The credit counseling profession has been turned upside down over the past 20 years. When I first started representing clients in bankruptcy cases, we would routinely refer clients to a Consumer Credit Counseling Services of Nebraska if we thought bankruptcy could be avoided.

Unfortunately, CCCSN closed in 2015 and there was no local professional left to send clients to for real credit counseling.

A real credit counselor is a professional who sees beyond the numbers. Behind every financial problem lies a deeper issue: divorce, gambling, drug addiction, mental conditions, business failures and every other disorder you can imagine. To understand a money problem you must first understand the root cause of the problem, and money problems are usually secondary to a larger issue. Real credit counseling professionals have largely disappeared.

What happened? Why did traditional credit counseling die?

Many factors contributed to the death of traditional credit counseling.

  • Fair Share compensation drastically declined. Fair is the percentage of a monthly credit counseling payment creditors allow the agency to retain to fund its operation. That percentage declined from 15% to almost zero in recent years.
  • Debt Settlement firms have taken over the market. Why? Because their payments are so much cheaper. Instead of paying all the debt back settlement companies falsely claim that debtors only need to pay a fraction of what they owe. They lure clients away with slick advertising and lower monthly payments.
  • Technology changes are disrupting every industry these days and only the most tech savvy firms are surviving in any field.
  • Consumers cannot distinguish real credit counseling programs (i.e., those certified by the NFCC) from phony agencies that pretend to be nonprofit counselors.

Traditional credit counselors could not contend with dropping revenue, increased competition, and blinding technology changes while consumers became lost in a sea of confusing alternatives.

The bottom 60% of America is lost, losing ground and is in debt.

At the same time real credit counseling has been disappearing, Americans have been struggling to stay in the middle class.

  • Few workers receive pension plans today. In their place, workers receive 401(k) Plans that are commonly cashed out as they go from one job to the next.
  • Foreign competition and job outsourcing has put a squeeze on wages.
  • Relationships are less stable and an increasing percentage of children are raised by one parent.
  • Jobs change frequently and once a worker reaches 50 they want you gone due to higher insurance costs.
  • Church membership is down and there is a general sense of social dissolution.

The top 40% of America is doing well and they have abundant financial counseling, mostly in how to invest their savings, but the bottom 60%–the people who need financial counseling the most–have nowhere to turn.

It is time to reinvent credit counseling.

The trending term in credit counseling these days is called Financial Coaching.  This goes beyond managing a debt repayment plan. Financial coaching is a process of teaching and assisting a consumer to manage their way out of debt and into savings.

How does Financial Coaching differ from Credit Counseling?

  • Credit Counselors take possession of client funds to manage debt repayment plans. Financial coaches never take possession of client’s funds.
  • Financial coaches do not receive Fair Share payments from creditors, so there are no conflicts of interest.
  • Coaching requires regular face-to-face meetings to review progress and to continue education.
  • Coaches focus on diagnosis, organization, and educating.
  • Coaches teach skills and then make the client implement the payment plans.
  • Coaches help set short-term and long-term financial goals.
  • Credit Counseling is about managing a payment plan. Financial Coaching is about a relationship.
  • Credit Counseling normally requires a large corporate organization to manage plans. Financial Coaching is a profession operated by independent actors.

The opportunity going forward is to build a network of professionals who gradually guide clients out of debt and into savings while teaching life-long skills and awareness that changes peoples lives.

Technologies like Zoom and Teams and Google Meet allow us to break through geographic boundaries and to share information like never before.  We can share files and calendars and spreadsheets and video calls without leaving our homes. It is now possible to create a financial classroom with one-on-one counseling at virtually no cost.

It is possible for a single financial coach to guide 100 or more families out of debt and into savings.  A modest monthly fee will support the compensation necessary to support this new profession. As a bankruptcy attorney I personally manage hundreds of cases through 5-year chapter 13 payment plans, and a financial coach with 20 working days in a month can easily meet with 100 clients monthly by conducting 5 meetings per day.

Do the math.  I recently reviewed a new client’s debt payment program with a credit counselor. She was paying nearly $150 per month to have them manage a plan that was going nowhere. No real credit coaching was taking place.  If a trained financial coach could guild 100 clients out of debt and out of the ignorance of thinking like a poor person, they would earn a very decent living.

So, it is time to build a new network of professions that folks like me can refer clients to for real financial coaching. It’s time to build a brand that is easily recognized as a standard of professional care. The Association for Financial Counseling and Planning Education (AFCPE) is a newer organization moving in this direction.

I know where to send clients to prepare taxes or to fix their car or to have their lawn cut, but I don’t know a single individual who takes on personal credit counseling matters. If someone asks me for a lawyer referral I give them the lawyer’s name, not their firm’s name.  I know of credit counseling agencies who help with debt problems, but not a single human being who does. It’s time to change that.

Nebraska bankruptcy attorney Patrick Patino and had a great conversation about the hot topic of bifurcated chapter 7 fees in Nebraska.

In a traditional chapter 7 case all fees must be paid before a case is filed.  Why? Because unpaid attorney fees are wiped out once a case is filed so attorneys demand that all fees be paid BEFORE a case is filed.

But under the controversial bifurcation fee agreement the attorney only prepares some of the work before the case is field. After the case is filed the client signs a new contract  to complete the case.  Since most of the work is prepared after the case is filed the attorneys are, in theory, allowed to accept monthly payments.

