On the Move -- Again!

Progress moves one forward -- and sometimes, out.  Earlier this month, I learned that the building in which my Center City office was located had been sold.  The new owners sent around a memo to the effect that they had "different plans" for the structure.  Alas, it had come time for me to move on.

However, I'm excited to announce that, as of March 1st, I'll be doing business from my new office in Society Hill!  The new address is 525 S. 4th St., Ste. 240A, Philadelphia, PA  19147.  It's a comparable space in a quieter location.  And it has a window!  The phone number and all other particulars will remain the same.  I start the transition next week.  I'm hoping the new location will be more conducive to productive meetings and work, and I hope to be able to spend more time in Philly than I have in the past year or so.

A Plum Ripe for Picking

What if I told you there was a product that you could invest in that was in high demand by a large number of people, that would bring high returns for 10 to 20 years, and was guaranteed safe from risk from default by the Federal Government itself?  It would be a no-brainer to get in on this, wouldn't it?  Who wouldn't scramble to pick such a ripe plum?  You might think there is no such risk-free investment with guaranteed returns in our capitalist economy, but you would be wrong.  Such is the state of our current student loan marketplace.

It is estimated that there is approximately $1.2 trillion of outstanding student loan debt, and it has been projected that the increasing  likelihood of default by many people in the near future (given the changes in our economy in the past 7-8 years) will be the next economic crisis to face this nation. 

Student loan debt holds a unique place under the federal bankruptcy code -- it is presumed non-dischargeable.  Unlike most other unsecured debt, the only way to have it discharged in bankruptcy is to show that payback of the debt would create an extreme financial hardship for the debtor.  Courts almost invariably apply the standard set forth under the so-called "Brunner" test, or some slight variation of it: the court looks at your income, your past attempts to pay the loan, and the likelihood that the conditions causing your financial distress and inability to pay the loan will last through the duration of the repayment period.  Usually, this is possible only in the case of debtors who have suffered some kind of disability that would make them unable to ever provide enough income to repay the debt.  For most others, the debt is non-dischargeable.

Has this state of affairs always existed?  No.  In fact, before 1978, all student loan debt was dischargeable in bankruptcy.  That year, the legislature pass a law providing that a student loan debtor must have been paying on the loan for at least five years before listing it in bankruptcy.  This payback period was extended to seven years in 1990, and ultimately, in 1998, student loan debt was exempted from discharge under bankruptcy.  However, throughout all this, an exception to the code stated that only loans made under a “program funded in whole or in part by a governmental unit or nonprofit institution” were protected against bankruptcy discharge.  Meaning that only government guaranteed student loans were protected.  The rationale here was that guaranteed student loans have many different options for payback that take the debtors' income into consideration, and also, that the lender is protected against loss in the event of default.  However, there were numerous eligibility restrictions to qualify for such loans.

Finally, in 2005, the legislature gave the banking industry a huge gift, and made ALL student loans, regardless of source, non-dischargeable in bankruptcy.  This gift was unwrapped by some of the most predator lenders in the industry.  These lenders were now able to extend student loans to all comers at rates up to 12%, regardless of financial ability to repay -- although most will require a cosigner, usually a parent who is also then later dragged into financial distress.  In my practice, I see debtors who have a mix of private and government loans (the Federal government took over the afore-mentioned student loan guaranty program in 2010, and now administers student loans directly).  Invariably, it is not the government loans in deferment or adjusted payback status that cause my clients the greatest concern; it is the student loans from Wells Fargo, Citibank, and others that lead to judgments, wage attachments, and threats of property seizure.  These creditors can now be as aggressive in their collection activities as they wish, because they know that, however miserable they can make a debtor's life, the debtor must bend over and take it, because bankruptcy, usually the last option available to a destitute debtor, is not an option for them.  All this grief, because one wanted only to improve her station in life, and found too late that education is no longer a value-added asset for the throng of wage earners in our post-recession economy.

My advice to people contemplating returning to school is to keep your educational goals within your means.  Don't take out private loans!  A great number of people are eligible for the government Direct Loan program, and most state-funded colleges and universities are within reach utilizing these resources exclusively.  There are a great many highly acclaimed state institutions that can be attended using government loans -- such as my graduate school alma mater, Temple University.

