STATEMENT OF THE HON. WILLIAM H. BROWN
ON BEHALF OF THE
AMERICAN BANKRUPTCY INSTITUTE
AT A HEARING ON H.R. 833
BEFORE THE SUBCOMMITTEE ON COMMERCIAL & ADMINISTRATIVE LAW
HOUSE COMMITTEE ON THE JUDICIARY
MARCH 17, 1999
Web posted and Copyright © March 17, 1999, American Bankruptcy
Institute.
Mr. Chairman and members of the Subcommittee, my name is William Houston
Brown, a U.S. Bankruptcy Judge in the Western District of Tennessee, in Memphis. I am
appearing today as a representative of the American Bankruptcy Institute (ABI), a non-profit,
non-partisan organization of bankruptcy professionals engaged in research and education on
issues related to insolvency.
The ABI is the nation's largest organization in the field of bankruptcy, with over
6,500 members. ABI is not an advocacy group and does not take official positions on pending
legislation. Rather, ABI provides a forum for the analysis and discussion of insolvency issues,
which we hope will assist your understanding of the U.S. bankruptcy system. Our members
come from many different disciplines: law, accounting, finance, judicial, administrative, academia,
and more. ABI members represent both debtors and creditors, in both commercial and consumer
cases. ABI's multi-disciplinary approach and outlook makes us unique among those who appear
before Congress.
Together with Judge Eugene R. Wedoff of Chicago, I Co-chair the ABI's
Consumer Bankruptcy Committee. Judge Wedoff has prepared an analysis of the consumer
bankruptcy provisions of H.R. 833, which we incorporate into this statement.
I have served as a bankruptcy judge in the Western District of Tennessee since
1987. Prior to that appointment, I practiced law, representing both debtors and creditors, and I
have been a professor at three law schools.
My judicial district is one that has historically seen one of the highest numbers of
consumer bankruptcy filings, with 16,749 Chapter 13 cases and 5,991 Chapter 7 cases having
been filed in calendar year 1998, a small decline from calendar year 1997. My district's
bankruptcy filings each year are approximately 75% Chapter 13's.
This experience influences my views of the law and system. As a bankruptcy
judge, my principal task is to apply the law as Congress has written it, as well as applicable
nonbankruptcy law, to the cases or proceedings before me. Whether I personally agree with
those laws is not a consideration in my work as a judge. Likewise, in my participation in ABI's
effort to analyze the pending bankruptcy reform legislation, I have attempted to leave aside my
personal views in an effort to reach a compromise on certain recommendations that I will discuss
today.
Bankruptcy law is complex and changes in the law often have unanticipated
impacts upon not only the practice and administration of that law but also upon broader
economic and policy issues. The ABI, through its members and its grants, has attempted to
provide some analysis of the bankruptcy legislation that was pending before the 105th Congress
as well as this Congress. For example, the ABI through a grant to Professors Marianne B.
Culhane and Michaela M. White of Creighton University School of Law, provided an
opportunity for another examination of means testing for Chapter 7 debtors and their repayment
capacity. This subcommittee will be hearing from one of those professors in a later panel, and I
will defer to her for testimony concerning their study.
It is not surprising, of course, that all members of the ABI will not agree with the
results of the Professors' study. Nor would all ABI members agree with my opinions or those
of any other professional in the bankruptcy arena. That does not diminish the importance of
Professors Culhane and White's study or of any other reports that result from ABI-sponsored
work.
It would be impossible to expect that unanimity would occur in anything so
complicated or controversial as bankruptcy reform. This subcommittee and the full Congress
expect and deserve, however, the contribution of differing concepts and viewpoints as you work
to craft an agreement on such reform.
Judge Wedoff and I have led an effort for over a year to bring together a small but
diverse group of experienced professionals for a series of discussions on consumer bankruptcy
reform. This ad hoc group consists of representatives of consumer debtors, banking (both credit
card and secured lending), credit unions, automobile finance lenders, trustees (in both Chapter 7
and 13), accountants and bankruptcy judges.
This group, known as the ABI Consumer Bankruptcy Legislative Group, does
not attempt to speak as an official voice of the ABI or its full membership. But that Group was
able in its prior and continuing work to reach a consensus of those participants on many of the
more difficult subjects being addressed in the current bankruptcy reform legislation.
I believe that this consensus is very significant because it illustrates that,
despite personal differences of what each individual would prefer to see occur,
professionals and those with experience in the bankruptcy system can come to
agreement on compromises in many areas being considered in this legislation.
I do not suggest that given enough time we could agree on everything, but I
do urge the Representatives on this subcommittee, as well as the full Committee
on the Judiciary, to consider the compromises that have been reached. During
the 105th Congress, the ABI Consumer Bankruptcy Legislative Group sent a letter
to Chairman Henry Hyde, along with a list of sixteen specific recommendations
concerning reconciliation of the differences between H.R. 3150 and S. 1301 that
were pending before the 105th Congress. A copy of those recommendations is available
at ABI's Internet website, http://www.abiworld.org.
Some of those recommendations have now become stale, as a result of changes
made in the House Conference Report on H.R. 3150 and in H.R. 833. But, the group's
recommendations in some areas have been validated by provisions of H.R. 833,
such as a delay in the effective date for bankruptcy reform legislation in order
to permit the system to adjust to dramatic change.
That group continues to meet, as recently as March 10, in its ongoing effort to
contribute a consensus of recommendations for your consideration.
I want to emphasis the working process of this ABI Consumer Bankruptcy Legislative
Group. A pledge of confidentiality has been honored by the participants, to
assure that everyone would know that the brain-storming of ideas would not be
revealed until everyone was comfortable in signing off on the consensus reached
on particular recommendations. The work product of our Group from its March
10 meeting, as well as earlier meetings that concern H.R. 833, is being prepared
for circulation to the Group's members now, and we would anticipate sending
your subcommittee another set of recommendations specifically addressing some
of the major provisions of H.R. 833 within the next few days. A copy will, of
course, be posted on ABI's website, http://www.abiworld.org,
when it is sent to you.
