• 07
  • March
    2011

Prior to 2005, filing for bankruptcy was a relatively easy process. Debtors could choose between a Chapter 7 bankruptcy, which would allow for the discharge of all non-government debt, or a Chapter 13 bankruptcy, which would involve the creation of a repayment plan. For financially stressed homeowners, Chapter 13 was an extremely helpful tool, allowing debtors to discharge unsecured debt and focus all of their resources toward making mortgage payments.

In response to the perceived abuse of the bankruptcy process, Congress in 2005 enacted the Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA). The reform act sought to reduce abuse by making it more difficult and expensive to file for protection. However, according to a new study, the reform may have had some harmful side effects for homeowners, and may have actually caused the housing market crash.

Under BAPCPA, however, a debtor is not always given the choice of which type of bankruptcy to file. He or she is subjected to a means test to determine whether liquidation (Chapter 7) or repayment (Chapter 13) is the best option. In addition, the reform law has added new requirements such as mandatory credit counseling and higher legal fees, and has also decreased the types of debt that can be discharged through either form of bankruptcy.

This means that many homeowners who would have previously been able to use Chapter 13 to save their homes are no longer able to do so. According to the study, each year since BAPCPA was enacted saw an additional 200,000 mortgage defaults, which is a 15 percent increase. For homeowners with high incomes or assets, there has been an even greater increase. Therefore, the study argues, the bankruptcy reform law may have done more harm than good by contributing to the housing market crash.

Source: Examiner, "Did Bankruptcy Reform Increase Mortgage Defaults? ", Christopher Moore, 2 March 2011