Source: http://govinfo.library.unt.edu/nbrc/report/24commvi08.html
Timestamp: 2019-04-20 04:24:59+00:00

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The consumer bankruptcy recommendations of a five-four majority of the Commission speak volumes about the error of entrusting reform to defenders of the institution that needs reforming.(2711) Many of these recommendations are not only unrealistic, they are simply deaf to the public debate over and frustration with this nation's bankruptcy system. And in conspicuous areas, the majority recommendations are also mute. It is foolish not to view with alarm the fact that 1.2 million people filed for bankruptcy relief in 1996, nearly 30% more than in the previous year, and that a similar proportional increase appears to be happening during 1997. When filings rise dramatically while unemployment is declining, it is inevitable that the next economic downtown will produce a cataclysm of filings. When the cataclysm occurs, the stability of our credit-driven economy could be shaken.
The Commission's response to this reality, novel in our history, is silence. The reporter's introduction to consumer bankruptcy purports to conclude that the cause of the high rate of bankruptcy filings is debt. That controversial conclusion(2712) is about like saying that the cause of the high rate of divorce is marriage. Even if the debt-causes-bankruptcy theory is portentous, it is founded in politics and economics, not law. Because neither the reporter nor any member of this Commission is an economist, it is out of our bailiwick to speculate on the economic causes of increased filings. But if too much debt is the source of the bankruptcy problem, Congress should address it directly rather than indirectly through bankruptcy law. This Commission's report should not be taken seriously on purely economic issues.
There remains a normative question which is very much within our competence to evaluate: whether a bankruptcy law that permits well over one million people a year to break their contracts and discharge debts -- during "good times" -- is functioning correctly. In this respect, the five-member majority tome on consumer bankruptcy is silent. Silence serves a number of purposes. It furthers the interest of those who file consumer bankruptcy petitions, many of whom advocated from the beginning of the Commission that the bankruptcy law wasn't broken, and the Commission shouldn't fix it. Silence stifles debate over whether bankruptcy relief should be means-tested like all other programs available in the social safety net. Silence ignores creditors' complaints that their interests are systematically short-changed by the Framework, while those of debtors are enhanced.
Silence also obscures the impact of the Framework proposals, by concealing that those proposals create even more incentives than now exist to seek bankruptcy relief and that they favor Chapter 7 discharge over Chapter 13 repayment plans. Nowhere, as far as I can tell, does the Framework justify these untoward consequences. The Framework induces more people to seek bankruptcy relief by significantly increasing exemptions; by treating reaffirmations as installment redemption on discounted collateral; by voiding liens on any household good less than $500 "value;" by degrading rent-to-own contracts from rental agreements to security interests; and by allowing full dischargeability of any credit card debt incurred within the authorized credit limits more than thirty days before bankruptcy. The general lesson from these changes is: go on a shopping spree and declare bankruptcy in thirty-one days. The Framework is silent on any notion of personal responsibility for one's debts.
Similarly disadvantageous to creditors and to bill-paying Americans who bear the hidden bankruptcy tax,(2713) the Framework effectively discourages Chapter 13 filings. This effect results (1) from allowing the debtor to make no more payments on secured debt in Chapter 7 (through reaffirmation) than would be required in a Chapter 13 cramdown plan, (2) from measures that may increase Chapter 13 payment requirements without increasing debtors' incentives to file in Chapter 13, and (3) from enhancing the exemption levels. The synergistic effect of these changes is skewed toward increasing use of Chapter 7.
As it matured into the final product, none of the first Framework's aims have been preserved. The five-member Framework sent to Congress in fact blurs the line between Chapter 7 and Chapter 13 significantly by conflating reaffirmations and installment redemption. As its general thrust is to encourage Chapter 7 liquidations rather than repayment plans, unsecured creditors have no corresponding assurance of receiving payments in Chapter 13. Other measures that would have protected creditors appeared in the March draft and were inexplicably dropped thereafter, removing any pretense of balance between debtors and creditors. The five-member majority proposals that go to Congress, unlike earlier drafts of the Framework, have dropped the following provisions: a more rigid limit on serial filings; affidavit practice to speed up relief from the automatic stay; reliance on the impending Rash decision for valuation for collateral; and dismissal of failed Chapter 13 plans rather than automatic conversion to Chapter 7. Admittedly, the present Framework eliminates the wholesale stripping of junior home mortgages, but the Framework remains, on balance, disrespectful of the state-law rights of secured creditors.
the Framework's recommendations for dischargeability of student loans, credit card debt, the Chapter 13 superdischarge, and state court default judgments.
Congress should consider means-testing for consumer bankruptcy relief; it should amend § 707(b); and it should decline to accept the Commission's recommendations that enhance discharge of debts for unjustifiable reasons.
In 1980, just after the Bankruptcy Code was passed and amid an economic recession, annual filings stood at slightly over 330,000. Sixteen years later, following a sustained period of economic growth, the number of filings has risen suddenly and dramatically from just under a million to 1.2 million consumer bankruptcies in 1996. The disproportionate increase has continued in the first part of 1997.