Is this possible? Can attorneys charge a small fee down to file a skeletal chapter 7 case and then accept payments after the case is filed for the remaining work?

As our discussion reveals, the promise of affordable chapter 7 fees under the bifurcation fee arrangement may be illusory.

The controversial use of bifurcated attorney fees in Nebraska chapter 7 cases has reached critical mass.  We can expect US Trustee complaints to be filed against attorneys using BK Billing and Fresh Start Funding in the near future.

Under a bifurcated fee arrangement, the bankruptcy attorney charges a small amount down to file an incomplete bankruptcy petition.  A few days later a second fee agreement is signed to to prepare the remaining schedules which allows the attorney to accept monthly payments.

In theory, this fee arrangement makes filing Chapter 7 more affordable, but the reality is that debtors pay substantially more, and the United States Trustee’s Office believes the practice is abusive.

The Big Lie in Bifurcated Fee Arrangements.

The basic problem with bifurcated fee arrangements is that too little is paid to file a case. Bifurcation attorneys say that hardly any service is provided in the first stage so little must be paid.  Nothing more than the name of the debtor and a list of creditors is prepared. And that is the big lie.

In truth, a lot of work MUST be performed in Stage One of the bifurcated case.  It’s more than just stating a debtor’s name and list of creditors.

  • The Chapter 7 attorney has a legal duty to determine if any of the debtor’s property is unprotected BEFORE the case is filed.  That requires a careful review of a property list.
  • The attorney must verify if the debtor’s income is sufficiently low to qualify for chapter 7, and that requires a review of tax returns, bank statements and paycheck stubs.
  • The attorney must look for avoidable preferences payments to creditors or family members.
  • Credit Reports and background checks are carefully reviewed.

To claim that only a list of creditors is prepared is simply a lie.  And the truth is that bifurcation attorneys ARE performing these chores prior to filing the case. They are not fools. They are investigating the case to identify non-exempt property that could be seized by the Chapter 7 Trustee.  Work is being performed, a lot of it.

So how does the attorney get paid for these services when the case is filed for no money down? Here lies the issue.  The attorneys are collecting those fees in Stage Two after the case is filed, and that is a violation of the bankruptcy stay which bars the collection of pre-petition debts.

Inflated Fees in Stage Two.

Attorneys claim that bifurcation cases are more difficult since they require one appointment to sign the petition and another appointment to complete the schedules. Additional work is required to collect monthly fees and that justifies the higher fees.

But many bifurcation arrangements call for Stage Two fees that are higher than the entire fee charged in a traditional case. For example, one Nebraska attorney charges $170 down to file a case and then $1,930 in stage two. However this same attorney only charges $1,400 to file a traditional case.  Is this attorney really performing $1,930 of services in stage two or is he improperly collecting stage-one services with stage-two payments?

Reforming the Bifurcation Process.

An ethical application of a bifurcated fee arrangement involves the following principles:

  • Limit the process to lower-income debtors who clearly qualify for chapter 7.
  • Do not file a bifurcated case unless a garnishment is imminent.
  • Charge sufficient fees in stage one to pay all court fees, credit reports, and reasonable attorney fees.
  • The more difficult the case, the more the attorney should charge in stage one.
  • Avoid filing complex cases with bifurcated fees.
  • Keep the total cost of a bifurcated case at no more than 25% over the cost of a traditional case.
  • Avoid the appearance of collecting fees in stage two for services performed in stage one.
  • Ensure that debtors can afford the amount of the monthly post-petition fee and report that payment on the bankruptcy schedules.

 

Image courtesy of Flickr and Stewart Black.

 

 

Most people think the bankruptcy process is just about wiping out debt.  Indeed, discharging debt is the key mission of bankruptcy.

However, there is another important goal of the bankruptcy process: ensuring fair treatment of creditors. To achieve equality of treatment the bankruptcy law empowers its Trustees to avoid payments that unfairly prefer one creditor over another.

When a debtor has paid back money borrowed from family members within one year of filing they must disclose those payments on the bankruptcy schedules. These payments are considered to be “insider preference payments.”

Law of Insider Preference Payments.

Section 547 of the Bankruptcy Code sets forth the rules on avoiding preference payments.

The trustee may . . .  avoid any transfer of an interest of the debtor in property

    1. to or for the benefit of a creditor;
    2. for or on account of an antecedent debt owed by the debtor before such transfer was made;
    3. made while the debtor was insolvent;
    4. made—(A) on or within 90 days before the date of the filing of the petition; or (B) between ninety days and one year before the date of the filing of the petition, if such creditor at the time of such transfer was an insider.

Who is an insider?

Bankruptcy Code Section 101(31) defines the term “insider” and it includes any relative of the debtor.  So who is a relative?  “The term “relative” means individual related by affinity (i.e., by marriage) or consanguinity (i.e., a blood relative) within the third degree as determined by the common law, or individual in a step or adoptive relationship within such third degree.”

The typical insider preference payment.

Most insider/family preference payments are fairly straightforward.  A debtor paying back his or her parents $200 per month for 12 months has a $2,400 preference to report on the bankruptcy schedules.  The bankruptcy Trustee will then demand the parents return the money to be distributed to all creditors pro-rata.  That is fairly simple.

