The vast majority
of bankruptcy cases that are filed are consumer
bankruptcy cases. (Bankruptcy Strategist, 1997)
Indeed, the filing of consumer bankruptcy cases
is at an all-time high. In the last two decades,
personal bankruptcy cases have increased by more
than 700 percent.
One would think that honest people of color,
honest working class, and honest poor people would
have unrestricted access to Chapter 7. Bankruptcy
Code (the "Code") Section 707(b), however,
has significantly altered the operation of the
consumer bankruptcy system. Prior to the enactment
of Code Section 707(b), an honest debtor who had
filed his or her Chapter 7 petition in good faith
could only be deprived of his or her discharge
through the operation of Code Section 727(a).
( 11 U.S.C. Section 727(a), (1998) Now it is possible
for an honest debtor to be denied a Chapter 7
discharge,(Flint, 1991) even if he or she has
acted in good faith and has not committed fraud.
Code Section 707(b) has fundamentally transformed
the concept of the "fresh start,"(Jackson,
1985) and the availability of the Chapter 7 discharge
for individual debtors. Consequently, there is
a fundamental issue as to whether Code Section
707(b) prevents honest consumer debtors, particularly
people of color, working class, and poor people,
from obtaining justice.
This article discusses the enactment of Code
Section 707(b), and the difficulties that the
lower federal courts have had in interpreting
this provision. In particular, Code Section 707(b)
is a poorly drained statute, which has failed
to provide any meaningful guidance to bankruptcy
courts or to the Office of the United States Trustee
who is responsible for implementing this statute.
Part III examines the explosion of consumer debt;
the imprudent practices of the consumer credit
industry; and the concomitant surge in consumer
bankruptcies. This article posits that the consumer
bankruptcy crisis is a result of the humongous
growth in consumer debt that is the product of
the avaricious practices of the consumer credit
industry, and that the consumer credit industry
must reform its lending practices. The consumer
credit industry's practices require that there
be liberal access for consumer debtors. Part IV
is conclusion.
II. Code Section 707(b)
A. Code Section 707(b)
The consumer credit industry sought the enactment
of Code Section 707(b) as an attempt to curb the
alleged abuse of the bankruptcy system by consumer
debtors.(Wildermuth, 1995) The consumer credit
industry lobbied Congress for a provision to halt
these alleged abusive practices by consumer debtors.(Balser,
1986) The proposed legislation was debated; however,
the consumer credit industry, consumer activists,
and the Congress failed to reach an agreement
as to what constituted a substantial abuse.(Morris,
1985) Code Section 707(b) was enacted as part
of the Bankruptcy Amendments and Federal Judgeship
Act of 1984.
As enacted, Code Section 707(b) failed to define
what constituted a substantial abuse. (United
States Trustee…1996) To exacerbate matters,
there are neither Senate reports, nor House reports
providing guidance as to what Congress thought
would constitute a substantial abuse. (Bruckman,
1994) Code Section 707(b) is only applicable to
Chapter 7 cases in which the majority of the debt
is consumer debt. Only bankruptcy judges and the
Office of the United States Trustee have standing
to bring Code Section 707(b) motions.(Vandiver,
1992) Having a bankruptcy judge make the initial
challenge under Code Section 707(b) is problematic,
and it is somewhat peculiar that the individual
who will be the ultimate finder of fact is the
individual who makes the initial challenge to
the validity of the Case.(McKim, 1986) Usually,
it is incumbent upon the Office of the United
States Trustee to make the determination as to
which cases should be dismissed because of a substantial
abuse. The Office of the United States Trustee,
however, has no uniform national guidelines as
what constitutes a substantial abuse. (Wells et
al, 1991) Consequently, it is left to the discretion
of the individual United States Trustees and,
in particular, the Assistant United States Trustees
to make a determination as to which cases should
be dismissed. With so many different people scrutinizing
Chapter 7 petitions to determine what constitutes
a substantial abuse, implementation of the standard
of what constitutes a substantial abuse will vary
from district to district. Consequently, there
will be inconsistent determinations as to what
constitutes a substantial abuse.
