Updated: May 3, 2013 12:14PM
Originally published: March 21, 2005
By now you’ve heard a lot about the rewrite of the federal bankruptcy act that the U.S. Senate has approved and sent to the House. President Bush has said he will sign the controversial bill if it reaches his desk.
The bill would make it more difficult for debtors to wipe their slate clean through a Chapter 7 bankruptcy filing, and many of the 1.6 million Americans who file for bankruptcy every year would be forced to file under Chapter 13, which requires a partial repayment to creditors.
The bill has created significant debate about its impact on the middle class versus the power of the financial services industry, which backed the bill.
The debate says something about our society and the judgments we make, and is worth noting.
America has always been very tolerant of debt. After all, many early settlers came here because it was a better alternative than the overflowing debtors’ prisons of merry old England. So it’s no surprise that our earliest laws provided for the orderly liquidation of debt for those who could not repay borrowed money.
First bankruptcy law: 1800
The earliest U.S. bankruptcy laws passed by Congress in 1800 provided that only a creditor could institute a bankruptcy against a person who failed to pay his debts. The laws were seen as protecting the interests of commerce and business.
The first national bankruptcy laws were enacted in 1800, and revised in 1841 -- after the depression of 1837 -- to allow a debtor to start the bankruptcy filing. But creditors complained this process favored the debtor, and the law was repealed in 1843.
Other laws came and went, influenced by the economy and power shifts between business and social conscience. Finally, the Panic of 1893 brought a new law in 1898, which became the foundation of our current bankruptcy laws. By 1915, the Supreme Court had validated those laws, saying their purpose was to protect “honest debtors.”
The Depression of the 1930s triggered a revision of the bankruptcy laws in 1938, and brought the creation of Chapter 13, a program by which debtors were supposed to pay a portion of their debts.
By 1978 another revision was enacted, Chapter 7, which allowed debtors to wipe their slate clean. The only exceptions were student loans (few in those days), some back taxes, alimony and child support.
Today the age-old American debate continues: How “easy” should it be to escape debt through bankruptcy?
Every debate had its own participants: failed farmers and failed businesses in the 19th century were replaced by failed investors in the 1930s, and by those burdened with uninsured medical expenses today. And business has always faced off against debtors, reminding everyone who would listen that the cost of write-offs is passed on to all consumers. Critics of today’s bill tend to be consumer activists who point out that big business and wealthy taxpayers use loopholes that remain in the bankruptcy laws to protect assets.
But one prominent financial services executive, Arkadi Kuhlmann, CEO of ING Direct, the largest online bank and fourth largest thrift in the country, has publicly broken ranks.
Among other things, he charges that the bill is actually bad for the financial services industry -- and the country -- because “it actually encourages further bad lending decisions by removing an important market discipline: the possibility of a clean bankruptcy.”
In other words, lenders will make more unwise loans, knowing that borrowers will have a tougher time erasing their debt.
The ultimate irony
If you find that ironic, here’s another irony to consider: The Senate bill mandates educational counseling for those who declare bankruptcy. But at the same time, the credit industry is dramatically cutting back on its funding of the major consumer credit counseling services. Their reason: They can’t afford it, because of rising credit losses.
In my opinion, if the credit industry wants to lobby a bill like this through Congress -- and the industry contributed millions to many campaigns -- then they should ante up at least that amount, and much more, to educate people about the dangers of debt.
That’s a debt the financial services industry owes to all Americans. And that’s The Savage Truth.
Terry Savage is a registered investment adviser, and appears weekly on WMAQ-Channel 5’s newscasts. Distributed by Creators Syndicate.