Before addressing some comments to major changes proposed in bankruptcy law
by H.R 833, it would be helpful to first explore how consumer bankruptcy operates under the
current law. It is helpful to look at current bankruptcy law as a two-part system that (1)
determines the assets that are available to consumer debtors and (2) divides the assets, allowing
the debtor to retain some of those assets, and using other assets to pay various of the debtor's
creditors.
The assets available: All consumer debtors have the same two basic types of
assets available to them: present assets and future assets. The present assets are what a debtor
owns at the time a bankruptcy is filed. These include tangible assets like a home, a car, clothing,
furniture, and cash, as well as intangible assets, like savings and retirement accounts and lawsuits
for personal injury. Future assets are those to which a debtor first becomes entitled after a
bankruptcy is filed. The principal future assets of most debtors are the personal earnings to
which they become entitled after the bankruptcy filing; other future assets include gifts received
or lawsuits accruing after the filing.
The classes of claims: In a bankruptcy case, the assets available to the debtor
are divided between the debtor and the debtor's creditors. The share of each creditor depends on
the type of claim the creditor holds. The Bankruptcy Code sets out several different classes of
claims:
(a) Secured claims. Debts that are supported by liens on property owned by
the debtor (like a home mortgage, or a lien on an automobile) are known as "secured claims." The
Bankruptcy Code generally provides that secured claims must be paid at least the value of the
collateral that supports them before that collateral can be used by the debtor or paid to other
creditors. In other words, the debtor and other creditors are only entitled to the "equity" that
exists in the property above the amount of the claim for which the property is collateral. In this
way, secured claims are generally first in the distribution of a debtor's assets. Claims that are not
supported by a lien on property of the debtor are known as "unsecured" claims.
(b) Priority claims. Certain claims are viewed by the Bankruptcy Code as being
especially entitled to payment. Examples include certain tax obligations, expenses of
administering a case in bankruptcy, and family support obligations of the debtor. Although these
claims against the debtor may not be secured, the Bankruptcy Code provides that when a
debtor's assets are distributed, these claims should be paid ahead of other unsecured claims, and
so they are known as "priority unsecured" or simply "priority" claims, in contrast to ordinary
("general") unsecured claims against the debtor.
(c) General unsecured claims. Unsecured claims that do not have priority
status and "general unsecured" claims are involved in nearly every consumer bankruptcy case.
Examples include most credit card debt and medical bills. However, even a creditor secured by a
home mortgage or automobile lien may hold a general unsecured claim. An important concept in
the Bankruptcy Code is that, whenever the value of collateral is insufficient to cover the entire
amount owed on the creditor's claim, the creditor holding the lien has both a secured claim (to the
extent of the collateral value) and an unsecured claim (in the amount of the deficiency in the value
of the collateral). Thus, a creditor with a $10,000 claim, secured by an automobile worth only
$7,000, is treated as having a secured claim of $7,000 and a general unsecured claim of $3,000.
(d) Nondischargeable claims. Ordinarily, when the distribution of a debtor's
assets under the Bankruptcy Code has been concluded, the debtor is given a discharge, wiping
out the debts that the debtor owed at the time the bankruptcy was filed. Thus, all of the debtor's
future assets, after the distribution, are allowed to be retained by the debtor. However, there is an
exception to the discharge for certain types of debt. Some of this debt is of the same nature as
priority debt (taxes and family support obligations), but the Bankruptcy Code also excepts from
discharge certain debts that were incurred through misconduct of the debtor, such as debts arising
from fraud and intentional injuries. These "nondischargeable" claims, to the extent they have not
been paid from the assets that are distributed during a bankruptcy case, remain payable from the
future assets of the debtor.
Chapter 7 bankruptcy: Distributing present assets to creditors. Since the
enactment of the Bankruptcy Act of 1898, the standard process of a bankruptcy case has been
for a trustee to collect the debtors' present assets, liquidate them, and divide the proceeds among
the debtors' creditors, with the debtors, in exchange, being discharged from their debts, so that
they
retain the right to their future assets, free of claims of creditors. This process, set out in Chapter
7 of the current Bankruptcy Code, is known as "liquidation" or "straight bankruptcy." Allowing
the debtors to use future assets free of creditor claims is known as the "fresh start."
There are, however, two features of Chapter 7 that vary the general plan of
liquidating present assets for distribution to creditors and leaving future assets for the debtor.
First, debtors are allowed to retain some of their present assets. The Bankruptcy Code sets forth
a list of "exempt" property, deemed necessary for debtors' maintenance. States may provide an
alternative to this list, and then either allow the debtors to choose between the two lists of
exempt property (state and federal) or else provide that the state exemptions are the only ones
available. In any event, debtors are allowed to keep some of their current assets as exempt,
excluding them from distribution in Chapter 7. Where debtors have no substantial assets beyond
those that are exempt, there will be no distribution to creditors. Cases such as these are known as
"no asset" Chapter 7 cases.
Second, debtors in Chapter 7 are not always discharged from all of their debts. As
noted above, some debts are nondischargeable, and these remain, after bankruptcy, so that the
creditors holding these claims may seek payment from future assets of the debtor. Moreover,
under certain circumstances (generally involving misconduct by the debtor in the course of the
bankruptcy itself), a Chapter 7 debtor may be denied a discharge altogether.
Taking all of this into consideration, Chapter 7 generally divides a debtor's assets
as follows:
Secured creditors are given the value of their liens in the debtor's present assets.
The debtor's exemptions are deducted from the present assets.
Any remaining present assets are liquidated and distributed, first to priority
claims, and then to general unsecured claims.
The debtor is given a discharge, allowing the debtor to have future assets free of
creditor claims, subject to nondischargeable claims.
Nondischargeable claims remain payable in full from the future assets.
Chapter 13 bankruptcy: Distributing future assets to creditors. Chapter 13 is
presented in the Bankruptcy Code as an alternative to the standard Chapter 7 liquidation.
