The tougher terms now facing the bankrupt

The path into bankruptcy is now rougher, the path out is steeper, and the change could hardly come at a more difficult time for many US consumers.

An overhaul of the bankruptcy code - which takes effect Monday - means that Americans will face higher fees and higher burdens of proof before having any debts wiped clean in court.

The law aims to encourage more responsible behavior by a debt-drenched nation, and to rein in abuses of bankruptcy protection.

The motive is laudable, many say. But the new law also creates additional burdens for many Americans at a time of rising pocketbook challenges. Energy prices have surged. Interest rates are rising. Credit-card firms are boosting rates for high-risk customers while raising minimum payments.

And a trend of rising home values, which has helped sustain consumer spending, may be slowing. "If that goes ... you've got a very combustible situation," says Brad Stroh, who heads Freedom Financial Network in San Mateo, Calif. "We think the fourth quarter could be very, very difficult for the American consumer."

Consumer spending now drives more than two-thirds of US economic activity, and an era of low interest rates has helped borrowers do much of that spending.

Now the climate appears to be shifting. Even as the price of goods accelerates, so is the price of borrowing.

At the same time, the hurdles for people who get into financial trouble just got higher.

By making bankruptcy tougher, the new law affects more than 1 million people annually who typically face a combination of debt and dire straits, such as illness, a job loss, or divorce.

"In some ways it's going to affect everyone who files for bankruptcy, because the cost is going to go up," says Deborah Thorne, an Ohio University sociologist who has researched bankruptcy.

Lawyers may charge another $500 or so because of new paperwork requirements. And the government's fee for a Chapter 7 filing is now $274, up from $209.

But the law's main impact is targeted toward those with reasonably strong incomes. Its core feature is a means test, designed to steer more of these people toward Chapter 13 bankruptcy (in which they pay what they can to creditors over a five-year period) rather than Chapter 7 (which quickly eliminates many debts).

Between the means test and higher bankruptcy fees, the result could be to discourage some people from filing for protection from creditors. The ranks of those "underground" - struggling to avoid creditors and get by - could grow. Others would achieve greater financial discipline, in or out of court.

Here's how the new system compares with the old:

Until now, the system relied strongly on a judge's discretion. Petitions for Chapter 7 could be accepted or rejected, but there was no standard means test.

The new system has a multistep test for entering Chapter 7. First, the filer's family income over the past six months is considered. If it's below the state median, Chapter 7 is available. If it's higher than the median, the court will examine the filer's ability to pay debts. The judge considers whether, after allowing for living expenses, the filer can pay at least $100 a month to creditors - and whether within five years the total payments can reach either $10,000 or 25 percent of unsecured debts (such as credit cards).

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