This is not the place to speculate on all of the causes of increased filings. But no one suggests that the filings are any longer demographically confined to the lowest socioeconomic groups or those who have irrevocably lost their jobs or have become physically disabled -- seeking bankruptcy protection has become more and more common among fully employed middle- and upper-class people. See Appendix attached hereto. More disturbingly, many debtors are now filing for bankruptcy protection before actually defaulting on debt. Id. As Congressman Pete Sessions recently described it, bankruptcy is "for some people . . . just another tool of financial management." Further, contrary to the implications drawn by many bankruptcy practitioners and academics before the Commission, the rapid increase in filings cannot mean that the bankruptcy system requires amendment to soften its impact on debtors. If it were unfair to them, there would not be a vast migration toward bankruptcy when, as we see today, employment prospects seem brighter than ever.
In part, the bankruptcy boom springs from the intention of the 1978 Code. The drafters of the Code, many of whom have actively influenced this Commission's work, consciously sought to remove the social stigma from filing bankruptcy. The Code, for instance, replaced the term bankrupt with "debtor" and described a case filing as seeking an "order for relief." If you craft a social welfare statute, people soon learn to appreciate the benefits of seeking welfare.
A prominent bankruptcy judge once commented to me that when he graduated from law school around 1950, there were two things that "people never did: divorce and bankruptcy." This comment captures an insight often overlooked by those who make their living from the bankruptcy process. Declaring bankruptcy has a moral dimension. To declare bankruptcy is to break one's contracts and agreements. Our society cannot function if it becomes widely acceptable to do this. In fact, the sanctity of contract -- enforced by the rule of law -- animated the growth, development and prosperity of the Western world. Enforceable contracts permit economic freedom to flourish and provide opportunity for all precisely because they are the product of voluntary action rather than state-sponsored preferences, priorities, or corruption. To regress from a norm in which contracts are enforceable threatens the foundation of our economic engine.
Beyond contracts and mere transactional effects are the distrust, disaffection and misunderstanding that erupt in a society which broadly permits such promise-breaking as occurs in bankruptcy. The large number of heartfelt and often poignant letters received by the Commission from creditors who were short-changed by debtors in bankruptcy attests to this sad reality. No doubt, bankruptcy is a necessary feature of Judeo-Christian capitalist societies, but to advance the equally moral goals of protecting social cohesion and general welfare, it cannot become more than an act of grace available to those who are truly and seriously needy. We must not, to paraphrase Senator Moynihan and former Treasury Secretary Lloyd Bentsen, "define bankruptcy deviancy downward."
Finally, bankruptcy has a macroeconomic effect on the cost and availability of credit. Graphically demonstrating this impact are hundreds of letters the Commission has received from credit unions. Credits unions' losses in bankruptcy directly affect their loan rates and practices, and in the past three to four years, those losses have dramatically increased. Other lenders, large and small, have had similar experiences. The rising number of bankruptcies will increase interest rates for all consumers and will cause businesses to scrutinize credit more closely and discriminate among borrowers. The real losers as the supply of consumer credit tightens are those at the bottom of the ladder. In the final analysis, bankruptcy "reforms" that favor bankrupts do not favor bill-paying customers. Without further belaboring what should be an obvious point, bankruptcy as a social welfare program is subsidized by creditors and, through them, by the vast majority of Americans who struggle and succeed to make ends meet financially.
In light of these considerations, it is hard to justify why the Commission has not formally considered means-testing for bankruptcy relief, as a device to limit the adverse consequences of the filing explosion. Several factors have contributed to this failure. First, the advocates of means-testing received no encouragement or assistance from the Commission's staff. Second, the creditor community has until recently been reluctant to articulate a concrete proposal for means-testing. Third, the professionals who have been heavily involved in the Commission process exhibit the general reluctance of the legal profession to contemplate "reform" that may disturb their customary practices. Fourth, analogizing the bankruptcy system to the welfare office, or to similar programs that routinely engage in means-testing, discomfits bankruptcy professionals. Finally, it is a complex task to create fair and efficient means-testing criteria that would not administratively bog down the bankruptcy courts.
If the Commission had engaged in this important debate, we might have considered at least five different options for means-testing. It appears that the primary considerations in setting up such a program are fairness and ease of administration together with the maximum feasible simplicity. The point of means-testing is to permit Chapter 7 discharge and liquidation of debt only to those debtors who are truly unable to repay their debts in the future. Those debtors who are income-earning, however, should not receive the benefits of the full discharge and the automatic stay to the extent that they are able to repay creditors the secured and a portion of the unsecured debts they have incurred. Each of the following proposals, listed in no particular order of importance, has the potential to accomplish the objective of means-testing within the noted constraints.
