Karma in Bankruptcy, or the Lack Thereof

This week, I was working on a Reaffirmation Agreement. A Reaffirmation Agreement basically extends a contract through a bankruptcy. In Chapter 7, the bankruptcy discharge is very broad, and it will sever almost all obligations, include auto loans. In order to keep a car that one is making payments on in Chapter 7, a debtor has to Reaffirm the debt. By Reaffirming, the debtor is taking on all the obligations and risks of the contract, including liability if the vehicle is repossessed.

The Reaffirmation Agreement in question was with Chrysler Financial. The interest rate was a usury-level 23%, so I contacted the creditor to attempt to negotiate a lower rate. After all, if the debtor doesn't reaffirm, the creditor will just take the car back and notch a big fat loss in their ledger. The response: "Chrysler Financial does not negotiate on reaffirmation agreements."

F*ck you Chrysler. (I do realize that Chrysler Financial and Chrysler the auto company are different, but *vent rage*).

Bailout funds + Chapter 11 and you won't negotiate? I wish your bond holders had liquidated you. I wish they had said "We don't negotiate" and drove you to Chapter 7. Their stance only makes sense if they presume a debtor needs/wants the car. At 23% interest, my recommendation was to dump it; a Buy Here/Pay Here place would charge them the same, or perhaps even less in interest. Sadly, the debtor wants to keep it. Personally, I would have told Chrysler where to stick it.

I hate creditors, especially when they are simply patently unreasonable.

More Foreclosure Fun!

Today the Washington Post has an article that I find interesting. The article discusses th eMaking Home Affordable program, i.e., the "massive financial incentives to do loan modifications" program. In sum, it's working as well as a screen door on a submarine:

So far, more than 650,000 borrowers have been enrolled into the initial, or "trial," phase of the program and have seen their payments lowered by an average of $640 a month, or 40 percent. But a recent survey of large mortgage servicers published by the Treasury Department found that that more than 25 percent of borrowers in the program were not current on their trial payments.

The failure rate is no surprise. There's a very good reason why most of these mortgage borrowers are behind - they either cannot afford any payment, or they are so financially irresponsible that it doesn't matter what their budget it - they are going to screw it up.

As a bankruptcy attorney, I see new potential clients daily who are substantially behind on their mortgages; it is not uncommon for me to meet folks who are 6 to 10 months behind in their mortgages, with nothing to show for it. Where, oh where, did that $6,000 to $20,000 go? The answer, sadly, is that the money is up in smoke.

As a bankruptcy attorney, I enjoy my job - I can do a lot for people, saving homes and absolving folks of sometimes ludicrous amounts of debt - but at some point folks need to think for themselves.

While I am on an anti-debtor rant, I'll throw in two more for fun:

Defective Paperwork Strips Mortgage Holder of Foreclosure Rights!

Judge Cancel's $525,000 mortgage as sanctions!

At least there may be some relief in foreclosure defense.

Foreclosures and Bankruptcy

Lately (and I will not support that statement with links or evidence), there seems to be much ado about homeowners, foreclosures, and what we can do to prevent these two things from coming together. From Obama's loan modification plan to Chapter 13 bankruptcies, there seems to be a glut of people trying to save their homes.

From my position, I can't help but wonder why. During the last ten years or so, with the real estate and lending markets going completely bonkers, there have been literally millions of bad loans written - loans were there was insufficient equity in the property to secure the loan, where the debtors had insufficient income to support the loan, and loans were every bit of information on the loan was false, fraudulent, or misrepresented. The real estate agents, brokers, lenders, and everyone in between was complacent if not fully complicit in writing and securing these "toxic" mortgages. (Update: 1 in 4 mortgages are underwater!)

And now those seeds have come to bear fruit. Almost every mortgage and almost all the real property I see coming through my office is a negative equity situation. Basically, any property purchased in the last 5 years is going to be underwater - that is, the balanced owed is more than the sale value of the property today.

The issue is simple - people are chasing smoke, in situations where they will not have home equity for a decade or longer. A decade of interest payments, and of principal payments that aren't building equity.

The solution is even simpler - foreclosure. Oh, but what a bitter pill! Let it go to foreclosure, then on the oft and rare chance the bank decides to bring a deficiency action, obtain good legal counsel or file for bankruptcy. Dump the McMansion with the negative amortization loan and rent a nice apartment for half or two-thirds the cost. Save that money - the money that would go to rent for the twelve months or longer that it would take to foreclose, and the difference of your eventual rent cost against your previous mortgage - save that money, and in a few years, you'll have $25k to $50k for a nice, safe, traditional mortgage.