The basic idea of Chapter 13 is to allow debtors to retain all of their present assets, in
exchange for paying to creditors, out of future assets, at least as much as the creditors
would have received if there had been a Chapter 7 liquidation. To accomplish this, the
debtor must propose a plan, administered by a trustee, to pay creditors through periodic
contributions from the debtor's regular income. Chapter 13 recognizes that debtors cannot
pay all of their income into the plan, since some income will be necessary for the support
of the debtors and their dependents. However, all income not necessary for that support
is defined as "disposable" income, and a Chapter 13 plan must either pay creditors in full,
or devote all disposable income to the plan. A plan that does not provide for full
payment of debts must have a duration of at least three years, and five years is the
maximum length of the plan. Because of the disposable income requirement, it is possible
for Chapter 13 plans to pay much more to creditors than they would have received in a
Chapter 7 bankruptcy.
Under current law, Chapter 13 is entirely voluntary. Only a debtor can propose a
Chapter 13 plan; a debtor has an absolute right to dismiss a case that was originally filed
under Chapter 13; and a debtor can convert a Chapter 13 case to Chapter 7 at any time.
To encourage debtors to choose Chapter 13 over Chapter 7 (and thus provide greater
payment to creditors), the Bankruptcy Code has two distinct types of incentives. First,
at the conclusion of a Chapter 13 plan, the debtor is given a broader discharge than is
available in Chapter 7. This "superdischarge" results in the discharge of several types of
debt (including those for fraud and intentional injuries) that are not discharged in Chapter
7. Second, debtors are allowed to keep property that is encumbered by liens, even though
they are in default on the underlying obligations. A debtor with a home in foreclosure or a
car subject to repossession may be able to retain the home or car by making payments to
the secured creditors through a Chapter 13 plan. Moreover, except for certain home
mortgages, the debtor in Chapter 13 may pay to a secured creditor the value of the
collateral, even though it is less than the full amount owing, and obtain a release of the
lien. Chapter 13 contains detailed provisions as to the type of payments required on
secured claims.
Plans in Chapter 13 are required to pay priority claims in full, over the course of
the plan, and not to discriminate unfairly among general unsecured creditors. Considering
all of its provisions, Chapter 13 generally divides a debtor's assets as follows:
The debtor retains all present assets.
The debtor contributes disposable future assets to a plan for a period of three to
five years, or for a shorter period sufficient to pay the debts in full. The
payments to be received by creditors must be at least as much as they would have
received in a Chapter 7 case. Secured creditors must receive at least the value of
their liens. Priority claims must be paid in full.
The debtor retains all nondisposable future assets during the time of the plan.
After the completion of the plan, the debtor is given a discharge, allowing the
debtor to retain all future assets, free of dischargeable creditor claims.
Nondischargeable claims remain payable in full from the future assets.
However, many debts that are nondischargeable in Chapter 7 are able to be
discharged in Chapter 13.
Choice of Chapter 7 or Chapter 13: Under current law, consumers have a
largely free choice between Chapter 7 and Chapter 13 as a form of relief. However, there
are some limitations, the most significant of which are the following: First, a debtor
cannot file any bankruptcy case within 180 days after a prior case was dismissed under
specified circumstances. Second, Chapter 13 is unavailable to individuals with large
amounts of debt (over $269,250 in unsecured debt or $807,750 in secured debt). Third, a
Chapter 7 case may be dismissed on motion of the court or the United States trustee if
granting Chapter 7 relief would be a "substantial abuse." Fourth, a debtor cannot receive a
discharge in a Chapter 7 case if that case was filed within six years of an earlier filing in
which the debtor received a Chapter 7 discharge.
The automatic stay: In either Chapter 7 or Chapter 13, an automatic stay goes
into effect at the time the case is filed, which generally operates to prohibit any collection
activity, including foreclosure and repossession, on debts that were in existence at the
time of the filing. In order to obtain the right to proceed with collection activity, a creditor
must obtain relief from the automatic stay. In either Chapter 7 or Chapter 13, a creditor is
entitled to relief if the value of its lien is declining or at risk of declining, and no action
(known as "adequate protection") is taken to make up for the decline. In Chapter 7, the
creditor is also entitled to relief if there is no equity in the property that might be
obtained for the benefit of creditors. In Chapter 13, relief is granted if there is no equity
and the property is not needed for the debtor's plan to be effective.
Judge Eugene Wedoff has been posting on ABI's website a section-by-section
analysis of the various bankruptcy reform bills pending before the Congress. He is at
work on that analysis of H.R. 833. His preliminary analysis, containing some
commentary on the major consumer proposals found in H.R. 833, follows:
1. Means testing—§§101-102.
Content: Chapter 7 cases would be subject to dismissal or conversion to Chapter
13 (on the debtor's request), pursuant to §707(b), if the case would involve
"abuse" of Chapter 7, instead of the "substantial abuse" now required. Motions
would be required to be presented by the Chapter 7 trustee in many cases, and
judicial discretion to deny the motions would be strictly limited.
- Abuse under §707(b) would be presumed if, during a 5-year period, the debtor
would have sufficient income to pay at least $5000 ($83.33 per month) toward general
unsecured claims or to repay at least 25% of those claims. The debtor's ability to pay
general unsecured claims would be calculated by deducting three categories of expenses
from the debtor's current monthly income—defined on the basis of the debtor's average
monthly income for 180 days prior to filing—(1) expenses allowed under IRS collection
standards; (2) payments on secured claims that would become due during the 5-year
period, divided by 60; and (3) all of the debtor's priority debt, again divided by 60.
- The only way for a debtor to rebut the presumption of abuse would be to show
"extraordinary circumstances that require additional expenses or adjustment of current
monthly total income." Such a showing, in turn, would require detailed itemizations and
explanations sworn to by both the debtor and the debtor's attorney. The extraordinary
circumstances—together with the standard three deductions—would have to reduce the
debtor's current monthly income to a level that would not allow payment of the
minimum amounts of general unsecured claims (at least $5000 over 5 years, amounting to
at least 25% of general unsecured claims).
