STATEMENT OF

 

GEORGE J. WALLACE

 

BEFORE

 

 THE SUBCOMMITTEE ON COMMERCIAL AND ADMINISTRATIVE LAW

 

 OF THE COMMITTEE ON THE JUDICIARY

 

UNITED STATES HOUSE OF REPRESENTATIVES

 

ON

 

H.R. 975

 

THE BANKRUPTCY ABUSE PREVENTION AND CONSUMER PROTECTION

 

ACT OF 2003

 

MARCH 4, 2003

 

 

 

Chairman Cannon, Congressman Watt and Members of the Committee, thank you for this opportunity to express my views on consumer bankruptcy and H.R. 975, The Bankruptcy Abuse Prevention and Consumer Protection Act of 2003.

My name is George Wallace.  I am a lawyer practicing in Washington, D. C., and have been associated with efforts to reform our bankruptcy laws since the 105th Congress, when a reform bill was first introduced.

I speak today on behalf of The Coalition for Responsible Bankruptcy Laws, a broad coalition of consumer creditors, including banks, credit unions, savings institutions, retailers, mortgage companies, sales finance companies and diversified financial services providers. 

The Coalition strongly supports H.R. 975 because it will take significant steps toward reforming today's consumer bankruptcy laws.  Those laws are fundamentally flawed and the need for reform is urgent.  Today, over 1.5 million consumer debtors file for bankruptcy relief.  That rate of filing has more than doubled over the last decade, and gone up more than six times since the last sweeping revision to our bankruptcy laws occurred in 1978.  Some predict that by end of 2003, filings could be as high as 1.7 million.

There are too many additional Americans each year filing for bankruptcy to permit continued toleration of this fundamentally flawed system.  Particularly in this flat economy with higher levels of unemployment than in the past, it is important that consumer bankruptcy relief be reserved to those who need and deserve it.  Our economy can ill afford a situation in which bill paying American consumers and debtors who deserve bankruptcy relief pay higher prices because others have run up large debts, and then used bankruptcy irresponsibly and often dishonestly.  The consumer bankruptcy system continues to reward those who lie, under oath, about their income and expenses and their assets.  Despite laudable new efforts from the United States Trustee program, bankruptcy continues to allow debtors -- and unfortunately, sometimes, their counsel -- to abuse the system.  In many places, even when a debtor fully discloses that he or she has ability to repay a significant portion of unsecured debts, a full discharge is granted, no questions asked. 

The amounts involved are huge.  We estimate that each year over $44 billion of debt is discharged in consumer bankruptcy cases.  These losses are recovered in the price American consumers pay for credit, an average of $400 for each American household.  We also estimate that upwards of $4 through 5 billion of these losses could be saved with the means test reforms in the bill.[1]  Yet without legislative intervention this year, the situation can only worsen.  As more Americans recognize that their neighbors are using bankruptcy, they too are tempted to file bankruptcy and take the easy way out.  Corruption and abuse breeds more corruption and abuse.

At the same time, it is important to remember that this legislation is clearly the result of extensive bipartisan compromise over more than six years.  Reform legislation was originally introduced in the 105th Congress.  After extensive compromise and revision, the bill sponsored by Congressmen Gekas, Boucher and many others cleared Conference Committee and passed the House with over 300 votes, but it ran out of time in the Senate. 

At the beginning of the 106th Congress, Congressman Gekas reintroduced as H.R. 833 the Conference Report from the 105th Congress. H.R. 833 was extensively amended in Committee and on the floor.  It eventually passed the House with a large bipartisan majority. On the Senate side, Senator Grassley introduced a version of the Conference Report as S. 625.  Likewise after extensive amendment, the Senate passed its bill with extremely strong bipartisan support.  H.R. 833 and S. 625, however, had significant differences.  After extensive compromises between House and Senate negotiated from February until the end of July, 2000, a compromise bill was worked out which became H.R. 2415 in the last days of the 106th Congress.  It passed the House by voice vote and the Senate with a veto-proof majority.  However, President Clinton pocket vetoed the legislation and the 106th Congress ended without enactment. 

In the 107th Congress, the bill was reintroduced in essentially the form it had passed both houses.  As H.R. 333, it passed the House early in the Session without significant changes.  A companion bill, S. 420, passed the Senate shortly thereafter with the addition of a substantial number of amendments.  Among other changes, the means test of section 102 was significantly altered, a cap was placed on the homestead exemption, and the discharge of debts arising from liability for obstruction of access to those selling lawful goods or services, popularly known as the "Schumer amendment" was added.  Assembling the Conference and working out differences took much of the rest of the Session.  The Conference Report issued in July of 2002 contained a number of compromises, including a homestead provision that significantly reforms this area of bankruptcy law and a version of the Schumer amendment.        