B. The Courts of Appeal Are In Disagreement as
To What Constitutes a Substantial Abuse
The Eighth and Ninth Circuits have held that
a Chapter 7 debtor's ability to fund a Chapter
13 plan is per se proof of substantial abuse.(United
States Trustee…1992) Under the ability to
pay test, a debtor's ability to repay his or her
debts, without any other factor, will justify
a dismissal under Code Section 707(b). The Fourth
Circuit has adopted the "totality of the
circumstances test" to determine whether
the prosecution of a Chapter 7 case would constitute
a substantial abuse.( Green v. Staples, 1991)
In In re Krohn, the Sixth Circuit Court of Appeals
adopted a modified version of the totality of
the circumstances test.(Cuevas, 1993)
C. Code Section 707(B) Has Been Implemented In
a Random Manner
Code Section 707(b) is ambiguous and federal appellate
courts have been unable to develop a coherent
and readily applicable standard; consequently,
the enforcement of Code Section 707(b) has occurred
in a haphazard manner. There are various cases
involving Code Section 707(b) in which a debtor
sought to exploit the bankruptcy system to the
detriment of his or her creditors. (In re Duncan,
1996) For example, the debtor in In re Dominguez
was a recent graduate of the Harvard Medical School
and a resident at the Duke Medical Center. The
debtor was an anesthesiologist resident with an
annual salary of $33,000. After the debtor completed
his internship, his salary was expected to increase
substantially. The debtor had $29,723.31 of debts.
The court held that granting relief would be a
substantial abuse. As a graduate of the Harvard
Medical School with good grades, the debtor had
an excellent prospect of earning a substantial
income. Although the debtor would only make $33,000
as a resident, that was sufficient to provide
the debtor with an adequate lifestyle and to make
a partial payment on his debts. The filing was
not the result of a sudden illness or calamity.
The debtor's attempt to use the bankruptcy process
under these circumstances constituted a lack of
good faith. (In re Waldron, 1986)
As the preceding discussion reflects, a real
substantial abuse of the bankruptcy system usually
entails bad faith, fraud, or the violation of
an important bankruptcy provision. In essence,
a strict interpretation of Code Section 707(b)
renders it superfluous and unnecessary because
there are sufficient safeguards in Chapter 7 to
protect creditors from fraud and substantial abuse.
A strict interpretation of Code Section 707(b)
substantial abuse will mean that only an exploiter
of Chapter 7 will be subject to this provision.
(Cuevas, 1994)
There have been various instances in which Code
Section 707(b) motions were made to dismiss petitions
against needy debtors. A case that is reflective
of the misuse of Code Section 707(b) is In re
Martens. There, the court issued an order for
a hearing pursuant to Code Section 707(b). The
court held that granting the debtor relief would
not constitute a substantial abuse because the
debtor only had disposable income of sixteen dollars
a month, which was contributed to charity. The
debtor's 1977 Dodge was about to collapse, and
she could not afford to maintain automobile insurance.
The debtor did not engage in extravagant spending,
and she had significant medical bills. Moreover,
if the debtor attempted to file a five-year Chapter
13 plan she would only be able to make an eleven
percent distribution to her creditors. There appeared
to be no means of significantly decreasing the
debtor's expenses without depriving the debtor
of the necessities of life. Under these circumstances,
granting Chapter 7 relief would not be a substantial
abuse. (In re Renner, 1987)
Bankruptcy courts have utilized Code Section
707(b) to dismiss cases of working class and non-affluent
debtors. (In re Sanseverino, 1994) Some courts
have focused on a debtor's ability to repay his
or her debts, and have dismissed cases when a
debtor was able to make a meaningful repayment
under a Chapter 13 plan. (In re Bicsak, 1997)
A case that illustrates the problematic issues
presented by Code Section 707(b) is In re Newsom.
In Newsom, the debtors were non-commissioned officers
in the Air Force, and their annual income was
$34,000 and they had no dependents. The court
granted the Code Section 707(b) motion because
under a Chapter 13 plan the debtors had the ability
to make a substantial repayment to their creditors.