- The Chapter 7 trustee would be required to analyze each case to determine
whether the debtor's schedules reflected the presumptive ability to repay debt. If this
analysis reflected grounds for a presumption of abuse under §707(b), the trustee would be
required to file a §707(b) motion, unless the debtor's family income was less than a
specified minimum (based on average household incomes).
- Parties in interest would be allowed to bring §707(b) motions, but only in those
circumstances where the trustee would be required to bring such motions. In cases where
the debtor's income was below the specified minimum, only the judge, United States
Trustee, bankruptcy administrator or case trustee could bring the motion.
Commentary: The major impact of this legislation is potentially to deny Chapter 7 relief
to any debtor with $83.33 in disposable income per month, regardless of the amount of
outstanding debt. For example, a debtor with bills totaling $200,000, and disposable
income (under the formula) of $90 per month, would be found to have made an abusive
Chapter 7 filing, even though less than 3% of the unsecured debt could be paid in a 5-year
Chapter 13 plan. Conversely, debtors with very small amounts of disposable income
could be denied Chapter 7 relief if their debts were also small. For example, a debtor with
disposable income of only $20 per month could be denied Chapter 7 relief unless the
unsecured debts scheduled exceeded $7200. There is a substantial advantage to basing
means-testing on a fixed amount of disposable income rather than on an ability to repay a
particular percentage of outstanding indebtedness—the debtor is not able to avoid
§707(b) by accumulating greater indebtedness.
There are several problems with the use of the IRS standards in calculating
disposable income. First, the IRS standards themselves include a category ("other
necessary expenses") covering the sort of individualized expenses that also can be seen as
arising from "extraordinary circumstances." The IRS standards do not specify any
particular allowance for "other necessary expenses," and thus trustees would have to
assess reasonableness on a case by case basis. If an expense arose from "extraordinary
circumstances," rather than being in the category of "other necessary expenses," detailed
scheduling (under oath from the debtor and the debtor's attorney) would be required.
Trustees would therefore have to determine how any given expense not covered by the
other IRS categories (such as costs of medical care) should be categorized.
Second, secured debt presents a problem for calculating disposable income under
the formula set out in the bill. The IRS expense allowances are intended to cover all
housing and transportation expenses, including the cost of acquiring a dwelling or
automobile. But because the bill's formula allows full repayment of secured debt in
addition to the IRS allowances, debtors are given double expense allowances in all such
situations. The bill therefore discriminates against those who rent either their housing or
their automobiles. Such renters will receive only the expense allowance provided by the
IRS standards (supplemented by any showing of extraordinary circumstances). Owners
of cars or houses, in contrast, would receive not only the IRS allowance, but the full
amount of their mortgage and auto loan payments as well, unlimited in amount.
Third, the fact that allowed expenses can be increased by incurring secured debt
provides a strategy for avoiding the means test. For example, a debtor who would
otherwise have disposable income of $400 per month could trade in an old car for a new
one, with monthly payments of $350, and the resulting increase in secured indebtedness
would reduce the disposable income to an amount that would not result in dismissal of
the Chapter 7 case. Another method of avoiding the means test would be for a debtor to
declare an intent to make charitable contributions. Section 4 of the Religious Liberty and
Charitable Donation Protection Act of 1998 allows debtors to contribute up to 15% of
their gross income to charity without those contributions being considered in making a
determination under §707(b). Thus, a debtor with an income of $60,000 could remove
$500 per month in disposable income by declaring an intent to make the maximum
charitable contributions.
Alternatives: Instead of using IRS collection standards for assessing disposable income,
means- testing might be based on data maintained by the Bureau of Labor Statistics. The
BLS publishes annually a table of average consumer expenditures, grouped by income
level. These tables would eliminate the confusion between "other necessary expenses"
and expenses arising from "extraordinary circumstances." BLS figures might also be used
to calculate presumptive maximums for acquiring housing and transportation, regardless
of whether the housing or transportation is purchased with secured credit or rented. BLS
categories could be incorporated into the schedules required to be completed by debtors,
allowing for a simple determination by trustees as to the potential for abuse under
§707(b).
2. Funding prosecution of §707(b) motions—§101.
Content: Debtor's attorneys would be required to reimburse
panel trustees for all costs of prosecuting a successful motion to dismiss or
convert under §707(b) of the Code, wherever the court found the filing
of the case "not substantially justified." If the court found a violation of
Fed.R.Bankr.P. 9011, it would be required to impose a civil penalty against
the debtor's attorney in favor of the United States Trustee or the case trustee.
Costs could be imposed against the proponent of a §707(b) motion only if
(1) the motion was not substantially justified, or (2) the motion was brought
"solely for the purpose of coercing the debtor into waiving a right guaranteed
. . . under the Bankruptcy Code," and (3) the moving party was not a panel trustee,
the United States Trustee, or a party in interest with an aggregate claim against
the estate of less than $1,000.
Commentary:It is desirable to provide some financial incentive
for trustees to prosecute meritorious §707(b) motions. Under current law,
if such a motion succeeds in having a Chapter 7 case dismissed, the trustee
is likely to recover none of the costs of prosecuting the motion. However, offering
the trustee a potential recovery from the debtor's attorney is problematic.
The potential for an award of sanctions against debtors' counsel may have a
chilling effect on representation of debtors—attorneys fearful of an award
of fees may be unwilling to file even appropriate Chapter 7 cases. On the other
hand, judges wary of this potential chilling effect may be unwilling to find
that Chapter 7 cases were filed without substantial justification.
There is also a problem with the limitation of liability in cases of unsuccessful
creditor motions under §707(b). The need for potential fee-shifting is due to the leverage
that creditors would otherwise have to extract reaffirmation agreements from Chapter 7
debtors: a creditor could threaten a §707(b) motion unless its debt was reaffirmed, and the
debtor, faced with the cost of responding to such a motion, might well accept
reaffirmation as a less costly option, even if the debtor would be likely to prevail on the
merits of the motion. The bill, however, eliminates potential creditor liability for
creditors with claims of less than $1,000. Such creditors could therefore bring entirely
groundless §707(b) motions without being liable to pay the costs of the debtor in
responding. This immunization would allow major creditors to file §707(b) motions,
without potential liability, in any case where their claims were small.
