Editor's Note: This month's update contains excerpts from the November 13 hearing on the National Bankruptcy Review Commission Report before the Subcommittee on Commercial and Administrative Law of the House Judiciary Committee.

Rep. George Gekas (R-PA)
Subcommittee Chairman

The bankruptcy crisis is epidemic. A record 1.3 million or more Americans are expected to declare bankruptcy this year—more than double the number of a decade ago—with losses expected to reach $40 billion. This translates into $400 for every household in the form of higher interest rates and merchandise prices.

More than 1.1 million Americans filed for bankruptcy last year, more than triple the number in 1980. Ironically, despite the current economic boom, the bankruptcy rate per household so far in the 1990s is nearly eight times higher than the rate of the economically depressed 1930s, and it is climbing every year.

Our bankruptcy laws and societal attitudes have created a system that is unfair to debtors, creditors and to all of us as consumers. This cost retailers and bank credit card issuers $7 billion last year. Mortgage, auto and other consumer lenders are suffering significant losses due to personal bankruptcies.

Although many are not sympathetic to the large consumer credit providers, the ease with which federal bankruptcy laws allow consumers to have their debts forgiven is driving up the cost to those who are fiscally responsible in the form of higher prices and interest rates. Responsible consumers are also suffering because bankruptcy losses are prompting creditors to tighten their lending practices. Even worse, families with limited means who do not abuse the system can be shut out of the credit system entirely.

The current system, which breeds financial irresponsibility, is not the cure-all presumed by those who live beyond their means. By allowing people to escape from their financial obligations, we are doing those individuals a disservice by not encouraging them to manage their finances and control their debt. With bankruptcy filings expected to reach historic levels this year, I have grave concerns for the stability—economic and emotional—of the American family.

Historically, bankruptcy was intended as a last resort pursued only under the most dire of situations, e.g., the loss of a job, an illness in the family or the death of a spouse. Unfortunately, bankruptcy has become a way for reckless spenders to escape their debts.

As chairman of this subcommittee, which has been tasked to reform the Bankruptcy Code, I am committed to ensuring that the Code will help those in dire circumstances get back on their feet while protecting the costs of goods and services that all Americans encounter every day of their lives. During this upcoming recess, my subcommittee will undertake the task of reestablishing the balance between creditor and debtor in the form of a bill. I plan to reintroduce the resulting com-prehensive legislation at the beginning of the second session of the 105th Congress. The area of consumer bankruptcy will focus primarily on the individual's personal financial responsibility.

My intent is to restore bankruptcy to its original purpose—as a final last resort after all options are explored.

Brady C. Williamson
NBRC Chairman

Over the last 18 months, we found everyone agrees on the need for a bankruptcy system that treats creditors fairly and that provides relief for the "legitimate debtor," but no one agrees on the definition of the "legitimate debtor." Everyone agrees on the need for balance in the bankruptcy system, but no one agrees on the definition of balance. It is for this subcommittee, in the first instance, and Congress as a whole to maintain—and, in some respects to restore—balance in the American bankruptcy system. That is important not just to provide protection for the creditors and for debtors but for the public as well. It is the public, of course, that pays for the system and either benefits when it works or suffers when it does not.

This Congress and its successors will face all of the challenges that faced the 95th Congress 20 years ago, when it adopted the Bankruptcy Code, but the difficulty of drafting and passing technically-precise, balanced legislation has increased. This subcommittee and the Congress can succeed, as its predecessors succeeded, by moving carefully and by treating with healthy skepticism the proposals offered by either side in the inherently contentious and adversarial relationship between the interests of creditors and the interests of debtors. One thing is certain: If any proposal that advances through the legislative process has the endorsement of any single interest, it is almost certainly the wrong proposal.

The case for radical, architectural change in the bankruptcy system, whether in consumer bankruptcy or in corporate bankruptcy, remains unpersuasive and unproved. The case for incremental change, by contrast, is well supported. In this regard, the controversy that some of the Commission's proposals have attracted should only highlight the far larger number and wide variety of changes that the Commission has recommended with little or no disagreement.

Judge Edith Hollan Jones
NBRC Member

Between the Commission's five-member majority proposals on consumer bankruptcy and the recommendations of the four-Commissioner dissent, there are represented two distinct philosophical and practical approaches to consumer bankruptcy. As I hope to demonstrate, the five-member majority proposals are agnostic or worse concerning the high level of consumer bankruptcy filings. The four-member dissent proposes measures that would go much further to penalize debtor abuse and deter the widespread "gaming" of the system that now occurs. In a separate dissent, Commissioner Shepard and I furnish additional criticisms of the five-member proposals and advocate that Congress consider means-testing of bankruptcy relief. Our separate dissent identifies five different varieties of means-testing, two of which have already been introduced as legislation.

Ultimately, the only way really to encourage chapter 13 is to means-test bankruptcy relief, requiring those who are able to repay some portion of their unsecured, non-priority debts to do so. The Grassley-Durbin bill offers one such possibility, by modifying §707(b); the McCollum-Boucher bill proposes a means test for access to chapter 7 relief.

I cannot overemphasize that the time has come for Congress to consider whether the bankruptcy discharge and "fresh start" are widely being made available to individuals who could afford to repay some of their unsecured, non-priority debts. From my experience on the Commission, I believe the discharge is being unjustifiably granted in a significant number of cases. Proportionately, these may not be a large share of overall bankruptcy filings, but taken together, they cast disrespect on the system and impose large losses that ultimately must be borne by non-bankrupt consumers.

Babette Ceccotti
NBRC Member

With all that we heard, I did not believe a case had been made that the system suffers from widespread abuse by consumer debtors necessitating broadly applicable and extreme measures, such as those directed at so-called "abusive chapter 7 filings," exemplified by H.R. 2500. Recognizing that perfect answers were not possible, my own view on this issue was that limited measures should be devised to address specifically identified problems. Our proposal to allow courts to issue in rem orders barring future applications of the automatic stay to property under certain instances is one such example. Another recommendation aimed at curbing abuse is our proposal to set an upper limit on the amount of the homestead property exemption that would apply nationwide. We have also proposed an audit program to address repeated concerns expressed over a lack of confidence in the documents filed with bankruptcy petitions. Unlike the "needs-based bankruptcy" bill introduced by Congressman McCollum, the more incremental recommendations in the Commission's report focus on discrete problems that we could identify and remedy with some confidence that the cure would not be worse than the disease.

All of the consumer bankruptcy issues we faced were considered against the backdrop of the reported increases in consumer filings over the past couple of years, a phenomenon which we could not fully address, given our limited term. It is apparent that there are no simple explanations for the filing statistics that dominated the news from time to time over the past 18 months. Why so many people have amassed so much debt, and what caused so many of them to file bankruptcy cases, is a question about which we heard many theories. As I listened to this debate, it became apparent that there is no easy answer: There are macroeconomic forces that work over time, there are regional "legal culture" issues, and, most basically, there are the individual circumstances of people's lives. The question is far too complex for broad legislative remedies. Until there has been more thorough study and a better understanding of these issues, I believe the best legislative approach is to proceed with caution and narrowly drawn measures.

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Topic Tags:  Financial Advisors Journal Date:  Monday, December 1, 1997 © American Bankruptcy Institute. All rights reserved. ABI is a (501)(c)(3) non-profit business (52-1295453)