The plus side - and there is one - is that you'll get to stick it to the man. I'm a fan of capitalism; I find no evil in making money. However, our current hybrid capitalism/socialism system, where profits are privatized and losses are subsidized, serves to line the pockets of those who don't deserve it while penalizing everyone else. For capitalism to work, there needs to be consequences. You write a bad loan, you take the loss - the necessary corollary to the idea that if you write a good loan, you take the profits. Instead, our current state lets the government (i.e., the taxpayer) take the loss instead. Heads they win, tails we lose.

The reality of this situation is that, if you are going through foreclosure, you cannot afford your home. Your $2,000 mortgage payment on your $3,000 monthly take-home income is unfeasible and unsustainable, and will continue to be for the foreseeable future. It is time to stop subsidizing these bad loans and losses, and let these folks reap what they have sown.

Bankrupt means having insufficient funds to pay your creditors - being insolvent. The number of people who file bankruptcy is but a small portion of the people who are actually bankruptcy. What we, as a society and as an economic system, need is more bankruptcies. More bankruptcies equal more losses and a greater deterrent to writing bad loans. Nobody - and I don't care if you're Bill Gates - needs a $50,000 credit limit.

The credit system - from mortgages to car loans to credit cards - is fundamentally flawed; the foundation is rotten. Financially, the system needs to be leveled to the bedrock and rebuilt, into a system that rewards those who manage their money wisely and punishes those who wield it recklessly.

The Hard Way . . .

I caught this article the other day, and I'm still amazed at how hard-headed and, well, dumb these people are.

Quick summary: four person household, $106,000 in GUC (general unsecured debt), no major assets. They spent five years funneling $2,000 a month through CCCS to pay off their debt.

Several family friends recommended that they file for bankruptcy. That was out
of the question, Russell says. "We were committed to paying off our debts."
They also resolved to continue to tithe and home-school their daughters.

Now, without knowing the exact details, I can't be sure of where they would fall on the bankruptcy continuum, but I image it would either be (a) a Chapter 7, or (b) a low-payment Chapter 13. Under federal law, they would be able to continue their tithing, and the extra educational expenses from home-schooling can be included, to a limited extent, under the Form 22 means test.

So, this couple spends five years scrimping and saving, working two jobs, the husband rarely seeing his family, just so they can get out of debt. While admirable, it is also silly and ignores the point and policy of bankruptcy law. It would be the equivalent of cutting down a redwood with a handsaw, or tunneling through a mountain with claw hammer. Sure, it is possible, and it is one hell of an achivement, but why would you do it?

I get really tired of people who look down on bankruptcy. It isn't theft and it isn't a moral failing. In life, things happen that you can't control. For that family, medical bills and indiscretions killed them financially. So, Congress, in its infinite wisdom, has provided a way out of debt, for a fresh financial start. They then chose to ignore that start and go the hard way.

There's a term for that: pride. Also, masochism.

Now, as a bankruptcy attorney, I have a somewhat cavalier attitude toward the entire process. However, I can't help but wonder what the family could have accomplished had they filed bankruptcy, then put for that same effort toward rebuilding their credit and for the health and welfare of their family.

For starts, the could have likely paid off at least half their mortgage. Or, the could have greatly improved the quality of life for their friends and family.

Bankruptcy is designed to help people. It really bothers me when people look down on the helping hand and benefits of bankruptcy. In my own experience, I've done more good for more people in bankruptcy than I ever did volunteering in college or working in family law in the Domestic Violence clinic in law school.

Nonsense and Bankruptcy Exemptions

I've come to realize that my posts are lacking a certain amount of polish and coherence, so I have decided to make an effort to post more often and to make my posts more pithy and generally more intelligent. After all, I can write very well when I put for the effort.

Now, some more on bankruptcy exemptions.

The Illinois Homestead Exemption, or . . .
punishing those who actually try to pay for their homes.

I touched on this topic with my last post. Bankruptcy clients in the current real estate market (read: down the drain and minced in the garbage disposal) either have (a) zero equity or negative equity, or (b) a ton of equity.

Rarely is there a situation, in my experience, were a debtor has, say, $50k in equity. Most often, in those situations, the debtor would have already tapped that with a HELOC or other form of second mortgage. While practical in theory, these "debt consolidation" 2nd mortgages are just a way to eat into home equity while preserving the unsecured lines of credit that debtors horribly mismanaged in the first place and will quickly resume to horribly mismanage.