Alternatives: The trustee's recovery in the event of unjustified Chapter 7 filings could
be limited to an automatic claim for fees and expenses against the debtor, rather than the
debtor's attorney. (However, the court, in its discretion, would still be able to find that
misconduct by the debtor's attorney merited an award under Rule 9011. ) The award
against the debtor could be in the form of a judgment, nondischargeable and entitled to
priority in any later bankruptcy proceeding. Since the trustee would only prevail against
debtor's with substantial disposable income, the likelihood of collection of such a
judgment would be substantial enough to encourage trustees to prosecute appropriate
§707(b) motions.
With trustees given an appropriate incentive to prosecute §707(b) motions, there
would be no reason to insulate any creditor from potential fee shifting in the event that
the creditor's motion was unsuccessful.
3. Chapter 13 plan length—§606.
Content: For debtors whose income equals or exceeds a specified
amount, generally based on national median household income: (a) five years
is the maximum term of the plan, (b) a plan cannot be amended to provide for
payments extended beyond "the applicable commitment period under section 1325(b)(1)(B)(ii),"
and (c) the "duration period" would be five years. For debtors whose
income is below the specified amount, three years would be the maximum plan
term unless the court found cause to extend the term to no more than five years
(the current law as to all Chapter 13 debtors), and the "duration period" would
be three years.
Commentary: The provisions of the bill are confused. There
is no §1325(b)(1)(B)(ii) under current law, and the bill does not appear
to add such a section. There is also no provision of the bill defining "duration
period" or specifying its relevance. The provision regarding "duration period"
is placed at the end of §1329 of the Code, which deals with plans modified
after confirmation, and so would not appear to require a minimum five-year plan
for any debtor. If the bill does require minimum five-year plans for certain
debtors, it would make the completion of Chapter 13 plans more difficult for
these debtors, increasing incidents of default, and giving the debtors an incentive
to choose Chapter 7 over Chapter 13.
Alternative: Current law, which has a three to five year duration for all Chapter 13
plans, may not require any change.
4. Limitation of the Chapter 13 discharge—§§129,
807, 1113.
Content: All debts covered by §523(a)(1) (certain tax
obligations), (a)(2) (fraud), (a)(3)(B) (unlisted debts requiring dischargeability
determinations in bankruptcy court), and (a)(4) (breach of fiduciary duty) would
be nondischargeable in Chapter 13 as well as in Chapter 7. All debts covered
by §523(a)(6) would be remain nondischargeable only in Chapter 7. Property
settlements in divorce and separation cases, treated by §523(a)(15) of
the Code, would continue to be nondischargeable only in Chapter 7 cases, but
whether such claims would be included in §523(a)(3)(B) in the event of
untimely scheduling is an issue subject to conflicting provisions, discussed
below at item 10.
Commentary: The "superdischarge" of Chapter 13 has the effect of encouraging debtors
with debts that might be nondischargeable in Chapter 7 to choose Chapter 13 as a means
of discharging those debts and obtaining a fresh start. This has the corollary result of
reducing litigation over dischargeability. H.R. 833 would exclude from the Chapter 13
discharge debts arising from fraud—the most common ground for claims of
nondischargeability, and the one involved in most claims of credit card
nondischargeability—as well as certain tax claims, claims involving breach of fiduciary
duty, and claims that were not scheduled in time to permit bankruptcy court adjudication
of dischargeability. Under this change in the law, debtors subject to nondischargeability
claims on any of these grounds would be encouraged to file under Chapter 7 rather than
under Chapter 13. This would undercut one of the major purposes of the reform
legislation—the encouragement of Chapter 13 repayment—and litigation over
dischargeability in Chapter 13 would increase substantially.
Alternative: To maintain the current incentive for debtors to file Chapter 13 cases, the
current scope of the Chapter 13 discharge could be maintained. Situations of significant
misconduct by debtors may be dealt with by requiring the bankruptcy court to give
explicit consideration, in passing on the good faith of a Chapter 13 filing, to the existence
of any debts that would be excepted from discharge in Chapter 7.
5. Presumption of fraud—§135.
Content: All credit card debt aggregating more than $250 in
cash advances or $250 in "luxury goods or services" during the 90 days preceding
a voluntary bankruptcy filing would be presumed nondischargeable under §523(a)(2).
"Luxury goods or services" is not defined, but the section specifies that the
phrase "does not include goods or services reasonably necessary for the support
or maintenance of the debtor or a dependent of the debtor."
Commentary: Under current law, there is a similar though less extensive presumption of
fraud in the use of credit cards shortly before the filing of a bankruptcy case. A difficulty
with applying this presumption—which is continued under H.R. 833—is that there is no
specification of the elements of fraud as to which the presumption operates, and so there
is no way to determine how the presumption can be overcome. Beyond this difficulty,
the presumption of H.R. 833 is ambiguous in its use of the phrase "luxury goods or
services." Although the bill clearly excludes "necessities" from the scope of "luxury
goods," it leaves open the possibility that some purchases (like flowers for a spouse),
although not "necessary" for support, would still be common enough, and inexpensive
enough, not to be considered "luxuries." The absence of a definition here could lead to
substantial litigation. Finally, the presumption in H.R. 833 aggregates all purchases and
all cash advances. Thus, if several small "luxury" purchases were made from different
creditors over a 90-day period, the bill would result in a presumption of fraud.
Alternative: A distinct ground for nondischargeability could be defined for a debtor's use
of a credit card without intending to pay the resulting debt. The law could specify that
the debtor's financial situation would be relevant in determining this question of intent.
Under this definition, a lack of intent to repay could be presumed for purchases of
defined "luxuries" shortly before bankruptcy.
6. Valuation of secured claims—§§124-125.
Content: Secured claims for the purchase of personal property acquired by an individual
debtor within 5 years of the bankruptcy filing would not be bifurcated in any chapter of
the Code. Where bifurcation did occur in Chapter 7 and 13 cases, the secured claim
would be valued on the basis of the debtor's replacement cost, without deduction for
costs of sale. For household and personal goods, this would be retail price.
