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A Guide To Proposed
Bankruptcy Reform 6/01

Congress will meet soon to work out the differences between the different bankruptcy reform bills passed by the House and Senate earlier this year. This is a normal part of the legislative process, since bills passed in each house usually vary. Currently, "reconciliation" has been somewhat delayed since Senator Jeffords left the Republican Party and the control of the Senate committees has switched over to the Democrats.

The "Bankruptcy Abuse Prevention and Consumer Protection Act of 2001" was approved in the House by a vote of 306-108 on March 1, 2001. Turned down was a proposal to prevent the marketing of credit cards to consumers under the age of 21. The Senate passed their bill in March.

The financial services industry has been eagerly anticipating these reforms because of the heavy losses that they suffer when businesses and individuals file for bankruptcy.

Whatever bill comes out of the consolidation will become active 180 days after the President signs it or it is passed over his veto.

What's Bankruptcy Supposed To Accomplish?

Bankruptcy is intended to allow insolvent people and businesses to either reorganize their debts and work out an agreement and payment schedules with creditors or to completely discharge them and get a "fresh start" legally.

What Does Bankruptcy Cost Society?

Losses by businesses caused by bankruptcies result in higher prices for goods and services. It's been estimated that each non-bankruptcy-filing adult pays $400 per year in higher costs to cover bankruptcy losses by businesses.

What Kinds of Bankruptcy Are There?

Businesses usually file Chapter 11 bankruptcy, which allows the business to continue operations while working out debts and repayments with its creditors. This may allow the business to cut costs, become more profitable and emerge from bankruptcy as a profitable entity.

Consumers usually file bankruptcy under Chapter 7 or Chapter 13. Since 1978 most bankruptcies fall under Chapter 7. In Chapter 7, a debtor can keep some equity in cars and homes, cash, furniture, clothing and tools essential for their work. Other investments and assets must be surrendered and sold with creditors obtaining a portion of the results. Debtors without assets can declare this in their filings. Once Chapter 7 bankruptcy is discharged, the person does not have to pay any remaining debts. Discharged debts are also not counted by the government as income as they would be if they were forgiven by the creditors outside of bankruptcy.

A debtor with regular income can opt for a Chapter 13 bankruptcy filing, where they agree to pay off debt over a 3 - 5 year period. At the end of the agreed time, the debtor is discharged from repaying any remaining debts.

What Effect Will Bankruptcy Reform Have?

Chapter 7 Bankruptcy Protection will not be as easy, inexpensive or fast as it has been in the past! Many debtors will also not qualify for the complete discharge of debts available under Chapter 7. It is possible that:

• Debtors may be required to take credit counseling before filing for bankruptcy protection.
  
• Chapter 7 bankruptcies may be dismissed or converted to Chapter 13 bankruptcy if "abuse" of the process is found. If a debtor had more than $100 in monthly income to pay general unsecured debts, abuse would be presumed.
  
• Any creditor can ask for a "means testing" to occur if family income exceeds specified levels.
  
• Anyone who can pay 25% or more of their debt would have to file a Chapter 13 bankruptcy plan and pay back creditors for a minimum of 5 years.
  
• People who cannot pay the 25% or more will be required to pay for a minimum of three years.
  
• Higher than normal expenses, such as medical costs, may not be counted in the means testing and may be considered to be "general disposable income" available to repay creditors.
  
• Debtors will be allowed to pay up to 15% of their gross annual incomes to charities.
  
• All debts over $250 charged to a debtor within 90 days of bankruptcy will be considered fraudulent and cannot be settled by Chapter 7 or Chapter 13 bankruptcy.
  
• The Senate version has $100,000 Homestead Exemption cap; the House version has a $250,000 cap but states will be able to change that.
  
• The U.S. Trustee may demand tax returns and other financial information from debtors. This information may be shared with creditors and other "interested" parties. Failure to provide this information would result in dismissal of the bankruptcy petition.
  
• Two percent of all bankruptcy cases will be audited.
  
• New restrictions will increase costs, for the debtors filing for bankruptcy and may also drive up the costs of businesses attempting to collect debts. Additional time requirements will drive up the cost of attorneys fees.
• Re-establishing Credit

Currently, it takes about 4 months for a Chapter 7 bankruptcy to go through the legal system. After bankruptcy discharge, bankrupts can establish reasonably good credit in two years by managing their money well and making payments on time. Reasonably good credit means access to credit to buy cars, houses and even get other loans and credit cards although higher down payments and interests rates may be required than before the bankruptcy occurred.

Bankruptcy remains on a debtor's record for 10 years after discharge is granted. Chapter 7 filers cannot file for Chapter 7 again for 6 years, but an unlimited number of Chapter 13 bankruptcies can be filed.

The new process will require longer time establishing a Chapter 7 or Chapter 13 bankruptcy and discharge is not granted until after the 5 year minimum of payments has elapsed. Adding to that the 10 year period that bankruptcy remains on your credit record, it may be 7 - 18 years before a Chapter 13 creditor with the best financial behavior would be back to a "sterling" rating.

What Benefits Will This Provide For Creditors?

Creditors, including small businesses that extend credit, will have the opportunity to get more information from the courts, object to proposed discharge plans and insist on repayment. On the negative side, this will require more involvement by the business costing time, money and attorney fees.

-Cindy Nemeth-Johannes