Bankruptcy Overhaul

Friday, March 16th 2001, 12:00 am
By: News On 6

WASHINGTON – Debt-ridden Americans may soon find it more difficult to avoid the bill collector.

With President Bush's backing, lawmakers are rushing to overhaul the nation's century-old bankruptcy laws. If enacted, the sweeping legislation would make it more difficult for consumers to eliminate unsecured debt, such as credit cards.

The Senate voted Thursday, 83 to 15, to approve the 430-page bill, which is backed by banks, credit card companies and other lenders as a fix for near-record-high rates of personal bankruptcy.

Consumer advocates say it will hurt the very people who need relief from financial catastrophes.

"It represents a fundamental change in the way we think about bankruptcy," said Todd Zywicki, a professor at the George Mason University School of Law, who advised the House and Senate Judiciary Committees.

Most significantly, experts said, the legislation would eliminate today's no-questions-asked approach that allows consumers to declare Chapter 7 bankruptcy and walk away from their debts. The bill would establish a new financial test that steers consumers toward a Chapter 13 filing, requiring them to repay a portion of their debts.

Of importance to Texans, the bill would eliminate the state's unlimited homestead exemption, which shields home equity from creditors. The Senate approved an amendment Thursday that would establish a national cap of $125,000.

Sen. Kay Bailey Hutchison, R-Texas, said she would try to get the 130-year-old homestead exemption for Texas restored when lawmakers meet to resolve differences between the Senate and House versions of the proposal. White House spokeswoman Claire Buchan said the president was hopeful of reaching a compromise.

"It's early in the process," Ms. Buchan said.

The House bill, approved March 1, limited debtors in Texas who purchased a home within two years to exempting no more than $100,000.

A nearly identical bankruptcy bill was vetoed last year by former President Bill Clinton, who said it was too hard on borrowers. It contained a two-year residency requirement for Texans similar to this year's House bill.

"I am going to do everything I can to fix this in conference." said Ms. Hutchison, who voted against the bill.

Texas Republican Phil Gramm opposes changing the Texas homestead extension, a spokesman said, but the senator voted for the legislation because he thinks it is good overall.

Stuart Feldstein, president of SMR Research Corp., a financial services research firm in Hackettstown, N.J., said several social and economic trends have collided to produce a record level of personal bankrupties.

Mr. Feldstein said high divorce rates, rising health-care costs, widespread access to gambling and aggressive marketing of legal services have all been factors. He also noted that the stigma of filing for bankruptcy has diminished, making it a preferable way to eliminate debts for a rising number of borrowers.

"Consumers have borrowed way too much money," Mr. Feldstein added. "People have been spending every penny of their paychecks and borrowing more besides."

Nationwide, about 1.2 million people filed personal bankruptcy last year, down slightly from a record 1.4 million in 1998. With the economy slowing this year, experts said, the 2001 total could easily return to the higher level.

Texas ranks lower than the national average on bankruptcies, and analysts attributed that fact to the state's prohibition on garnisheeing workers' wages except for child and spouse support. When wages are garnisheed, it is often the last straw that forces many debtors to file.

Even so, the pace of personal bankruptcy filings in the Dallas-Fort Worth area has been rising at a fast clip. Last year, 17,339 people filed personal bankruptcy, a 24 percent increase over the 13,984 people who filed in 1995.

"There is a general sense that something needs to be done if you have that kind of growth," said Lynn Strang, a spokeswoman for the American Financial Services Association.

Consumer advocates charge that debtors who are financially harmed by a divorce, medical emergency or unemployment will find it more difficult to get relief. They blame lenders for the high rate of bankruptcy by making credit cards and other lines of credit so easy to obtain.

"We are worried about the impact on the so-called honest debtors, or those who suffered a real financial emergency," said Travis Plunkett, a spokesman for the Consumer Federation of America. "Creditors have exploited the rise in bankruptcies in the mid-1990s for their own financial interests rather than offering a proposal that will target the real abusers."

