The Congress has passed sweeping changes to the Bankruptcy Code designed to restrict the availability of a discharge in Chapter 7 and to substantially reduce the relief available in Chapter 13. The bill will effect only cases filed more than six months after enactment in April, 2005.
The major changes in the bill impacting individual debtors are reviewed below. How these changes are implemented and interpreted by bankruptcy trustees and judges is impossible to predict with certainty. What is clear is that under the new law, there will be far more “hoops” for the debtor to jump through to get a fresh start; the process will be more expensive for the debtor and the court system; and there will be an extended period of uncertainty as the players work their way through the changes.
Eligibility for Bankruptcy
A means test would determine whether a debtor could file Chapter 7. Anyone with an income below the median income for families of the debtor’s size would be exempt from the means test. For those debtors above the median income, a presumption of abuse on the part of the debtor is triggered; the debtor has the burden to rebut the presumption.
In applying the means test, the average income over the past 6 months is used, regardless of present actual income; from that income is deducted mortgage and car payments, and the amount necessary to pay back taxes and past due support. Private and public school expenses for children are limited to $1500 per child per year. If, after deducting those amounts and the living expenses provided in the IRS’s national collection standards, the debtor could pay at least $6000 to unsecured creditors over 5 years, the debtor’s only option would be Chapter 13.
Barriers to Filing
Debtors must obtain approved credit counseling before they can file bankruptcy. Unfiled tax returns must be filed within weeks of the commencement of the case. Lawyers for debtors, but not lawyers for creditors, face personal liability for monetary sanctions if their client is not eligible for Chapter 7 or the facts in the petition are later disproved. The filing fees for bankruptcy cases are increased. Legal fees charged by attorneys who remain in the field are expected to increase substantially.
Chapter 13
Present:
Debtors elect Chapter 13 to cure mortgage arrearages, catch up on back taxes, discharge debts not dischargeable in Chapter 7, and to retain non exempt assets. Secured debts such as car loans can be reduced to the present value of the collateral. The debtor’s disposable income for determining how much of the pre filing debt must be repaid is determined by the judge’s determination of what living expenses are necessary and reasonable for this debtor and his family. Plans run three years unless the debtor proposes a longer plan, which cannot exceed 5 years.
Amended law:
Disposable income will be calculated using the IRS collection standards, rather than allowing the judge flexibility. Strip down of liens on cars will be limited to vehicles purchased more than 2 ½ years before the bankruptcy. Debtors whose gross income exceeds the state median will be required to remain in Chapter 13 for five years. It is unclear how the means test guaranteeing a certain level of repayment to unsecured creditors will intersect with the debtor’s efforts to cure mortgage arrears and prevent foreclosure on his home.
Multiple Bankruptcies
Present:
Debtors can file a Chapter 13 immediately following a chapter 7 to pay debts that survived a Chapter 7 discharge. A Chapter 7 discharge is available in the seventh year following a previous discharge. Debtors whose Chapter 13 cases are dismissed short of discharge can refile a bankruptcy case, so long as the new case is filed in good faith.
Amended law:
The interval between Chapter 7 discharges is increased by two years. A Chapter 13 discharge is not available within 4 years of a Chapter 7. No change is made on the debt caps for eligibility for Chapter 13, creating a class of debtors with larger debt totals for whom only the more expensive and complex Chapter 11 is available.
Automatic Stay
Present:
The automatic stay uniformly stops collection actions against the debtor or his property and requires the creditor who wants to continue enforcing state law rights to get permission of the bankruptcy court to do so.
Amended law:
The automatic stay is hedged or conditioned in many circumstances, creating less certainty about immediate protection of the debtor. Filing bankruptcy will not stay acts to collect back support, including revocation of driver’s licenses or professional licenses. Creditors omitted from the official list of creditors are free to continue collection action even if they have actual notice of the bankruptcy. If a prior case is dismissed, the duration or even the existence of a stay is limited in subsequent cases. Landlords are freed to complete evictions, even when the tenant-debtors are paying rent.
Discharge of Debts
Present:
Debts not dischargeable in Chapter 7 include recent taxes; family support; student loans; plus a group of debts that may be non dischargeable if the creditor proves in bankruptcy court that the debt was incurred by various kinds of dishonesty or that the debt was created in a divorce proceeding. Chapter 13 provided for a broader, “ super discharge”, allowing discharge of more kinds of debts in exchange for undertaking a repayment plan.
Amended law:
More debts become non dischargeable in Chapter 7, including privately funded student loans; all debts arising from divorce; and debts incurred to pay non dischargeable debts such as taxes or support. Presumptions of fraud are broadened to include purchases of “luxury goods” of $500 within 90 days of filing or cash advances of $750 or more within 70 days of filing. The Chapter 13 discharge won’t cover taxes for which the taxing authority didn’t file a timely claim, unfiled tax years or debts tinged with dishonesty.
General Observations
Throughout the proposed law, new duties are imposed on debtors and their attorneys; failure to timely perform those duties results in dismissal of the case or lifting of the automatic stay. Coupled with the new limitations on a second filing, the consequences of mistakes, inattention, or misfortune become far more serious, as the court and the trustee have less discretion to deal with human frailty and intervening circumstances. The presumption that the debtor is entitled to relief from his debts is effectively replaced by presumptions that the debtor’s filing is abusive until the debtor proves otherwise.
This overview looks at those aspects of the bill that impact the average debtor. Many of the onerous details and exceptions have been omitted and the description generalized. If this proposal becomes law, further analysis will flesh out the changes. Exactly how it actually will work, or not work, will only become known as debtors, lawyers, trustees, and judges try to apply it to the real world of consumers and their debts.
Editorial on bankruptcy, credit cards, and retirement