1. Section 707(b) could be amended to require that the court dismiss or convert the case of a debtor who has filed for Chapter 7 if, on the motion of a party in interest or the U.S. Trustee, it is found that the debtor has the ability to repay a portion of his debts in Chapter 13. This option would permit debtor-selection of bankruptcy relief to begin with, utilizing creditor oversight and the courts to determine the appropriateness of that relief within statutory guidelines. The provision might set as a threshold the debtor's ability to pay back 10% of unsecured debt within five years, or any other amount chosen by Congress.
2. Any debtor whose family income exceeded $35,000 or $40,000 per year, a solid middle-class income, might be permitted to file for Chapter 7 liquidation relief only by agreeing to pay for and submit to a full bankruptcy audit conducted by the panel trustee.
3. A presumptive income ceiling for the availability of Chapter 7 relief could be defined. Thus, any debtor whose family income exceeded an average middle-class income, say $35-40,000 per year, would presumptively be required to seek Chapter 13 repayment plan relief unless the debtor could establish extraordinary and compelling circumstances justifying Chapter 7 liquidation. Those circumstances could be codified and should include no less than serious and costly medical or health conditions; unique family circumstances (large number of dependents); being a fraud victim; or being out of work and unemployable for a sustained period of time.
4. A "least-common-denominator" means test would automatically channel any debtor seeking bankruptcy relief into a Chapter 13 proceeding if she is able to repay a minimum level of unsecured debt within five years. This proposal is administratively feasible, because it uses the information now recorded on the debtor's bankruptcy Schedules I and J, reflecting income and monthly expenditures, and derives the debtor's "disposable income" from those charts. A debtor and her attorney would immediately discern whether Chapter 7 or 13 relief was permitted and would so certify to the court. Court intervention would be required only for challenges to the certification or questions raised by the U.S. Trustee. The reform proposals of Four Dissenting Commissioners include proposals to enhance the integrity of debtor's schedules and thus, one hopes, to limit manipulation of this alternative.
5. The needs-based test suggested by some creditors derives from the assumption that all debtors should be directed into a Chapter 13 repayment plan to the extent their family income exceeds average costs of living in their area, as determined by statistics from the Bureau of Labor Statistics. Immediate questions are raised about the complexity and fairness of this proposal, but those objections may be allayed in various ways. First, BLS statistics are already in use in one form or another by Chapter 13 trustees as a gauge against excessive expenditures claimed by Chapter 13 debtors. Second, if BLS statistics are fair geographically, they can be administratively disseminated to bankruptcy courts, trustees and debtors' attorneys and promptly updated. Third, the use of similar measures by family courts and tax collection agencies in working out debtor payment plans suggest their feasibility for bankruptcy plans. Fourth, the statute could except debtors from this standard under circumstances in which its application would be clearly unjust. Finally, to the extent this standard would require debtors to make higher payments than they presently contemplate, it is because such debtors have higher expenses and, presumably, higher income-earning history than average Americans. The proposal is therefore a progressive one, which would have its smallest impact on low-income debtors.
Three vehement objections to means-testing bankruptcy relief, and requiring many income-earning debtors to pay back some portion of their debts, have been frequently voiced. The first is that, given the current high failure rate of cases in Chapter 13, it can hardly be expected that when debtors are forced into debt payment plans, they will be more likely to complete their court-ordered obligations. While this is certainly a possibility, it is mitigated by the alternative that such debtors would face. If they did not complete their Chapter 13 plans, their cases would be dismissed, and they would again be at the mercy of creditors. The option of converting to Chapter 7 liquidation in a means-testing regime would necessarily be limited for those debtors who originally qualified only for Chapter 13 payment plans. It should also be noted that none of the presently-conceived means-testing proposals requires a particularly draconian level of debt repayment. Moreover, once debtors become well aware that their earning capacity will limit the debt relief to which they may be entitled, they can plan their lives accordingly. It is patronizing and short-sighted to assert that debtors are too stupid and undisciplined to adjust their expenditures to the default standards that society will maintain.
The 13th Amendment proscribes slavery or its functional equivalents, e.g. peonage, U.S. v. Kozminski, 487 U.S. 931, 941-42, 108 S. Ct. 2751, 2759, 101 L.Ed.2d 788, 804ff. (1988). As noted above, § 707(b) is intended to prevent debtors who are capable of paying their just debts from discharging them by misuse of an extraordinary privilege to which they are not properly entitled. If this violates the 13th Amendment, then it would seem that having to pay one's just debts is "slavery" or "peonage" -- put another way, debtors would read the 13th Amendment as if it provided a Constitutional right to a Chapter 7 discharge! The great majority of Americans who work hard to pay off their voluntarily-incurred debts might be a bit surprised to hear the Protestant Ethic described as "slavery." Judicial review of voluntarily-filed Chapter 7 cases for abuse does not force anyone to work and does not force debtors to divert any part of their income to payment of debts. Such judicial review merely requires debtors who already work and have enough income to pay their debts to "take their chances" under State law if they refuse to meet their obligations, by refusing in turn to grant equitable intervention to protect such debtors from State debt-collection mechanisms where insufficient cause for such intervention has been shown.
