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Study: 2005 bankruptcy law changes didn't deliver for creditors

Back in 2005, the credit industry lobby succeeded in pushing amendments to U.S. bankruptcy law through Congress. The argument creditors made at the time was that there were a lot of consumers who could pay, but who were using the bankruptcy system to discharge debts.

Well, a new study funded by the American Bankruptcy Institute finds that the concept was apparently flawed. It turns out that the amounts that creditors actually have recovered since the law took effect have declined. In the author's words, "there were no winners."

As some Arkansas readers may know, provisions in the new law set a "means test" for individuals considering filing for Chapter 7 bankruptcy. If a person doesn't meet the requirements, Chapter 13 becomes a possible fallback position.

According to University of Maine Law Professor Lois R. Lupica, the study's author, the 2005 changes were meant to drive consumers away from Chapter 7, in which debt is ultimately discharged, into Chapter 13, which allows for a structured payment plan for a set number of years. The logic from the industry perspective, she says, was that creditors would get something, rather than nothing, from those who could actually pay.

What she found, though, was that creditor recovery of unsecured debt fell by a "statistically significant" amount after the law took effect. It didn't matter if the consumer filed for Chapter 7 or Chapter 13. She says even creditors with collateralized debt didn't benefit.

The recent housing crash and Great Recession may explain that to some extent. But Lupica says the law change also eroded recovery by creditors because of higher bankruptcy administrative costs.

Filing for bankruptcy can be disconcerting. The process is complicated and can be frustrating, especially if you don't have experienced legal help. Those considering their debt relief options should always consult an attorney so they can make the decision that's best for them.

Source: Bloomberg, "Study Finds 2005 Code Reform Cut Recoveries: Bankruptcy," Bill Rochelle, Nov. 26, 2013

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