Revolving door preference payments.

What gets complicated are cases where the same $100 is borrowed and paid over the course of a year.  If a debtor borrows $100 from a parent and pays it back and then borrows and pays it again each month throughout the year, how much is the preference? Is the preference $100 or $1,200?

In the case where a debtor has something of a Revolving Line of Credit arrangement with a parent, the courts look to see whether the parent’s relative position has improved or worsened during the year.

For example, assume a parent was owed $1,200 at the beginning of the year but, due to new borrowing and payments, at the end of the year the parent was owed $2,000. In that case the parent’s position got worse and there is no avoidable preference.  However, if the parent was owed $1,200 at the beginning of the year and by the end of the year was owed only $500, then the parent has a voidable preference of $700.

Listing family debts on the creditor list.

A very common mistake made by bankruptcy attorneys occurs when they list a preference payment on the Statement of Financial Affairs but fail to list the parent on the  creditor list.  If the parent is still owed money they should be listed on both sections.

Solutions to the Insider Preference Payment Problem

The most obvious solution to insider payments is to wait one year before filing the Chapter 7 case.  If a significant preference payment occurred and the case must be filed now, consider filing a Chapter 13 payment plan.  The bankruptcy trustee in chapter 13 has no power to claw back insider preferences (although it may be a factor in how much is repaid to creditors).  A third option is to reverse the preference and have the parent pay back the money to the debtor assuming there are enough exemptions to protect the money. This last option is somewhat questionable and the court may not approve of such a tactic.

 

Image courtesy of Flickr and Kevin Dooley.

 

 

 

 

 

It costs a lot of money to go broke.  The cost of filing Chapter 7 bankruptcy in Nebraska is $1,300 to $1,800 on average, and once a complete bankruptcy petition is filed attorneys are bared from collecting unpaid fees.  The bankruptcy petition wipes out all debt, including unpaid legal fees associated with preparing a bankruptcy petition.

Many debtors need to file bankruptcy immediately to stop garnishments, but how can they pay legal fees when their wages are being garnished?

Attorneys also face a financial problem. They need to file cases to earn a living and most are willing to accept fees in installments, but the current bankruptcy law prohibits them from accepting payments after a Chapter 7 case is filed.

I think the bifurcation is all about informing the client. . . . I do think we are on the cutting edge of something big in Nebraska. I think bifurcation will become the norm.

What is the solution to this problem? Bifurcated fees.

What is a bifurcated Chapter 7 case?

Under a bifurcated case, the attorney files a bare bones skeletal case for little or no money down consisting of nothing more than a the debtor’s name, address and a list of creditors.  None of the bankruptcy schedules are prepared or filed at this time.

Then, after the incomplete petition is filed, the attorney schedules a second meeting with the client to complete the remainder of the case.  Since the schedules are prepared after the case is filed, the attorney, in theory, is allowed to accept payments for this work.

The attorney and client sign two contracts during the case: a pre-petition contract for filing the skeletal petition and a post-petition contract for completing the case.

Bifurcated cases have the potential to revolutionize the Chapter 7 world by allowing debtors to file cases for little money down.

Why are bifurcated fees a burning issue in Nebraska?

The Courts and the US Trustee (the agency that oversees bankruptcy cases) hate bifurcated cases.

The US Trustee’s Office hates the use of bifurcated fees because it feels the program is based on a lie.  Attorneys say they are completing most of the work after the case is filed, but investigations indicate otherwise.  It is clear that many of these attorneys are merely accepting payments post-petition for work completed pre-petition, and that is a violation of bankruptcy injunction baring the collection of pre-petition debts.

A second reason the US Trustee dislikes bifurcated cases is that they believe unsuspecting debtors are being abused with abnormally high fees.  Whereas a debtor may pay $1,400 to file a traditional chapter 7 case, those who file bifurcated cases are paying substantially more, often twice as much.

Some attorneys hate bifurcated fees.

Not only is the Court and the US Trustee hostile to the use of bifurcated fees, some attorneys are angry at their use as well.  Allowing bifurcated fees is a “Race to the Bottom” where attorneys desperate to file new cases advertise “Zero Down” chapter 7 fees.  One local Omaha attorney is advertising his $170 down chapter 7 service that ultimately charges a client $2,100 to complete the case.

Veteran attorneys are crying foul.  First, to file a case for $170 down means that virtually nothing is paid for pre-petition services and they say that is a lie. Lots of services must be performed to file any case.  There must be some basic interview of the client before any case can be filed.  There must be some measurement of a client’s income to see if they even qualify for chapter 7 relief. There must be some basic examination of the debtor’s property list to see if any of it is subject to liquidation. Also, an attorney has an ethical duty to see if any preferential or fraudulent transfers have occurred prior to filing a case.

He’s only charging $75.00 up front. And, an attorney must do more work than that to ethically file. Which, we all know he is. He wouldn’t file the case without checking stuff out. He’s analyzing the case, checking Justice, going through the questionnaire with the clients BEFORE he files. He’s not negligent.”

So how can an attorney ethically file a case for no money down when all these required pre-petition duties exist?  The plain answer is that they cannot do so ethically, and the concept of a Zero Down chapter 7 is inherently unethical.