In re Tony Ray Higginbotham, 111 B.R. 955, 966-97 (Bankruptcy N.D. Oklahoma 1990); see also In re Koch, 109 F.3d 1285, 1290 (8th Cir. 1997) ("Congress is free to limit Chapter 7 protection to truly needy debtors who cannot fund a Chapter 13 plan . . . .").
A third complaint by those who resist means-testing is that debtors cannot pay back anything, according to some empirical studies, or alternatively, there is no good proof that they can repay a portion of unsecured debts. I am not an economist or statistician and will not debate these hypotheses, although they are strongly controverted.(2718) Having been a member of the Commission's Consumer Bankruptcy Working Group, however, and having read the thousands of pages submitted to us on consumer bankruptcy, I draw two firm conclusions. First, too many letters from lenders and news articles depict instances of filings by people with steady jobs whose lifestyles got out of control or who gambled (sometimes literally) with their finances and lost. See, e.g., Appendix hereto. If they have steady income, and no exceptional problems such as physical disability, it does not seem unfair for society to ask them to repay some of their unsecured debts. Second, if by some chance it is true that no debtor can afford to repay some unsecured debts, then the critics of means-testing will be vindicated by that very program. No means-testing proposal I have seen would impoverish anyone with an impossible level of debt repayment. On the contrary, if all debtors are so needy as the means-testing critics contend, none of them will qualify for debt repayments, and all will receive a Chapter 7 discharge.
Lack of means testing creates the moral hazard problem of allowing abusers to self-select their own debt remedy. This can do nothing but exacerbate abuse. Would we, for example, allow welfare recipients to select their own benefits? Would we allow golfers to determine their own "gimmies"? Of course not. So why allow debtors to select their own remedy? Would they not simply act in their own interest on average, therefore exacerbating abuse? The answer is probably "yes," so means testing (or some other gate keeping" machinery) is the only way to eliminate this moral hazard.
Letter from James J. Johannes, Firstar Professor of Banking and Director, Puelicher Center for Banking Education, University of Wisconsin-Madison, to Mr. Brady Williamson (June 17, 1997).
The Commission has in my view neglected its duty to investigate alternatives to the present-day reality of excessive bankruptcy filings. I hope that Congress will take up the challenge.
The following is a sample of the letters this Commission has collected testifying to the need for means-testing. As these letters describe, lenders have begun to observe many of their clients file for bankruptcy who have neither missed a loan payment nor demonstrated inability to pay some portion of their debts. If this trend continues, many lenders predict that this phenomenon will place upward pressure on interest rates in order to compensate lending institutions for the increased levels of loan losses from bankruptcy as well as the expense of employing new credit monitoring systems.
The real problem is that too often people are allowed to file for bankruptcy and walk away from entire sums of debt when they have good jobs and steady income. There should be more restrictions on Chapter 7 bankruptcies that would force people to go through Chapter 13 instead. While Chapter 7 Bankruptcy is justifiable in situations where someone is hopelessly buried in debt with little means of making any sort of payment due to health, loss of job, etc., I have seen that the majority of cases our credit union has been involved in, the people have good jobs, steady income and a debt load that is not insurmountable to overcome[,] and yet they can walk away from the entire indebtedness without paying a dime. Bankruptcy should offer "relief," not a "free ride."
The credit union has experienced a tremendous increase in bankruptcy filings over the last two years. We have recorded a 100 percent increase in bankruptcies since 1995. Our losses due to bankruptcy have escalated from $500,000.00 in 1995 to $1,150,000.00 in 1996. The losses due to bankruptcy in the first two quarters of 1997 are over $900,000.00 and we are receiving a greater number of filings each month.
Many of our members are current on their loans when we received their bankruptcy petition and we are unable to determine the reason why they have filed.
Just in the past 21 months, we have experienced an increase in charge offs at an annual rate of 65%, of which bankruptcy is responsible for 60-80% of that figure.
The largest trend among our members who file bankruptcy displays the alarming trait of lack of discipline in the handling of their financial affairs. Many have suffered no loss of income from job loss or illness. Far too many have better than average incomes and the ability to repay a good portion of their debts. Most are current when they file for relief under bankruptcy.
In the last few years, we have been hit by a rash of bankruptcies; many are of the "new" type whereas the creditor has always been current, and is now, and then you get the notice in the mail. . . . I cannot speak for other financial institutions, but I estimate the percentage of members who filed for bankruptcy in my Credit Union who could have readily paid off their debts within a 1, 2, or 3 year percentage is 80%. Filing bankruptcy is now a joke -- there is no shame or stigma associated with it. I have even been approached by bankrupt members who caused us a loss that "they will have to go somewhere else" if we don't consider refinancing their one remaining, re-affirmed loan with us.