The bill before you today is the Conference Report compromise from the 106th Congress without the Schumer amendment.  The bill improves controls on abusive use of bankruptcy law while preserving all that is best about our present bankruptcy system.  Honest debtors can obtain bankruptcy relief no matter what their income, expenses, or assets, as long as they honestly disclose the economic facts about their situation.  The bill also imposes extensive additional disclosures and regulation on the consumer credit industry.  For example, the bill makes major changes to the credit card disclosure rules under the Truth in Lending Act, requiring extensive new disclosures on credit card solicitations and monthly statements.  It also creates extensive, new regulation for reaffirmation agreements.  This additional regulation will not come cheap to the American consumer.  Creditor experience complying with a California law which has similar credit card solicitation provisions indicates that the additional compliance cost will be significant -- costs passed on to consumers in higher credit prices. 

Whatever doubts we may have about whether the additional regulation of the credit industry will bring commensurate benefits to American consumers, we are confident that the improvements to consumer bankruptcy law are badly needed, and we support this legislation because of these provisions.  Most importantly, the bill takes steps to require responsible use of bankruptcy's broad sweeping remedies.  In general, the bill provides that if a debtor's case is abusive, the court is to dismiss the debtor's effort to obtain bankruptcy relief.  This flexible general standard will be applied in a wide range of cases as demanded to thwart the ingenuity of those who would wrongfully or fraudulently try to use the bankruptcy system.  To assist enforcement of this general standard, the bill's most widely recognized innovation, the means test, creates a presumption that the Chapter 7 bankruptcy cases of debtors with incomes over the State median will be dismissed if they can afford to repay a significant part of those debts over a period of 3 to 5 years, based on a monthly budget set under court supervision.  We expect this innovation, alone, to provide those responsible to enforce the honesty of the bankruptcy program with significant new tools to carry out their duties.  Significantly, the bill aids the United States Trustee program in its enforcement efforts, increases funding for that program significantly, provides for more information about debtor's affairs to be provided in each case, and checks up on that information with a program of audits.

Some of the most important provisions of the bill significantly improve the position of women and children who are dependent upon child support, alimony, and marital property settlements to receive the money they are entitled to.  Today, consumer bankruptcy can be used to delay or evade these important family obligations.  The bill closes the loopholes the unscrupulous seek to use to delay or evade paying child support or alimony. 

At a time when the States are increasingly pressed for revenue, the bill includes major provisions to improve and streamline the collection of state taxes.  It also includes the homestead exemption compromise worked out in Conference in the 107th Congress. 

In addition, the bill imposes new forms of consumer protection on both the bankruptcy process and on consumer credit and recognizes the importance of low priced secured credit to Americans by improving the ability of the creditor to either get repaid or get the security back promptly.  In an important change we believe will better help debtors having debt difficulty to understand their options, the bill requires every individual debtor to go to a brief consumer credit counseling session either before filing or shortly after filing bankruptcy, and gives debtors who do file for bankruptcy new, informative disclosures about the bankruptcy process, what they can expect from it, and how much and when they are going to have to pay for it.

Of course, there are those who oppose this legislation.  As someone has said, a true compromise satisfies no one, and this legislation is clearly the product of hard fought compromise.  Many continue to think this legislation does not go far enough.  Others claim it goes too far. 

The complaints of the critics should not obscure what is happening here.  The critics are those with a vested interest in the system staying exactly as it is.  They do not want reform.  They do not care if the bankruptcy system remains a place where fraud and abuse are every day events.  The American people, on the other hand, recognize all too clearly that bankruptcy is being used by some people to evade their responsibilities.  In repeated polls of the public, they respond that bankruptcy reform is needed and necessary to limit bankruptcy to those who need it.

Make no mistake about the point I am making.  We support the availability of consumer bankruptcy relief.  The bill before you today would continue to make available to every American, on demand, the ability to go into bankruptcy, obtain the benefit of the automatic stay and a discharge for unsecured debts, and emerge with a "fresh start".  Nothing in this bill will prevent a person from getting prompt, effective and compassionate bankruptcy relief.  Those who claim the contrary are simply uninformed.

But reform is urgently needed.  Today's present bankruptcy system is really two systems. 

•           There is the system for those who are overburdened with debt and are responsibly using the bankruptcy system.  This is the vast majority of bankruptcy users.  By our estimates, it is 80% to 90%, although some would suggest that this estimate is too high.

 

•           There is another group which uses the bankruptcy system irresponsibly or fraudulently.  These people usually have a great deal of debt.  But they also have significant income or assets and use the bankruptcy system to evade their personal responsibilities.  We estimate this group to be in the 10% to 20% range of bankruptcy users, although, again, some suggest a higher percentage is in fact the case. 

 

In other words, bankruptcy is a good social program which provides benefits to Americans, but which is sometimes used inappropriately.  We do not tolerate abuse of other social programs such as Medicare and welfare, nor should we tolerate abuse of bankruptcy. 

How can you misuse the bankruptcy system?  Let me give you a few examples.

•           Do you owe $40,000 of unsecured debt but have a comfortably steady income so that you could repay it over a few years, perhaps with the help of credit counseling?  You can file for chapter 7 relief and discharge that $40,000 without repaying anything to your creditors.  Enjoy your comfortably steady income.

