The aftermath of Hurricane Katrina has sparked renewed debate over
stricter provisions in the new bankruptcy law that takes effect on
October 17th. Higher filing fees, more stringent document requirements,
and mandatory credit counseling are all cited as especially burdensome
for victims of natural disasters. Democrats are concerned that the
controversial financial means test will deny Katrina victims the
ability to declare a fresh start, and have proposed an exemption in a
bill referred to the Senate Committee on the Judiciary on September
8th. [1]
Republican backers of the new law instead urge that the stricter
standards won't apply to those most in need and that judges will retain
the discretion to take Katrina into account when processing bankruptcy
claims. The reluctance to accept any exemption could be a costly move
politically, given the much-publicized lag in aid at the outset of
Katrina. Now with recovery efforts in full swing, the Administration
can ill afford any charge that it is withholding relief, especially to
the benefit of corporate lenders.
Will an exemption from the bankruptcy law really assist those
affected by Katrina? A reading of the new law in light of the special
circumstances brought about by this disaster is needed to evaluate the
competing claims.
The Immediate and Projected Effects of Hurricane Katrina
Katrina's storm surge brought with it a wave of devastation across
the Gulf Coast states of Louisiana, Mississippi, and Alabama, where
more than 90,000 square miles are covered by a Federal Disaster
Declaration. [2] More than 1 million residents were forced to evacuate,
and thousands will return to find little or nothing left of their homes
and businesses. The receding floodwaters in New Orleans have left
behind a sickly sludge of pollution and waste on those buildings left
standing, the long term health effects of which are yet unknown. [3]
Risk Management Solutions, a leading provider of catastrophic risk
quantification and management, estimates that the total financial
losses attributable to Katrina will top $125 billion, $40-$60 billion
of which are private insured losses. [4] That leaves a staggering
$65-$85 billion in uninsured losses. Since flood damage is excluded
from standard insurance policies [5], it is unclear whether those home
and business owners who are insured will be able to recover the funds
necessary to repair and rebuild. Meanwhile, they are still liable for
debts attached to their damaged or worthless properties.
Federal and private aid is now pouring into the affected region. The
Federal Emergency Management Agency (FEMA) estimates that it has
disbursed assistance to over half a million families, to the tune of
$1.1 billion. [6] According to FEMA guidelines, however, individuals
must register to qualify for aid, most of which is provided in the form
of subsidized loans as opposed to grants. [7]
Evaluating the Argument for an Emergency Bankruptcy Exemption
As described in a previous article,
the new bankruptcy law will make it more difficult for some individuals
to obtain the asset liquidation and "fresh start" options under Chapter
7, and will instead force more cases into Chapter 13, which carries
with it a mandatory repayment plan set over five years. All debtors
will be required to undergo credit counseling six months prior to
discharge, at their expense. Critics of the law have long cited this
provision as inappropriate for those who have suffered catastrophic
financial reversals, such as medical emergencies, death in the family,
call up to military duty, terrorist attacks, and natural disasters.
In light of the unprecedented devastation caused by Hurricane
Katrina, politicians and advocacy groups are calling for additional
debt relief in the form of an exemption from the new bankruptcy law for
up to one year, which would presumably favor Chapter 7 filings for
those affected. In a joint statement issued on September 1st, Jerrold
Nadler (D-NY) voiced the concern that:
…
just as survivors of Hurricane Katrina are beginning to rebuild their
lives, the new bankruptcy law will result in a further and unintended
financial whammy. Unfortunately, the new law is likely to have the
consequence of preventing devestated [sic] families from being able to
obtain relief from massive and unexpected new financial obligations
they are incurring and by forcing them to repay their debt with income
they no longer have, but which is counted by the law. [8]
Nadler
is referring to the fact that under the new law, the calculation of
"current monthly income" for the purposes of determining a debtor's
ability to repay his creditors actually means the "average monthly
income from all sources… derived during the 6-month period ending on
(i) the last day of the calendar month immediately preceding the date
of the commencement of the case … " or a date fixed by the Court. [9]
This definition ignores unemployment as a leading contributor to the
declaration of bankruptcy and assumes a continuing ability to pay down
debts (including taxes, which are excluded from automatic stay
provisions).
Indeed there is a rebuttable presumption built into the
new statutory scheme that debtors are able to meet their obligations to
creditors and should be held accountable notwithstanding personal
circumstances. In fact, it is referred in the law as the "presumption
of abuse", i.e. that debtors seeking Chapter 7 coverage do so to escape
their obligations rather as a legitimate means of financial
reorganization. Opponents to the law find it contains little sympathy
for victims of Katrina.
