger, dean of bankruptcy lawyers in the region.
The new bankruptcy rules were more than a decade in the making. Pushed largely by the credit card and banking industries, it seeks to curtail the use of personal bankruptcy to wipe out debt.
The law imposes a means test to determine who can file for Chapter 7. And it authorizes judges to penalize individuals and their attorneys if they file but don't qualify.
Other requirements include a six-month counseling period before filing.
The means test attempts to determine how much of a person's income goes to essential living expenses. If an individual has enough left after those expenses to pay 25% of unsecured debt, and the person makes more than the state's median income, the individual cannot file for Chapter 7.
Experts predict the rush in filings will end abruptly after Oct. 17. But the filings will rebound, Robicsek predicts. The economy, she notes, has been difficult for many working people. Gas prices are high. Layoffs have been frequent. Many have been forced to take lower-paying jobs than they had in the past.
"You can change the law, but the problems underlying a decision to file bankruptcy don't change," she says.
The idea behind the law is simple: to make debt slaves out of people forever. With that in mind, I have been thinking about ways the "means test" could backfire. Without knowing the legal specifics, it seems one way to pass the test is to make sure you have no job and no income when you file. I believe it's easy enough to get fired if you need to. Cap off the loss of a job with a six month mandatory counseling period during which lots of expenses are racked up, and writeoffs just might increase, not decrease as a result of the bill. I also think the law will backfire in another way. Anyone going thru this process will think twice about unnecessary expenses and credit card purchases for a long, long time. That of course is a good thing, except of course for the greedy credit card companies thriving on usury and absurdly high fees.
Bottom line: I think the credit industry slit their own throats with this bill, in more ways than one. Except for the additional suffering incurred by someone trapped with huge sudden medical expenses, that is just fine by me.
Mike Shedlock / Mish