Another Sign of the Futility of the 2005 Bankruptcy Law

A big feature of the 2005 changes to the U.S. bankruptcy law was supposed to be a means test that would get people into chapter 13 instead of chapter 7. Because a chapter 13 requires a 3- or 5-year repayment plan, the law's advocates pitched it as an attempt to force "can pay" debtors to repay a portion of their debts. Initially, chapter 13 rates did go up, but that was a statistical artifact of the huge surge in filings just before the 2005 law. As I have noted previously, the chapter 13 rate has been declining ever since.

I am now officially going to call it ....

Anyway you measure it, chapter 13s have returned to their historical level. In fact, one could even interpret the data to show that chapter 13s are slightly below their historical norms. As a percentage of all filings, the chapter 13 rate for July 2009 was 28.1%, and the chapter 13 rate for the first seven months of 2009 was even less--27.6%. In 2004, chapter 13s were 28.1% (the red line in the graph) and from 1999 - 004 they were 29.0%. The 2005 bankruptcy law accomplished nothing about chapter choice.

This is just another sign of the futility of the 2005 bankruptcy law. As I've said on numerous occasions, it did nothing to change the underlying economic reality for consumers in deep financial distress. It's not a surprise that the supposedly central goal of the law--more chapter 13s--has not come to pass. Of course, the unstated goal of the 2005 bankruptcy law was to raise the cost of filing and lower the benefit of doing so that consumers would wait longer to file bankruptcy while paying huge default interest rates and penalty fees. In a paper that my colleagues and I published out of the Consumer Bankruptcy Project data, we found the effect was exactly that--consumers are waiting longer to file bankruptcy.

Comments

[AMC]

I don't think you can successfully make the argument that BAPCPA caused more people to file Chapter 7 instead of Chapter 13.

Plenty of people who would otherwise have filed a Chapter 7 are filing Chapter 13s because of the Means Test.

What has changed is the economic landscape. Chapter 13 requires that debtors have regular income. There's a lot less of 'regular income' stuff going around these days.

Just as important, Chapter 13 has been used primarily by debtors trying to save their homes. As more and more homes have gone underwater, and as more adjustable rate mortgages and option ARMs have ratched up, there has been a sea change in the attitudes of Americans about the importance of saving their homes. Saving the home used to be the brass ring that was worth any sacrifice. Today, not so much.

Plus, Chapter 13's major flaw - the inability to cram down mortgages in the same way that other debts are crammed down - didn't used to be a big deal, because far fewer homes were underwater. Now, stripping second and third mortgages is more common than ever before, but the first mortgages that are underwater simply can't be fixed in Chapter 13.

If you were going to point to one area where BAPCPA made Chapter 13 less attractive than Chapter 7, it would be the change in the ability to cram down motor vehicle loans. You can reduce the interest rate, but you can't reduced the secured claim to the value of the vehicle if the car or truck was purchased within 910 days of filing.

But I don't see that as "the" factor in Chapter 13's decline in popularity. I think the terrible job market and the crash in home values are the main reasons that Chapter 13 filings are below even their historical pre-BAPCPA levels on a percentage-of-all-filings basis.

[Steve Klesner]

I agree with AMC that you must take into account the economic landscape, but it appears the percentage of Chapter 13 filings (and the absolute number of them, I'm guessing) was declining post-BAPCPA before the housing market burst and recession hit (i.e. 2006 and 2007). I have seen few examples in my practice of persons who would have qualified for and chosen Chapter 7 pre-BAPCPA but have been forced to file a Chapter 13 due to the means test or 707(b)(3). I have seen several who have had to file a Chapter 13 due to the 8-year bar, and most of those are not good candidates for Chapter 13 and end up converting after the eight years expire.

[AMC]

"I have seen several who have had to file a Chapter 13 due to the 8-year bar, and most of those are not good candidates for Chapter 13 and end up converting after the eight years expire."

Uh, you might want to reconsider your practice of converting Chapter 13s after the 8 years expire.

Where a Chapter 13 case filed within 8 years after a previous Chapter 7, and then the Chapter 13 is converted to a Chapter 7, the date of the original filing is used to determine if the debtor is eligible for a Chapter 7 discharge. In re Asay, 364 B.R. 423, 424 n.1 (Bankr. D.N.M. 2007); In re Hiatt, 312 B.R. 150 (Bankr. S.D. Ohio 2004)(citing cases).