The Office of the United States Trustee has brought
Code Section 707(b) motions against needy and
honest debtors who were entitled to a fresh start.
(In re Blair, 1997) The real tragedy is that these
motions were brought at all because a dispassionate
analysis would have revealed that these debtors
were entitled to relief. These debtors did not
engage in fraud or other malevolent acts; rather,
they sought Chapter 7 relief as a means of managing
their financial difficulties. Divorce and medical
illness can lead to severe financial problems,
and these were the situations that Chapter 7 was
intended to address. The debtors in the preceding
cases were poor or working people with significant
financial problems. Absent Code Section 707(b),
it is doubtful that any creditor or party-in-interest
would have objected to these debtors receiving
a Chapter 7 discharge. However, given the amorphous
nature of Code Section 707(b) and prosecutorial
discretion, needy debtors are at risk of being
a target for a Code Section 707(b) motion. It
must be borne in mind, these are Chapter 7 debtors
and that these are poor and working class people
who lack the resources to engage in litigation.
Poor and working class debtors cannot afford to
lose time from work to prepare opposition papers
and to prepare for a hearing. Indeed, poor and
working class debtors lack the resources to engage
in civil litigation against the United States
Department of Justice. These debtors filed for
bankruptcy because they wanted a sanctuary to
escape from their emotional and financial problems.
Code Section 707(b) is a nightmare because it
has transformed a sanctuary into an inferno,
III. Code Section 707(B) Has Not Alleviated the
Consumer Debt Crisis in the United States
A. Since the Enactment of Code Section 707(B)
Consumer Debt Has Swelled Profusely
Since the enactment of Code Section 707(b), consumer
debt has continued to escalate at an alarming
rate. Indeed, during the period since the passage
of Code Section 707(b), consumer credit debt has
more than doubled. Moreover, in the last seven
years, credit card debt has increased by more
than 100 percent. In 1996, consumer debt continued
to expand, and in November 1996 consumer borrowing
reached $1,191,000,000. (Consumer Debt Rises,
1997) An example of the expansion of consumer
debt in 1996 is the fact that in 1996 consumers
charged more than $1,000,000,000 on their credit
cards. In recent years, credit card issuers have
sent 2,000,000,000 credit card solicitations to
consumers. (Tharpe, 1997) Moreover, people of
color carry more credit card debt than Caucasians,
(Charge It…1997) and during the last three
years amount of credit card debt held by Blacks
and Hispanics has escalated rapidly.
The 1980s was a period in which the consumer
finance sector underwent a transformation.(Getter,
1996) The increase in the expansion of consumer
credit occurred during the latter half of 1982
and early 1983 because of deregulation of the
consumer credit industry. One consequence of deregulation
was that lenders modified their standards and
extended credit to riskier customers because of
the potential profits. Since credit cards were
introduced they were profitable, and credit cards
have produced lucrative profits for the consumer
credit industry. Credit cards are profitable because
usury laws are inapplicable to the interest rates
charged by credit card issuers from a different
jurisdiction.
The availability of consumer credit has supported
the mass production of consumer goods. (Sherwin,
1997) Credit cards have also been important to
retailers. For example, Sears has utilized its
credit card to foster demand for its products.
In addition, Sears borrows money inexpensively
in the public debt markets, and then charges its
cardholders 21% interest. (Snyder, 1997) It has
been estimated that Sears' income from its credit
card operations exceeds the income that its receives
from selling merchandise. Sears aggressively solicited
credit card accounts, and its imprudent lending
practices have resulted in a high number of credit
card delinquencies.
B. The Profitability of Credit Cards Has Led
To an Explosion in Credit Card Debt
The profitability of credit cards has resulted
in consumers being inundated with credit card
applications.(Credit Card Earnings, 1997) Some
consumers unworthy of receiving further credit
have received dozens of unsolicited credit card
applications.( Singletary & Crenshaw, 1996)
At times it seemed that the credit card issuers
were distributing credit cards without carefully
screening applicants.(Morrow, 1996) In their quest
for profits, the credit card issuers have also
made credit cards available to college students.