Although the typical bankrupt member is delinquent on an MCT loan account, more and more we are seeing members file for bankruptcy protection who are current with us. In response, we have stepped up our efforts to reach out to members who might be experiencing financial difficulties.
Approximately 30% of our members are not delinquent when they file for bankruptcy. In other words, we have no prior knowledge of any problem. This is a new trend previously unheard of three years ago. As a result of this trend, along with the general increases in bankruptcy losses, we have been forced to employ a credit monitoring system which identifies those members delinquent with other creditors but not delinquent with us.
As a lender, we are aware situations arise that filing bankruptcy is the only alternative available. A radical change in household income may take some individuals down the path to bankruptcy. However, recently, we have seen an increase in filings from individuals who have not experienced any financial change.
We are seeing bankruptcies that cause loan losses from members with current loans and with incomes and assets that appear they have the ability to pay debts, even if it is at a reduced amount. Bankruptcies have accounted for over 31% of our loan losses during 1995 and 1996. For the first six months of 1997, bankruptcies have accounted for almost 54% of loan losses. It will be impossible to provide credit at the present interest rates if loan losses from bankruptcies continue to escalate as they have during the past two years.
Recently we have seen a great number of our members file for bankruptcy and have never had a late payment in their life with us. For some unknown reason, without being in arrears on any of their loans with us, they decide to file bankruptcy. This means to us that the members may be using bankruptcy as [a] "head start rather than a "fresh start."
Section 707(b) of the Bankruptcy Code permits dismissal of a Chapter 7 petition when granting the relief would constitute "substantial abuse" of the bankruptcy process, and the following prerequisites are met: the debtor must be an individual, his debts must be primarily "consumer" debts, and the motion to dismiss may only be brought by the U.S. Trustee or the court, sua sponte. The term "substantial abuse" is undefined and the Supreme Court has not addressed the issue. Section 707(b) has engendered widely split authorities, but the idea behind it is crucial to maintaining integrity in the bankruptcy system. Procedural and substantive changes are required to make this provision effective.
At the very least, this section should be amended to provide procedurally that (a) motions to dismiss for inappropriate use of Chapter 7 may be brought by creditors and panel trustees, as well as U.S. Trustees and the court; (b) the limitation to consumer debts is removed; (c) the presumption in favor of the debtor is eliminated; and (d) attorneys' fees may be imposed on a creditor who seeks § 707(b) dismissal without substantial justification.
It is also perhaps unnecessarily pejorative to label a debtor's conduct as "substantially abusive" because he filed for Chapter 7 relief. Courts have apparently been uncomfortable finding that many debtors' conduct has risen to a level that sounds so extreme. If the statute were reworded so that it did not label debtors this way, but instead merely dealt with "inappropriate use" of liquidation relief, the results might be more consistent.
Detractors of § 707(b) fear that expanded use of such motions against Chapter 7 debtors will increase the number of people who will attempt Chapter 13 instead, even those who cannot afford to do so.(2719) In response, it should be recognized that in most cases in which the debtor truly cannot afford to fund a Chapter 13 or Chapter 11 plan, § 707(b) motions are denied. When such motions are granted against debtors who cannot afford to repay, it is because the courts have found, based on the evidence before them, that the debtors did something dishonest or in bad faith. Honest but unfortunate debtors who truly need liquidation relief do not get their Chapter 7 cases dismissed as abusive of the system. In any event, increasing the number of Chapter 13 petitions relative to Chapter 7 filings is a worthwhile goal. If tightening this Code section achieves that goal, then this section should be amended.
The current restrictions on standing to bring a motion under this section should be relaxed. Creditors and panel trustees should be allowed to participate in the policing of the bankruptcy system to prevent the sorts of abuse contemplated by this provision. They are the parties most likely to uncover the information necessary to pursue a dismissal on account of abuse. While U.S. Trustees have stepped into the breach, their resources and basic knowledge of each individual case are limited. Courts are ill-suited ethically and informationally to initiate § 707(b) actions and should have this responsibility lifted from their shoulders. Because creditors may make inappropriate use of § 707(b) actions to harass debtors unfairly, a fee-shifting provision, like that contained in § 523(d),(2720) should be added to balance the opposing interests involved.
Section 707(b) should also be amended to clarify the types of debtor conduct that constitute inappropriate use of liquidation relief. Some income-earning debtors with the ability to repay some or all of their debts appear to be inappropriately seeking Chapter 7 relief.
Substantive reform of § 707(b) is complex and has occasioned numerous suggestions to the Commission.(2723) Courts are uncertain about the types of conduct that constitute "substantial abuse" under this section. The presumption in the last sentence of paragraph (b), that Chapter 7 relief should be granted, is also somewhat problematic. The vagueness of the statute has hindered its effectiveness. Section 707(b) would become more useful, however, by the inclusion in the statute of a nonexclusive "laundry list" codifying types of debtor conduct that constitute inappropriate use or abuse as well as the proper role of debtor eligibility vel non for bankruptcy relief under other chapters (11, 12, or 13) of the Bankruptcy Code.
loading up on credit purchases shortly before filing for liquidation.
