The Dexter Leader
A Heritage Newspaper
Weekly Publication
The hows and whys of bankruptcy
By Austen Smith, Heritage Newspapers
PUBLISHED: September 11, 2008
Since last year, Michigan has been near the top of a dubious list as the state has been consistently ranked in the top five in personal bankruptcy filings.
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Starting in 2005, the state saw a sharp rise in bankruptcies as families have struggled mightily with auto and manufacturing job loss coupled with the nationwide sub-prime lending housing crisis.
State and federal lawmakers now are making strides to protect consumers in the long run, but that leaves Michigan families -- who are desperately trying to avoid bankruptcy and foreclosure -- asking, "What about us?"
What happened?
While bankruptcy attorneys and financial advisers can split hairs as to the reasons behind most personal bankruptcies, one thing is for certain -- they are on the rise and have been for several years.
Michigan has seen a total of nearly 27,500 bankruptcy filings throughout the first two financial quarters of 2008. In 2007, the state suffered almost 45,000 personal bankruptcies and just more than 46,000 business filings, according to statistics gathered from the American Bankruptcy Institute.
Other states topping the list were California (69,110), Georgia (48,636), Ohio (49,371) and Illinois (40,416).
The majority of the bankruptcy filings in 2007 were Chapter 7, in which all debt is discharged and exempt property such as $30,000 in equity for the debtor's home, vehicles up to $3,200, work tools up to $20,000 and more is protected.
There were 32,000 Chapter 7 filings in 2007, as compared to just more than 12,000 Chapter 13, where debt repayment is placed on a schedule over a three- to five-year period.
Stuart Gold, a Southfield bankruptcy attorney with more than 30 years experience, says Michigan is currently No. 1 across the country for Chapter 7 bankruptcy filings. He says the state of the economy and real estate market have consumers being "attacked from all sides."
"(Potential debtors) are not able to tap into the equity lines of their home any more," Gold said. "Or they are not able to pay back previous loans because of job losses or reduction of hours and income; or now they have to pay one-third more for food, and one-third more for gas."
Gold attributes the steady rise in personal bankruptcies to the seemingly perpetual downward slope of the Michigan housing market. Even though bankruptcy and foreclosure can be mutually exclusive for some families, he says it's often the home that becomes a potential filer's biggest liability as more and more families are finding themselves owing more money on their mortgage than what the home is now worth.
"I am seeing more clients coming into my office because they have a deficiency balance on their home," Gold says. "It used to be that it was very rare that would happen because the home -- no matter what -- typically was worth at least as much as the purchase price.
"But because of the home values that are constantly going down, they are now having deficiency. I see clients come in here who owe on a $150,000 mortgage, but the house is only worth $120,000."
A Sept. 5 article from the Associated Press reported that a record-breaking 9 percent, or more than 4 million, of Americans are now behind on their mortgage payments and are facing foreclosure. Michigan was among eight states listed where home foreclosures rose dramatically in the first quarter of 2008.
Gold also says that he has seen a disturbing increase in senior citizens filing bankruptcy, mostly because of medical costs.
A 2005 article written by bankruptcy expert and Harvard Law professor Elizabeth Warren indicated that a study showed almost half of all personal bankruptcy filings were medical related. In the article, Warren wrote the most disturbing part of the study, which was done on more than 1,750 Americans, actually had health insurance, but yet they were still getting crushed under the weigh of astronomical health-care costs.
"How did illness bankrupt middle-class Americans with health insurance? For some, high co-payments, deductibles, exclusions from coverage and other loopholes left them holding the bag for thousands of dollars in out-of-pocket costs when serious illness struck. But even families with Cadillac coverage were often bankrupted by medical problems," Warren wrote in 2005.
Gold says he isn't sure if that still holds true and that medical costs is just one of many reasons potential filers come to him for help.
Charles Drukis, an Ypsilanti-based bankruptcy attorney, says that families who have experienced job loss or reduction in hours and income is by far the primary reason he sees for bankruptcy. He says once a family that is living from paycheck to paycheck has that income reduced, it's very difficult to get back on track.
"The biggest number I'm seeing right now (for bankruptcy filers) is job cutbacks and cuts in rate of pay and hours," Drukis said. "You still have car payments, mortgage payments, and it is very easy to slip under."
In some cases, the primary bread-winner of the family will have suffered job loss or income reduction and accumulated massive amounts of credit card debt trying to keep the family living in the style they had become accustomed to.
Gold says he has talked to a number of clients in which that is the case.
"A lot of times, when the father gets into a substantial amount of credit card debt, the family is the last to know about it because he is trying to make them happy and continue in their comfortable lifestyle," Gold says.
