Will Bankruptcy Filings Continue to Decline?

by Johnny Tisdale on February 1, 2013

The number of people who file for bankruptcy is declining. But it will probably rise again with the second wave of foreclosures.

bankruptcy-filings-will-rise-again

The official website of the federal Judiciary provides bankruptcy statistics. The following table shows the percent change in national bankruptcy filings between consecutive years.

2003-2004
-3.8%
2004-2005
30.1%
2005-2006
-70.3%
2006-2007
37.8%
2007-2008
31.4%
2008-2009
31.9%
2009-2010
8.1%
2010-2011
-11.5%
2011-2012*
-14.1%
*Years ending in September (the most recent data available for 2012).

 

There was a dramatic decrease in bankruptcy filings in 2006. This decrease is probably attributable to the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA), which made it much more difficult for many consumers to file for Chapter 7 bankruptcy.

When a consumer’s debt is discharged, the creditors suffer the losses. Support for BAPCPA came almost exclusively from creditors – especially credit card companies and other lenders – who claimed that their reduced losses would be passed along to consumers in the form of reduced prices. Michael Simkovic, a graduate of Harvard Law School, performed an empirical analysis to determine whether the credit card companies kept their promise.

The data is unambiguous: BAPCPA benefited credit card companies and hurt their customers. While bankruptcy protection became increasingly unavailable, credit card companies increased prices by 5% to 17%. This contributed to a 25% increase in credit card industry annual profits from 2005 to 2007. Profits for 2006 were $7 billion higher than 2005, and 2007 profits were $10 billion higher that the profits for 2006.

By making bankruptcy more expensive and less effective for debtors, BAPCPA affected “the stability of their homeownership.” In fact, mortgage company Credit Suisse blames BAPCPA for the increase in foreclosures that led to the 2008 financial crisis. Because the new law made it difficult for many consumers to file for bankruptcy, they were unable to use bankruptcy protection to avoid foreclosure. Furthermore, the stricter means test forced many would-be Chapter 7 filers to file under Chapter 13. In turn, many of these individuals failed to adhere to the repayment plan and therefore rolled back to foreclosure.

BAPCPA went into effect in October 2005. The rise in foreclosures began about the same time. Bankruptcy filings declined sharply until the middle of 2006. At this point they started to rise again, although they have never returned to the pre-BAPCPA measure of over 2 million annual filings. As early as November 2006, we were warned that the downturn in the real estate market might “contribute to a downward spiral in the economy...hopefully not enough to trigger a recession.” Of course, we now know that it did trigger the worst financial crisis since the Great Depression.

Bankruptcy filings continued to increase for four years, peaking in 2010. The drop in bankruptcy filings that began in 2011 has been hailed by some – prematurely – as a sign that the foreclosure crisis is finally behind us. What these optimists have failed to take into account is the fact that lenders, overwhelmed by the surge in foreclosures, are sitting on a significant number of defaulted mortgage notes. It is expected that these mortgage notes will soon be processed in a second wave of foreclosures. When that wave hits, we can also expect bankruptcy filings to rise again as debtors seek to avoid foreclosure.

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Johnny Tisdale

Paralegal at Dowe Law Firm
Johnny Tisdale is a paralegal, web designer, and writer at the Dowe Law Firm. He earned his BS in psychology and ABA-approved paralegal certificate from Auburn University Montgomery in 2011.

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