Credit Slips

It Is Time to “Sunset” Preference Law As We Have Known It Or at Least To Test Its Underlying Basis Empirically .

It is time to “sunset” preference law as we have known it or at least to test its underlying basis empirically .

Ten years ago or so Lynn Lopucki helped to focus our attention on the unfairness of the treatment of unsecured creditors vis a vis secured creditors.  In the past decade things have only become worse for unsecured business creditors as Revised Article 9 tightened the hold of secured business creditors, but that topic has seemed to have fallen  off of the radar screen.

This is a good jumping off point for examining the one area of technical bankruptcy law that most unsecured creditors love to hate “preference law.“ Preference law has outlived whatever usefulness it might have  had. The effort to separate the wheat from the chaff  is not worth the energy.  The litigation costs and aggravation costs far outweigh the benefits.  What are the benefits?  The recoveries are intended to be redistributed among all unsecured creditors. Although few studies have been done it does not appear that this redistribution is meaningful when the litigation costs, extorted settlements and bad feelings of defendants are measured against those net redistributions. Moreover, the courts have held that those recoveries may be pledged to a DIP Lender and in those cases the general unsecured creditors have money taken out of their pockets and receive no benefit from this “redistribution.” Some commentators feel that the threat of preference recovery limits the potential preference payments that a failing debtor may make, or that overreaching creditors may demand and collect, but there is simply no evidence that this is accurate and the only study indicates that this is not true.  Finally, some preference aficianados justify preference recoveries on the basis of equality of distribution and fairness and justice.  Just ask unsecured creditors that are caught in a bankruptcy and  you are likely to find that the opposite is true; the efforts at recovery are deemed unfair and unjust. The only lobby for current preference laws seems to be people who are outraged by apparent  unfairness of one creditor receiving more than others, or who believe that the existence of these laws promotes “better” conduct among debtors and creditors in the wake of financial distress, those who benefit from the litigation spawned by preference laws and perhaps bondholders who believe these avoidance actions increase their recoveries.

Consumer Credit Fairness Proposed for the Bankruptcy Code

On Monday, Senators Whitehouse and Durbin introduced S. 3259, the Consumer Credit Fairness Act. The bill would cut back on some of the worst consumer credit abuses by trimming back on collection rights in bankruptcy.

The bill begins by defining a "high cost consumer credit transaction" as any extension of credit, including costs and fees, that exceeds the lesser of (a) 15% plus the 30-year Treasury bond rate (a calculation that currently stands at 22.4%) or (b) 36%. There are two consequences that would flow from a transaction that met this definition. First, the creditor in a "high cost consumer credit transaction" would have their claim subordinated to all other claims in the bankruptcy case. Second, any debtor who filed bankruptcy as a result of a "high cost consumer credit transaction" would be exempt from the means test that determines eligibility for chapter 7 bankruptcy.

Bankruptcy Filing Fees Through the Ages

The cost of everything keeps rising, even the cost of going broke. When something costs more, people use less of it. I've been thinking lately about that idea and how it relates to the U.S. bankruptcy filing rate.

The filing fee for a chapter 7 bankruptcy is now $299, which is a 43% increase from the cost just before the 2005 changes to the bankruptcy law took effect. Chapter 13 filing fees are now $274, a 41% increase from 2005. Those increases would help to explain why U.S. bankruptcy filings remain at historically lower levels. For example, I project that there will be slightly over 1.0 million filings in the 2009 calendar year as compared to about 1.6 million filings in the years immediately preceding the 2005 bankruptcy law.

I recently had occasion to compile the rising cost of chapter 7 or 13 filing fees since the Bankruptcy Code's became law in 1979. Sure, attorneys' fees are the big cost of filing bankruptcy, and with one of my great research assistants, Heather Miller, I'm working on a paper that quantifies how the 2005 bankruptcy law changed the total cost of filing. (Heather probably would be more pleased if I worked on the draft instead of blog posts.) As part of that work, I felt compelled to see how one component of the cost of bankruptcy, filing fees, had changed and felt even more compelled to share it with all you.

Older Americans in Bankruptcy--The First Paper Out of the Consumer Bankruptcy Project

Many of us on Credit Slips are part of the Consumer Bankruptcy Project (CBP), a multidisciplinary research initiative. This week, many of you probably saw the press coverage for the first paper published out of the CBP data: Generations of Struggle by Deborah Thorne, Elizabeth Warren, and Teresa A. Sullivan. This paper's reports three key findings. Since 1991--

• Americans age 55 or older have experienced the sharpest increase in bankruptcy filings.
• Americans age 34 or younger have experienced the greatest decrease in bankruptcy filings.
• The influence of Baby Boomers on bankruptcy filings has moderated substantially.

A full copy of the paper is available from the AARP here. The paper shows that older Americans are under greater financial stress than ever before. I am sure we will have more to say about this paper here on Credit Slips.

Because the courts do not collect any basic demographic data about who files bankruptcy, this sort of information would not be available without interdisciplinary research teams like the CBP and the organizations who generously support our research (the AARP, the Robert Wood Johnson Foundation, the Federal Deposit Insurance Corporation, and research funds at the University of Michigan and Harvard University). The data collection for the CBP is complete, and we will keep announcing the availability of new papers here on Credit Slips. What exactly, however, is the CBP?

Footing the Billary

Thanks to Bob and the other Credit Slips authors for having me back. I hope to post about several different things, some more topical than others. The first may be the most topical of all--the presidential campaign.

Now that Hillary has conceded the Democratic primary to Barack Obama, we are left with a question Credit Slips readers might care about: How will she pay off her campaign debt and—more interesting—what if she can’t?
According to filings with the U.S. Federal Election Commission (FEC), which governs these things, as of the end of May, Hillary’s campaign was about $20 million in the red.
Consider the following scenarios:

1. Hillary's Committee receives contributions sufficient to pay off the debt. This is probably the way the federal election law expects things to work. The problem is that individuals are limited to contributions of $2,300, and there is a long history of unsuccessful candidates—famously, John Glenn--who could not pay off their presidential campaign debts.

2. Hillary's Committee doesn’t receive contributions sufficient to pay off the debt, but Hillary picks up the tab. This is possible, and appears permissible under U.S. campaign finance law. But Hillary already “lent” her campaign $10 million. Why? We don’t know, but presumably so that she could repay herself in the event she was able to raise the money from others.