Drukis echoed those comments, saying he has run into the same thing.
"The people are at first optimistic that they will regain their job or income relatively soon, and they think they will be able pay off their credit card debt," he said.
Even more damaging than the financial implications, Gold says that filing bankruptcy has a serious psychological impact. When asked whether there is a stigma about people who are forced to file for bankruptcy, Gold says "absolutely."
"The vast majority of clients who come in to see me are just terrified at the prospect. They believe they are a failure; they are afraid of losing their home. It affects their health, as well. It takes a terrible toll on people," Gold says. "I try to remind clients that there is a reason why the law of bankruptcy exists.
"It's there to serve as a safety net before an individual hits rock bottom, loses all of his or her property and are thrown out on the street, becoming a ward of the state. I tell people that bankruptcy is a good thing. It can save people.
"Of course, you can beat yourself up a little bit because you're not at fault here, but I tell clients that it wasn't their fault that they experienced job loss, or poor health or any number of reasons."
How does it work?
While bankruptcy seems convoluted and messy, the process itself is relatively simple.
Drukis describes it as a basic process in which a bankruptcy trustee, appointed by the district court, gathers information that describes the debtor's assets, creditors and puts a basic number on how much they owe and to whom. Drukis says it's surprising how many people aren't aware of the amount of debt they are incurring and from where.
"A lot of the people don't have (their account) information," Drukis says. "That is stuff that the courts need to know in order to proceed in the case."
When a debtor is approved to file either Chapter 7 or 13, there are a number of assets protected up to a certain amount. Drukis says that is another misconception about bankruptcy, is that a lot of people think they will have absolutely nothing when it is all said and done.
Most debtors who file Chapter 7 are allowed to keep their home or a co-op or mobile home. Other exempt property items include the following:
Life insurance payments or policy.
Alimony, child support.
Pensions and retirement benefits.
Health aids.
Jewelry.
Lost earning payments.
Vehicle up to $3,225 in value.
Personal injury compensation payments up to $20,200 and other similar payments.
Tools of the trade up to $20,200.
A wild card exemption of up to $1,075 of any property, plus up to $10,125 of any amount of unused homestead exemption
On the flip side, bankruptcy doesn't protect against all debts incurred, including alimony and child support payments (for the payer), a debtor's most recent back taxes, large purchases of more than $550 made within 90 days of filing and government fines or penalties.
While Chapter 7 is generally thought to be the quickest and simplest form of bankruptcy, otherwise known as liquidation, because of the 2005 Bankruptcy Abuse and Protection Act there are more and more debtors filing Chapter 13.
The BAPCPA, which effected dramatic changes in the federal bankruptcy code, was enacted in order to protect against predatory lenders and guard against people being approved for loans that they couldn't afford. Potential filers are now asked to fill out a "means test," to determine eligibility for a Chapter 7 or 13. If income is below the median income for families in Michigan, based on Census Bureau stats, the debtor will be eligible.
With the BAPCPA in place, potential filers are encouraged to look into Chapter 13. A Chapter 13 filing sets in place a repayment plan over the next three to five years that will have the filer repaying a percentage of the debt incurred.
Drukis says in the long run, Chapter 13 filings will "hurt less" than Chapter 7. A debtor's credit will be less affected if he or she is making payments on a percentage of the debt incurred, but it's still a bankruptcy nonetheless.
Gold says the BAPCPA, despite its best intentions, has missed its primary goals.
"The BAPCPA hasn't really played out that way," Gold says. "That was the goal to make it harder (to get a loan) when that went into place in 2005. However, if you look at statistics most people (filing for bankruptcy) fall below the requirements of the means test anyway because it's based on median income for that area. If a family is looking at bankruptcy, it's because of troubles to their income."
After a debtor has filed, a court-appointed trustee gathers and sells all non-exempt property and uses the proceeds from the sale to pay creditors. Most Chapter 7 cases are "no asset" cases in which the debtor doesn't have any non-exempt property for the trustee to sell.
At that point, creditors are prevented from trying to collect on debts through what is called an "automatic stay." The stay is designed to preserve property and to give the debtor a break from litigation. Creditors who want to collect, must show the judge that there is cause to be allowed to continue with collection action.
The trustee then takes control of any property not kept. From the sale of the property, the trustee pays the expenses of administration of the case and then gives any remaining money to creditors with allowed claims, according to the priority of the claims. Any wages earned after the filing, the debtor gets to keep and is beyond the reach of the creditors.
Between 20 and 40 days after the filing, there will be what is called a 341 hearing, or the first meeting of creditors. The trustee can ask questions under oath about all property and creditors can ask questions too. After the 341 meeting, the debtor's involvement in the process is very limited. The individual's sole responsibility from then on is to meet the requests of the trustee assigned to the bankruptcy case.
