Bankruptcy - A Fresh Start
To many people, bankruptcy seems like a last resort or a major moral failing. Nothing can be further from the truth. People from all walks of life file bankruptcy every day. Major corporations enter into bankruptcies to cut loose bad investments and regain a strong financial footing. For the informed, such as corporations supported by their legions of attorneys and financial managers, it is a tactical maneuver to get on track. They use their attorneys to protect them from their creditors. The purpose of bankruptcy is to give the honest but unfortunate debtor a fresh start. You may have heard politicians or pundits talking about the “moral hazard” of letting people walk away from debts or giving people a break when a good investment becomes a bad investment. Don’t be fooled. Corporations do this all of the time. Why should it be any different for you? Instead of throwing good money after bad, cut bad investments loose and move on with your life.
Financial freedom cannot be achieved by taking a casual approach to debt. Much like a game of chess, success goes not to the lucky, but to the informed individual who deliberately plans several moves ahead. There are no random moves, and no one move is more important than the other. A tactical approach to consumer debt is no different. By taking all available information into consideration and evaluating multiple strategies, the whole becomes greater than the sum of its parts.
Fear guides most financial decisions. Emotion and fear alone should never guide the economic decisions of consumers, but they all too often do. Financial decisions are best made rationally. Rational decisions take into account the various options presented by the U.S. Bankruptcy Code and the other powerful state and federal statutes enacted to level the playing field between the creditor and borrower. At the end of the process, the best choice is the one that is the most economically sound for the individual.
We should never discount the power of fear, as that is what ensures that we put our seat belts on every time we enter our cars for even short trips. However, the power of predictability can and will trump fear every time. Wearing a seat belt does not guarantee that you will never be in an auto accident. However, that same seat belt provides you with a more predictable outcome if an accident happens. A well-planned financial strategy is like a well-planned road trip. By charting the most effective and efficient route, one can reasonably predict when the destination will be reached. Even the most minor mistakes, repeated over time, can sidetrack the average person. Instead of working to fund their lives, most Americans are working to fund their debt. This lifestyle is utterly unsustainable, and is a major contributing factor to the erosion of the middle class.
The purpose of this section is to describe to the reader some of the tools at the informed’s disposal. Achieving a goal always boils down to the quality of the information one has when formulating a plan and executing that plan. Informed decision-making is the difference between acting out of fear and taking focused actions reasonably calculated to achieve a goal. The luxury of the informed is twofold: possessing information and applying it strategically.
A Brief History of Bankruptcy Law
Anyone who has read Charles Dickens’s A Christmas Carol may be familiar with the concept of debtor’s prison. Originally, bankruptcy was a remedy that protected creditors, banks, and lenders under English law. A consumer’s assets could be seized to pay back creditors. The individual was then imprisoned and his family was left to pay the remainder of his debts. It was not until the 1800s that the English system moved away from debtor’s prison and towards a system even slightly resembling modern bankruptcy law.
In the United States, codifying bankruptcy law was a power granted to Congress by the U.S. Constitution. ( See Article I, Section 8, clause 4.) It was not until 1800 that Congress enacted the first bankruptcy legislation, and not until the Bankruptcy Act of 1841 that voluntary bankruptcy was contemplated by Federal law. In 1938, the Chandler Act made amendments to existing bankruptcy law that tended to make voluntary bankruptcy more attractive to individual consumers.
In 1978, Congress enacted a major overhaul to the bankruptcy laws, known as the Bankruptcy Reform Act of 1978, or the Bankruptcy Code. It is from this legislation that we derive the names of the various forms of bankruptcy. In 2005, Congress enacted the Bankruptcy Abuse Prevention and Consumer Protection Act. It changed several sections of the Code, including the addition of the means test to Chapter 7 filings. The means test was designed to prevent people with excess disposable income from filing a Chapter 7 bankruptcy. The intention was that more people would file Chapter 13 bankruptcies and repay their creditors at least a portion of what they owed. It is a myth that people with high incomes cannot file for Chapter 7 bankruptcy as a result of the 2005 amendments.
The Purpose of Bankruptcy: A New Opportunity in Life
In 1934, the Supreme Court explained bankruptcy’s purpose: “[I]t gives to the honest but unfortunate debtor…a new opportunity in life and a clear field for future effort, unhampered by the pressure and discouragement of preexisting debt.”[i] The point is this – bankruptcy is supposed to be a fresh start, not an albatross around your neck. If the process is followed properly, then many consumers can unburden their finances and get a fresh start. Bankruptcy is not a tool to be used again and again; the Bankruptcy Code limits the number of times an individual can file in a given period of time. The idea of resetting bad investments should be compelling to most. However, many get so caught up with social pressures that they write off this powerful remedy in favor of inaction.
The U.S. Bankruptcy Code contains provisions designed to prevent abuse of the bankruptcy process. For example, if you obtain a new credit card, max it out, and then file for bankruptcy, the creditor will likely object to the debt being discharged. This is because the behavior appears fraudulent – honest but unfortunate debtors don’t generally obtain a credit card, max it out and then file a bankruptcy right away. If you’ve recently incurred large debts or made major purchases, it is always wise to advise your attorney of these facts up front. It may make more sense for you to wait a few months before filing.