Bringing Relevance Back to Consumer Bankruptcy

• Jurisdiction: United States,Federal
• Publication year: 2020
• Citation: Vol. 36 No. 2

Bringing Relevance Back to Consumer Bankruptcy

Nathalie Martin

BRINGING RELEVANCE BACK TO CONSUMER BANKRUPTCY

Nathalie Martin^*

This Paper was presented at the Seventeenth Annual Emory Bankruptcy Developments Journal Symposium in February of 2020. Less than a month later, all or most travel had ceased and many of us began the process of social distancing and restructuring our lives in the face of the coronavirus. No one could have predicted this event and its effects on the world are both profound and unknown. The virus has uncovered or at least highlighted vast inequalities in our entire economic system, including consumer credit systems. While some of us lament not being able to see our friends or teach live classes, others wonder when they will see their next paycheck, how they will pay the rent, or feed their families.

In light of these events, consumer bankruptcy seems not just irrelevant, but as some on the panel have suggested, downright ill-equipped to deal with the critical underlying issues, namely vast systemic economic and other inequalities. Consumer bankruptcy is at best a Band-Aid loosely adhering to the surface of a far larger problem. Having said that, the consumer bankruptcy system is still a pretty good short-term fix for a myriad of financial problems, large and small, but is a short-term solution at best. Thus, I admit upfront that when I proclaim consumer bankruptcy's irrelevance, I simply mean that the system could do a far greater job meeting the modern consumer's fundamental financial needs. Below I try to identify those needs, but none solve the real problems which are far larger than bankruptcy law can address.

In many ways and for many reasons, consumer bankruptcy has become virtually irrelevant. Like estranged lovers, consumers and bankruptcy have moved apart in the forty years since the 1978 Code was enacted. The Bankruptcy Code (Code) has changed drastically, through a series of amendments, but particularly the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 amendments (2005 Amendments). While much has been written about the game-changing 2005 overhaul in the law, those changes are dwarfed by the

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radical ways in which consumers' financial lives have changed over the same forty years.

To start, the wealth and income gaps between rich and poor are the largest today in history. Since bankruptcy's primary consumer users are middle class,¹ a shrinking middle class means smaller percentages of bankruptcy filers. America is also more diverse than it was forty years ago. A higher percentage of Americans are people of color but the wealth and income gaps between people of color and other Americans are also at all-time highs.² In short, wages and wealth are down for many if not most Americans, but even more so for Americans of color.

While wages and wealth are down, credit and debt are way up.³ Americans of all races and socio-economics are plied with more credit than one could have imagined forty years ago. There is more mortgage debt, more credit card debt, more auto loan debt and exponentially more student loan debt. Indeed, student loans represent the fastest growing share of consumer debt and now exceed outstanding credit card or auto loan balances.⁴ Borrowers owe more than $1 trillion in student loans held or guaranteed by the federal government and about $165 billion to private student loan lenders.⁵ As a result, student loan debt is seen by many as the next big bubble, possibly large enough and precarious enough to generate the next big global financial crisis.

Debt structures carried by people of color are on average more disadvantageous than those of other Americans. People of color pay higher interest rates on mortgages, student loans, and credit cards even when adjusted

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for income and creditworthiness.⁶ Their student loans are also larger than other Americans' student loans. This means that debtor-creditor laws have greater significance and greater impact or people of color than for other Americans.

Additionally, despite the endless credit, people in general are less financially literate than they were forty years ago, creating a perfect, ever-indebted, storm. Finally, the Consumer Financial Protection Bureau (CFPB) has been dismantled over the past few years and is no longer policing lending products.⁷

Consumer bankruptcy has never been a panacea, but it has become even less useful to consumers. Using data generated before the 2005 Amendments, Professors Deborah Thorne and Katie Porter showed that one year after filing for chapter 7, one in four debtors were struggling to pay routine bills, and one in three faced a financial situation similar to, or worse than, when they filed.⁸ The 2005 Amendments made consumer bankruptcy far less useful to the average consumer. The amendments limited the secured debts that could be stripped down in a chapter 13, attempted to make more debtors file chapter 13 cases versus chapter 7 cases, and added further costly impediments to filing such as required financial literacy classes. Prior Code amendments limited the dischargeability of student loans. There is no doubt that the Code is less consumer-friendly today than it was prior to 2005.

