For the majority of people overloaded by debt, filing for bankruptcy is often a last resort.
Not only does it put a black mark on their credit rating for 10 years, bankruptcy still has a significant social stigma attached to it.
That's why it still pains Juanita, a retired Philadelphian who wishes to remain anonymous, to talk about the financial situation she was in that led her to file for bankruptcy last year. "I'm still embarrassed that I had to file," she says. "I've worked since I was 13 and have never had to rely on anyone - including the government - for help."
But that relief, in the form of Chapter 7 bankruptcy protection, allowed Juanita to erase all of her debts - including the massive amount of unsecured credit-card debt that she had to run up after being laid off by her employer after 28 years on the job.
All of a sudden Juanita - without the income from her $30,000-a-year job - had to rely on her monthly $800 Social Security check to cover the costs of her rent, groceries, electricity, and some considerable medical expenses.
For a few months, she made ends meet by relying more on her three credit cards. But when the minimum payment on those cards hit $100 each, she had to turn to a bankruptcy lawyer.
"The bankruptcy laws are a safety net for people like Juanita," says Henry Sommer, a bankruptcy lawyer in Philadelphia who has specialized in this area for 25 years. "Although credit cards aren't the cause of their financial troubles, they often accelerate the problem."
The number of bankruptcy filings did drop in 1999 to 1.3 million, after three years of record annual highs. (See chart, above.) But "the high rate of of filing demonstrates that US consumers are still under financial stress, notwithstanding a healthy economy," says Samuel Gerdano, executive director of the American Bankruptcy Institute.
Chapters 7 and 13
Personal bankruptcies fall under two main categories.
Chapter 7 filers have their debt erased even if they have the capacity to repay some of the debt. Filers are usually allowed to keep their primary residences, cars, and household goods. Certain debts - such as taxes, child support, and school loans cannot be erased.
Under Chapter 13, creditors are repaid in installments - in full or in part - over three to five years.
According to the Alexandria, Va.-based American Bankruptcy Institute, 70 percent of personal filers use Chapter 7 and 30 percent use Chapter 13.
The huge increase in personal bankruptcies over the past two decades has not gone unnoticed by lawmakers in Washington.
Both the House and the Senate are working on separate bills that focus on moving the bankruptcy code toward a "needs-based" system. Debtors would be subject to a means test to determine how much relief they needed, and would be required to repay what they could. Those judged able to pay some of what they owed could be disqualified from Chapter 7 - which allows most unsecured debts, such as credit card bills, to be wiped out - and put into Chapter 13, which requires repayment of those debts.
The legislation also includes a requirement that credit-card companies explain to customers in their monthly statements how long it would take to pay off balances if they make only the minimum required payments.
Banks, credit-card companies, and retailers strongly back the legislation, which has passed both the House and Senate and now is in a conference committee to iron out the differences in the two bills. Proponents argue that the current bankruptcy law encourages "bankruptcies of convenience" by people who could afford to pay back some of their debts. "This bankruptcy reform is going to repair a very flawed system by requiring wealthy debtors to repay what they can afford, while preserving the bankruptcy safety net for others," says Catherine Pulley, a spokeswoman for the American Bankers Association. "It will restore fairness to the system."
Aggressive credit offers
But consumer groups and some Democrats counter that these companies are reaping the results of their own aggressive marketing of credit. They say the legislation favors corporate profits over the needs of families struggling with debt. If the bankruptcy laws are tightened, they argue, it could actually lead to a renewed loosening of credit standards.
"Both of these bills are a triumph for the credit-card industry but a disaster for consumers who responsibly use the bankruptcy system," says Travis Plunkett, the legislative director for the Consumer Federation of America (CFA). "They will deny many families in financial crisis a fresh start while spurring more reckless and irresponsible lending by credit-card issuers."
While Federal Reserve Chairman Alan Green-span has taken no position on the bankruptcy legislation, he noted the aggressive marketing of credit cards in his testimony before the Senate Banking Committee Feb. 23. "Children, dogs, cats, and moose are getting credit cards," he said.
While the Fed Chairman's comments are a slight exaggeration, the American Banking Association acknowledges that the credit-card market has grown very quickly over the past two decades and today is 25 percent bigger than the auto-loan market.
But for all the hits the credit-card industry has taken from consumer groups, advocates of bankruptcy reform say the rise in credit-card debt is directly related to the flaws in the bankruptcy code.
"Permissive bankruptcy laws were among the causes of this explosion of consumer debt," says David Frum, a senior fellow at the Manhattan Institute. "Easy bankruptcy is for consumers what credit guarantees are for businesses: a promise from the government that life can be played on a heads-I-win-tails-you-lose basis."
Early indications are that President Clinton will resist tightening the bankruptcy code, though the House and Senate versions of the bill both passed with veto-proof margins.
(c) Copyright 2000. The Christian Science Publishing Society