A Race to the Bottom

Anybody who advertises Zero Down Chapter 7 is going to get business and take away from those who don’t.  Bankruptcy attorneys are suffering a loss of business during COVID-19.  Attorneys are laying off staff and more layoffs are coming soon if revenues don’t change.

Mortgage foreclosures are at a record low due to the moratorium in place, so profitable Chapter 13 cases are dramatically down.  Clients who would normally file cases to avoid car repossessions or paycheck garnishments are currently unemployed.  Lots of folks are just waiting for Covid-19 to end before dealing with the financial problems the pandemic has caused.  So, bankruptcy attorneys have faced steep declines in income and are desperate to try new things.

So when one attorney advertises no money down chapter 7 cases, others must follow. Soon the majority of chapter 7 cases in Nebraska will be bifurcated unless the Court or the US Trustee intervene.

Final thoughts.

Every court opinion on bifurcated fees starts out by saying the arrangement is allowed, but it must be carefully tailored to avoid ethical and legal dangers.

  • An attorney that doubles his or her fee when filing a bifurcated case risks a motion to disgorge fees.
  • The use of a factoring company to sell unpaid legal fees to a high interest rate lender presents problems.
  • Charging nothing down to file a skeletal case when everyone knows a fair amount of work must be done pre-petition is seriously flawed.
  • Complicated cases involving high income or potentially non-exempt assets should not be filed as a bifurcated case.
  • Filing bi-furcated cases for clients who are in no present threat of garnishment seems unnecessary.
  • Not collecting a reasonable partial fee prior to filing a case to cover necessary pre-petition services is unwise.

Something tells me we will be seeing more US Trustee and Court oversight of the bifurcation process in the near future.

 

 

 

 

 

 

Image courtesy of Flickr and USFWS Mountain-Prairie

The Nebraska bankruptcy court discharged student loan debts for a 50-year-old debtor raising a disabled grandson. See In re Mudd. The Court overruled the Department of Education’s argument that a debtor must work two jobs to meet her burden of showing undue hardship.

In discharging the student loans the Court pointed out several factors:

  • The debtor has never earned more than $13 per hour.
  • Prospects of higher income in the future was speculative.
  • The debtor rented a single bedroom apartment that she shared with her disabled 17-year-old grandson.
  • The debtor was eligible for a zero-payment Income Based Repayment plan with the Department of Education.
  • The debtor failed to renew the income-based program for no apparent reason.
  • The debtor had no retirement savings, pension accounts or investments of any kind.
  • The debtor had recently purchased a 2016 Nissan Rogue with payments of $414.65 per month.
  • The debtor suffered from diabetes, high cholesterol, gastro reflux disease, menopause, severe allergies and a torn rotator cuff.
  • Between 2006 and 2015 she received 26 student loans .
  • She appeared to owe in excess of $75,000 of student loans.
  • At the time of trial the debtor worked 40 hours per week earning $12 per hour and worked a part-time job as a FedEx package handler.
  • Medical bills and garnishments were the immediate cause of the bankruptcy filing.

TOTALITY OF CIRCUMSTANCES:

The court applied the “Totality of Circumstances Test” used in the 8th Circuit in reviewing the application.  Three factors are considered:

  1. The debtor’s past, present and reasonably reliable future financial resources.
  2. A calculation of the reasonable living expenses of the debtor and her dependents.
  3. Any other relevant facts and circumstances.

A long review of the debtor’s income earning record indicated that this debtor was already earning at her peak capacity and that it was doubtful and speculative that her income would increase substantially beyond its present level. The debtor showed good faith in working a full-time job and part-time job to pay for basic living expenses.

The court also agreed that the debtor’s living expenses were reasonable.

MUST A DEBTOR WORK TWO JOBS TO DISCHARGE STUDENT LOANS?

The Nebraska bankruptcy court scoffed at the notion that a debtor must work two jobs before they can show good faith in discharging student loans.

At trial, DOE insinuated that Mudd must maintain two jobs to meet her burden of
showing undue hardship. It asserted that, even if Mudd obtains a higher-paying
customer service representative position where she “only” worked 40 hours per week,
she “would still have the ability in terms of time in your schedule and otherwise to work
a second job.”

A 50-year-old debtor with numerous health problems earning $12 per hour who supports a disabled grandchild must work a second job to show good faith before the court could consider issuing a hardship discharge of student loans?  That was the implied argument of the US Department of Education attorneys.

WHY WAS THIS A TOUGH DECISION FOR THE COURT?

I think most observers would agree with the court’s opinion in this case.  It is extremely doubtful that a 50-year-old debtor with health problems will see an increase of income. In fact, the very sad truth is that all workers over the age of 50 have a bullseye affixed to them for “strategic layoffs.”  Older workers impose a burden on corporate health insurance premiums and younger managers typically feel uneasy managing older workers.  When you hit 50 in America’s workforce, they want you gone.

But why did the court have to suffer through a 28-page opinion? Was there any real question of a hardship?  Even if the debtor was not supporting a disabled grandson, wasn’t the fact that she was 50 years old with health problems and no savings, pension, home or prospects of higher wages more than enough to justify a hardship discharge? Why did the court struggle to balance the equities in this case?

The legal standards regarding student loan discharges were created when such loans could be discharged five years after they became due.  And since five years is a very short period of time, the standards to qualify for a special “hardship discharge” prior to the running of 5 years were very high.