This Paper presumes that readers want to make bankruptcy more useful for consumers and for society as a whole. If this is true, we need to ask two questions: first, what do individual consumers hope to get out of the system, and second, what does society hope to get out of the system? In other words, what is it that we expect the system to accomplish and what are its goals? While consumers may also want other things out of a bankruptcy system, most would like to discharge as many debts as possible and to keep as much of their property as possible, including their houses and cars. What society seeks from the system is more complex, but few would disagree that if we are going to have a consumer bankruptcy system, it should be useful.

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Consumer bankruptcy can be useful again, through Code changes that could also play a role in stabilizing the economy.⁹ First, all secured debts could be subject to strip-down, including home mortgages. This one change could create more prudence among home lenders and help stabilize the housing market and the global economy. Second, student loans could also be subject to discharge, after a few years of payment.¹⁰ Finally, consumer debtors should have a more significant marker of their new fresh start, perhaps a celebration and forgiveness hearing to usher in his or her new life. All of these changes could support important societal values, such as education, homeownership, and stable of neighborhoods and communities. All could help make people happier and healthier, which would save society money but also create value beyond economics. Finally, allowing people to be and feel heard, whatever that may mean in the consumer bankruptcy context, could drastically increase the relevance of the bankruptcy system without costing much in return.

Part I of this Paper discusses the increase in debt over the last two decades, the growing wage and income gap, growing debt inequality and race, and the fall of the CFPB, all justifications for using the bankruptcy system to help ameliorate these problems. Part II discusses particular ways the Code could be amended to become more relevant, including allowing all secured debt to be stripped down and allowing more student loans to be discharged. Part III discusses the main policy justifications for our consumer bankruptcy system and suggests a third system modification that would make bankruptcy more relevant for consumers, namely a hearing or other forum in which consumers could be publicly forgiven of their debts and perhaps even be heard about their financial woes through the bankruptcy court system. Every litigant longs to be heard, perhaps even more so than to win. Providing the ability to be and feel heard in bankruptcy would serve consumer bankruptcy debtors at little cost to anyone else.

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None of these suggestions are new, but all are more necessary and relevant now that debt levels are so high and that wealth and debt gaps are so large, and now that the CFPB is so disempowered. These suggestions are even more necessary to Americans of color given that they are more likely to have predatory home loans and high-cost student loans and given that discrimination in credit markets persists despite laws against these practices. The bankruptcy system can be amended to begin to close these gaps and aid in ameliorating these practices. Whether we make changes such as those suggested here, and by many others before, will depend upon the kind of nation we want to be, and on the values we choose to embrace. One of those values could be the value of our human lives, measured in health, financial stability, equanimity, and well-being.

I. The Disconnect Between Consumer Bankruptcy Law and Modern Consumer Credit

Part I discusses modern reasons why we need to amend the Code to be more helpful to consumers, including the increase in debt over the last two decades, the growing wage and income gap, growing debt inequality and race, and the fall of the CFPB.

A. The Rise of the Debt Nation

Overall, Americans are in worse financial shape today than they were in 1978. Every year since 2013, the Board of Governors of the Federal Reserve Bank has created a Report on the Economic Well-Being of U.S. Households.¹¹ In the last report, economic fragility persisted across the U.S., particularly related to income and educational attainment as they relate to ethnicity and race.¹² The report showed that, similar to prior reports, an unexpected expense of $400 would force more than one-third of American adults into a difficult financial situation and that one quarter of all adults had no retirement savings, and skipped necessary medical care in 2018 because they could not afford the cost.¹³

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In August 2007...