The combination of student loans and credit card
bills has left many college graduates mired in
significant debt. Consumer advocates are concerned
about the explosion of credit card debt and the
inability of some consumers to shoulder this immense
burden.
C. The Surge in Credit Card Debt Has Had Adverse
Consequences
The practice of the consumer credit industry of
readily issuing credit cards has had significant
adverse consequences. (Silverman, 1997) Many consumers
have been compelled to file for bankruptcy because
of their inability to pay their credit card debt.
In addition, the rate of credit card delinquencies
is at record levels. Another measure of credit
card delinquencies is the percentage of overdue
dollars outstanding, and this is also at an all-time
high. After many years of profitable expansion,
some credit card issuers have experienced lower
profits. (Jerry, 1997)
D. The Enormous Increase in Credit Card Debt Has
Led To a Record Number of Personal Bankruptcy
Cases Being Filed
The most significant consequence of the credit
card debt explosion has been the record number
of personal bankruptcies.(Hanseli, 1996) Another
consequence of the proliferation of credit card
debt has been the record rate of credit card delinquencies.
One economist has noted that consumer card delinquencies
and consumer bankruptcies have risen in tandem.
(Ausunbel, 1997)
Since the enactment of Code Section 707(b), the
number of personal bankruptcies has skyrocketed,
and has now reached record levels. Bankruptcy
filings have increased in every state since 1984
and in eighteen states and in Puerto Rico filings
have at least quadrupled during the last twelve
years. Consumer bankruptcies continue at a record
pace in 1997. (Consumer Bankruptcies….1997)
Mr. Samuel Gerdano, Executive Director of the
American Bankruptcy Institute, credits the surge
in consumer bankruptcies with out-of-control spending
and borrowing. (Sanchez, 1995) Some consumer advocates
have contended that easy credit has forced many
consumers into bankruptcy. Further, some consumer
advocates argue that creditors have brought on
these problems and that a revision of the bankruptcy
laws is not the solution. The significant increase
in personal bankruptcies has occurred in a period
when the economy been relatively stable.
E. Code Section 707(B) Is Ill-Equipped To Respond
To the Explosion of Personal Bankruptcies Caused
By the Imprudent Practices of the Consumer Credit
Industry
The concept of substantial abuse was intended
to prevent the non-needy debtor from exploiting
the consumer credit system and employing bankruptcy
as a means of purging himself or herself of consumer
debt. Nonetheless, Code Section 707(b) has been
employed against all types of individuals who
are consumer debtors regardless of their age,
occupation, or class status. Since the enactment
of Code Section 707(b), the major development
in the consumer economy has been the proliferation
of consumer debt, and with this proliferation
of consumer debt has come a record number of personal
bankruptcies. ( Lykins & Plankenhorn, 1994)
During this period consumer credit companies have
imprudently extended credit to consumers who were
poor credit risks because the profits were lucrative.
College students and working class people were
seduced and victimized by credit card issuers,
and, under these circumstances, the utilization
of Code Section 707(b) against these types of
consumer debtors is unconscionable. The consumer
credit companies have taken advantage of people
that lack the financial sophistication to appreciate
the consequences of misusing credit cards until
it is too late. Although some consumers might
think that bankruptcy is a viable solution to
their financial problems, Code Section 707(b)
has weakened, if not destroyed, the Chapter 7
discharge for some consumer debtors. Some consumer
debtors will not be eligible for Chapter 7 relief
because some courts will hold that granting these
debtors relief will constitute a substantial abuse.
F. Congress and the Consumer Credit Industry
Must Adopt More Stringent Lending Policies
The credit card issuers must adopt new measures
that will make lending practices more prudent.
Although some members of the consumer credit industry
have advocated the adoption of more stringent
consumer bankruptcy laws, the consumer credit
industry must reform its lending practices. (Freedman,
1997) If there were an interest rate ceiling on
credit cards, then lending practices would change.
The high interest rates that credit card issuers
are permitted to charge encourages credit card
issuers to engage in imprudent practices. An interest
rate ceiling would make issuing credit cards to
riskier applicants less attractive because the
credit card issuer would be unable to recoup its
losses from other cardholders. Thus, credit card
issuers will become more circumspect when they
issue cards, and they will be reluctant to extend
credit to individuals who lack the ability to
repay their debts.