But when the 2005 bankruptcy amendments were passed to eliminate student loan discharges entirely except for the hardship cases,  the courts failed to update their standards.  Courts continued to apply the very tough standards applied when discharges could automatically be granted after a student loan was five years old, and this is an error that our appeals courts have lacked the courage to address.

As I write this blog post, protestors have stormed the nation’s capital to block the vote confirming the election of President Biden and in Georgia the US Senate elections may usher in serious bankruptcy reform legislation. We may see bankruptcy reform laws passed to finally deal with crushing student loan debts.  But legislation is tricky and slow, and it is time the courts update the standards applied to define what an undue hardship means for debtors entering into their final working years with no savings or economic stability.

Image courtesy of Flickr and Bradley Weber

Senator Elizabeth Warren has introduced a law to radically change the consumer bankruptcy practice entitled the Consumer Bankruptcy Reform Act of 2020.

This revolutionary document would make dramatic changes to bankruptcy practice.

  1. Chapter 7 and 13 is eliminated and replaced with a single system called Chapter 10.
  2. Student Loan debts become dischargeable just like any other debt.
  3. Discharges are issued immediately upon confirmation of payment plans instead of waiting until all payments are made.
  4. Discharges would be issued without the requirement of a payment plan (what Chapter 7 currently offers) to families whose income is less than 130% of the median income for their state.  For a Nebraska family of 4, the current median income level is $96,749, so debtor’s whose family income is less than $125,773 would be eligible for immediate discharge in Chapter 10.  For a single debtor the income cutoff would be $66,101.
  5. Credit counseling requirements are eliminated.
  6. Past due rent payments are discharged but landlords may not terminate the lease as long as future rent is paid on time.
  7. Telephone/Zoom Court hearings. Debtors would no longer have to attend the required trustee meeting in person and the meeting must not conflict with a debtor’s work schedule.
  8. Spending habits become irrelevant: Bankruptcy courts would no longer focus on how a debtor spends their money. Rather, median income levels would determine the amount paid back to unsecured creditors with few debtors having to pay back anything at all.
  9. Three types of payments plans are created: Repayment Plans for unsecured debts.  Residence Plans for delinquent mortgage payments.  Property Plans for non-mortgage secured debts, like cars or furniture.  A debtor may be enrolled in three plans at the same time.
  10. Attorney fees may be paid after the case is filed, but attorneys may not sell their unpaid fees for quick cash.
  11. Trustees may not dismiss unpaid cases but rather must enforce a lien. In current chapter 13 cases, a debtor who fails to pay monthly payments may have their case tossed out of court without a discharge.  New Chapter 10 instead issues an immediate discharge upon plan confirmation and gives the trustee a judgment lien that the trustee may use to enforce the plan, which basically requires the trustee to sue and garnish the debtor.
  12. Federal property exemption laws would apply to all cases and allow an individual to shield $30,000 of personal property from creditors.

The Chapter 10 proposal is revolutionary to the core.  This is a radical manifesto that would rip through consumer bankruptcy practice. And, unfortunately, because of its radicalness, it probably has zero chance of ever being enacted into law and squanders the current opportunity to achieve real bankruptcy reform.

What is also clear about this proposal which was endorsed by 74 law school bankruptcy professors, is that it rejected any input from those professionals, judges, trustees and attorneys engaged in consumer bankruptcy practice.

There are so many problems with this proposed law that it is hard to begin.  Here is a short sampling of some of the obvious defects of this political manifesto.