Over 120 reported bankruptcy court cases have considered § 707(b) motions. Several courts addressed standing issues, when motions were brought by someone other than the court or the U.S. Trustee.(2724) However, most of the cases are, essentially, ability to pay or ability to fund cases,(2725) either following the Ninth Circuit's rule or using amendment of schedules (particularly when amendment occurred in the face of the motion) to find "lack of honesty." Another factor often used to bolster ability to pay/fund as a basis for a dismissal was demonstration that the debtor had been living an extravagant lifestyle or living on credit for some time pre-petition while making no attempt to trim the budget or otherwise pay creditors. Many courts have required budget-trimming and on that basis have discerned a debtor's ability to pay. One court, criticizing a debtor's monthly clothing allowance, stated that a debtor with financial problems "should tighten the belt he is wearing instead of buying a new one."(2726) In other cases, intent to discharge one particular debt while reaffirming or otherwise providing for payment of all other debts will, together with ability to pay, compel dismissal.
Another case involved the debtor's pre-petition spending of his retirement fund.(2728) The debtor had been "downsized" from his job, and his accumulated retirement benefits were distributed to him. He then went on a two-year spending spree, during which time he exhausted all his retirement funds without paying off his credit card debt, which he increased during the two-year period. This man, with a business degree and some graduate courses, plus many years of business experience, was employed as a security guard at $6.00 per hour when he filed for bankruptcy protection. The court found his petition to be substantially abusive.
Similarly, a debtor-employee who has investment losses may be characterized as having business debts, even though he does not own a business, because the losses/debts are incurred for the purpose of making a profit. Tort liabilities are incurred neither for the purpose of making a profit nor for "personal or household use."
Whether these amendments to § 707(b) are made or not, the section could be employed as a device to implement means-testing of debtors. Clearly, a debtor who sought liquidation relief when he fit the parameters for Chapter 13, as discussed earlier in this dissent, would have inappropriately filed his Chapter 7 petition such that it should be dismissed.
While the Commission's Report acknowledges that it "did not undertake the task of honing the list [of exceptions to discharge] down," it did recommend certain clarifications and amendments to enhance fairness to all parties, to achieve uniformity in the law, to alleviate confusion, and to reduce the costs of litigation.(2732) However, a review of the suggested changes to Section 523(a) reveals a noticeable shift in the present balance of the law to a decidedly anti-creditor position. While the changes suggested by the Commission's Report might achieve its stated goal of uniformity, the price to creditors and to society as a whole is far too great. The goals sought to be achieved by the Commission through changes in dischargeability policy can be achieved without distorting the basic creditor-debtor balance of the present law. Although a fundamental purpose of consumer bankruptcy is the discharge of certain obligations, that purpose must be juxtaposed with and limited by legitimate concerns about culpable debtor conduct, the maintenance of the integrity of the bankruptcy system, and common societal good. Given the rising numbers of bankruptcy filings and the increasing amounts of debt being discharged through bankruptcy proceedings, it is incumbent that any recommendations for change in dischargeability policy be accompanied with an evaluation of the impact of the decision upon both the debtor-creditor relationship and society as a whole. As will be shown below, the Commission's Report failed to take this part of the process into consideration when arriving at its recommendations.
The Commission's Report recommends that the provision of the Bankruptcy Code which makes student loans [other than loans for medical education governed by special federal legislation] nondischargeable in both Chapter 7 and Chapter 13 be overturned.(2733) The Commission's recommendations are based upon several conclusions: the present undue hardship exception is subject to "disparate multi-factor approaches;"(2734) many of the present defaults are from fly-by-night trade or technical schools which often do not even provide educational services;(2735) and its rejection of the premise that the nondischargeability of student loans is necessary for the continued viability of the guaranteed student loan program.(2736) The Commission's proposal will clearly eliminate any confusion or nonuniformity of decisions in the area of dischargeability of student loans. However, in reaching its decision the Commission discounted all the evidence presented to it on the impact this change would have on the continued viability of the guaranteed student loan program.(2737) Instead, the Commission relied upon non-statistical information provided to it by the General Accounting Office that implied that the student loan program was instituted with default in mind and that the taxpayers were intended to pick up the tab for students' inability to repay loans.(2738) Furthermore, the Commission's proposal is based upon its own admission that in many cases the present cost of certain education does not translate into sufficient income to repay the loans,(2739) and therefore, society needs to treat these loans as mere grants or subsidies whose costs must be borne by taxpayers.