3. Hillary doesn’t pay off the debt and creditors don’t sue. As a general matter, we like the compromise and settlement of claims, and you might think that this would be as true of campaign debts as others. But in fact—for reasons that should be fairly clear on reflection—federal election law is uncomfortable with campaign creditors who forgive debts. The forgiveness might simply be a way around campaign contribution limits.

4. Hillary doesn’t pay off the debt, and creditors sue. Nothing stops creditors from suing an election campaign committee that doesn't pay its debts, and nothing prevents the committee from commencing a bankruptcy case. But an election committee doesn't generally have assets—unless it has avoidance actions under U.S. bankruptcy law or state law causes of action that might recover payments for redistribution to other creditors.
And this is where things get interesting.

Under McCain Feingold, the 2002 federal law that made important (if controversial) changes to U.S. campaign finance law, it appears that Hillary, as the candidate, has an incentive to pay herself first, before other creditors--even if her Committee is insolvent. Why? Because if she doesn’t do so before the conclusion of the Democratic primary (i.e., the Democratic Convention, in August), her repayment is apparently capped at $250,000 under the so-called "Millionaire's amendment." See 11 CFR 116.11(b) (The Millionaire's amendment is being challenged in the Supreme Court on other grounds).

So, it looks like campaign finance law puts a conventional understanding of priority on its head. Here, the “owner” or beneficiary of the Committee—the candidate—would get paid before other creditors. If her Committee were insolvent, and she repaid herself before August, and the Committee is then put into involuntary bankruptcy, can the bankruptcy trustee recover the repayment as a preferential transfer under Bankruptcy Code section 547? Is it akin to a dividend distribution while insolvent, which would be recoverable under state law? Or does McCain Feingold create some kind of defense to these or similar actions?

I’ve written about the uneasy fit between commercial law and campaign finance law, looking in particular at first-amendment (political speech) defenses to fraudulent conveyance actions by insolvent political donors. Jonathan C. Lipson, First Principles and Fair Consideration: The Developing Clash Between the First Amendment and the Constructive Fraudulent Conveyance Laws, 52 U. MIAMI L. REV. 247, 272–303 (1997). Although there is some case law on this, there’s not much. Which suggests that even though campaign committees are often deadbeats, the normal debtor-creditor dynamics—dunning, suit, compromise and/or bankruptcy—do not seem to apply. A recent commentator on NPR observed that "debt retirement is the hardest task in American politics."

So, here are the questions for readers of Credit Slips: What should Hillary and her campaign Committee do? What experiences have you had with campaign finance (or other politically-related) debt? Should we treat political debt differently from, say, home mortgages or commercial paper?

What is the Difference Between a Crack Dealer and a Creditor Soliciting a Bankruptcy Debtor?

The crack dealer leaves you alone once you're broke, right? I know bankruptcy debtors are seemingly better credit risks than average people because they cannot get another bankruptcy discharge for 8 years, and because they seemingly have less debt, but most people still find it unbelievable that creditors hotly pursue bankruptcy debtors in order to give them more credit. My view is that these creditors are also hoping to fuel credit addiction. One would hate to have people outside the credit market too long. They might get used to it. Katie Porter’s work on credit card solicitations and bankruptcy debtors is ground-breaking. I had almost forgotten about the intense solicitation of credit to bankruptcy debtors until I went back into the clinic this semester. A new thing since my last clinic semester (Summer 2003) is that the solicitations come sooner now, within days of the filing and certainly before the discharge. Also, the clear (rather than unspoken) theme of the solicitations is that the debtors have been through a hard time, that these financial problems are not their fault, and that the time has come to treat oneself. As both Katie and Elizabeth Warren have noted elsewhere on this blog, this is a far cry from what creditors said about debtors during bankruptcy reform. The ads also suggest that buying a car now, right after filing for bankruptcy, can improve your entire life. For example, check out this ad, received yesterday, just THREE days after filing for bankruptcy:

Lawyers Make Good Laws?

I attended last weekend's University of Illinois/ABI Symposium on Debt—a tour de force, as readers of Credit Slips can glean from Mechele Dickerson's recent reports. My main interest in attending was to gain insights about how to improve U.S. consumer bankruptcy law, and I got one insight in particular from an unexpected source--a paper on international corporate bankruptcy. The insight?  Bankruptcy lawyers really may be the best source for good bankruptcy laws.

Why People Should Be Allowed to Walk Away from Their Debts

Professor Heidi M. Hurd, a law and philosophy professor at the University of Illinois, ended the conference by discussing first principles in The Jurisprudence of Bankruptcy. Why should we forgive people who break contracts and harm others?

God Was the Poor Man’s Only Surety

The Conference opened with a talk on "Debt, Credit and Poverty in Early Modern England" presented by Dr. J. Craig Muldrew, a history professor from Cambridge (the one in England, not the one in the US).  (He used the term that is the title for this post.)

Though his paper related to Early Modern England, you'll notice striking similarities between what happened then, and what's going on now.  Indeed, Professor Edward Balleisen (a history professor at Duke) connected the dots between then, and now, in his response to Dr. Muldrew's paper.

Abe Simpson Gets His Wish?

Dear Mr. President:

There are too many states nowadays. Please eliminate three.

/s/ Abe Simpson

For those of you who do not watch The Simpsons as maniacally as I do--and that probably would be pretty much all of you--Abe Simpson is the senile grandfather who penned that letter. Now, according to a site calling itself the Los Angeles Chronicle, comes the news that Abe maybe has gotten his wish, and we perhaps have lost three states. Or, to quote Homer Simpson, "Anything is possible with President Koo Koo Bananas in charge."

Are Bankruptcy Judges Unconstitutional?

The title to this post is the question asked by former colleague, Professor Tuan Samahon (UNLV), in  an article just posted to SSRN: "Are Bankruptcy Judges Unconstitutional? An Appointments Clause Challenge." Click here to view the abstract or download the full version. Bankruptcy judges are appointed by the U.S. Courts of Appeals, but Article II of the U.S. Constitution allows only "inferior officers" to bypass presidential appointment and Senate confirmation. Samahon's article explores whether bankruptcy judges are "inferior officers." A taste from the abstract:

Although the Courts of Law have appointed bankruptcy adjudicators since the earliest bankruptcy laws, this Article advances the position that bankruptcy judges have gradually and over time accrued tenure, safeguards against removal, expansive jurisdiction and duties that are incompatible with inferior officer status under the balancing approach of Morrison v. Olson. Accordingly, they are not amenable to being opted out of advice and consent and they must be appointed pursuant to the Article II procedure. The appointments of present bankruptcy judges are consequently suspect and their judgments and orders are of questionable validity.