But of course, most often I see people after they have strapped this monkey to their back. It is the most disheartening situation I see.  In at least one instance, a middle-aged client had to relinquish  the home and move back in with a parent, just to be able to have enough cash flow each month to pay for the student loans that were co-signed for an ex-spouse's education.  What kind of relief is that?

There are some recent developments that provide a glimmer of relief for student loan debtors.  In June 2014, the Eighth Circuit Court of Appeals issued an unpublished opinion in the case of Conway v. National Collegiate Trust.  In Conway, the Court rejected the notion that the court should consider different possibilities that might allow for repayment at some future date, deciding that such an exercise is "speculation."  The Court then based its decision to allow the discharge of student loan debt based on current circumstances. 

Another effort is now underway in the US Senate right now to revert bankruptcy exclusion for all student loan back to include only those made under government programs.  The bill, sponsored by Senator Durbin and twelve others, is an amendment to strike the phase, "or any other educational
loan that is a qualified education loan, as defined in section 221(d)(1) of the Internal Revenue Code of 1986, incurred by a debtor who is an individual" from 11 USC sec. 523(a)(8).  Time will tell how much pressure Wall Street will put on our legislature to kill this effort, and let live their goose that lays the golden eggs.

But still, it seems that their is an inherent inequality built into the current status quo.  Why are some kinds of borrowers treated differently than others?  Specifically, why are student loan borrowers denied equal protection under the bankruptcy code, whereas mortgage and credit card borrowers are not?  Could this distinction withstand a rational basis review under an equal protection examination?  Perhaps there is good public policy for exempting government-based student loans from discharge -- but can the same truly be said for private for-profit student loan lenders?

So I throw this question out for thoughtful discussion:  does the current bankruptcy code, which denies bankruptcy protection for student loan debtors (or at least, private student loan debtors) violate the Equal Protection clause of our Constitution? 








 

Consumer Alert -- New Kind of Scam

We've all received the phishing emails going around -- "your account with XYZ Bank has been frozen due to unusual activity -- click here fore more information."  Variants include purchase confirmations from ABC company for high-end items, unsolicited resumes from job-seekers, and many other enticements to get you interested -- or alarmed -- enough to follow a link or open an attachment.  They are often easily identified for what they are, because you've never had an account with XYZ Bank, or never ordered anything from ABC company.  (Or perhaps that's the draw, though -- playing on a fear of identity theft and someone else using your name to run up bills?)  However, I've become aware of a new type of scam showing up in email boxes, which I suspect is related to bankruptcy filings.

The hallmark of these new scam emails is their uncanny factual accuracy.  The messages contain an accurate name, last four digits of the recipient's social security number, employer's name, and a legitimate creditor and amount -- one that has been listed is a recent bankruptcy filing.  The amount of accurate information contained in these emails certainly lends to their authenticity, but they most assuredly are not.

I have been contacted by two separate bankruptcy clients who have received emails such as these within the past month, shortly after discharge of their bankruptcy.  Each were aware that creditors cannot continue collection activities on discharged debt, and contacted me with their concerns.  After reviewing the offending messages, I surmised that the scammers must have harvested information from the public filings contained on the bankruptcy case dockets.  Like most court proceedings, bankruptcy courts are open to the public, which is one reason why all filings must contain no more than the last four digits of a debtor's social number. 

But as with most email scams, the giveaway is in the language.  Here is a short example:

"We have sent you this warning notification about legal proceedings on December 8th, 2014 but you failed to respond us back on time. Now it's high time, if you failed to respond us in next 4 HOURS, then we will register this case in court house. Consider this as a final warning. And we will email/fax this issue to your current employer to make sure they take strict actions against you. Your salary wages will be garnished. This includes your Social Security/ Disability Benefits if you get from government."

The "notice" fails completely as a legally accurate threat -- or as a primer in English.

The takeaway from this is that, while bankruptcy remains the most certain method of ridding oneself of oppressive and overwhelming debt, the transparency of the process can lead to abuse by illegitimate collection activity.  You should know that past creditors may not attempt to collect on discharged debt.  If you receive one of these emails from an alleged creditor, you should contact your bankruptcy attorney for guidance.

