It's Payback Time For Borrowers - increase in U.S. bankruptcy cases - Brief Article - Statistical Data Included

Kiplinger's Personal Finance Magazine, June, 2001

AFTER declining for the past two years, bankruptcy filings are expected to rise this year, even as Congress is once again on the verge of passing a major overhaul of the bankruptcy code. This time, it may become law.

More than a million households file for bankruptcy each year, and the legislation is intended to make it harder for people to walk away scot-free from debts that they may be capable of repaying. Among other things, the law would require people whose income is above the median level in their state (ranging from $43,200 for a family of four in West Virginia to $75,500 in Connecticut) to file under Chapter 13 instead of Chapter 7.

Chapter 13 filers are allowed to keep more assets, but must agree to pay back part or all of their outstanding debt out of current income over three to five years. Under Chapter 7, filers must put up all their wealth above a certain level to repay debts, but unsecured debt--such as credit card balances--is typically wiped off the books, and future earnings aren't touched.

It's estimated that bankruptcy costs each consumer an extra $400 a year in higher prices and interest charges, and backers of reform say the current law is too easy to manipulate. For example, if you have a high income, you can shelter your assets by buying and moving to a mansion in one of five states with an unlimited homestead exemption, or stashing a lot of cash in retirement accounts. Then you can file for bankruptcy under Chapter 7 and walk away virtually debt-free.

But the law may have less impact than it would appear. Only 10% of people who file for bankruptcy have incomes above the median level in their state. "Very few filers can pay a substantial amount toward their debts, and that's why creditors aren't going to get as much out of this legislation as people are led to believe," says Jay Westbrook, a law professor at the University of Texas and co-author of The Fragile Middle Class: Americans in Debt.

Of those who do file under Chapter 13, two out of three do not carry out the repayment plan successfully and eventually end up filing under Chapter 7. The main effect of the legislation may be that people driven to Chapter 13 won't file at all and will find another way to work out their debts, says Michelle White, an economics professor at the University of California at San Diego. "That's where the credit card companies will benefit," says White.