An Article II challenge has escaped the attention of academic commentators and (largely) that of the courts. Resolution of the challenge will require the Supreme Court to clarify its Appointments Clause jurisprudence This Article argues that the Court's pronouncements on inferior officers in Morrison and Edmond v. United States are irreconcilable. Which authority controls would (likely) dictate the outcome of any challenge. . . .

Samahon examines alternative interpretations of the relevant Supreme Court precedents and includes bankruptcy judges are suspect under some of these different interpretations but not others. Samahon's analysis is careful and balanced. Also, for the skeptics out there, he has an answer to why the issue has not been raised previously. He has laid out a road map for any litigant frustrated with a bankruptcy court to challenge the court's constitutional authority. The article is well worth a look.

The Bear is Dead

The Fed's extraordinary step in propping up Bear Stearns, followed by Morgan Stanley's JP Morgan's purchase of the company at a fire-sale price, has everyone reeling.  But for Credit Slipsters there's an odd little irony worth noting:  Why didn't the Bear file for Chapter 11? 

In the be-careful-what-you-wish-for category, the Wall Street Journal noted:  "Bankruptcy experts said filing for bankruptcy protection wouldn't have been an attractive option for Bear Stearns, partly due to recent changes in the federal Bankruptcy Code relating to financial instruments like derivatives and repurchasing trades. Unlike most parties in bankruptcy, lenders in such transactions aren't stayed or prevented from acting to seize or control the assets involved in those deals."

Bankrupt Consumer Arbitration

A couple of years ago, I got all exorcised about MBNA v. Hill, 436 F.3d 104 (2d Cir. 2006). The case involved a consumer bankruptcy where MBNA had offset $159 from the consumer's account despite MBNA's admission that it had notice of the bankruptcy case. The consumer brought an action for damages because of MBNA's violation of bankruptcy's automatic stay and styled it as a class action. MBNA invoked the arbitration clause in its account agreement, and the Second Circuit agreed the case had to go to an arbitrator. Because the automatic stay is central to the U.S. bankruptcy court's power to protect the bankruptcy estate and because Hill had the potential to be an important precedent that undermined the bankruptcy court's authority, a few of us signed an amicus brief urging the court to reconsider its decision. The Second Circuit disagreed, and the case still stands.

I have been wondering where things stand with consumer arbitration in U.S. bankruptcy courts. I did a little poking around this morning and found a few reported cases where MBNA had been cited. Most of these are cases where a bankrupt consumer has asserted rights under a consumer protection statute as a counterclaim to the creditor's claim in the bankruptcy case. These are just the reported cases, and my curiosity is not about the law in the books but the the law on the ground. Are institutional creditors aggressively asserting arbitration clauses to avoid the jurisdiction of the U.S. bankruptcy courts? It's not really the assertion of arbitration against consumer protection claims in which I am interested. Rather, I am really curious to know whether institutional creditors are using arbitration in an attempt to avoid core bankruptcy procedures like the automatic stay or the claims resolution process. Comments are open.

Illinois Statute Gives Debtors Less Protection After Bankruptcy?

A crazy Illinois law demonstrates how bad drafting is not just for the U.S. Congress. State legislatures can do it too! It is my understanding that some Illinois automobile lenders are citing this law (625 ILCS 5/3‑114) as a reason to give some debtors less protection after they filed bankruptcy. Under this reasoning, these debtors are in  worse legal position because of the bankruptcy filing. That can't be right.

Surprise!!! You've Earned a Discharge AND a Foreclosure

Tomorrow, the Senate is expected to vote on the Foreclosure Prevention Act of 2008, Title IV of which would permit bankruptcy courts to modify home mortgages in certain ways if the loan and the debtor met specified criteria. We've described that idea before, but the bill has crucial implications for bankruptcy that are not related to loan modification. Specifically, take a look at section 421, which proposes a solution to a problem with current bankruptcy law. Many Chapter 13 debtors pay for 3 to 5 years on a repayment plan, doing everything the law requires of them, and only a week or two later, face a foreclosure. How does this happen? Because the mortgage servicers frequently assess charges during a bankruptcy case, but fail to disclose these fees. Courts don't approve them; trustees don't adjust the debtor's payments to account for them; and debtors aren't even given notice that these charges are piling up. Instead of emerging from bankruptcy with a fresh start, homeowners find themselves defending a foreclosure or having to immediately pony up hundreds or thousands of dollars. Just last week, Judge Brendan Shannon of the Delaware Bankruptcy Court addressed this issue, challenging lenders to disagree that these undisclosed "surprise" fees don't "frustrate" bankruptcy's home-saving purpose. The Foreclosure Prevention Act of 2008 tackles this problem by requiring mortgage companies to disclose all fees within the earlier of 1 year of assessing the charges or 60 days before the end of the bankruptcy. The law also specifies that a lender may only charge such fees if they are lawful, reasonable, and provided for in the contract. It's sad that this latter requirement is even necessary--it essentially just prohibits mortgage servicers from violating existing law by overcharging consumers, a problem that an increasing body of case law and research suggests occurs with alarming regularity. I see lots of reasons why permitting bankruptcy courts to modify mortgages may be the best comprehensive solution to the foreclosure crisis, but I also hope Congress takes a hard look at the rest of the bill and considers its overall importance. If consumers do their part in bankruptcy and make every payment required by law, the system should honor its promise to give them a financial fresh start.

Contracting for Stay Waivers

One of my students brought to my attention this recent decision enforcing a prepetition waiver of the automatic stay in a Chapter 11 case. As the decision notes, it's not uncommon to see court enforce pre-petition waivers of the stay when the waivers were made in the context of earlier aborted Chapter 11 plans. But in this case the waiver was made in exchange for a foreclosure forbearance agreement and not in the context of an early Chapter 11.