 

Bankruptcy Gone Far Afield

Most bankruptcy cases are of short duration, with definitive ends, particularly chapter 7 cases, which can usually be resolved within four months or less.  Every once in a while, however, a bankruptcy can take on new life in unexpected way.  Such is the matter I'm now involved with.

Several years ago I managed a chapter 7 case for a New Jersey couple who owned property in a managed community.  The housing crisis was in full swing at the time, and because the property was under water, I recommended that they not reaffirm the mortgage, but just pay it through the bankruptcy, as can be done with secured real property.  But several years later, they decided they could no longer keep paying the mortgage, for several good reasons, and they notified the current mortgage company (who had come to administer the loan through the consolidation of several lenders) that they were vacating the property and would make no more payments.  Nevertheless, they kept in the back of their mind that they might try to put it on the market, so they regularly returned to check up on the property, maintained the area, and generally made sure the property was maintained.  They also made regular payments to the home owner's association.

Almost a year into this arrangement, the couple showed up at the house one day to find the locks on the door had been changed, and a no trespassing notice had been attached to the property.  Well, at this point, the they decided that the mortgage company could have at it, and ceased making any effort at maintenance or keeping up with any accounts associated with the property.  Two months later, foreclosure was filed, which was the mortgage company's right, and a default was entered against the couple eleven months later.

However, two months following the entry of default, the couple was served a complaint filed by the home owners association seeking all the association fees due since the couple was locked out.  This is where I got involved.  Normally, only HOA fees that have accrued prior to the filing date are discharged in bankruptcy, and any assessed fees that become due after the filing date are not discharged.  I felt this was a special case, though, because the couple had been put out of possession by the mortgage company, and I agreed to defend against the HOA suit.

In the couple's defense, we raised the defense that when they had been locked out, they were no longer members of the association and thus, not subject to the association due.  Additionally, we raised an affirmative defense to the effect that a third party, i.e., the mortgage company, who not part of the suit, was liable over to the couple for payment of the fees, because they had taken possession of the property.  Ultimately, we came to the conclusion that it might be better if we simply pled the mortgage company into the case as a third-party defendant, so we did, and served our third-party complaint on their headquarters out in the Midwest.

The mortgage company was not amused.  In response to our complaint, it filed a motion to dismiss, arguing that the case was a matter of contract, and that the couple had agreed to pay all the HOA fees as part of the mortgage documents, and the matter of liability was open and shut.  In response, we argued that New Jersey case law has clearly established that a mortgagee who takes possession of a property in default has a duty to act as any prudent owner would, and there is a duty to maintain property, pay taxes, etc.  It just wasn't clear whether HOA fees were covered under that general policy, even as we argued that a lockout is nothing less than total control and possession over the property, and such expenses should be included.

The judge agreed with us, and explained his reasons in an detailed attached opinion.   

Now, I do very little HOA or condo law, but I've been told by others that this ruling is a Big Deal, because no other opinion has held just this.  Just imagine how many people get turned out of their homes because of economic reversals -- only to be faced with further expense from the condo association because the mortgage company drags its feet through the foreclosure process.  And if mortgage companies continue to do as they do, they may, under the right circumstances, face the prospect of extra liabilities and expenses resulting from their lackadaisical attitudes.  After all, HOAs seeking compensation for service would have much deeper pockets than those of bankrupt homeowners to dig into.

I do not know yet how the rest of the case will proceed from this point forward, what final judgment will be entered and whether this particular decision goes up on appeal.  But it is somewhat humbling when you realize just what potential impact a $4,100 claim filed in the Special Civil Part may have.

Discharged Debt as Imputed Income?

I recently had a client contact me who had just gone through bankruptcy and received a discharge a few months earlier.  She reported that she'd received a 1099-C form from one of her larger creditors, and it looked like they were reporting the discharged debt as imputed income.  Her question was whether she needed to pay income tax on this cancelled debt.  The answer was no.


