Tighter Credit Means Fewer Bankruptcies
By TARA SIEGEL BERNARD, New York Times
For the past several years, the flagging economy has propelled a steady increase in personal bankruptcies. And while filings remain elevated, compared with previous years, they aren’t increasing as fast as they once were.
But that doesn’t necessarily signal an improvement in the economy (despite reports that the recession is technically over). In fact, bankruptcies are more sensitive to factors like the amount of outstanding consumer credit. In general, shortly after lenders tighten the credit spigot, filings tend to jump because strapped consumers can no longer rely on credit cards or other loans to pull them through a rough patch. But over time, if fewer new loans are being made, filings tend to drop.
“If you think of the debt as the tinder to fuel the blaze, that tinder wasn’t there,” said Robert Lawless, a professor at the University of Illinois College of Law who specializes in bankruptcy. “History suggests the filing rate would be higher if consumer credit hadn’t tapered off in 2007 and 2008.”
In August, personal bankruptcy filings fell 3.8 percent from the month earlier, but were 3.6 percent higher than a year earlier. Filings in August totaled 135,559, which translates to an average of 6,162 bankruptcies filed each business day in August, compared with an average of 6,411 daily filings in July, according to Automated Access to Court Electronic Records, a bankruptcy data and management company. (Total filings in July were slightly lower — at 134,631 — but it had one less business day than August).
Looking ahead, Professor Lawless expects the number of personal bankruptcy filings to reach about 1.6 million this year, which translates to about 5.2 bankruptcies per thousand people. That’s on par with the 1.59 million bankruptcies filed in 2004, the year before a new bankruptcy law made it more difficult — and often twice as expensive — for consumers to wipe away their debts. (Filings spiked to about 2 million in 2005, but that was because many consumers rushed to file before the new rules took effect in October 2005.)
“We are more or less back where we were,” Professor Lawless said. “The 2005 changes did not really do anything to change economic conditions. People are still in dire financial straits.”
Over the next few years, Professor Lawless said he would expect filings of about 1.5 million to 1.7 million.
Seventy-three percent of bankruptcies filed this year were Chapter 7 filings, according to Automated Access, which provides filers with what is known as a “fresh start” because debts are forgiven. To qualify for a Chapter 7, filers who earn more than the median income in their state need to pass a means test to determine whether they are unable to repay their debts — a step that was added by the 2005 law.
Filers who are deemed able to repay a portion of their debts must file for Chapter 13 bankruptcy, and those filings represent the remaining 27 percent of filings year to date. The number of Chapter 13 filings is slightly lower than it was before the 2005 law took effect.
The legislation was billed as a way to stamp out bankruptcy fraud, though the law’s critics said it was simply a way for the credit card industry to extract more money from consumers before their debts were wiped away.
“The American consumer has taken so many body blows in the past few years,” Professor Lawless said. “It is hard to say that the changes to the bankruptcy laws were the worst ones. But they certainly didn’t help.”