Commentary: The overall impact of these provisions of H.R.
833 would be (1) to encourage debtors to surrender collateral in both Chapter
7 and 13 cases, and (2) to allow secured creditors to obtain higher payments
in Chapter 13 than under current law, at the expense of unsecured creditors.
Surrender of collateral would be encouraged, because, unless the debtor purchased
the collateral more than five years prior to the bankruptcy, the debtor would have to pay
the full amount outstanding on the purchase in order to retain the collateral, even if the
collateral was worth much less that the outstanding balance. For example, the debtor may
have purchased a used car, or a new refrigerator, on credit, with a high rate of interest. If
the debtor missed several payments before filing the bankruptcy case, the amount owed
on the car or refrigerator could greatly exceed its actual value. Nevertheless, in order to
redeem the property in Chapter 7 or to retain it in Chapter 13, §124 of the bill would
require the debtor to pay the full outstanding balance. In such circumstances, it would
often be in the debtor's best interest to return the collateral, and attempt to purchase a
replacement. It can be anticipated that "bankruptcy financiers" would make credit
available to enable the purchase of such replacements.
Where the debtor did choose to retain property in Chapter 13, unsecured creditors
would be disadvantaged (compared to their treatment under current law) in any case that
did not have a 100% payout. This is because, under current law, secured creditors are
paid only the value of their collateral (with interest). The plan payments of the debtor in
excess of this collateral value are paid on account of unsecured claims—including the
claims of secured creditors in excess of the value of their collateral.
Valuing collateral at its retail price involves payment to secured creditors of more
than they could obtain upon surrender or repossession of the collateral (since selling the
property at retail would ordinarily involve substantial costs of sale). This provision,
then, would also have the effect of diverting funds from unsecured to secured creditors in
many Chapter 13 cases.
Alternative: Certain types of secured credit may be of sufficient economic impact that
full repayment of the indebtedness should be protected in bankruptcy. Certain home
mortgages are given such protection under current bankruptcy law (pursuant to
§1322(b)(2) of the Code). This sort of protection could be extended to other defined
types of secured lending, certain auto loans for example, without making major changes in
the general treatment of secured claims in bankruptcy.
7. Adequate protection of secured claims pending Chapter
13 plan confirmation—§137.
Content: Payments of adequate protection would be required, pending confirmation of a
Chapter 13 plan, at times and in amounts specified by the applicable contract, but the
debtor would be allowed to seek a court order reducing the amounts and frequency.
Commentary: By requiring adequate protection payments to be made in addition to
preconfirmation plan payments, this provision would make Chapter 13 very difficult for
many debtors. Plan payments are often intended to deal with secured claims, and are
often required to exhaust the debtor's disposable income (pursuant to §1325(b) of the
Code). Thus, pending confirmation, it would often be impossible for debtors to make
both plan payments (as required by §1326 of the Code) and adequate protection
payments. Furthermore, contract payments are often in an amount greater than the
depreciation of collateral withheld by the debtor, and so a presumption that adequate
protection should be paid in the contract amount may be unreasonable. Requiring the
debtor to seek a lower payment would increase the debtor's costs of proceeding in
Chapter 13.
Alternative: Chapter 13 trustees could be required, pending confirmation, to make
payments to secured creditors of the payments that these creditors would receive under
the debtor's proposed plan. If these payments are insufficient to provide adequate
protection, the court could be authorized to increase the payments on the creditor's
motion or—if this were not possible—to dismiss the case.
8. Timing of events in Chapter 13 cases—§605.
Content: Debtors would be given 90 days after case filing to file a Chapter 13 plan; no
change is made in the time for meetings of creditors, which (under Fed.R.Bankr.P.
2003(a)) requires that the meeting take place between 20 and 50 days after case filing;
confirmation hearings would be held between 20 and 45 days after the meeting of
creditors.
Commentary: The timing specified by H.R. 833 would cause
substantial difficulty. Current bankruptcy law, Fed.R.Bankr.P. 3015, requires
the debtor to file a Chapter 13 plan within 15 days of the case filing. By delaying
plan filing for up to 90 days after case filing, the bill would allow plans
to be filed after the time set for the meeting of creditors under §341,
which would then have to be continued. The notice of the meeting of creditors
would be issued prior to filing of the plan, and so would not be able to include
any information about the plan, thus requiring a separate notice or resulting
in inadequate information for creditors prior to the meeting. If the meeting
of creditors is continued, a question will arise about whether the confirmation
hearing must be held within 45 days of the first date set for the meeting, or
whether that time limit should run from the continued date. Any delay in confirmation,
which would be often necessitated by the proposed procedure, would result in
a delay in payment of unsecured creditors, and greater need for litigation regarding
adequate protection payments to secured creditors pending plan confirmation.
Alternative: The current 15 day deadline for plan confirmation could be set out in the
statute.
9. Special treatment for support obligations—§§141-144,
146-147.
Content: Several provisions of H.R. 833 extend special treatment
to a category of claims know as "domestic support obligations." These claims
would be defined to include obligations arising both before and after the filing
of the bankruptcy case, whether owed to a spouse, former spouse, child, or guardian
of the child of the debtor, or to any governmental entity, as long as the obligation
both was in the nature of support and arose from a specified agreement, decree,
or process. The special treatment would include the following:
€ "Domestic support obligations" would be accorded the first priority of
distribution.
€ "Domestic support obligations" would be required to be current as a condition
for confirmation of any plan under Chapter 11 or 13.
€ The automatic stay would not apply to actions in connection with "domestic
support obligations," and all such obligations would be excepted from discharge
pursuant to §523(a)(5).
€ Exempted property would continue to be liable for domestic support
obligations, under §522(c)(1), even if state law provided to the contrary.
€ Payment of domestic support obligations would be excepted from preference
recoveries, pursuant to §547(c)(7).