  • Student Loans.  Is it really wise or fair to allow students to discharge their entire student loan debt two seconds after they graduate college? Wouldn’t it be wiser to delay eligibility for student loan discharges for a period of 10 or more years? I cannot see how voters would approve of allowing privileged college students to immediately discharge taxpayer subsidized education without making any effort to repay a single dime of debt.
  • 130% of Median Income Qualification.  Under current consumer bankruptcy law, the court may require a debtor who clearly can afford to repay some or all of their debt to enter a payment plan.  Not so with chapter 10.  Under chapter 10 we no longer review a debtor’s spending choices or ability to pay.  Rather, we only require debtors with income over 130% of median income levels to pay back anything to unsecured creditors.  Under this rule the vast majority of higher income debtors who currently must offer payment to creditors would immediately qualify for a no payment case.  Would voters approve of that change?
  • Unpaid Rent Dischargeable.  Chapter 10 proposes that past due rent be dischargeable but that landlords be forced to continue the lease as long as future rent is paid on time. But doesn’t this just encourage debtors who must file bankruptcy to stop paying rent knowing that they can stop evictions and skip paying past due rent when the bankruptcy is filed? Will this cause landlords to increase the amount of security deposits charged to all renters?
  • Mass Resignation of Trustees.  I would anticipate that the majority of trustees now serving in chapter 7 and 13 cases would consider resignation if chapter 10 were passed. Why?  Chapter 13 trustees who mange payment plans could no longer dismiss cases for nonpayment but would rather be required to enforce a judicial lien through garnishments. Is that feasible? Probably not. Chapter 7 trustees could almost never claim property under chapter 10 since new federal exemptions would protect almost every debtor’s property.  And since trustee meetings must now be scheduled when they do not interfere with a debtor’s work schedule, do we really expect trustees to conduct meetings during evening hours or weekends? This is madness!
  • Attorney Fees.  The chapter 10 proposal to allow attorneys to collect fees after this case is filed is sensible, but this proposal prohibits attorneys from selling their unpaid fees to investors.  What these law professors do not seem to understand is that this proposal changes nothing since the risk of not being paid has not changed.  Bankruptcy attorneys are not going to start filing complicated cases on an installment plan just because they are allowed to.  Only the most financially stable debtors will be able to take advantage of this change, but for lower-income debtors the attorneys will still have to collect all their fees up front since the risk of not being paid is not alleviated.  That is why allowing attorneys to factor their receivables is actually a good thing for lower-income debtors since it encourages attorneys to file cases for little money down if a market for their unpaid receivables exist.  Rather than outlawing the selling of receivables the better option is to allow the US Trustee and the courts to review the factoring arrangement for reasonableness.  When law professors and lawmakers fail to gather input from those who actually prepare cases, this is the type of misguided legislation that results.
  • Enforcement of Payment Plans.  Under the current payment plans offered in Chapter 13, the failure to make payments will result in a dismissal of the case.  Not so with Chapter 10.  Rather, the Discharge of debts is immediate upon plan confirmation and the bankruptcy trustee is given a Judgment Lien to enforce payment.  This is completely unrealistic. Bankruptcy trustees are not going to take the extraordinary steps to garnish debtors who fail to make the bankruptcy payment.  Honest but unfortunate debtors lose jobs and relocate frequently.  Tracking down judgment debtors is a difficult and expensive process.  Bankruptcy trustees depend on a steady flow of payments to fund their office, and taking away the power to dismiss cases will result in a devastating cash flow crisis that will cause trustees to resign from office at alarming rates.  The only reason a majority of debtors make the monthly bankruptcy payment is the fear that a dismissed case will allow creditors to resume garnishments and foreclosures.  Take away that fear and payments to trustees will slow overnight.
  • $30,000 Property Exemption.  The proposal to give every debtor a $30,000 property exemption will virtually eliminate a claim of assets in the vast majority of cases. As a result, income for bankruptcy trustee’s will decline substantially.  Several chapter 7 trustees tell me that their profits have shrunk considerably over the years due to greater reporting duties imposed on them and from greater property exemption laws approved by state legislatures.  Some trustee’s say they make little to no income from their trustee duties and they already question why they keep the job.
  • Remote 341 Hearings.  I fully endorse the concept of making remote Section 341 meetings with the trustee permanent.  Since COVID-19 these hearings are currently conducted via telephone conference calls, and the process is working well.  However, the new requirement that the hearings not conflict with a debtor’s work schedule is just nonsense.  These hearings only take a few minutes to complete and the debtor is given a month advance notice of the hearing date.  Many debtors complete these hearings on a cell phone by taking a half-hour break from work.  If necessary the hearing are rescheduled if the debtor is not able to attend.  To require that trustees conduct meetings when the debtor is off work in the evening or on weekends is insane.  Trustees will resign before they agree to this.
  • Post-Petition Mortgage Payments.  When a debtor falls behind on mortgage payments after a case is filed, the bank will normally file a Motion for Relief from the Automatic Stay when three or four payments are missed.  The proposed Chapter 10 law says that creditors may not take advantage of state law enforcement procedures until a post-petition mortgage payment is 120 days past due.  So does this mean that the automatic bankruptcy stay is automatically lifted when payments are 120 days past due? If so, this represents a great weakening of the protection to homeowners.  In chapter 13 cases the banks don’t even request relief until a loan is 60 to 120 days delinquent, and when that happens we routinely work out payment plans to cure the default over 6 months.  Under Chapter 10, however,  no such repayment agreements are available if the bank just waits until an account is 120 days past due.  This is less protection.
  • Median Income Calculations.  Chapter 10 still requires debtors to submit six months of paystubs and other income verification documents to their attorneys to determine their median income level.  What???  This is horrible. Do these law professors have any idea how difficult it is to obtain six months of financial records? This is what the Bankruptcy Reform Act of 2005 imposed and it directly resulted in the cost of bankruptcy cases to double and triple.  It is so obvious that the writers of this legislation have never actually prepared a bankruptcy case.  Why is it necessary for a minimum wage worker to submit a six-month income calculation when it is perfectly obvious from their last paystub and tax return that they only earn minimum wage? Such debtors do not keep paystubs and they change jobs frequently. The nightmare of collecting income documents stays the same under this “reform” bill.

I remember preparing bankruptcy cases prior to the Bankruptcy Reform Act of 2005. Bankruptcy fees were cheap and we didn’t have to collect six months of paystubs or bank statements or tax returns.  But we did have to prove up on every case and explain how we determined a debtor’s income.  Bankruptcy trustees did a good job of reviewing monthly budgets and they frequently pushed higher income debtors out of chapter 7 if they felt a payment could be made to creditors.

In some ways the practice before 2005 was too lax. It does make sense to require debtors to submit a recent paycheck stub, tax return and bank statement to the trustees for review.  It does make sense to impose a duty on bankruptcy attorneys to verify the accuracy of the petition they file.  Some reforms were overdue, but the reform act of 2005 was 99% punitive and unwise.  The law was so poorly drafted that it took a decade of court appeals to figure out what it even said.