The Commission's Report shows a lack of understanding of guaranteed student lending practices. First, creditors in the majority of these cases lend money to individuals who might not qualify for credit under traditional credit criteria. The borrowers usually lack an established asset base or income-generated track record and have no collateral to justify the loan. The loan is made with the view that it is an investment in the borrower's future ability to generate income as a result of the increase in human capital due to education. Further, the lender is well aware that it takes time following graduation for a student to develop a career and sufficient earning capacity to repay the loan. In fact, this projected increased earning potential achieved through education is the primary factor considered by a lender in making loans under the student loan program.(2741) The unique character of educational lending led Congress to enact special lender protection under the bankruptcy laws. The Commission's comparison of educational loan creditors to creditors who lend debtors money to buy pizza highlights the naivete of the Commission's understanding of the student guaranteed lending industry.
The Commission's Report is more an indictment of schools which do not adequately educate or train the students than it is a justification for making these loans nondischargeable.(2742) If shortfalls in the educational system are the problem, it should be addressed directly. Blame for a perceived lack of training or benefit should not be imposed on the taxpayers or the many non-profit institutions who provide funds to students. Congress has already made the public policy choice that the potential for abuse in the educational loan system outweighs the debtor's right to a fresh start.
In closing, it should be pointed out that there was no public outcry presented to the Commission for elimination of this exception. In fact, the report directed to be prepared by the Commission's Reporter did not recommend the repeal of this section.(2746) The overwhelming evidence received by the Commission opposed this repeal. If this repeal occurs, non-profit entities and governmental units will be forced to raise their fees to cover the rising losses. Non-profit entities may discontinue providing loans;(2747) and taxpayers will just end up picking up the tab.(2748) The concerns raised by these constituencies were overlooked by the Commission. The proposed recommendation, like many finally approved by the Commission, was just not supported by the record before it.
This section should remain unaltered in both Chapter 7 and 13.
There is uniform agreement that Section 523(a)(2)(A) is ill-equipped to deal with the question of the nondischargeability of debt incurred from the use of a credit card in those cases which do not involve actual fraud in the application for the card.(2749) The Commission correctly identifies the multitude of problems facing the courts as they have attempted to apply this section of the Code to the use of credit cards.(2750) The Commission then notes that the proliferation of cards and bankruptcy filings demand more orderliness in approaching the issue of nondischargeability debts incurred with properly obtained credit cards.
However, the Commission's Report fails to identify the problem which it is trying to remedy. Instead, it merely assumes that some credit card debt is to be nondischargeable [no reason given], and then draws a bright line rule for the sole purpose of bringing some uniformity into the area. Its arbitrary thirty-day rule is totally disingenuous. Discharge is to be given to the "honest but unfortunate debtor;" in large part, debts are to be denied discharge due to the bad conduct of the debtor. The Commission's proposal is devoid of any discussion of the moral turpitude of the debtor or his intentional wrongdoing as a basis for the nondischargeability of credit card debt.
The thirty-day period is also purely arbitrary and has no basis in reality. If its purpose is to balance rights of debtors and credit card lenders by assuring a period in which abuse of credit cards will not be tolerated while also forcing lenders to be more careful in extending credit, it fails. The proposal explicitly renders fully dischargeable all credit card debts incurred within the credit limits 31 days or more before bankruptcy. This is an open invitation to abuse and manipulation. Further, there is no way creditors can have an opportunity to forestall such abuse by tightening credit because not even one billing cycle would elapse from the dates of abuse until the debtor filed bankruptcy.
Like so many of the Framework proposals, this one will discourage extensions of credit to marginal borrowers. It may be debtor-friendly, but is in no way consumer-friendly.
The Report is correct in that the common law fraud principles should not apply in their entirety to credit card debt. Thus, issues such as whether the debtor knowingly made a misrepresentation or intended to deceive the creditor, or whether the creditor justifiably relied to his detriment on a misrepresentation, should not be the touchstones for this new nondischargeability section. The Report is also correct in its conclusion that a bright-line rule would necessarily reduce judicial time and resources. However, the Commission's proposal is a type of rough justice that totally misses the mark. It seriously undermines the integrity of the bankruptcy process by failing to equate nondischargeability to any concrete standard. Outside of taxes and family support obligations, certain debts are considered to be nondischargeable for the simple reason that the conduct of the debtor was not at an acceptable level. The evidence before the Commission clearly identified the evil which needed to be addressed -- the incurring of credit card debt while a person either contemplated bankruptcy [pre-bankruptcy planning] or had no reasonable ability to repay the debt [constructive fraud].
All debts incurred through credit card use within sixty (60) days before the order for relief under this title are presumed to be nondischargeable. A debtor may rebut this presumption by showing the following: (1) that at the time a particular credit card debt was incurred, the debtor was not contemplating bankruptcy and (2) that at the time a particular credit card debt was incurred, a reasonably prudent person [not the debtor] would have expected that there was an ability to repay the debt.
This proposal addresses culpable conduct, as nondischargeability policy ought to do. Moreover, enactment of this provision should not prevent applicability of section 523(a)(2)(A) or (B) if, before the sixty-day period, the debtor incurred credit card debt with intent to defraud.
