Consumer Bankruptcy and Household Debt
Released: 2011-12-12T00:00:00

Summary:
The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA; P.L. 109-8) included the most significant amendments to consumer bankruptcy procedures since the 1970s. Bankruptcy reform was enacted in response to the high number of consumer bankruptcy filings, which in 2004 and 2005 reached five times the level of the early 1980s. Why did filings increase so dramatically during a period that included two of the longest economic expansions in U.S. history? Because bankruptcy is by definition a condition of excessive debt, many would expect to see a corresponding increase in the debt burden of U.S. households over the same period. However, while household debt has indeed grown, debt costs as a percentage of income have risen only moderately. What aggregate statistics do not show is that the debt burden does not fall evenly on all families. Financial distress is common among lower-income households: in 2007, 27% of families in the bottom fifth of the income distribution spent more than 40% of their income to repay debt.
Following the effective date of BAPCPA, in October 2005, there was a sharp reduction in the number of bankruptcy filings, reflecting the "rush to the courthouse" in the months before the new law took effect. Since the 2006 lows, the number of filings has risen steadily. In 2010, personal bankruptcy filings reached 1.5 million, roughly equal to the pre-BAPCPA level. It appears that BAPCPA has not produced the effect its supporters hoped for—a substantial and permanent reduction in the rate of consumer bankruptcy.
With the recession that began in December 2007, the long-term upward trend in consumer indebtedness was interrupted. Beginning in the middle of 2008, the amount of debt held by U.S. households declined for 11 consecutive quarters. Through the third quarter of 2011, households reduced their debt burden by $853 billion, or 6.5%. Causes and implications of this trend are discussed in CRS Report R41623, U.S. Household Debt Reduction, by [author name scrubbed].
This report presents statistics on bankruptcy filings, household debt, and families in financial distress. It will be updated as new statistics become available.

subsections: section_title: Bankruptcy Filings
paragraphs:  Figure 1 and Table 1 show bankruptcy filings since 1980. Business filings peaked in 1987, but the number of consumer filings continued to grow through 2005. In that year, the number of filings surpassed 2 million—there was a "rush to the courthouse" before the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA; P.L. 109-8 ) took effect in October 2005. In 2006, filings dropped sharply, suggesting that the new law caused many to accelerate their filings, and that many petitions that would have been filed in 2006 (or later) were pushed forward by bankruptcy reform.
Whether BAPCPA will reduce filings in the long run is still unclear. Filings rose steadily from the 2006 lows until 2010, when they exceeded 1.5 million, which was approximately the level during the four years before BAPCPA. Over the first three quarters of 2011, there was a slight decline from the year-earlier numbers.
section_title: Household Debt
paragraphs:  Table 2 shows figures on household debt. The major categories of household debt are mortgage debt and consumer credit, which together comprise about 97% of all household indebtedness. Consumer credit consists of (1) revolving credit, or credit card debt, and (2) non-revolving debt, which is dominated by auto and college loans (though it also includes loans for boats, mobile homes, vacations, and so on). Mortgage debt is borrowing secured by real estate. A subcategory within mortgage debt, home equity lending, is broken out in the table because it may substitute for consumer credit in many cases.
 Table 2 also includes Federal Reserve estimates of the burden of debt service—that is, the percentage of household disposable income that goes to repay loans. Over the past decade, this measure rose steadily (but not dramatically), until the recession and financial crisis that began in 2007. The debt burden figures in Table 2 fluctuate within a fairly narrow range: from 10.80% to 13.93%. (During the 1980s, the range was similar: from 10.6% to 12.5%.) Although the burden of debt has risen since the 1980s, the increase has been gradual and would not appear to explain much of the fivefold increase in personal bankruptcy filings over the past two decades. Moreover, the decline in the debt service ration since 2007 has not been accompanied by a significant reduction in bankruptcy rates.
Interest rates paid by consumers—particularly mortgage rates—declined in recent years to the lowest levels since the 1950s, and they remain low. The relative stability of the debt burden in the face of falling and historically low interest rates implies that the ratio of debt outstanding to income has been rising. This ratio—the sum of consumer and mortgage debt expressed as a percentage of disposable personal income—is shown in the far right column of Table 2 . The increases in this figure, which between 1990 and 2007 rose more than twice as fast as the debt burden, suggest that further increases in bankruptcy filings (and perhaps problems for lenders) may lie ahead if interest rates should rise suddenly or unexpectedly. Since 1980, however, declining interest rates have permitted households to take on more debt without a comparable increase in the interest payments required to service that debt.
The aggregate household debt numbers mask important differences among families: some have done very well in the long booms of the 1980s and 1990s, while others have taken on debt that they have difficulty repaying. Table 3 below, based on the Federal Reserve's Survey of Consumer Finances, shows the percentages of families at various income levels that devote more than 40% of their income to debt service, for selected years from 1995 through 2007.
Two noteworthy facts emerge from the data in Table 3 . The first is the high rate of distress among lower-income families, who are the most likely to file for bankruptcy. Second, like the debt burden figures shown in Table 2 , there is no sharply rising trend that would explain the dramatic increase in personal bankruptcy filings. The percentage of all families in distress in 2007 was little changed from the 1998 level. The 2007 figures do show a notable increase among families in the upper income percentiles; this may be attributable to increased mortgage debt taken on during the housing boom that ended in that year.
The question remains why so many families at or below the national median income take on high levels of debt and end up in bankruptcy court. Some explanations focus on particularly vulnerable populations: the sick and uninsured (or underinsured), the divorced, or residents of states without mandatory uninsured motorist coverage. Supporters of the bankruptcy reform measure finally enacted in 2005 argued that the bankruptcy code was too debtor-friendly and created an incentive to borrow beyond the ability to repay, or in some cases without the intention of repaying. Opponents of reform claimed that financial distress is often a by-product of the marketing strategies of credit card issuers and other consumer lenders. Lack of a consensus explanation for the rise in consumer bankruptcy filings suggests that the issue will remain controversial.
section_title: Household Deleveraging
paragraphs: In December 2007, the U.S. economy went into recession, in the midst of global financial panic. Household debt levels began to fall in three of the four categories shown in Table 2 . The decline in debt balances continued for 11 calendar quarters, until debt outstanding rose slightly in the second quarter of 2011. In the third quarter, debt levels fell again. On a percentage basis, home equity and credit card debt led the decline, as shown in Table 4 . In dollar terms, however, mortgage debt (other than home equity loans) accounted for most of the drop.
Several factors appear to have contributed to the fall in debt balances. Some households may be paying down their debt, others may be borrowing less, and the amount of debt written off by lenders as uncollectible has increased. Some lenders have tightened their credit standards for new loans. Mortgage balances have fallen because of mortgage modifications or other negotiations that reduce principal outstanding, and because foreclosed homes are often sold for less than the amount of the old mortgage. Causes and implications of deleveraging are discussed in CRS Report R41623, U.S. Household Debt Reduction , by [author name scrubbed].