Lenders contend that the legislation is designed to clamp down on a rash of individuals who have piled up extraordinary debts on credit cards and other lines of credit and who see personal bankruptcy as an easy escape. Lenders said such losses are viewed as a business cost that is passed along to borrowers who pay their bills.

The banking industry says bankruptcies are driving up borrowing costs for everyone else by $400 to $500 a person annually.

"This bill reins in the excesses," Mr. Zywicki said.

Mr. Feldstein, the financial services analyst, said few bankruptcy filers fit the abusive-borrower profile. He said most filers are just below middle income and have suffered some type of personal problem such as divorce, high medical expenses or a prolonged period of unemployment.

He said the poor seldom file bankruptcy because they have little access to credit. The wealthy also have low bankruptcy rates.

Mr. Feldstein said the bulk of bankruptcy filers are in their early 30s, a period of high divorce. It also is a time when young families are far from reaching their peak earning years but are encountering the brunt of child-rearing expenses.

Others who face a high risk of bankruptcy are workers on variable incomes. For instance, self-employed people may experience initial success with a start-up business and spend freely but then encounter hard times.

Because 43 million Americans do not have health insurance, Mr. Feldstein said, it is not surprising that medical costs have forced many people to file bankruptcy.

The widespread availability of legal services also has been a factor. He said bankruptcy filings began to increase in 1985, the same time lawyers began to advertise.

"Lawyers advertise for everything from slip-and-fall to bankruptcy," Mr. Feldstein said.

Under the proposal, debtors could no longer automatically file under Chapter 7, which erases a filer's debts after assets are liquidated to satisfy as many claims as possible. Currently, about 70 percent of bankruptcy filings are under Chapter 7.

In the future, a means test would be applied to filers wanting protection under Chapter 7, and filers would first have to undergo credit counseling. The idea is to force debtors to repay loans when they are able to do so by steering them into Chapter 13 proceedings.

Specifically, debtors earning more than the state median income – $37,776 in Texas, would be steered to Chapter 13 proceedings if they met repayment criteria. Debtors would have to be able to repay $10,000 or 25 percent of their unsecured debt over five years, whichever was the lesser amount but not less than $6,000.

In calculating income, living expenses as measured by Internal Revenue Service standards would be deducted, along with expenses to protect the family from domestic violence, the care and support of elderly or other family members, disabled and chronically ill children or grandchildren.

Private-school tuition up to $1,500 also would be included in living expenses.

The bill also would make it more difficult to erase debts through divorce and hide assets from creditors. In addition, it puts new restrictions on debtors who make repeated bankruptcy filings to shield assets from creditors.

The measure does add some new protections for consumers. It would require credit card solicitations, monthly billing statements and other related documents to include disclosures and explanations of interest rates and minimum payments.

Lenders also would be required to provide a toll-free telephone number to obtain information about how long it would take to pay off a debt when making minimum monthly payments.

It calls for new penalties on creditors who do not comply with procedures for recovering debts. And it would pay for resources to crack down on abusive practices by creditors who try to trick consumers into repaying debts that would have been erased in bankruptcy proceedings.
Critics said the bankruptcy reform movement got new life because the financial services industry poured millions of dollars into the campaign coffers of Republicans during last year's elections. With a Republican in the White House, the threat of a veto has been reduced.

According to the Center for Responsive Politics, commercial banks gave Democrats and Republicans $96 million during last year's election. That was supplemented with $23 million by finance and credit companies, $6 million by credit unions and $5 million by nine trade associations representing the industry.

"When Congress returned to work last January, this time under a new Republican president, the bankruptcy bill was among the first pieces of legislation introduced," the center noted.

Ms. Strang, the financial services industry group spokeswoman, denied that the bankruptcy bill is a payoff to the industry for its campaign contributions.

She noted that public opinion polls, some paid for by the industry, showed that the public supported efforts to reform bankruptcy laws.

"Public sentiment is the driving force behind where this legislation is at," Ms. Strang said. "The best lobbying campaign will not be effective if the public does not support the proposal."