Judicial Discretion and the Means Test Should Protect those Most in Need
Representative F. James Sensenbrenner, the Chairman of the
House Judiciary Committee, is currently refusing to hold a committee
hearing on bills proposing an exemption to the bankruptcy law, and is
backed by the chief architect of the new law, Senator Charles Grassley
(R-IA). Sensenbrenner rebuffed the calls of Nadler, Russ Feingold
(D-WI) and others to alter the law, implying their fears are
unwarranted:
If
someone in Katrina is down and out, and has no possibility of being
able to repay 40 percent or more of their debts, then the new
bankruptcy law doesn't apply. [10]
The
financial means test provides an objective standard for judges to
follow in filtering cases into the different Chapters. In order to
qualify for Chapter 7 (and rebut the presumption of abuse), a debtor
must show that his average annual income is equal to or less than his
state's median family income. [11] Those who were poor prior to Katrina
will thus be guaranteed a fresh start under Chapter 7, which includes
many families in those areas hardest hit. In Louisiana, for example,
the median income in 2004 was $42,886 and Orleans Parish was listed
among the top-20 poorest counties in the U.S., with an average median
family income of only $31,369. [12]
Furthermore, despite the strict
terms of the new law, judicial discretion should not be underestimated.
It is likely that bankruptcy judges will give broad reading to the
"special circumstances" provisions in the law to facilitate Chapter 7
filings wherever appropriate. The Interim Rules of Bankruptcy
Procedure, [13] which will be in effect on October 17th (and until such
time as the Judiciary Committee on Rules of Practice and Procedure have
fully distilled the 500-page bill into new procedural guidelines)
provide that filing fees, although now higher, may be paid in
installments or waived altogether. Similarly, although document
requirements are more stringent, a judge may also be satisfied with a
sworn statement that the document in question no longer exists, which
is particularly applicable to those who have lost homes and records.
Finally, the generosity of
Americans towards those affected by Hurricane Katrina has been
overwhelming. In addition to assistance from FEMA, the Red Cross,
Habitat for Humanity and countless other charitable donors, many
corporate and government creditors are offering relief in the form of
debt forgiveness, payment holidays, and other concessions. Currently,
Ford, GMAC, Chrysler, Visa, Bank of America, American Express, MBNA,
Freddie Mac and Fannie Mae, and even the IRS are offering assistance.
With continued collaboration and compassion, victims of Katrina may yet
be able to ride out the storm.
Sources
[1] Hurricane Katrina Bankruptcy Relief and Community Protection Act of 2005, S. 1647, 109th Cong. (2005), available at http://thomas.loc.gov/cgi-bin/query/D?c109:25:./temp/~c109dCTl03:
[2] Department of Homeland Security, Hurricane Katrina: What Government is Doing, http://www.dhs.gov/interweb/assetlibrary/katrina.htm (last viewed on Sept. 19, 2005)
[3] Environmental Protection Agency, Potential Environmental Health Hazards When Returning to Homes and Businesses, http://www.epa.gov/katrina/sep14returnhomeadvisory.htm (last viewed on Sept. 19, 2005)
[4] RMS Increases Insured Loss Estimate for Hurricane Katrina, http://www.rms.com/NewsPress/PR_090205_HUKatrina_insured_update.asp (Sept. 9, 2005)
[5] Flood insurance is provided as optional coverage through the National Flood Insurance Program. See http://www.floodsmart.gov/floodsmart/pages/options.jsp (last viewed on Sept. 19, 2005)
[6] Department of Homeland Security, Hurricane Katrina: What Government is Doing, http://www.dhs.gov/interweb/assetlibrary/katrina.htm (last viewed on Sept. 19, 2005)
[7] FEMA: A Guide to the Disaster Declaration Process and Federal Disaster Assistance, http://www.fema.gov/rrr/dec_guid.shtm#assist (last viewed on Sept. 19, 2005)
[8] Nadler, Conyers, Watt, Jackson Lee to Introduce Bill to Relieve Debt Burden on Katrina Survivors, http://www.house.gov/apps/list/press/ny08_nadler/DebtreliefKatrina090105.html (Sept. 1, 2005)
[9] Bankruptcy Abuse Prevention and Consumer Protection Act of 2005, Pub. L. No. 109-8, § 101, 119 Stat. 23, 32 (2005).
[10] Martin H. Bosworth, No Bankruptcy Relief for Katrina Victims, Consumer Affairs.Com, Sept. 15, 2005, available at http://www.consumeraffairs.com/news04/2005/katrina_bankruptcy03.html
[11] For the means test calculation, see Fed. R. Bankr. P. Form 22A (Chapter 7), available at http://www.uscourts.gov/rules/new_and_revised_official_forms.html (last viewed on Sept. 19, 2005)
[12] U.S. Census Bureau, Median Family Income by Size and State, http://www.census.gov/hhes/www/income/medincsizeandstate.html; US Census Bureau, Income, Earnings and Poverty from the 2004 American Community Survey, 5, available at http://www.census.gov/hhes/www/income/income.html (last viewed on Sept. 19, 2005)
[13] Interim Rules and Official Forms Implementing the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005, available at http://www.uscourts.gov/rules/interim.html (last viewed on Sept. 19, 2005)