Chapter 1: A World without Bankruptcy
1.1. A Wee Bit of History
We begin the study of bankruptcy law by imagining a world in which bankruptcy does not
exist. That was in fact the state of affairs during most of the 18th and 19th centuries. While the
Constitution gave Congress the power to “establish uniform laws on the subject of bankruptcies,”
it did not require Congress to enact bankruptcy laws. U.S. Constitution, Article I, Section 8, Clause
4. There were short-lived federal bankruptcy laws in effect from 1800-1803, 1841-1843, and 1867-
1878. Federal bankruptcy law only became a permanent with the passage of the 1898 act, which
remained in effect (with substantial revisions) until the passage of the current bankruptcy code in
1978. The 1898 Act, as amended, remains known as the “Bankruptcy Act,” and the 1978 law is
known as the “Bankruptcy Code.”
Early bankruptcy laws both internationally and in the United States were primarily methods
for creditors to join together to efficiently collect their debts. There were no voluntary bankruptcy
cases filed by debtors until the late 19th Century - bankruptcy cases could only be commenced by
creditors filing involuntary petitions against debtors who were in default. In the early days, debtors
who were unable to pay their debts were sent to languish in prison until their debts were paid. For
most, this was a life sentence – only those fortunate enough to have family members able to pay
could buy their freedom. The original concept of a “discharge” was a release from prison given by
creditors to cooperative debtors, not the modern concept which bans creditors from attempting to
collect the discharged debts. Debtors prisons were abolished in the middle of the 19th century, but
some vestiges remained well into the middle of the 20th century, when the Supreme Court finally
made it clear that debtors could not constitutionally be imprisoned for their inability to pay debts.
See Williams v. Illinois, 399 U.S. 235 (1970); Tate v. Short, 401 U.S. 395 (1971). Note that debtors
can still today be imprisoned for refusing to pay debts that the debtor is able to pay – generally on
a finding of contempt for disobeying a turnover order. We begin therefore with process by which
debts are collected outside of bankruptcy.
1.2. Enforcing Claims
An unsecured claim arises from a debtor’s legal obligation to pay money or property to a
creditor. The legal obligation can be created by a debtor’s promise to pay money or deliver
property to a creditor (contract), from a debtor’s receipt of money or property under circumstances
requiring restitution (quasi-contract), or from a debtor’s commission of a tort.
It is important to distinguish unsecured claims from secured claims, which will be
discussed in Chapter 2. A secured claim arises when a debtor voluntarily gives a lien on some or
all of the debtor’s property to secure repayment of the debt (consensual lien), or when the law
imposes a lien on debtor’s property to secure repayment of the debt (involuntary lien). In order for
a lien to exist, there must be some specific property that is subject to the lien. A lien is a creditor’s
legal right, “in rem,” to enforce a claim against specific property owned by the debtor upon default.
A lien is an interest in the property itself, and must be distinguished from the unsecured, “in
personam,” right that the creditor has against the debtor. We will start with a review of the system
for collecting unsecured claims that are based on the borrower’s legal obligation to pay, and then
we will look at the creation, enforcement and priority of secured claims or liens in Chapter 2.
1.3. The Self-Help System for Collecting Unsecured Claims
At one time creditors were permitted to use violence and enslavement to collect their
claims. In medieval times, the law even assisted creditors by allowing pillory, under which debtors
were restrained and subjected to maiming and death at the hands of their creditors. That is no
longer the case. It is a crime in every state to threaten to or use violence to collect debts. Short of
violence and threats of violence, however, the state laws on debt collection are ill defined and
poorly enforced. Creditors are generally free to call or visit their debtors to ask for payment, to
report defaults to credit bureaus (which can result in the modern equivalent of a scarlet letter), and
even to engage in various forms of conduct that man y would consider to be harassment. The
limitations are generally embodied in criminal laws like extortion, although some states have
enacted fair collection statutes modeled after the federal Fair Debt Collection Practices Act, but
applied to the creditors themselves rather than to third party debt collectors. There are also general
consumer protection statutes that provide some protection for debtors, but these tend to apply only
to specific industries and practices.
The main uniform limitation on debt collection activities is the federal Fair Debt Collection
Practices Act. The first thing to note about the Act is that it generally applies only to debt collectors
– those who regularly collect debts owed to another. It is entirely inapplicable to creditors who
collect their own debts in their own names, and to the collection of business debts. Nevertheless,
the act is extremely important because creditors often utilize third party debt collectors to collect
consumer debts. The debt collection industry is enormous – it is a multi-billion dollar industry –
and its practitioners range from professional law firms to sleazy boiler room operations. In most
states, no license or professional training is required to engage in the debt collection industry, and
violations of the federal Act abound.
1.4. Practice Problems: Fair Debt Collection Practices Act (FDCPA)
Read the Fair Debt Collection Practices Act (FDCPA), 15 U.S.C. 1601 et seq, which is
reprinted in Appendix A at the end of the book. If you are using an electronic version of this book,
you should be able to click any of the underlined links to take you directly to the relevant appendix
or code section in this document. If you have internet access, you should also be able to click case
links to read the full text version of the cited case using the free Google Scholar service.
Problem 1. Debtor owes $15,000 on her BofA Visa card, and has not made a payment in
two months. A BofA employee calls the Debtor at 2:00 in the morning, and allows the phone to
ring 10 times before it is answered. The employee tells the debtor that he is an employee of BofA,
and threatens to have the debtor put in jail unless payment is made by the close of business that
day. What provisions of the FDCPA have been violated? FDCPA § 803(6).
Problem 2. How would your answer to Problem 1 change if the BofA employee falsely
told the debtor that he worked for the district attorney’s office? See FDCPA § 803(6)(A).