 

The legislation addresses this misuse with the "ability to pay" provisions of section 102 as long as the debtor's income is in excess of the State median income level.

•           Owe a $40,000 property settlement payment to an ex-wife?  Or perhaps as part of that property settlement you are supposed to pay the mortgage every month on the house she occupies with the children.  File chapter 7.  If she doesn't hire a lawyer and file an action to declare the obligation you owe her nondischargeable, it will be discharged.  If she does, dismiss the chapter 7 and file a chapter 13.  You can discharge property settlement obligations in a chapter 13 proceeding.

 

This misuse is addressed by making property settlement agreement obligations nondischargeable.  No longer will the bankruptcy court be able to undo the results of domestic relations court.

•           Have you defrauded your creditors?  Use chapter 13 to discharge the debts you incurred by fraud.

The bill stops this abuse.  If you incurred debt by fraud, it is not discharged.

•           Do you owe significant nondischargeable debts (e.g., fraud or tax debts) and have you recently purchased a new car on credit?  Use chapter 13 and its cramdown provisions to take money from your secured creditors and use it to pay your nondischargeable debts.

 

Under the legislation, if you purchased a car on credit within 2 years of filing and go into chapter 13, you have to pay for the car the same way your neighbor has to.  The same result occurs if you purchase a large screen TV one year before filing.  No longer can you take money from your secured creditor and use it to pay other bills, or in some instances, to cover your own living expenses -- while you keep the car.

Each of the examples I have given of what you can do may be perfectly legal strategies under today's Bankruptcy Code, and they all illustrate what is wrong.  We have created a form of debt relief that rightly takes care of those who need it, but fails to identify and treat differently those who do not, or who are using it irresponsibly.  How could this have happened?  Briefly, in a well meaning attempt to help those in debt trouble, a statutory scheme was enacted in 1978 which generously provides relief to those who need it -- but also to those who do not deserve it.  Unfortunately, bill paying Americans pay for that unnecessary largess in higher credit prices and reduced credit availability. 

Critics of bankruptcy reform efforts have claimed that the provisions in the legislation aimed at those with ability to pay are excessively harsh on debtors who need and deserve bankruptcy relief.  For example, they claim it is an unacceptable burden on those seeking relief to require them to attend a brief credit counseling session in which they will learn how credit counseling might help them.  They similarly claim that requiring that debtors receive some brief additional disclosures to explain the bankruptcy process and their relationship with their attorney also imposes an unacceptable burden on obtaining relief.  Nothing could be farther from the truth.  Exposure to credit counseling before filing bankruptcy can save some debtors from the damage bankruptcy does to their credit rating.  It introduces them to budgeting, which experts tell us is often the problem.  Other critics urge that the educational features of the program won't work, or are too expensive.  To be sure, there are questions about how to best develop an effective program as there always are.  But the bill contains flexible standards which give the United States Trustee Program the ability to structure and refine an effective program over time.  It also provides for a pilot project which will enable the Program to evaluate and experiment with innovative approaches to carrying out this mission.  The need for debtor education and improved financial literacy is great if bankruptcy is to be truly rehabilitative.  The catalyst of this legislation has resulted in much constructive work already being done on how to best structure the educational process, and it will continue to have that effect.  Given the need, there can be no doubt that the counseling and educational programs included in the bill are worth the effort and cost. 

Balanced reform is needed to put our consumer bankruptcy laws back on track.  After years of negotiation and compromise, the bill has found a middle ground.  We urge you to support it.

In closing, let me stress again the significance of this legislation to close loopholes that today permit debtors to delay or evade child support, alimony and property settlement obligations.  I have heard no one who says that these provisions are not strong enough.  And they are needed to make sure that these important social responsibilities are not evaded in bankruptcy court.  Bankruptcy court should not be a court of second resort after domestic relations court where you can undo your obligations to your children and society.

Thank you for the opportunity to address the Committee.

 

George Wallace is a retired member of Eckert Seamans Cherin & Mellott, LLC, where he is Of Counsel.

 

            For fifteen years before he began practice full time, he was a professor of law, the longest period of time at the University of Iowa College of Law from 1968 to 1978.  During this time he taught bankruptcy law and also learned about the day to day realities of bankruptcy practice in his role as the faculty advisor to the low income legal clinic he started in Davenport Iowa, as well as in serving as a trustee or debtor's attorney in a few cases.  He also learned something about what a bankruptcy judge faces as the faculty advisor to student bankruptcy law clerks for the bankruptcy judge in the Northern District of Iowa during the 1970s, reviewing and editing the draft opinions the students prepared for the judge.

 

            Since that time, he practiced law full time for nearly 20 years, first with Archer & Greiner in New Jersey, then as General Counsel of The Travelers Mortgage Services, Inc., and finally with his firm, Eckert Seamans Cherin & Mellott, LLC.  While in full time practice, he represented both debtors and creditors in commercial and consumer bankruptcy cases.  He also specialized in consumer financial services law.  Since his retirement, he has continued these interests.