Commentary: The only one of the new protections that makes a major change in current
law is the first priority for support obligations. This provision would give support
obligations priority over administrative expenses. As a result, trustees may have to
decline to administer many cases involving support obligations. In order to recover funds
in such cases, the trustee would often have to retain professionals, and these
professionals could only be paid after the support obligations were paid in full. To avoid
situations in which assets were recovered by the efforts of professionals and the
professionals were left unpaid, trustees would choose not to pursue the recoveries. This
would have the effect of reducing payments of support obligations in bankruptcy.
Alternative: Support obligations should have a priority subordinate to administrative
expenses.
10. Nondischargeability of property divisions—§145,
1113.
Content: H.R. 833 contains conflicting provisions on this
topic. Section 145 makes all property settlements in family cases nondischargeable
pursuant to §523(a)(15), regardless of ability and need, and removes exclusive
bankruptcy jurisdiction, so that claims covered by §523(a)(15) would not
require timely adjudication in bankruptcy court. In contrast, §1113 generally
reaffirms the current language of §523(a)(15), and implicitly continues
exclusive bankruptcy jurisdiction over §523(a)(15) by providing that, if
a creditor does not receive notice of the bankruptcy in time to obtain bankruptcy
court adjudication under §523(a)(15), the claim would be nondischargeable
under §523(a)(3)(B).
Commentary: If H.R. 833 were enacted in its present form, the conflicting
provisions as to § 523(a)(15) would lead to substantial uncertainty and
unnecessary litigation.
Alternative: Retention of the present law (as set out in §1113 of H.R. 833) may be the
better alternative. There is no apparent reason why property settlements not needed for
support should be made nondischargeable. For example, a wealthy nondebtor spouse
may have been awarded a right to payments offsetting the debtor's retention of a
retirement account. If, after the divorce, the debtor's financial condition has deteriorated,
and the debtor has difficulty meeting ordinary living expenses, it is difficult to see why
the nondebtor spouse should be able to enforce a nondischargeable claim for the property
settlement payments.
11. Disclosure of tax return information—§603-604.
Content: Several items—including copies of all federal
tax returns, with schedules and attachments, filed by the debtor during three
years prior to the bankruptcy case— would be added to the information that
individual Chapter 7 and 13 debtors are required to provide, unless otherwise
ordered by the court. These documents would be available for inspection and
copying by any party in interest, but the Director of the Administrative Office
of the United States Courts would be required to "establish procedures for safeguarding
the confidentiality of any tax information." If the required information were
not filed within 45 days of case commencement, the case would automatically
be dismissed. However, the court could authorize an extension of the period
for filing for up to 45 days.
Commentary: There are several problems with these provisions: (1) the requirement
to furnish tax returns (and the other required information) would impose an
additional cost on debtors who do not have tax return copies and financial records
available; (2) the requirement to file tax returns will impose additional costs
in personnel and storage on the clerks of the bankruptcy courts; (3) automatic
dismissal would take place even in cases where the trustee finds assets to administer,
such as preferences and fraudulent conveyances, that creditors might have difficulty
pursuing outside of bankruptcy; (4) it would be difficult for regulations to
safeguard the confidentiality of tax returns in a manner consistent with the
general requirement that they be made available to any party in interest for
inspection and copying.
Alternative: If tax return information is to be kept confidential, it should not be part of
the public bankruptcy files, and should not be made available to creditors for inspection
and copying. However, tax return information could be required to be presented to the
bankruptcy trustee (in either Chapter 7 or Chapter 13) prior to the meeting of creditors.
The information could be ordered to be submitted in electronic form, as maintained by the
Internal Revenue Service, and actual copies of returns could be required to be produced
upon the trustee's request. Other parties, including creditors, would continue to be able
to obtain tax return information on motion, pursuant to Fed.R.Bankr.P. 2004.
12. Audits—§602.
Content: Audits would be required in at least 0.4% of individual
Chapter 7 and 13 cases, as well as schedules reflecting "greater than average
variances from the statistical norm of the district in which the schedules were
filed." The audits would be required to be performed "in accordance with generally
accepted auditing standards [GAAS] . . . by independent certified public accountants
or independent licensed public accountants." The U.S. trustee for each district
would be authorized to contract for the auditing services, but no funds are
provided for this purpose.
Commentary: The principal problem with this provision is
its cost. Audits by licensed professionals according to GAAS are likely to be
very expensive, and such formal audits are likely unnecessary to determine significant
misstatements in debtors' petitions and schedules. Moreover, the provision is
ambiguous in requiring audits of all schedules with "greater than average variances
from the statistical norm of the district in which the schedules were filed."
The provision does not indicate the items as to which variance from the norm
should be measured. However, likely items would include income and expenses,
but assets and claims may be intended as well. If "statistical norm" means the
median, and the average variation is the midpoint between the high and low points
and the median, then the proposal could require audits of half of all schedules
on each of the relevant items: for example, those schedules reflecting the lowest
25% and the highest 25% of income.
Alternative: In order to reduce costs, audits could be conducted by trained employees
of the United States trustees, rather than by licensed accountants, according to regulations
established by the Executive Office of the United States Trustee, rather than generally
accepted auditing standards. A lower minimum number of cases could be subject to audit,
with provision that the United States trustees would be authorized, in their discretion, to
conduct audits of cases referred to them by Chapter 7 and 13 trustees.
13. Credit counseling—§302.
Content: Individuals would generally be ineligible for bankruptcy
relief under any chapter of the Bankruptcy Code, pursuant to §109, until
they had first attempted to negotiate a voluntary repayment plan through a consumer
credit counseling service approved by the United States trustee, with no limitations
as to the type of counseling service that could be approved, as long as the
service provided (1) an individual or group briefing outlining opportunities
for available credit counseling and (2) assistance in performing an initial
budget analysis. Exceptions would be made for situations (1) in which the U.S.
trustee or bankruptcy administrator found that credit counseling services were
unavailable and (2) in which the debtor was unable to obtain credit counseling
services within five days of making a request from an approved counselor. Any
party would be allowed to bring a motion to dismiss based on the debtor's ineligibility
under this section.