Your Chapter 13 debtors who filed during the 8 year bar period wouldn't be eligible for a Chapter 7 discharge if they converted to a Chapter 7. They need to dismiss the Chapter 13 and then file a new Chapter 7 case after the 8 year bar has expired.

[Patches]

Locally debtors even if they do qualify for 7 (pre and post reform) usually choose 13. Choosing 13 Pre-Reform because of cramdown and choosing 13 Post-Reform to "try" to save their homes. Although the main reason to file a 13 historically (I say historically, I'm really only talking about my 15 years) is to save a home. If given the choice and qualification permitting our locals seem to favor 13 over 7 because they truly want to pay something back. Judge has even said so from the bench when talking about reform and abuse.

We were having trouble for a little while with our 13 trustee on 7 conversions. She was counting 30 days of the filing date of the 7 on when a plan payment was due instead of when the Plan was filed in a converted 7. Basically starting off in a converted 7 to a 13, 3-5 months in the hole. That can screw up a plan royally!

July anyway was decent on 13s. 20 13s and 4 7s with about 1/4 (approx) being over median or in other words an "F" on the "Mean(s) Test".

[Slappy]

And let's not forget how one can no longer discharge private student loan debt...I went back to school after 20 years of work, graduated and, ironically, lost my job and now I've been unemployed for six months, been dutifully paying my federal and private student loans. Finally, I look at my budget and I'm reaching the point where it's going to be loans or housing, so I call the federal lenders, at a 0.84% interest rate: No problem, six month extension. Private lenders, at a 7.15% interest rate: The best they can do is grant a two-month forbearance but only if I was working! If I was working, I wouldn't need the forbearance!

My community has a free law clinic so I go talk to them to see what my options are, until 2005 I could've petitioned the Bankruptcy Court to dismiss or rework the private loans.

So the private lenders who are charging what amounts to usury interest rates benefit from the law changes but don't change their way of business at all.

I should've gone back to school to become a banker!

[Patches]

Espinosa. Maybe? after recess.??..soon hopefully. Only because the government...I should say Servicers are so lazy in tracking adversary deadlines in consumer Bankruptcies. Claims are like ping pong balls in the system. I mean I really like how they they spanked USAF....Confirmation is Confirmation baby! "enhanced notice" what more notice than notice of bk? They are only going to have to spend more on actually showing up if the 9th cir. gets its way....maybe... Keep the "status quo" and amend the code.

I know we have discussed this before.... about the possible pitfalls. Those above median 13s I think could be good candidates(barring serious stuff of course) I think nationally it could be quite the "tool" in getting production up among the middle class. I mean they are usually educated, have student loans and have decent enough incomes to support it.... unsecured creditors might lose out a bit(even though we have even now endless fields of discharged unsecured claims floating around in like ......alternate universe) but the government gets a revenue stream if amended.....win win.......except u creditors :D

Even though I think we need it, I don't want it or other bankruptcy amendments to come up now and be a pawn in the health care debate.

[Patches]

Ooops. Recess is over... Maybe soon on Espinosa? Ya, read the two Amicus and they were bitching about costs to show up at confirmation. Here's one of them: "Educational Credit Management" posted by or at scotusblog.

http://www.scotusblog.com/wp/wp-content/uploads/2009/06/08-1134_cert_amicus_ecmc.pdf

[Arnie Wuhrman]

I can't speak for what goes on in the whole country, but another reason we are fighting to keep people in Chapter 7 in the Central District of California is that the Chapter 13 Trustees are considering the means test numbers as a "starting point" of sorts, from which they argue for even higher payments. It's not unusual for me to hear comments like, "I know the standard amount for food for a family of four is $752, but I think they don't really need that much -- I'm only going to allow $600." I have to warn clients who are considering Chapter 13 that the numbers I calculate before they file their case are just the BEGINNING of the discussion, not anywhere close to certain to be approved. So much for "objective" number-crunching.

[Patches]

It kind of makes the means test a "jumping off point" and not a true "means test". I feel your frustration. Or telling us to tell our clients to close down their business because it hasn't turned a profit even if it is only on a Tax Return.

[Mike Guttentag]

Is this the same article that was recently awarded the 2009 Editor’s Prize from the American Bankruptcy Law Journal?

[Linden]

The other big reason to keep people in Ch. 13 -- stripoffs of second mortgages. I have confirmed two plans in which unsecureds got zero, just to get this benefit.