The preclusive effect of a state court judgment in a subsequent federal lawsuit generally is determined by the full faith and credit statute . . . . This statute directs a federal court to refer to the preclusive law of the State in which judgment was rendered.
In addition to the lack of uniformity arising from the use of the various states' collateral estoppel rules, the Commission also notes that many of these true defaults are the result of the financial inability of debtors to defend themselves or a misunderstanding of the significance of the state court proceeding.(2756) This analysis is one-sided. All other federal courts are bound by 28 U.S.C. § 1738 and, even if this exception were enacted, bankruptcy courts would still be bound by 28 U.S.C. § 1738 in all of their other proceedings. This proposal seeks to circumvent the state judicial process and the multitude of state court remedies both direct and collateral which are available to the diligent defendant who suffers a default judgment. Further, the change overlooks the fact that the determination of whether there is a claim in the first place is, and will remain, a question of state law.(2757) Why bankruptcy courts would want to assume responsibility for relitigating state laws claims is a mystery; it is no mystery, however, why debtors would seek to avail themselves of the opportunity to relitigate, especially in the bankruptcy court's debtor-friendly environment.
In attempting to justify its position, the Commission equates this change to the present bankruptcy court analysis of domestic relations obligations. Under the Code, a bankruptcy court is not bound by the state court's characterization of domestic relations obligation, but it is required to make an independent determination of the true nature of the obligation for dischargeability purposes.(2758) The Report fails to note however, that this fact was clearly stated in the legislative history of Section 523(a)(5)(2759) as necessary in order to ensure that the underlying public policy relating to the protection of divorced spouses and dependent children was given effect. However, even in these cases, bankruptcy courts look for guidance from the state courts in the interpretation of domestic relations obligations.(2760) In the case of true defaults, there is not one shred of legislative history which supports the Commission's position to amend 28 U.S.C. § 1738 to eviscerate true defaults in the case of discharge litigation in bankruptcy proceedings. To permit 28 U.S.C. § 1738 to be used to determine whether one has a claim, but then to refuse to follow its dictates in determining whether that claim is dischargeable is inconsistent and a bad policy choice.
Congress should not change 28 U.S.C. § 1738.
The dischargeability in Chapter 13 of debts that are not dischargeable in a Chapter 7 represents a distorted policy judgment that it is better for a debtor to attempt to repay certain types of debts over the life of a plan than to have these debts hanging over the debtor's head.(2766) The superdischarge is a misplaced piece of social legislation. The very integrity of the bankruptcy process is called to task when, pursuant to the superdischarge, a debtor walks free and clear of any further liability for an intentional shooting of a victim, or for the defrauding of private citizens of hard earned money, or for theft from an estate by a fiduciary, or for tax obligations due Uncle Sam. What positive social policy is promoted by permitting these debts to be discharged without full payment? Bankruptcy laws have historically given the honest and financially distressed debtor a fresh start. To continue the discharge of these debts is a national disgrace.(2767) The availability of a superdischarge, even if rarely used, is a source of severe public resentment. The Commission should have had no difficulty urging Congress to repeal this abomination.
There are presently sufficient incentives to file a Chapter 13, separate and distinct from the superdischarge. The ability to cure defaults on secured property to prevent foreclosure or repossession, the ability to strip down liens to the value of the underlying collateral, and the co-debtor stay already constitute incentives to file Chapter 13. Other proposals by the Commission encourage debtors to remain in a Chapter 13 until all payments are made. For example, the Commission's recommendation that all payments be made to both priority, secured, and unsecured creditors during the life of the plan will encourage the honest debtor to remain in Chapter 13 and, thus maximize the recovery to unsecured creditors. Further, the Commission's proposal to change the manner in which credit reporting agencies treat Chapter 13 will somewhat increase the incentives to finish a Chapter 13 plan.
The logic of the Report is flawed. Bankruptcy discharge is for the honest but unfortunate debtor. The dishonest and immoral debtor should not be permitted to discharge debts involving morally and socially reprehensible conduct. To argue that repayment of a portion of such debt is sufficient sanction for culpable conduct misses the entire point. The bankruptcy process is larger than its simple impact upon the debtor and his creditors -- the entire community is affected. The integrity of the system demands that wrongdoers not receive a discharge.(2768) Discharge should be seen as society's humanitarian response, motivated by notions of charity to an individual debtor; however, the debtor, the recipient of that act of charity, should be a worthy recipient as reflected in his prebankruptcy actions toward others. The failure to treat a creditor with inherent honesty and justice can and should result in a denial of the dischargeability of that debt.(2769) Seeing specific examples of its abuse, Congress has continually narrowed the scope of the superdischarge.(2770) The task of narrowing should be finished by finishing off the superdischarge. The superdischarge satisfies no justifiable social policy and only encourages the use of Chapter 13 by embezzlers, felons, and tax dodgers.(2771) There is no reason for its continued existence.

References: § 707
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 § 523
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 § 1738
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 § 1738