There is, of course, an important body of scholarship arguing for permitting contracting around bankruptcy on efficiency grounds. The literature has a real problem in addressing the fairness norms that are central to bankruptcy, but leaving it aside, I think prepetition waivers of the stay have a fundamental doctrinal problem--the stay is a right of the estate, not of the prepetition debtor, so the prepetition debtor has no ability to bargain it away.

NYT Topic Page on Bankruptcy

One of my friends--and you know who you are--gave me some serious stick for not putting up a post on Jane Birnbaum's January 12 New York Times article on the state of the bankruptcy system. It took me a while to find it on the NYT web site. For some reason that is not readily apparent to me, searching on the word "lawless" produces more hits about tribal regions in Pakistan than for myself. Is it possible that it is really not all about me? Anyway, the article featured several great quotes from fellow Credit Slips bloggers Debb Thorne and the usual boring numbers stuff from me.

The real reason I thought it was a good idea to bring up this article now was the NYT also put together a "Times Topic" page for bankruptcy. It collects a number of resources on bankruptcy as selected by the NYT editors, including a number of scholarly papers and books by Credit Slips contributors.

Between Life and Death, Bankruptcy Style

The Brits, in their understated way, are on the fast track to revolutionizing the balance between debtors and creditors.  With no public fanfare, the Ministry of Justice announced a plan for debtors to stop making payments on credit cards for up to a year if they had a change in circumstances, such as a job loss or divorce.  (BTW, job loss, medical problems and family break up are involved in 90% of US bankruptcies.) In effect, the debtor can stand somewhere between regular repayment and bankruptcy, getting the automatic stay, but not the discharge. 

There are no reports of mass heart attacks by lenders, no threats to halt all consumer lending, and no reported plague of locusts. 

Nifong Files Bankruptcy

Courtesy of the Law Blog over at WSJ.com, I learned that Michael Nifong has filed bankruptcy. Nifong was the district attorney in the rape case against the three Duke lacrosse players. After Nifong was removed from the case, the charges were later dropped. Nifong was accused of withholding evidence and has lost his law license. The bankruptcy petition and schedules are here courtesy of WRAL television in Raleigh-Durham. Apparently, if it bleeds cash, it also leads.

Bankruptcy at the Dem's Debate

I think this blog has been really good at eschewing electoral politics issues, and I don't want to be the one to change that. Serendipitously, though, during the five minutes I had the TV on watching the Democratic debate, Tim Russert asked the Democratic candidates tonight about bankruptcy reform and their past positions on bankruptcy legislation, and the occasion cries out for a blog post.

Debt Slavery? Correlation of Slavery with Chapter 13 Filing Patterns

Looking at Bob's posting of chapter 7 and 13 filing rates, I couldn't help but notice the correlation between high chapter 13 filing rates and states in which slavery was legal until 1863 (the "South" broadly speaking). The 11 jurisdictions with the highest rate of chapter 13 filings (and all of those with over half the filings being 13s) were slave states. The top 9 (and but for Lincoln imposing martial law in Maryland, the top 11) states were all part of the Confederacy. With a few of exceptions, all former slave states were in the top 15.

What are we to make of this this correlation?

Did the 2005 Law Make for More Chapter 13s?

In my last post, I discussed whether the chapter 13 rate in different states told us much about the mortgage crisis. Short answer: not really. The problem is the assembling the time it would take to assemble the statewide chapter 13 rates going back historically. The national trend in the chapter 13 filing rate is not as difficult to assemble, and it reveals an interesting pattern. The proponents of the 2005 U.S. bankruptcy law said it would force more people into repayment plans in chapter 13 rather than taking the "easy way out" in chapter 7.

The graph shows the monthly changes in the chapter 13 filing rate since January 2004 through November 2007. The data are from the Administrative Office of U.S. Courts except for October and November 2007, which are from AACER. The month the 2005 bankruptcy law went into effect should not be hard to spot. The percentage of cases that were chapter 13 filings spiked immediately after the law went into effect, but the spike was aberrant. Immediately before the 2005 law went into effect, people rushed to file to beat the law's harsh provisions. It made more sense to beat the law's effective date if one intended to file chapter 7 rather than chapter 13. Thus, the big spike after the 2005 law's effective date represents the absence of chapter 7s rather than a rush toward chapter 13. As bankruptcy filings have continued their steady climb (discussed in previous posts gathered here) and looking again to be over 1,000,000 in 2008 (see here), the chapter 13 ratio has been trending back toward the same levels as before the 2005 bankruptcy law.

Still, even a casual inspection of the graph will tell us that the levels are not the same. Where a little over 30% of all bankruptcy filings were chapter 13s before the 2005 law, a little under 40% of all filings are now chapter 13s. The precise figure for November 2007 was 38.8% as compared to 32.2% in January 2004. Two years after the 2005 bankruptcy law went into effect, there seems to have been a slight shift toward more chapter 13s. In my previous post, I said that one really needed longitudinal data to get a handle on how the home mortgage crisis is interacting with bankruptcy filing rates. One wonders whether the persistence of the slightly increased chapter 13 rate might be partly attributable to homeowners filing chapter 13 to save their homes during the mortgage foreclosure crisis.

Does the Chapter 13 Filing Rate Tell Us Anything About Mortgage Foreclosures?

A few days ago, I had the bright idea of looking at the chapter 13 filing rate in the different states and seeing if that told us anything about what might be happening with home mortgage foreclosures. Generally speaking, homeowners often will find it easier to save a home in chapter 13, and thus changes in the chapter 13 rate could give us some understanding of the financial distress being caused by the home mortgage crisis. It's a nice theory, but in practice the data are unilluminating on that point. There is great variation from state-to-state in the chapter 13 rate, making it difficult to draw meaningful conclusions from the data.

Nationally, 38.8% of all November 2007 bankruptcy filings were chapter 13s, but the table shows the national figures masks considerable state variation. (The data are courtesy of AACER.) Bankruptcy experts will not find the state variation very surprising. In an 1993 article, Professor (and upcoming Credit Slips guest blogger) Jean Braucher documented how consumer bankruptcy attorneys can influence chapter choice. (See Braucher, 1993. "Lawyers and Consumer Bankruptcy: One Code, Many Cultures," American Bankruptcy Law Journal, 67:501-83.) On the heels of that article, Professors Teresa Sullivan, (Credit Slips blogger) Elizabeth Warren, and Jay Westbrook described important variations in bankruptcy practice that could not be explained by difference in formal rules but rather were likely the byproduct of differing cultures by local professionals. (See Sullivan, Warren & Westbrook, 1994. "The Persistence of Local Legal Culture: Twenty Years of Evidence from the Federal Bankruptcy Courts," Harvard Journal of Law & Public Policy, 17:801-865.) From these studies and others, we know that local legal culture plays a significant role in bankruptcy chapter choice.