Another recommendation is to limit the amount
of credit that a consumer can receive. There has
been a recommendation that a consumer's total
credit line should be limited to twenty percent
of a consumer's annual income.(Geewax, 1997) The
twenty percent limitation would be a safeguard
to prevent a consumer from obtaining credit that
he or she lacks the means to repay.
There are other measures that credit card issuers
can implement to address the problem of credit
card debt delinquencies and consumer bankruptcies.
Credit card issuers could limit credit lines to
consumers. (Hansell, 1997) Credit card issuers
should develop credit models that will detect
when a consumer is in trouble so that the consumer's
credit line will not be increased.
G. The Consumer Finance Industry's Irresponsible
Conduct since the Enactment of Code Section 707(B)
Warrants a Narrow Construction of That Statute
The credit card industry has acted irresponsibly,
and its conduct is the most forceful argument
for a restrictive interpretation of Code Section
707(b). The unprecedented growth in consumer debt
since the enactment of Code Section 707(b) has
produced a record number of consumer bankruptcies.
Until there is major reform in the credit card
industry, numerous consumers will need bankruptcy
relief. The credit card debt problem is not an
isolated problem, but rather, as the bankruptcy
statistics reflect, is a crisis. The employment
of Code Section 707(b) to deny Chapter 7 relief
to consumer debtors is inequitable because the
credit card industry has failed to police its
practices. The massive wanton solicitation of
credit cards has been disastrous. To a large degree,
the credit card issuers have created the consumer
bankruptcy crisis. Therefore, it is unconscionable
to utilize Code Section 707(b) to deny consumer
debtors relief and a Chapter 7 discharge. Given
the practices of the consumer credit industry,
it is difficult to comprehend how most consumer
debtors would be exploiting the bankruptcy system,
and, therefore, would not be entitled to relief
under Code Section 707(b).
Another equally important point is that the premise
underlying Code Section 707(b) is fallacious.
It has been estimated that more than 96 percent
of the credit cardholders pay their debts. (Jones,
1997) In addition, only one percent of cardholders
file for bankruptcy. Credit card debt only represents
sixteen percent of all debt on the average consumer
bankruptcy petition. Consequently, the consumer
credit industry's contention that there is mass
exploitation of the consumer bankruptcy system
is misleading and self-serving propaganda.
IV. Conclusion
The current operation of the consumer bankruptcy
system is unjust because the consumer credit industry
has been able to obtain the enactment of legislation
that subjugates people of color, the working class
and the poor. As the statistics demonstrate, there
has been an unprecedented expansion of consumer
debt since the enactment of Code Section 707(b),
and the consumer credit companies have engaged
in imprudent lending practices. As long as the
consumer credit companies continue their imprudent
extensions of credit there will be a need for
consumer bankruptcy relief.
Code Section 707(b) is a poorly drafted statute
that can be used to subordinate people of color,
poor and working class people. People of color
have struggled in this society to obtain political
rights; however, those political rights are diluted,
if not destroyed, if people of color lack economic
rights or entitlements. In a credit-based economy,
the entitlement of a Chapter 7 discharge is an
important, if not fundamental, economic entitlement.
As set forth in this article, there have been
instances in which consumers have sought to exploit
the consumer bankruptcy system. If some consumers
have defrauded consumer credit companies, then
it is inequitable and poor public policy to permit
this type of consumer debtor to discharge debts
incurred because of fraud. Under these circumstances,
it might be more prudent to revise Code Section
523(a)(2)(A) and to tailor this provision to address
the special problems involving credit card fraud.
Furthermore, amending Code Section 523(a) (2)
(A) will punish abusers of consumer debt and the
consumer bankruptcy system, and will not harm
honest and needy debtors. This approach is preferable
to the current Code Section 707(b) approach because
it is not over-inclusive, it is specifically directed
at malefactors, and it is not intended to deprive
honest and needy debtors of a Chapter 7 discharge.
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