A Chapter 13 filing, rather than wiping out debts immediately, allows a reorganization of the debt so there is more time afforded to make payments.
Many people who file for Chapter 13 have mortgages or other loans they would like to bring current so they do not lose the home or property, taxes, child support or student loans that can't be wiped out by Chapter 7.
Gold says another factor is that a lot of people have moral convictions that debts should be paid off no matter how long it takes.
The family or individual filing for Chapter 13 will be appointed a trustee from the court, like in Chapter 7, and he or she will review the proposed payment plan for accuracy and flexibility.
The proposed plan is then distributed to creditors who have the right to object to the plan if they think it's unreasonable. If the plan is approved, a debtor can keep all assets during the life of the plan.
Monthly payments are made to the bankruptcy trustee, who distributes the funds to the creditors according to the plan. If the plan is completed as approved, the unpaid debts are discharged.
What can people do after filing?
One of the first questions Gold hears from clients when they plan on filing bankruptcy: When can I get back on track?
Whether a debtor is filing Chapter 7 or Chapter 13, a bankruptcy is certainly a blemish on credit that will stick around for quite some time after the process is completed.
Gold says, however, if a filer is making a steady income during the bankruptcy, than he or she could potentially buy a car the day after filing.
"Of course, they're not going to get the prime rate," Gold says. "What they will get is what I call the 'bankruptcy premium.' Instead of paying 5 to 7 percent on a purchase, they most likely would be paying something like 12 to 13 percent. But that starts to come down after 18 to 24 months after filing."
A recent study suggested that it is now taking longer and becoming a more difficult process for bankruptcy filers to get back on track and re-establish credit after filing, Gold says, but he adds that he doesn't necessarily agree with that.
"I tell people that if you are working and bringing in some kind of income, and you are able to maintain your bills after you file, then you can still buy some of the things you need without that much difficulty," he says.
Drukis says that more people are now realizing that there is life after bankruptcy.
"I'm not sure that anybody would be happy that they have to file bankruptcy," he says. "But nowadays, I think people have better understanding that they still may have something close to the life they had before, just with the bare minimum essentials."
What is the state doing?
The foreclosure and bankruptcy crisis here in Michigan has caused lawmakers to step up legislative efforts to protect consumers and help families avoid from hitting the bottom rung.
A piece of housing legislation introduced in August 2007, the Michigan Home Loan Protection Act, could be very helpful for consumers facing debt problems. House Bill 5305 adds more protection for consumers against predatory lenders, said state Rep. Pam Byrnes, D-52nd District, who is a co-sponsor.
"This law would provide for more protection against people who try to get consumers into loans that they can't afford," Byrnes said.
The bill would provide the following benefits for consumers:
Ban predatory lending practices, such as making loans without requiring borrowers to prove their ability to repay the loan, encouraging borrowers to default, charging excessive late fees and charging fees for a payoff statement.
Protect homeowners' equity by prohibiting home refinancing to generate fees for the lender unless there is a tangible net benefit to the borrower.
Protect consumers from being steered toward high-cost loans when they would otherwise qualify for a traditional loan.
Prohibit the financing of any points and fees that hide the true costs of the loan.
Prohibit prepayment penalties.
Require vulnerable borrowers to receive independent counseling from a certified third-party, non-profit counselor.
Give injured and aggrieved homeowners legal recourse so they can independently enforce these consumer protections against unscrupulous lenders.
Byrnes, who recently had an experience with a friend who was forced to file bankruptcy, says there are other resources out there for consumers who are facing possible financial crisis. Programs under the Michigan State Housing Development's "Save the Dream" foreclosure protection provisions can help families dealing with loss of income or medical bills, and there are programs offered under the Michigan State University Extension course that can help consumers become more knowledgeable about their finances.
"The Housing Authority has a program that can help people depending on what stage of bankruptcy they are in," Byrnes says. "(MSHDA) can intercede. The sooner you get started in the program the more they can help."
As far as Washtenaw County is concerned, Byrnes says residents are better off than others throughout the state. She said Washtenaw County traditionally always has brought in steady business ventures because there are two universities, an eclectic and experienced work force, and solid health-care facilities in University of Michigan Hospital and St. Joseph Mercy Hosptial.
"I have not received as many calls as some of my colleagues have in other parts of the state," Byrnes said. "A lot of businesses look to the universities as well as the health-care system, and the level of education is a major factor in why businesses continue to come here."
For more information on MSHDA, visit the Web site www.michigan.gov/mshda, or call 1-517-373-8370.
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