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Bankruptcy "Reform" Fails to Deliver

Tough new laws don't prevent rich or poor from filing

November 20, 2008

Porter and her co-researchers documented that the incomes of bankruptcy debtors in 2007 were statistically indistinguishable from those who filed bankruptcy before the change in the laws, in part because there were so few high-income debtors to begin with.

The findings are the result of a study by Porter and six co-authors from the Consumer Bankruptcy Project, who collected and compared nationwide data on families who filed bankruptcy in 2007 with similar data collected from families filing before the laws were changed. Their newly released study suggests that bankruptcy reform did not deliver its intended effect.

The new bankruptcy law used an income-based screen called a "means test" to push "abusers" out of bankruptcy altogether or to force them to repay their debts in chapter 13 repayment bankruptcy cases. But the researchers suggest that the complications and costs associated with the means test may have discouraged hundreds of thousands of people from bankruptcy even when they needed help.

At the same time, the researchers found little evidence that people who could afford to pay their bills - a group specifically targeted by the reforms in an effort to combat abuse of the protection - actually filed for bankruptcy.

The researchers also discovered that families filing for bankruptcy were more deeply in debt than their counterparts who filed before the laws changed. In 1981, the typical household in bankruptcy owed debts that equaled about 17 months of their income. By 2001, that figure had risen to more than 30 months of income.

By 2007, the typical bankrupt household faced debt obligations that would require them to use all their income for 39 months to pay their creditors. Much of this growth has been in credit-card debt.

"Over the past 25 years, household debt loads have been rising, but families now wait until they are in much more trouble before they file bankruptcy," Porter said.

Researchers also found that debt collectors may not be providing accurate information and appear to be telling people that bankruptcy may not be available as an option when in fact it is. Nearly a quarter of those who filed said that debt collectors discussed bankruptcy with consumers and warned the debtor that they would not qualify, or that the IRS would audit them if they declared bankruptcy.

The study, "Did Bankruptcy Reform Fail?" will be published in a forthcoming issue of the American Bankruptcy Law Journal. It's the first major paper from Phase IV of the Consumer Bankruptcy Project, a joint effort of legal scholars, sociologists and medical school professors. It reports on the first nationwide random sample of people filing for bankruptcy, collecting data from interviews, surveys, and court records of people who filed bankruptcy in the first part of 2007.

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