A limited class of creditors are permitted to send 1099-C forms to debtors who receive cancellation of their debt through bankruptcy, usually those that receive most of their most of their profit from the lending of money.  The debt cancellation has an obvious tax benefit to the creditor.  In this instance, the creditor was an "investment group" that "invested" in the purchase and collection of old debt.  However, regardless of whether the 1099-C issued by this particular creditor was proper or not, the amount of declared cancelled debt would not be imputed as income to the debtor.  Here's what the IRS has to say about debt discharged through bankruptcy:

Debt canceled in a title 11 bankruptcy case is not included in your income. A title 11 bankruptcy case is a case under title 11 of the United States Code (including all chapters in title 11 such as chapters 7, 11, and 13), but only if the debtor is under the jurisdiction of the court and the cancellation of the debt is granted by the court or occurs as a result of a plan approved by the court.

IRS Publication 4681, p. 5.  To declare the cancelled debt as being excluded from income by reason of bankruptcy, taxpayers must complete and file form 982 with their returns.

As an aside, even cancelled debt not obtained through bankruptcy may be excluded from income, if the taxpayer is "insolvent" prior to the debt being cancelled.  Insolvency is determine by a calculation of debt versus fair market value of your assets.  More information regarding this exclusion from income is given at the link provided above.


The bottom line is that, once a debt is discharged through bankruptcy, it is gone.  Even if the creditor wants to take a bite out of Uncle Sam to get some of it back, the debtor is off the hook.

Keeping Your Vehicle Through Bankruptcy

One of the questions most people ask when discussing bankruptcy is whether they can keep their car or truck if they file for bankruptcy. The answer, in most cases, is "yes."

The theory behind bankruptcy administration is that the Trustee takes possession of all your assets and distributes it among your various creditors. In application, the Bankruptcy Code allows a debtor to exempt certain items of property, up to a certain value, from the bankruptcy estate. The values change from time to time, but in most cases, I find that a debtor can exempt all of their assets from seizure. But motor vehicles are also open for special treatment.

If you own your vehicle outright and its value falls at or below the exemption limit, then the solution to keeping the vehicle is simply a matter of exempting it from the bankruptcy estate. The complications arise when the debtor still has an outstanding loan on the car.

The Bankruptcy Code allows a debtor to “reaffirm” an auto loan. This means that, even though the loan could be discharged through bankruptcy, the debtor has chosen to assume liability for the debt once the bankruptcy is completed. It’s as if the auto loan was untouched by the bankruptcy process. It also means that if the debtor defaults on the loan following discharge of the other debt, the loan company can still repossess the vehicle and seek judgment for a deficiency after the vehicle is sold at auction.

Sometimes the vehicle is worth more than the remaining loan balance. This is a fairly rare occurrence, but when it happens, the solution is to find where the equity can be exempted under the Code. Usually, if the equity is just a few thousand dollars, the exemption can be found.

More often, the loan is significantly more than the value of the car. When this happens, another possibility opens up – reducing the actual balance of the loan and paying that amount to the creditor in exchange for free title to the vehicle. In this way, the debtor can realize significant savings in the total cost of the vehicle. How the reduction is made differs between a chapter 7 or chapter 13 bankruptcy.

In chapter 13, the debtor petitions the court to determine the retail value of the vehicle, and the secured amount of the auto loan is “crammed down” to the determined value. This value is entered into the repayment plan as a secured debt and would normally be paid off entirely, while the remaining amount of the loan is treated as unsecured debt, which may or may not be paid off through the Plan. One caveat to this option: cramdown can only be used if you have already owned the vehicle for a minimum of 910 days, or 2 ½ years.

In chapter 7, the process is different, and is referred to as “redemption” of the collateral (the vehicle). The theory is that the lender can repossess the vehicle upon default and sell it at retail value. But it cannot seek a deficiency from the debtor for the remainder of the loan amount, because that obligation was discharged by the bankruptcy. The resale amount is all the lender can expect to recoup from repossessing the vehicle. The process of redeeming the vehicle loan gives the debtor the opportunity to purchase the vehicle from the lender at an amount the lender could expect to receive at resale. Like the chapter 13 cramdown, redemption can allow the debtor to realize a significant reduction in the total purchase price of the vehicle.