The persistence of local legal culture makes it difficult to use a snapshot of differences in state bankruptcy filings rates or the percentage of chapter 13 cases as a proxy for the financial distress of homeowners. To make such a measure meaningful, one would have to follow the filing rate of particular states across time. In statistics-speak, we need longitudinal (over time) not cross-sectional (across observations) data. Bankruptcy filing data by state are difficult to get and assemble, especially going back in time--why that should be probably should be the subject of another post--making the task beyond what I have time to devote to a blog post. Thus, I'm going to say that we can't say a whole lot about the mortgage foreclosure crisis from the chapter 13 data.

S-CHIP Comes to Bankruptcy Court (Please)

A month ago, a debate raged around S-CHIP, the State Children's Health Insurance Program (see here for background from the NYT). In the end, President Bush vetoed a bill that would have expanded the program to make health insurance more widely available to millions of uninsured children (but I digress). Putting aside the political back-and-forth over expanding S-CHIP, there are two empirical points that would seem relatively uncontroversial. First, many families who are eligible for S-CHIP fail to enroll. Second, many individuals arrive in bankruptcy court without health insurance or with gaps in health insurance coverage.

The bankruptcy system has an opportunity here to make the world a little bit better place. Eligibility for S-CHIP programs varies from state to state, but it is generally stated as a matter of annual income (relative to the federal poverty line) and size of household. Income and size of household also are two facts that debtors must disclose when filing for bankruptcy. When individual debtors arrive for their meeting of creditors, why can't bankruptcy trustees make two simple inquiries of debtors who fall within their state's guidelines. Do you have dependents under the age of 18? Do you have health insurance that covers these dependents? For those debtors who answer they do not have health insurance for these dependents, the trustee simply could hand them a form for enrollment in the state's S-CHIP program and refer any further questions about eligibility to the appropriate state agency.

Simply by issuing a directive as part of its oversight responsibilities for the standing bankruptcy trustees, the Executive Office of U.S. Trustee could implement this proposal in a heartbeat. Moreover, as participants charged with promoting the effectiveness of the bankruptcy system, the U.S. Trustee and the bankruptcy trustees should want to help direct eligible persons into state S-CHIP programs. Individuals who risk uninsured medical bills for their dependent children will be less likely to complete a chapter 13 plan and less likely to recognize the full benefits of a fresh start that the bankruptcy discharge gives them in either chapter 7 or 13. In the absence of action from the U.S. Trustee, I know of nothing that would stop bankruptcy trustees from implementing these suggestions on their own, and I hear that some bankruptcy trustees may already be giving debtors information about the S-CHIP program. That is a good idea that should spread around the nation.

A National Conversation on Bankruptcy?

Bankruptcy isn't a very sexy political issue.  Don't get me wrong:  I think bankruptcy policy is critically important to working families.  In a world with inadequate health insurance, job insecurity, predatory lenders, family break ups and plain old financial mistakes, bankruptcy can be a family's last chance to get back into the economic mainstream. But no one sees bankruptcy in their future, and those who have been through it usually want to forget, so there is no special interest group for the protection of bankruptcy laws.

Today Senator Chris Dodd released a major policy statement entirely about bankruptcy.  The theme is that bankruptcy is a critical safety net for families.

Mortgages in Bankruptcy 101

A few weeks ago, Katie Porter discussed how the Wall Street Journal mischaracterized U.S. bankruptcy law while its editorial page criticized bills that would give relief to beleaguered homeowners. Yesterday, the New York Times mischaracterized U.S. bankruptcy law while its editorial page supported bills that would give relief to beleaguered homeowners. Sorry New York Times, but it is not true that "Under current law, mortgages on primary homes are the only type of secured debt that is ineligible for bankruptcy protection." Mortgage debt is part of the bankruptcy case--it is just treated differently from other debt in chapter 13. And, after the 2005 law, some other debt in chapter 13 does get similar treatment. Long sigh.

At the least, we can say that the mischaracterizations are now equal on both sides of the political fence. I doubt either the WSJ or the NYT set out to deliberately mislead. What's the quote? "Never blame malice or ill-will where sloth or ignorance can explain." The complexity is pretty high here. A number of reporters have asked me for an explanation of how bankruptcy law currently treats home mortgages. With these bills pending in Congress, it is not just the reporters who are interested, so I've posted what I hope is a clear explanation below the fold. Bankruptcy jocks and other legal eagles should avert their eyes lest they be exposed to overgeneralization and blinding statements of the obvious (to them).

A $50 Fee There, a $75 Fee There, and Soon It Adds Up to Real Money

Credit Slips own Katie Porter is the subject of a front-page article in today's N.Y. Times. The article discusses Porter's recent paper on mortgage claims in bankruptcy cases. Porter found questionable fees added to more than half of the claims and found significant discrepancies between what the bank and the debtor claimed were owed. Fees such as a "fax fee" or demand fee" were added to claims Porter found. In some egregious cases, banks also claimed to be owed far more than was actually due.

Although Porter's paper studies claims made in bankruptcy cases, I think it has broader implications for consumers. There is no reason to think these errors are not made systematically across the mortgage industry. In bankruptcy court, the claims are made in an adversarial setting and subject to scrutiny by the court and the debtor's lawyer. If overcharges are commonly occurring in the bankruptcy system, they are likely occurring across a much broader spectrum of claims.

UPDATE (11/6/07): Professor Porter's paper can be accessed on SSRN here.

How Much Do You Want for that Discharged Debt?

Business Week just ran an article about the debt collectors who buy chapter 7 discharged debt. That's right. People pay good money for debts they can't legally collect. Why? It is because they expect to collect some of these debts, legally or not.

