Bankruptcy Reform Becomes Law

President Bush signed sweeping bankruptcy reform legislation into law this week, which will take effect on October 17, 2005. We should expect a major increase in filings before then. The legislation will make it more difficult for consumers to qualify for Chapter 7 relief, make more debts nondischargeable, and subject debtor's attorneys to sanctions for failing to verify the accuracy of bankruptcy petitions.

Under the law, a debtor must pass a "means test" in order to file for bankruptcy under Chapter 7 of the bankruptcy Code. This means that more people will have to file under Chapter 13, which makes them responsible to repay at least a portion of their debts to creditors.

In addition, bankruptcy lawyers are now "debt relief agencies," and must advertise that fact. The language here is quite broad and may include attorneys who represent creditors and any attorney who might advise someone about bankruptcy, such as divorce attorneys. Further, attorneys must investigate the circumstances that gave rise to the debtor's filing, and his signature on the petition is certification that he has determined that the petition is well grounded in fact and warranted by existing law, and has no knowledge that the information in the petition is incorrect. This is scary.

These law changes are going to mean that bankruptcy will be significantly more expensive for the consumer. More will be forced to repay at least a portion of their debts, whereas under the old law they could walk away from it. Attorneys will charge more to handle the cases because of the added complexity of the law and because of the risk of liability they face.

Discharging Student Loans in Bankruptcy

The Sixth Circuit Court of Appeals issued a ruling earlier this week regarding the dischargeability of a student loan in bankruptcy for "undue hardship." In this case, the debtor took out student loans to help pay for college education. He later became pastor of his own church. At the time of the bankruptcy, the debtor's annual income was less than $10 thousand, far below the poverty level for a family of five. He sought to discharge the student loan obligations in bankruptcy claiming that repayment of the student loans would constitute an undue hardship for him given his income and other financial circumstances. The trial court agreed with him, but the lender appealed.

The Court of Appeals reversed, holding that his financial situation did not constitute an "undue hardship" for him or his dependents. The Court ruled that there were not circumstances beyond the debtor's control which give rise to "a certainty of hopelessness," not just a present inability to pay. The Court explained that the debtor voluntarily chose his work - preaching - but was capable by education and training of earning much more. The Court stated that the debtor is obliged to seek such work before he can claim "undue hardship."

For you debtors out there with student loans, it takes more than just lack of employment to establish "undue hardship" such that the student loan will be discharged in bankruptcy. Such factors include illness, disability, lack of usable job skills, or the existence of a large number of dependents.

Student loans, like taxes, are extremely difficult to discharge in bankruptcy. The Court of Appeals' opinion in this case illustrates just how so.

The case: In re Michael Oyler, (CA 6 2005) Docket #: 2003-4505.