Unfortunately, most chapter 7 debtors do not have an extra several thousand dollars available to pay to the lender. As a result, redemption is rarely used, and the debtors most often rely on the reaffirmation process to keep their cars. In some instances, though, the debtor may turn to a redemption loan company to borrow the money necessary to purchase the car. If qualified for such a loan, the debtor would petition the court for an order determining the retail value of the vehicle and allowing them to take out a loan to redeem it. The whole scheme must be in the debtor’s best financial interests for the court to approve it.
So, there you have it. In most instances, a debtor can keep their vehicle when they file for bankruptcy, and in some case, actually realize a significant savings over the total purchase price of their car. When discussing your potential bankruptcy, an experience attorney should be able to discuss these options with you and be willing to work the necessary calculations and tactics to your advantage. If not, look for another attorney.

Commentary -- Bankruptcy as a Pro-active Financial Tool

BANKRUPTCY.  The word tends to conjure up images of moral turpitude, lack of character, and failure.  This attitude, though, has no basis in fact.  Bankruptcy as a legal process was well-known at the founding of our nation, and is provided for in our Constitution.  Even long before that (if one seeks counsel in the Bible), Deuteronomy 15:1 admonishes creditors that "[a]t the end of every seventh year you must cancel the debts of everyone who owes you money."  "Moral turpitude," indeed! 

The economic climate since 2008 has wreaked havoc on the financial stability of most of our citizens.   The failure of our economy to sustain growth has resulted in the elimination of many good jobs capable of supporting a family, the devaluing of real estate that many borrowers were told could form the basis of an investment, and the shrinkage of many, many other financial investments made by ordinary people, under the guise that the firms handling those investments would hold the investors’ interests above all else.  As a result, way too many family homes have been lost through foreclosure, in some instances enough to blight entire neighborhoods; retirement and other savings have been wiped out; unemployment and the inevitable credit defaults have risen to an all-time high.  The fault is not all due borrowers' unrealistic desire for "more, bigger and better."  To a large extent, much of the blame must fall squarely on the shoulders of government fiscal policy, deregulation, creditors' greed, and – well, the greed of the financial sector in general.

The promise to repay a debt is not a moral obligation, it is a contractual one, based on realistic financial considerations. It is an agreement between two parties, both of which are theoretically capable of dealing with each other as equals.  It is based on certain financial assumptions, i.e., that the parties will deal fairly and squarely with each other, that the lender has the ability to provide that which the borrower desires, and that the borrower has (and will continue to have) the ability to repay the debt according to the agreed-upon terms.  Most of the time, the agreement works out more-or-less to the benefit of both parties.  But what happens when one or more of those assumptions change?

In contract law, "impossibility of performance" may sometimes be a valid defense.  But not when applied to credit and debt collection.  What is the fate of the person who loses his job and can no longer repay the debt under the terms set by his creditor?  What defense has the small business owner whose lender, sensing a weakening economy, withdraws the line of credit, thus cutting off the business’s oxygen and leaving nothing but debts?  Under our current laws, inability to pay is NOT a defense.  The creditor retains the legal option of forcing payment, by levy and seizure of assets and wages, and in some US jurisdictions, by imprisonment.  SEE:  Debtor's Prison   

Bankruptcy provides a debtor with legal protection against the rapacious creditor who demands performance of the credit agreement despite the debtor's inability to perform.      

Make no mistake, the bankruptcy laws do not operate solely for the benefit of Joe Average citizen and his family.  Many others have filed for bankruptcy, including presidents Grant and McKinley, Mark Twain, Henry Ford, Walt Disney, and numerous other well-known and respected people.  Bankruptcy relief has also been sought and granted to some of the nation's largest corporations.  Can any one name a major airline carrier that hasn't been in and out of bankruptcy at least once?  Chrysler, CITgroup, Trump Resorts, the Philadelphia Inquirer – all have petitioned for bankruptcy relief recently.  It was once said that "what's good for GM is good for America" – and bankruptcy restored GM to financial health.  THAT is the purpose of bankruptcy.    

The recent economic crisis has been like a tornado tearing at our financial expectations, and it has taken its toll on everyone, big and small.  Many feel that the worst is over, and recovery is on its way.  One of the first tasks of recovery, though, is to clean up the debris left in the wake of the disaster.  Part of preparing for a new financial future is jettisoning the oppressive and useless burden of old debt.  Once unencumbered by the global excesses of the past, one can move forward into a brighter future.  Bankruptcy is the legal tool specifically designed for that task.

Bankruptcy --  moral turpitude and failure?  Not at all!  In the right circumstances, it can be sound financial strategy.