In Illinois, the homestead exemption is $15,000 for an individual, and $30,000 for a married couple. Federal exemptions are worth $20,200 , and the rest very by state. Some are as high as $100k or even unlimited (Arizona and Texas, respectively).

So, in general, Illinois has dinky exemptions.

As a policy standpoint, these exemptions do not encourage people to build equity in property, since it it easy to lose your home in the event of misfortune. I had a client who had over $100k in equity, but minimal income sufficient only to pay the small mortgage on the property. The debt level was median, between $40k and $75k, with a judicial lien.

If she had been mortgaged to the hilt, we could have filed ch. 7, avoided the judicial lien, and made her life easy as pie. Instead, she's looking at a 100% repayment ch. 13 at over a $1,000 a month (unfeasible and unaffordable). Or she can sell the house and loose that which she struggled long and hard for.

The results are simply not fair and, more importantly, do not serve the purpose of bankruptcy. One's home is one's castle, and, unfortunately in Illinois, your gate is down if you have equity.

The Lameness of Exemptions in Illinois

In bankruptcy, certain property is exempt from a trustee's taking. Under the Illinois code, 735 ILCS 5/12, certain things of value are exempt. The most typical examples are as follows:

• Homestead Exemption, 735 ILCS 5/12-901: $15,000 of equity for your residence ($30,000 for married couples)
• Wearing apparel, school books, Bible, and family pictures. (735 ILCS 5/12-1001)
  
• Motor vehicle equity: $2,400 (735 ILCS 5/12-1001)
• Trade tools and implements: $1,500 (735 ILCS 5/12-1001)
• Personal Property (divisible): $4,000 (735 ILCS 5/12-1001)

It is time to revisit these exemptions. They have been revised in 2006 and 2008, but they are still too low from a policy standpoint.

For exampe, as a bankruptcy matter, the homestead exemption is either irrelevant or not nearly enough. Debtor generally can't manage their finances at all (i.e., underwater on their 12% adjustable 10 year balloon mortgage) or have some recent disaster (medical illness or job loss) that causes bankruptcy. So when the homestead exemption actually is useful, it isn't enough.

A good example is someone I met with a few weeks ago. Age 62, married, not eligible for medicare or medicaid, no health insurance, pre-existing medical conditions, etc. House is worth $200k (typical for the Chicago suburbs) and is paid off. He keeps food on his table and the lights on because his mortgage is paid off. His $60k in medical bills is either (a) a Chapter 13 payment that is way too high for him to afford at 100% repayment, or (b) requires him to sell his home to pay off, or (c) requires him to take out a HELOC, with payments he can't afford and a credit history that means most banks won't lend to him, despite a 100% security interest.

A chapter 7 would help him out tremendously - except the trustee would sell his house. The solution is simple: let's thriple the homestead. Going to $50k/$100k would help families protect hard-won equity and still give them major protections in bankruptcy.

Another good example of how the exemptions are terrible is blue-collor industry - truckers, landscapers, and the like. These folks are selling their skills, essentially. To use their skills though, they need certain expensive equipment. That equipment makes Ch. 7 generally a bad idea. If your truck is worth $40k, or your landscaper is worth $25k, then it is going to be vulnerable to seizure. Generally, these are the things that those in those industries pay off first, to save on expenses. Paid-off equipment is another $1,000 a month or more in the bank.

Their white-collar conterparts (real estate brokers, attorneys, computers, accountants) who are also in the business of selling their skills, can file ch. 7 much easier, then restart their businesses with even less of an issue.

The solution: make the trade tools exemption unlimited, or nearly so. If you need something to secure your livelihood, exempt it permanently. Don't take someone's fishing rod when they need it to eat.

Irony and Reality at Whole Foods

From John Mackey's Op-ed in the WSJ:

The combination of high-deductible health insurance and HSAs is one solution that could solve many of our health-care problems. For example, Whole Foods Market pays 100% of the premiums for all our team members who work 30 hours or more per week (about 89% of all team members) for our high-deductible health-insurance plan. We also provide up to $1,800 per year in additional health-care dollars through deposits into employees' Personal Wellness Accounts to spend as they choose on their own health and wellness

And the fallout.

Reading both articles is rather poignant for me. One of my most recent cases is for a client employed, full-time, at, you guessed it, Whole Foods, for the past several years. Her primary reason for bankruptcy is medical bills. HSA sucks when the deductibles run in excess of $40,000. That "up to" $1,800 a year won't even put a significant dent in those debts.