The Bankruptcy Reform Act of 2020 is some of the worst written law I have ever read.  This legislation would destroy the current system and lead to mass confusion and trustee resignation. The drafters of the legislation seem not to see how vague and uncertain it’s provisions are and this will lead to massive litigation to figure out what the darn document says, just like the 2005 reform bill did.  But what is worse, 40 years of case law interpreting chapter 13 cases will be thrown into the trash and courts will struggle to interpret the mechanics of the new law.

Bankruptcy attorneys will, however, greatly benefit from the confusion this new law will usher in.  Bankruptcy fees will soar with the complexity of these cases while immediate discharge orders will make them seem like magicians to their clients who are ostensibly immune from not making required payments.  This law is nothing less than a radical economic manifesto that no sensible Congress should ever consider enacting into law.

 

Image courtesy of Flickr and Mark Ramsay

The 9th Circuit Court of Appeals is the first court of appeals to rule on the issue of whether a bankruptcy court must approve a lease assumption.  See Bobka v. Toyota Motor Credit Corp, 968 F.3d 946 (2020).

What happened?

When Melissa Mather Bobka filed a Chapter 7 she was leasing a Toyota Rav4.  She wished to keep her vehicle and called Toyota Motor Credit to let them know of her intention to keep the vehicle.

Toyota Motor Credit sent the debtor a Lease Assumption agreement that was signed and filed with the bankruptcy court.  The next day the bankruptcy discharge was issued.

Payments on the lease went into default and the vehicle was eventually surrendered. Toyota Motor Credit then sought to collect the past-due balance and the debtor objected stating the debt had been discharged since Toyota failed to follow the requirements of a Reaffirmation Agreement outlined in 11 U.S.C.524(c).

Toyota Motor Credit countered that the requirements of 524(c) pertain only to auto purchase agreements and not to auto leases which are regulated under bankruptcy code section 365(p).

The debtor requested that all collection activity stop and that she be awarded $50,000 in damages.

What the court said.

The bankruptcy court and the district court ruled in Toyota Motor Credit’s favor and held that banks do not need to comply with the cumbersome requirements applied to auto purchase reaffirmation agreements.  The debtor then appealed to the Ninth Circuit court of appeals.

In rejecting the debtor’s appeal, the Ninth Circuit Court identified three reasons why a lease assumption agreement does need to follow the stricter rules governing reaffirmation agreements.

  1. To apply the stricter requirements of reaffirmation agreements to lease agreements would render the language of 365(p) superfluous.
  2. Courts should to apply specific statutory construction before more general provisions.  Section 365(p) specifically deals with lease agreements and should be applied before more general rules of reaffirmation agreements apply.
  3. Other parts of the Bankruptcy Code suggest that lease agreements are not governed by reaffirmation agreement requirements.

Why is this opinion important?

A great deal of uncertainty has surrounded lease assumption agreements. Some creditors require that debtors sign reaffirmation agreements to assume a lease while others simply rely on one-page lease assumption agreements.

Reaffirmation agreements require court approval, while lease assumption agreements do not. And sometimes bankruptcy judges rule that it is not in the best interest of a debtor to reaffirm an auto loan that is beyond their ability to pay.

A ruling that court approval is not required makes it easier to keep a leased vehicle, although debtors and their attorneys should give serious thought to whether that is a good idea.

 

Image courtesy of Flickr and Dennis Elzinga.

Rambling thoughts on the impact of the 2020 elections on the practice of bankruptcy law.

Unless both Georgia senate runoff races are won by the Democratic Party candidates, it appears that the United States Senate will still be ruled by the Republicans and Mitch McConnell.

Why does this matter? Because if the Democrats take control of the Senate you can expect Senator Elizabeth Warren to lead up a crusade to overturn the Bankruptcy Reform Act of 2005.  Senator Warren has campaigned to make several changes to the bankruptcy laws, including:

  • Making student loans dischargeable through bankruptcy again.
  • Eliminating the bankruptcy “Means Test” that has driven up the cost of filing bankruptcy by imposing tremendous paperwork burdens.
  • Eliminating the requirement of completing a Credit Counseling course prior to file bankruptcy.
  • Reducing the amount a person has to pay to file a case by allowing debtors to pay attorneys after the case is filed.
  • Increasing protection to homes by creating a larger and standardized Homestead Exemption law.
  • Allowing debtors to “cramdown” auto loans to the value of the vehicle.
  • Streamlining the bankruptcy process to make it easier and less expensive to file.

But if Republicans continue to control the Senate by winning one or both runoff elections in Georgia–something that is more likely than not–then it is doubtful any radical changes will be made to the bankruptcy laws.

The election results makes a big difference when advising new clients, especially clients with large student loan debts. “Are you sure you want to file a case now under the current law when student loan debts may become dischargeable if the Democrats take control of the Senate?” That is the question I have been asking clients in recent months, urging them to see if they could delay the process until we knew the results of the election. Well, now we know a lot more, and it doesn’t appear that much if anything is likely to change unless upsets are achieved in the January runoff elections..

Even if the Republicans stay in control of the Senate, it is possible that newly elected President Joseph Biden will spearhead an effort to reform the bankruptcy laws he helped mess up in 2005. Biden has pledged to reverse the bankruptcy amendments he championed in 2005.

Bankruptcy reforms we can all agree on now.

