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Credit Cards and the Mortgage Meltdown

posted by Elizabeth Warren

The role of subprime lenders in inflating the housing bubble, then bringing down the whole economy has received plenty of headlines.  But there has been little attention paid to the role of credit card lending and BAPCPA in the current home foreclosure crisis. 

A new academic paper, Bankruptcy Reform and Foreclosure, argues that the 2005 bankruptcy amendments are deepening the mortgage crisis. The article was written by David Bernstein, an economist at the U.S. Treasury who chose to post this analysis as private citizen listing only his home address and home e-mail address.  Drawing on data from the Survey of Consumer Finance, he links credit card debt, access to bankruptcy, and mortgage foreclosures. If more families could use bankruptcy to deal with their credit card debts, more could avoid foreclosure on their homes.

Bernstein studies families paying more than 40% of their income on home mortgages (in the trade, known as highly leveraged).  This group is 21 times more likely to default on a mortgage than homeowners below the 40% mark. He notes that relieving these high-leverage families of their credit card payment obligations would permit about 1.5 million households to bring their home mortgage payments under 40%, increasing the odds substantially that they could keep their homes. By restricting access to bankruptcy, he argues that "BAPCPA increased home foreclosures, increased the dollar value of financial assets in default, and put downward price pressure on real estate markets."

One implication of Bankruptcy Reform and Foreclosure is more homeowners should consider bankruptcy in order to save their homes.  Even if they cannot rewrite the mortgage, they may write off enough other debt so that they can still meet their payments. Whether that will work depends on the kind of mortgage payment structure they have, but it is a point that more families should think about. 

The paper is a sharp reminder that bankruptcy is not simply a debtor-versus-creditor battle.  One creditor's gain can be another creditor's loss. During the Bankruptcy Wars leading up to BAPCPA, I spoke with mortgage lenders about the pending legislation, urging them to weigh in against making bankruptcy tougher.  The uniform response was "the bill doesn't affect us." But the bankruptcy laws favoring credit card companies did affect the mortgage lenders. Even today, as Indy Mac shuts down and Fannie and Freddie need the federal government's backing to stay alive, few people are connecting the dots that link family economic health, bankruptcy, consumer debt and mortgages.


What a great paper! What hit me was that when we get a debtor into a Chapter 13 because the “Means” test says so, it takes an average of what the debtor has made to date. It gives us some allowable expenses and accounts for “actual” expenses as well. BUT, when we take an average on income and some of that average is based on overtime, we start to see trouble brewing. (This is not even taking in to account the fluctuations in fuel and perishables) Just because that was what they were averaging doesn’t mean that it would not be taken away at some point in the “commitment” period. With the way employment is these days; most people can’t even predict if that overtime will be taken away or increased. Even if overtime wasn’t “taken away” we can see a “dip” if you will, in disposable income in one or more pay periods where overtime was not obtained or not as much was obtained. As we all know, outside of bankruptcy, it would not take much to set off a series of chain reactions. Because, at least here anyway, 13 payments are deducted from wages, that scenario could lead to (involuntary) post-petition debt. ie. Can’t pay light bill, NSF checks, not paying car insurance, babysitter is not paid, borrowing from 401k, etc.. The means test when it come to “committing” a person to a 13 plan payment over a period of time is not nearly as flexible as it should be in order to keep up with what is really going on. If they fall below the median, then ya, we can convert them in some cases but what happens if they make up that overtime say 3-4 months down the line and they are not below the median? The damage would still have been done. Someone needs to do a study on completion rates before and after. I guess we will not be able to know for sure until 2010.

The “dude” was right. The amendment took away some of our coolest tools. Valuation of vehicles was huge! If we knocked off $1-2-even 3k off of the value and stretched the repayment an additional 1-2-3 years on top of that? Huge! It used to leave room to make up the difference on home arrears. (Absent servicer overcharges) No probs!!! Now, it’s not the homerun it used to be. People are paying more, way more. I do believe that debtors with home arrears and vehicle notes are more likely than before to surrender their homes due to the potentially high 13 payments, these days anyway. Still, people, especially with kids are willing to walk thru hell and back for the chance to save their homes and their way of life. It’s just sad when you have to tell them there is no hope. No equity = almost no hope. I say almost…….


Great post -- I hope that mortgage lenders finally understand the consequences of the bankruptcy bill so that maybe they will help to advocate for reform.

Excellent post. Although I am sure the legislation was a minor cause of the foreclosure problem, there is no doubt it was and remains an obstacle for a meaningful number of people getting their economic house in order which does definitely exacerbate the foreclosure problem.

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