It would be perfectly legitimate to buy predischarge chapter 7 or chapter 13 debt and try to maximize collection within the bankruptcy process. The industry literature and web sites are very careful to avoid any statement that might hint illegal activities are occurring. Nevertheless, it all looks very fishy, and it strains credulity to believe that debt buyers are purchasing discharged chapter 7 debt with the expectation of recovering significant portions of that discharged debt. The Business Week article documents numerous instances where creditors or debt buyers were trying to collect discharged debt and failed to stop until hauled into the bankruptcy court.

Reporting on the "Mortgage Meltdown"

Journalists have produced some really excellent stories about the rising foreclosure rate and the struggles of families to save their homes. I've previously blogged about an interesting LA Times piece about the lack of reliable data about foreclosure numbers; another favorite article is the NY Times story, Can These Mortgages Be Saved?, about difficulties that consumers have in obtaining loan modifications from servicers.

In recent days, however, the Wall Street Journal has published pieces about bankruptcy that contain inaccuracies. An editorial on October 24th, The Mortgage Meltdown, grossly mischaracterizes pending bankruptcy legislation. The bill, the Emergency Home Ownership and Mortgage Equity Protection Act of 2007(HR 3609), would reverse the existing preferential treatment in Chapter 13 bankruptcy law for home mortgages and permit debtors to modify their home loans in certain ways. The Wall Street Journal says that the legislation will "allow bankruptcy filers to treat home loans as similar to unsecured credit-card debt." The editorial then sarcastically posits "Guess how eager lenders will be to offer low mortgage rates if they have no better chance of collecting on a mortgage than they do on a credit card?" This characterization isn't mere alarmist hyperbole. It's flatly wrong. Mortgages are liens; they give the lender a security interest in the debtor's real property. Absent unusual circumstances, secured creditors retain their property interestsin the collateral. If they aren't paid--inside or outside of bankruptcy--they can foreclose on the property. In contrast, credit cards are normally unsecured debt. The lenders have no collateral. Unsecured debt and secured debt are treated differently in bankruptcy law, just as they are in state law. The apt comparison for HR 3609's proposal is that home mortgage lenders would be treated just like lenders whose collateral are vacation homes, or commercial property, or rental houses, or whose collateral are cars, motorcycles, or appliances. The Wall Street Journal should print a correction, making clear that the bill would not put mortgage lenders on par with credit card companies, and retracting its suggestion that the legislation would thereby cause mortgages to have the same interest rates as credit cards. Perhaps some would excuse the Journal because these statements were in an editorial. But a recent news article on bankruptcy as a home-saving device was also misleading.

Duck, Duck, Duck . . . Bankrupt!

Recent CreditSlips guestblogger Adam Levitin send me a short piece from the American Banker, "Data Tool from Visa, Experian" about a new risk model called "BankruptcyPredict." The technology is proprietary, of course, but one innovation seems to be the use of data from "all forms of payments cards" processed by Visa, not just credit cards. This means that your pin-based debit transactions processed through the VISA network get incorporated into the model, as well as all the usual stuff in an Experian credit report. This potentially gives the model a great deal of information about your bank account and non-credit spending, not just loans. The model purports to be able to identify consumers who are very likely to go bankrupt up to two years in advance.

My first thought on this: WOW--two years in advance! Although more work is needed on this point, the data that I've seen suggest that most people who file bankruptcy report struggling seriously with their debts for about a year or a bit more before they go broke. This model would outperform consumers themselves, it seems. I imagine a room full of consumers in financial trouble (maybe seeking credit counseling at a face-to-face location). From the consumers' perspectives, they are desperately hopeful to stay out of bankruptcy, but they know it is likely to happen to some people who get in deep financial trouble. They hope that they are the "ducks" in the room but wait out the next months in tense silence to see whether they tip over the edge into bankruptcy--who will be the "goose." Visa/Experian apparently are able to sort out the "ducks," who will continue to pay interest and fees and struggle along, from the "geese," who will seek legal relief through bankruptcy. I also wonder whether consumers would want this information? If the Federal Reserve or the National Consumer Law Center or some enterprising academic built a similar model and made it freely available, would consumers use it? Is there a societally beneficial use to a BankruptcyPredict model? Should financial educators pay for the service so they can counsel clients more realistically on the likelihood of that a client's financial problems will deepen and lead to bankruptcy?

Bankruptcy Claims Trading: Part I

Let me turn to a true bankruptcy nerd topic tonight—corporate bankruptcy claims trading. Bankruptcy claims trading is the buying and selling of claims against a bankrupt corporate debtor. (Trading in consumer bankruptcy claims is an issue that has not been academically explored to the best of my knowledge.)

Bankruptcy claims trading is virtually unregulated in the U.S. Although claims trades can effect changes in corporate control, they are not subject to securities or mergers and acquisitions regulation. There is also little case law on bankruptcy claims trades; my next post will address a very recent decision in the Enron bankruptcy that is the most significant to date.

So who on earth would want to buy a bankruptcy claim?

Watching TV for the Commercials

I recently saw an amazing commercial on CNN Headline News for an operation called 1-800-Credit Card Debt. It appears to be some sort of debt adjustment agency. The CEO, a guy named, Tom Cooke, I think, was speaking and said "Don't let bankruptcy even enter your thoughts." I sure hope these guys are not allowed to serve as a BAPCPA credit counselor. (What I believe to be their website is a bit more balanced.) The commercial, though, raises the question of whether there are any ethical guidelines for credit counselors? What about liability? Malpractice? I would think that a credit counselor should be obligated to neutrally inform people of their full range of options under the law. For some folks, filing for bankruptcy is a wise decision.

Visualizing Bankruptcy

The variations in how people learn always amazes me.  For some, a wordy explanation makes the brain smile.  For others a mathematical formula sings out loud.  For me, a good graph is better than a good glass of wine--interesting, complex, and just a surprising hint of color.

So I was tickled to see Lynn LoPucki's new, post-amendments Bankruptcy Visuals are out.  Lynn has developed the most amazing single-sheet graphic on bankruptcy that I've ever seen.  He has one for Chapter 7, one for Chapter 13 and one for Chapter 11, each showing a case from start to finish.  The visual has an explanation of what happens at each juncture, complete with Code cites, which makes it a kind of one-page review of all of bankruptcy.  But the part that makes it special is that by getting it all on one page and putting the pieces in chronological order, the relationships between the parts are all visible at once.  The complexity--and the simplicity--of the system come to life.