Regardless of who controls Congress in 2021, here are some suggestions that both Democrats and Republicans should agree upon right now:

  • Student Loans.  Student Loans should be dischargeable in bankruptcy after a certain period of time.  Can we all agree that these loans should be dischargeable after 20 years? Gosh, that is a very hard position, but it’s a lot better than the one we have now that they can never be discharged unless an extreme hardship is present.
  • Means Test. Abolish the Means Test. This is a silly requirement that has never achieved its intended purpose other than to make filing bankruptcy more expensive and difficult.
  • Attorney Fees.  Allow attorney fees to be paid after the case is filed. Too many low-income debtors continue to be garnished because they cannot afford all the upfront fees to file bankruptcy.
  • Eliminate Credit Counseling.  The courses debtors must take to file and complete a case are worthless. No real education occurs and the courses do not cause debtors to avoid filing.
  • Communications with Banks. Prohibit banks from canceling online access to borrowers who file bankruptcy and require mortgage lenders to speak to borrowers who call them after filing bankruptcy. Banks often take the unreasonable position that they are not allowed to speak to customers in a bankruptcy case, and I would agree that banks should not hound borrowers in bankruptcy with collection calls, but there is no reason they cannot speak to customers who call them. The refusal to speak to their customers in bankruptcy is shear madness.
  • Standardize Bankruptcy Exemptions.  Standardize bankruptcy exemptions by not allowing states from opting out of the federal exemption scheme.
  • Video/Telephone Court Hearings.  Continue the telephonic and/or video meetings with the Trustees that started during COVID-19.  Ever since COVID-19 hit we have been conducting required meetings with the bankruptcy trustees via telephone conference calls.  Guess what? They work just as well as in person meetings.  Instead of driving hundreds of miles in the Nebraska snow during winter to attend meetings that typically last about two minutes, debtors are able to call in to answer the routine questions asked by trustees over the telephone. I do not notice any decrease in the effectiveness of the trustee’s examinations, and in some cases their effectiveness may be increasing since they have their full computer systems before them.  The US Trustee’s Office should begin work on a video conferencing system similar to Zoom to handle all trustee hearings going forward. The ability to share computer screens and to view debtors over a camera system works great. A system with a Zoom “waiting room” that allows the trustee to interview one debtor at a time without the distraction of a crowd of debtors waiting for their turn at the table would be ideal.
  • Digital Signatures: Make permanent the use of Digital Signatures that began in Nebraska in 2018 and extended all all bankruptcy courts during COVID-19.  The use of Digital Signatures has been a tremendous success that greatly decreases the burdens on debtors and the court without spending a single extra taxpayer dollar.
  • Chapter 13 Debt Limits:   The chapter 13 debt limits were designed to keep complex business cases out of this streamlined repayment program.  However, with student loan and medical debts, the debt limit (currently set at $419,275) frequently prevents debtors with simple cases from filing chapter 13.  This problem could be solved by not counting medical and student loan debts towards the debt limit.

The 2020 elections tell us that radical bankruptcy reform is off the table. But practical reforms are very possible if our leaders focus on what they can all agree upon instead of dwelling on what divides us.

 

Image courtesy of Flickr and Anthony Quintano

Nebraska voters have chosen to cap payday loan interest rates.  Ballot box Initiative 428 limits the annual percentage rate on payday loans at 36%.

Nebraska Department of Banking report indicates that the average annual percentage rate on payday loans in Nebraska is 405%.

However, according to Thomas Aiello of the National Taxpayer Union, the cap on interest rates would actually hurt low-income Nebraskans by denying them access to credit.

This is an onerous rule that is more likely to decimate credit markets for Nebraskans in desperate need of a small, quick loan.” Thomas Aiello

Indeed, capping payday interest rates at 36% would devastate the industry.  Although loan rates average 405%, the default rate on those loans is also significant and the effective interest rate earned by payday lenders is much lower when those defaults are factored in.

Support for capping the interest rate is receiving support from many sources, including the Catholic Church.

“Payday lending too often exploits the poor and vulnerable by charging exorbitant interest rates and trapping them in endless debt cycles,” said Archbishop Lucas. “It’s time for Nebraska to implement reasonable payday lending interest rates. The Catholic bishops of Nebraska urge Nebraskans to vote ‘for’ Initiative 428.”

The amazing fact of payday lending  is that it is not restricted to low-income neighborhoods. You can find payday lenders in almost every neighborhood, regardless of income level.

Can payday lenders survive with a 36% cap on interest?

My guess is that the business model of payday lenders will have to change. Lending standards will be tightened and the least qualified borrowers will be denied credit. Is that a bad thing as Thomas Aiello suggests? Probably not. Other lending sources still exist, like pawn shops or family loans or selling unnecessary items.

Some commentators have told me that such interest rate caps are ineffective since lenders simply set up shop on the internet and use the National Bank act to argue that interest rates are controlled by the state of incorporation.  In other words, the evade the cap by incorporating in a different state and argue that our Nebraska laws do not apply to lenders that cross state lines.  Time will tell if this approach is followed.

Other attorneys have suggested that lenders will evade the cap by originating more Title Loans secured by vehicle titles.

It will be interesting to watch the payday lending industry going forward. Something tells me that neither the demand for these high-rate loans nor the lenders willing to make them are going away. The rules of the game will change, but somehow lenders will find a way to evade the cap.

 

Image courtesy of Flickr and HelenCobain