Congress Overhauls Bankruptcy Laws

The House of Representatives approves an overhaul of the nation's bankruptcy laws Wednesday, in a vote of 302 to 126. The bill, which passed in the Senate last month, will make it more difficult to get rid of debts by filing for bankruptcy, forcing tens of thousand of people to work out repayment plans instead.

President Bush is expected to sign the bill, which opponents say will hurt the economically vulnerable.

About the Bankruptcy Bill

Compiled from Associated Press and NPR staff reports:

Supporters in Congress and the financial services industry say the changes in the Bankruptcy Abuse Prevention and Consumer Protection Act will end the practice of people abusing the bankruptcy system. They say bankruptcy is often the last resort for gamblers, fathers avoiding child support, and multimillionaires seeking to shelter assets from creditors.

But opponents said the bill will hurt those who can least afford it — low-income working people, single mothers, minorities and the elderly — and would remove a safety net for those who have lost their jobs or face crushing medical bills.

Means Testing:

Taking effect six months from enactment, the measure will set up an income-based test for measuring a debtor's ability to repay debts. Those with insufficient assets or income can still file a Chapter 7 bankruptcy, which, if approved by a judge, erases debts entirely after certain assets are forfeited.

Those with income above the state's median income who can pay at least $6,000 over five years — $100 a month — will be forced into Chapter 13, where a judge will then order a repayment plan.

The U.S. average for median household income was $42,654 a year for 2001-2002. State median incomes range from $29,752 in West Virginia and $30,761 in Mississippi to $53,791 in Connecticut and $55,525 in Alaska.

Under current law, a bankruptcy judge determines under which chapter of the bankruptcy code a person falls — whether they have to repay some or all of their debt.

Accommodations for the Military:

The bill allows for special accommodations for active-duty service members, low-income veterans and those with serious medical conditions in the new income test for bankruptcy applicants.

Child Support:

The bill gives top priority to a spouse's claims for child support among creditors' claims on a debtor in bankruptcy.

Credit Counseling:

The legislation requires people in bankruptcy to pay for credit counseling.

Homestead Exemption:

Supporters of the legislative overhaul say bankruptcy is often abused by multimillionaires who buy mansions in states with liberal homestead exemptions in order to shelter assets from creditors.

Kansas, Texas, Florida, Iowa, and South Dakota have unlimited homestead exemptions. That allows wealthy people to file for bankruptcy and keep their mansions in those states sheltered from creditors.

The new bankruptcy bill restricts a state's homestead exemption to $125,000 if the person in bankruptcy bought his or her residence less than three years and four months before filing.

Investment Firms:

The bill gives Wall Street investment firms the right to work for a company both before and after it files for bankruptcy, a provision opposed by Securities and Exchange Commission Chairman William Donaldson.

Fewer Filings Expected:

New personal bankruptcy filings edged down from 1,613,097 in the year ending June 30, 2003, to 1,599,986 in the year ending June 30, 2004, breaking an upward trend of recent years.

Between 30,000 and 210,000 people — from 3.5 percent to 20 percent of those who dissolve their debts in bankruptcy each year in exchange for forfeiting some assets — will be disqualified from doing so under the legislation, according to the American Bankruptcy Institute.

Asset Protection Trust

The new law leaves intact an increasingly popular loophole called asset protection trusts. These trusts allow people to protect substantial assets from creditors even after filing for bankruptcy.

Setting up these trusts can cost many thousands of dollars. Maintaining them and paying an in-state trustee can cost thousands more. That rules these trusts out for people of modest means, making them an option mainly for the wealthy.

Until 1977, these trusts could only be opened offshore. But since then, eight U.S. states — Alaska, Delaware, Utah, Nevada, Rhode Island, Oklahoma, South Dakota and Missouri — have passed laws exempting assets held in the United States from federal bankruptcy laws. People opening one of these trusts don't have to be a resident of the state, but merely establish the trust through a financial institution located there.

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