Secret Fees for Spokane Lawyers?

Our buddy, Buce, at Underbelly, notes the insightful comment of Credit Slips guest blogger, David Yen regarding the request of the bankruptcy lawyers for the Spokane diocese to close to the public the hearing on their $10 million fee request. The details about the underlying story are here. "All sides want to avoid a public battle with big headlines." I'm sure they do, but that's not how courts should work in a free society.

Note to Buce: Have you ever thought of switching the blog name and nom de plume so it would be Underbelly at Buce?

Bankruptcy Court Tells Debtors To Charge It

My recent work has documented the targeted solicitations from lenders that consumer debtors receive after filing Chapter 7 bankruptcy and highlighted the industry's ability to profit from financially vulnerable consumers. One of that paper's findings was ubiquity of credit card solicitations. Over 92 percent of debtors interviewed in the Consumer Bankruptcy Project reported that they had received a credit card solicitation. If they live in New Hampshire, bankruptcy debtors may need to accept one of those postbankruptcy credit cards if they want to stay in the good graces of the New Hampshire Bankruptcy Court. Why?

The main parking garage for the U.S. Bankruptcy Court in New Hampshire will no longer accept cash as payment for parking in the garage. The garage owner (a private company) has installed machines that require payment with a credit card to lift the gate to permit patrons to park. Apparently, there is virtually no street parking and few alternatives for garage parking (but note that I have not been to New Hampshire to verify this). The Bankruptcy Code requires attendance at a meeting of creditors (called a 341 meeting after applicable statute) and these meetings are held in the same building as the U.S. Bankruptcy Court in Manchester, New Hampshire. In addition to the new BAPCPA requirements of credit counseling, financial education, pay stubs, tax returns, consumer debtors now may need a credit card to receive a bankruptcy discharge. 

Consumer debtors can expect most of their credit cards to be cancelled when the creditor receives notice of the bankruptcy. These Americans are instantly cardless, and as a matter of policy, we may want them to remain that way--at least for a short period after their bankruptcy. Indeed, if the debtor requires Chapter 13 bankruptcy, they are required to seek the permission of the trustee before incurring new postpetition credit. In New Hampshire, will the chapter 13 trustee view the need to park when attending the 341 meeting or a plan confirmation hearing as a valid reason to let debtors get new credit? Should Chapter 7 debtors accept one of the dozens of credit card offers they get in the first month of their bankruptcy or should they walk, bike, snowmobile, etc to the bankruptcy court?

US Trustee Report on Effects of Means Test

The U.S. Trustee recently released a report, Impact of the Utilization of Internal Revenue Service Standards for Determining Expenses on Debtors and the Court. This study was mandated by section 103(b) of BAPCPA. The U.S. Trustee contracted with RAND corporation to conduct the study, and Marianne Culhane and Michaela White were brought on as co-authors. As I've suggested before, these collaborations produce better studies that incorporate different viewpoints and methodologies. Compare the quality of this study with the Federal Reserve's "study" of credit card solicitations, which we highlighted about a year ago on Credit Slips.

The study is by no "means" (get it, hah!) the final word on the means test because the data come from only eight districts and the law on how to apply and calculate the means tests continues to evolve. Nonetheless, it is the most reliable national study that I have seen, and its findings are provocative. There is a lot to say about this study, but I start with the most basic point--how often do debtors come under the expense standards?

Colbert's Turn on the Subprime Crisis

Contrary to popular belief--well, contrary to my kids' belief, I do things other than just watch TV. I was catching up on my recorded Colbert Reports and found this from last Monday (July 30). In his threatdown, Stephen Colbert identifies bankrupts as the number four threat to America, noting that there was only one thing that could go wrong with the subprime lending business. To counter the threat, Colbert calls for the return of debtors' prisons!

Maxed Out in Class

Many Credit Slips readers will be familiar with James Scurlock's documentary, Maxed Out. If you're not familiar with it, you should be. It's a look at the consumer credit industry and is especially effective in conveying what happens to the individuals who are the victims of aggressive lending practices. You can get it  on DVD. (We really need to get one of those Amazon.com click-through agreements so we can get our 5 cents when somebody clicks through to buy it.) If you're a Netflix customer, you can watch it as part of their "Watch It Now" service (or do it the old-fashioned way and order the DVD).

As I'm putting together my syllabus for my Bankruptcy class this fall, I was considering whether to have a screening of the movie for the first day of class or otherwise requiring the students to see it. In the law school classroom, we'll spend a lot of time on the rules, but it is easy to forget that these rules have real consequences for real people. The movie would provide powerful context to the stories we will see in our casebook. We'll talk, for example, about the anti-modification provisions of chapter 13, a seemingly bland topic that really can be about whether someone keeps their house.

On the other hand, this particular movie has a strong point of view. Although it is a point of view with which I am in general agreement, not everyone shares it. On balance, I'm inclined not to require viewing the movie as part of the class but perhaps to have an optional screening for interested students. (And, if you happen to be one of my students, it won't be on the final exam.) What do others think? Does this movie have place in the classroom, law school or otherwise?

Possible Slash in U.S. Trustee Funding

There have been a few postings at Credit Slips about the U.S. Trustee system such as here and here and here and here. But we never said this:

The Committee is concerned that excessive resources are being expended on efforts by the United States Trustee Program to dismiss cases for insignificant filing defects (thereby creating added burdens on the court and debtors associated with refilings); on the unnecessary use of U.S. Trustee personnel to participate in creditors' meetings that are already handled and conducted by private trustees; and on making burdensome requests of debtors to provide documentation that has no material effect on the outcome of bankruptcy cases. Such actions by the U.S. Trustee Program are making the bankruptcy process more costly and therefore less available for those who need it. The Committee directs the U.S. Trustees to immediately examine these problems and report back two months after enactment of this Act on efforts to remedy them as soon as possible.

Who said this? It was none other than the Committee on Appropriations of the U.S. House of Representatives as it recommended a cut in funding for the U.S. Trustee program from $223 million in this fiscal year to $189 million in the next fiscal year. At the moment I write these words, the full House is debating the appropriations measure (H.R. 3093) so it remains to be seen whether the slash in funding will still be in place after the bill wends its way through Congress.

