An op-ed by Professor Elizabeth Warren: Bankruptcies to surge

Post Date: October 17, 2005

The following op-ed by Professor Elizabeth Warren, Bankruptcies to surge, originally appeared in The Clarion-Ledger on October 16, 2005.

Those swamped by Katrina face tougher bankruptcy law.

Much has been made of the Hurricane Katrina blame game. Congress immediately began to point its finger, justifiably, at FEMA and those responsible for the governmental incompetence that followed the tragic storm. Some of its awful consequences are indeed “man-made” but if Congress is assessing blame, it can also point a finger at itself.

For many families and small businesses, the storm’s devastation will not be fully felt for weeks or months — until they face the crippling financial consequences of lost property, lost wages and lost jobs. They may have lost the house and the car, but the obligation to pay for them will not recede like the water.

Earlier this year, Congress deliberately made it more difficult to use the bankruptcy law, the only financial safety net available for most middle class families. In the wake of Katrina and Rita, Congress should at least rectify the harshness of the law for the residents of Mississippi, Louisiana and Alabama

Common sense tells us that when families are hit hard by hurricanes, more of them will end up filing for bankruptcy. A new study agrees the rate of growth in bankruptcy filings following the biggest hurricanes of the past 25 years is about 50 percent higher in states that have suffered a direct hit and about 20 percent higher in nearby states.

In an ominous note for the victims of the latest disasters, the study also shows that not all storms are alike. When storms hit in areas that resulted in lower total FEMA relief payments (rather than in more expensive areas with more beachfront condos and second homes), the increase in bankruptcy rates goes even higher. The highest increase in bankruptcy filings in the past 25 years occurred when Hurricane Elena hit Mississippi in 1985.

Once the bill goes into effect, everyone — regardless of income and regardless of the reason for filing — must file extensive new paperwork and meet other new procedural requirements.

Families struggling to repay their debts in Chapter 13 will discover new rules demanding more payments for car lenders and credit card issuers. Others will discover that the law may presume they have phantom income with which they must repay their creditors — money from jobs they held before the storm that they are presumed to still have after those jobs are gone.

What happens to small businesses will be even worse. The new Chapter 11 provisions target smaller businesses — those that owe less than $2 million — for special treatment. Unlike major corporations, small businesses will face a shut-down if they cannot confirm a plan of reorganization within 300 days. Starting in October, small businesses — and only small businesses — will be required to file a stack of new forms and submit for more extensive examination by Washington.

Just when the Gulf Coast region will needs its entrepreneurs most, fewer of them will get the chance to recover from the financial devastation of Katrina and Rita to start their business again.

The provisions are so bad that the U.S. Justice Department has acknowledged the problems, taking the unprecedented step of saying that it won’t raise objections if disaster victims violate the letter of the law when they file for bankruptcy.

That sounds good, but the Justice Department can’t bind the creditors or change the laws that the courts must follow; people who need help will still be at risk. The Justice Department also says only some victims can qualify even for their limited exception; they offer protection for everyone in Louisiana, but only those in southern Mississippi can qualify.

The bankruptcy laws have been amended to offer less help to Americans when disaster strikes. The reason is simple: Congress has lost sight of the fact that the overwhelming majority of families and small businesses file for bankruptcy only when they have been leveled by disaster.

Sometimes the disasters are intensely personal — medical problems and family breakups. Sometimes the disasters are shared by others — job layoffs and small business failures. And sometimes the disasters are shared by millions.

When people arrive at the bankruptcy courts, they are exhausted, both physically and financially. For Congress to turn its back on these families as they struggle to put their lives back together is shameful.

Mississippi’s two senators have signed on as co-sponsors to a bill that would mitigate only a few of the harshest effects of the new bankruptcy law, leaving it to Sen. Mary Landrieu, D-La. and Sen. Russ Feingold, D-Wis., to come up with more comprehensive legislation. But all the bills seem stalled out right now. Why isn’t the Mississippi delegation pushing for more?

Congress can hold all the hearings it wants on the cause of the slow and inadequate federal response. It also should ask itself about the financial disaster that still awaits the victims of Katrina and Rita, not to mention the storms to come.

Professor Elizabeth Warren joined the faculty of Harvard Law School in 1992 as the Robert Braucher Visiting Professor of Commercial Law and became the Leo Gottlieb Professor of Law in 1995. She is the coauthor of All Your Worth, just published in March and on the best-seller list. Her earlier book, The Two-Income Trap: Why Middle Class Mothers and Fathers are Going Broke, has been cited by senators and presidential candidates, and her earlier award-winning books include As We Forgive Our Debtors: Bankruptcy and Consumer Law in America, The Fragile Middle Class, Business Bankruptcy and three leading casebooks. To contact: gcastell@law.harvard.edu