Commentary: The eligibility requirement would add to the
cost of bankruptcy relief. If an individual is in genuine need of bankruptcy
relief, and consults an attorney for that purpose, the attorney would have to
direct the individual to a credit counseling service for briefing and budget
analysis before the bankruptcy case could be filed. The attorney would then
have to conduct another budget analysis in order to prepare the bankruptcy schedules.
Existing counseling services would be burdened by the need to brief and counsel
individuals who have no likelihood of being able to pay their debts through
a voluntary repayment plan. Debtors in need of immediate bankruptcy relief to
avoid foreclosure, repossession, eviction, or wage garnishment would be unable
to obtain timely relief if immediate consumer counseling were unavailable. Accordingly,
it can be anticipated that counseling services would be created that would work
in conjunction with debtors' attorneys in providing immediate counseling. Regulating
and approving credit counselors would impose a substantial burden on the U.S.
trustees.
Alternative: Two changes to the provision on credit counseling would likely have a
significant beneficial impact. First, the requirement for credit counseling could be
applicable only in Chapter 7 cases. Chapter 13 cases already incorporate the essential
features of voluntary repayment plans—careful budgeting, living within the budget, and
payment of all disposable income to creditors. Eliminating the cost, expenditure of time,
and delay involved in separate credit counseling would encourage use of Chapter 13.
Second, the debtor could be allowed to complete the required counseling after the filing of
a bankruptcy case upon a showing that the filing was necessary to avoid foreclosure,
repossession or wage garnishment. In such situations, the filing fee could be deferred
until after the debtor completed the credit counseling, so that, if the debtor elected to
pursue a voluntary repayment plan outside of bankruptcy, the bankruptcy case could be
dismissed without payment of a fee.
14. Debtor education—§§104, 302.
Content: First, the Executive Office of the U.S. Trustee
would be required (1) to develop a program to educate debtors on the management
of their finances, (2) to test the program for one year in three judicial districts,
(3) to evaluate the effectiveness of the program during that period, and (4)
to submit a report of the evaluation to Congress within three months of the
conclusion of the evaluation. The test program would be made available, on request,
to both Chapter 7 and 13 debtors, and, in the test districts, bankruptcy courts
could require financial management training as a condition to discharge.
Second, a new exception to discharge would be applicable in Chapter 7 cases, for
situations in which the debtor failed to complete a course in personal financial
management administered or approved by the U.S. trustee. Similarly, the court would be
directed not to grant a Chapter 13 discharge to any debtor who failed to complete such a
course. An exception would be made for districts in which the U.S. trustee or bankruptcy
administrator found that suitable courses were unavailable.
Commentary: These provisions raise several difficulties:
(1) the education requirement would apply to individuals who could not benefit
from such a course, such as financially responsible individuals who had encountered
financial problems unconnected to failures in personal budgeting; (2) there
is no provision for payment for such courses, and Chapter 13 debtors would ordinarily
lack disposable income to pay for them; (3) substantial resources would have
to be expended by the U.S. trustee in order to administer a program for approving
and regulating educational facilities; (4) it would be premature for the United
States trustee to administer or approve programs for debtor education prior
to completion of the pilot educational programs; (5) if discharge is denied
to individuals who do not complete educational programs in the pilot districts,
but no such requirement is imposed in other districts, there will be a substantial
constitutional question raised under the uniformity provision of the Bankruptcy
Clause (see Railway Labor Executives Ass'n v. Gibbons, 455 U.S. 457,
466, 102 S.Ct. 1169, 1175, 71 L.Ed.2d 335 (1982), for a discussion of the uniformity
clause).
Alternative: Debtor education is likely to be far more effective in Chapter 13 than in
Chapter 7 cases. Debtors in Chapter 7 cases generally come in contact with the
bankruptcy system only at a brief meeting of creditors and are thereafter promptly
discharged. Chapter 13 debtors, in contrast, usually maintain a long-term relationship
with the Chapter 13 trustee. Several Chapter 13 trustees have been conducting programs
of debtor education for several years. Based on these programs, programs of voluntary
debtor education could be implemented in a large number of judicial districts, as part of
the Chapter 13 trustees' operating budget. Based on the results of this study, an
educational program could be made mandatory, perhaps limited to particular situations in
which the education is likely to be helpful. In Chapter 7 cases, any educational effort
might be limited to a group presentation at the creditors' meeting. Such presentations
could also be conducted on a voluntary basis in pilot districts to measure their
effectiveness before being made mandatory.
15. Homestead exemptions—§126.
Content: Debtors would be required to reside in a state for
730 days before being allowed to claim the exemption law of that state.
Commentary: The proposal would not address abuse of the bankruptcy
system by existing residents of states with unlimited homestead exemptions.
Such individuals may amass substantial estates in homestead property, and obtain
a bankruptcy discharge without surrendering any of that property. The proposal
would discourage some debtors from changing their state of domicile for the
purpose of obtaining higher exemptions. However, it would encourage many others
to make such changes. Since no state's exemption law would apply until a debtor
had resided in the state for two years, the applicable exemption law would be
the federal exemptions. These exemptions are more generous than the laws of
many states, and debtors from states with exemptions lower than the federal
exemptions would be encouraged to move to any new state prior to filing bankruptcy.
Alternatives: Two different alternatives might address problems in connection with
homestead exemptions. First, a cap might be placed on the homestead exemptions
available in bankruptcy, together with a provision that the cap would not apply in the
case of involuntary bankruptcy cases. This would reduce (to the level of the cap), the
most flagrant abuses of the homestead exemption. Second, in situations of changes of
domicile, the law could provide that, for a specified period after a change of domicile,
debtors would only be allowed to apply to their homestead the exemption law of the
state of domicile with the lower homestead exemption.
16. Bankruptcy appeals—not treated in H.R. 833.
Commentary: Although both H.R. 3150 and S. 1301, passed by
their respective houses in 1998, contained provisions for expedited appeals
from bankruptcy courts to the circuit courts of appeal, the Conference Report
on the bills, and hence H.R. 833, fail to address the issue. Direct appeal would
have the benefit of
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