Mormons Go Bankrupt

For the past several years, Utah has had the dubious distinction of having one of the highest bankruptcy filing rates in the country.  In 2004, for example, nearly one in every 41 families in Utah filed for bankruptcy--about twice the national average.

This is especially surprising because people in Utah have higher rates of education.  Moreover, the Mormon church preaches the importance meeting financial responsibilities and warns against debt.  So why are so many people in Utah in financial trouble?  The practices of Mormons have come under fire:  early marriage, large families, and the effects of tithing. But a new study says no:  Mormons in Utah are slightly less likely to file for bankruptcy than non-Mormons.  The researchers (and my former students), Jim Wright and Zeke Johnson, say the problem lies elsewhere.  In a stroke of good timing, the Urban Institute just released a study that adds more heft to the Wright/Johnson analysis.

US Courts Data on Bankruptcy Filings . . . From March

On Wednesday, the Administrative Office of U.S. Courts ("AO") released quarterly filing statistics -- for the quarter ended in MARCH! They're getting a little bit better. As reported in an earlier blog post, the AO had been releasing quarterly statistics later and later. The last round of quarterly statistics were released 107 days after the end of the quarter. These latest statistics were released 88 days after the end of the quarter. Of course, we are almost now at the end of the second quarter of the calendar year, meaning statistics from the first quarter are now likely overtaken by other events.

Whatever value comes from these stale filing statistics gets lost amidst the misleading bureaucratese of the AO's press release. The quarterly press releases always compare the current 12-month filing rate to the filing rate from the previous 12-month filing rate. In this case, the press release compares filings from March 31, 2005 to March 31, 2006 to filings from March 31, 2006 to March 31, 2007. The former period includes the huge surge of filings that occurred as debtors tried to beat the effective date of the 2005 bankruptcy law. The press release mentions that surge but continues throughout to compare filings between the two periods. Hence, the message of the press release is captured in its title, "Bankruptcy Filings Drop 61 Percent in March 2007 12-Month Period." Comparing bankruptcy filings over the two time periods is about the same as comparing the number of persons who consider the West Wing to be their favorite television show today as compared to 2005. They're simply different things going on.

Self-Citing

If you will indulge me, I will engage in a little self-promotion this morning. The most recent issue of the American Bankruptcy Law Journal (p. 523, vol. 80) has an article that I co-write with Ira David entitled "The General Role Played by Specialty Journals: Empirical Evidence from the Bankruptcy Scholarship." Here is a summary of the findings from the article:

Our data confirm much of what scholars have long suspected. All things being equal, to get cited in the law reviews one should publish in general law reviews and join the faculty of a highly ranked school. Highly ranked general law reviews get cited more than lower ranked general law reviews. In turn, general law reviews as a group get cited more frequently than specialty journals as a group. Legal academics get cited more than nonacademics. Academics at highly ranked schools get cited more than academics at lower ranked schools.

When it comes to citations in the case law, the situation is dramatically different. Academics are not generally favored, but academic reputation is favored. More interestingly, not only do specialty journals outperform general law reviews overall, but lower-ranked general law reviews outperform law reviews from more highly ranked law schools. Older articles have more citations in the case law than do newer articles, whereas the converse is true for citations in the law reviews.

The article supports the conjecture that general law reviews have moved away from articles that the bench and bar will find useful. As we write, "General law reviews specialize in the academy just as specialty journals could be seen as specializing in the bench and bar." Although we limited our research to bankruptcy specialty journals and although there always will be specific exceptions to generalized empirical findings, the work may have broader relevance beyond the bankruptcy field.

We never posted the article to the Social Science Research Network or SSRN so this should be new to everyone. There are responses from Judge Thomas L. Ambro, a judge on the United States Court of Appeals for the Third Circuit and Blake Rohrbacher, an attorney at Richards, Layton & Finger. Both discuss the relative lack of interest in judicial citations of law review articles.

Two Quick Ones

First, from our buddy Buce over at Underbelly over how to win the war on terror using credit cards. Second, courtesy of Tim Zinnecker at South Texas College of Law, an article in today's Houston Chronicle about consumer debt and debtor's prisons in Dubai.

D'Oh, I've Filed in the Wrong Chapter!

On June 10, Fox rebroadcast an episode of The Simpsons called "Rome-old and Juli-eh." We had a DVR malfunction back in early March, and somehow I missed this episode when it first aired.  It wasn't the end of the world, but it was close to it. I watched the rebroadcast last night and discovered what I had missed. Two of my favorite topics--The Simpsons and bankruptcy law united at last. Those of you who neglected to point this out to me on the original air date--and you know who you are--have severely let me down.

After building a new rec room in the basement, Marge asks how Homer could afford it. It goes from there:

Turnover that Check

A blog reader (Michael L. Gompertz) alerted me to a recent decision from the U.S. Court of Appeals for the Eighth Circuit, which sits in St. Louis. For the nonlawyers who read the blog, us legal types really care about decisions from the courts of appeals because they are just below the U.S. Supreme Court in the legal hierarchy and because the U.S. Supreme Court hears so few cases. Thus, the U.S. Courts of Appeal are really the final arbiter for many important legal issues.

This particular case (Brown v. Pyatt, No. 06-3404 (8th Cir. May 23, 2007)) struck me as interesting not so much for the decision itself but for the unintended consequences its legal strategy may suggest. Judging from the alignment of interests on the friend of the court briefs, consumer bankruptcy attorneys might view the decision as a win, but I wonder whether that is true. To understand, first I need to explain the facts.

Manipulating the Means Test

Several months ago, I wrote on Credit Slips about my instinct that BAPCPA effectively has empowered the US Trustee's office to expand its authority.   My suspicision hasn't gone away. The prior post noted that the US Trustee's office has promulgated the median income numbers from the Census (an act that requires the exercise of some discretion and is subject to multiple interpretations). More recently, the UST took it upon itself to promulgate the so-called "IRS Expense" standards for non-mortgage home expenses." (number 2a when you link). Debtors seem to be required to use these numbers or face an objection from the UST office. The US Trustee is basically breaking down what the IRS gives in its own Collection Standards as a single figure (housing) into two numbers--ownership (mortgage/rent) and non-ownership (repairs, insurance, utilities, etc). The UST seems to be using a figure of about 67% for the former and 33% for the latter, but in other counties it was closer to half and half. Where on earth did this come from? Does the US Trustee have any expertise in determi