Bar News - January 16, 2009
Credit Cards and Bankruptcy: Opportunities for Reform
The following is an excerpt of testimony by John Rao, director of the National Association of Consumer Bankruptcy Attorneys before the Senate Judiciary Committee on Dec. 4, 2008. Click for the full text, including footnotes.
John Rao: Senator Whitehouse, thank you for holding this hearing and for inviting us to testify today regarding ways in which bankruptcy laws can be improved to encourage reform of credit card practices and to help consumers in dealing with payment of credit card debt.
My testimony is based in part on over 25 years’ experience representing consumers in debt collection, bankruptcy and foreclosure defense matters, initially as an attorney with Rhode Island Legal Services and head of its Consumer Unit. In this work I encountered numerous clients whose problems with payment of credit card debt caused them to seek bankruptcy relief. In addition to my current work at NCLC in which I train and consult with attorneys, credit counselors and housing counselors throughout the country on a variety of consumer matters, I continue to assist attorneys at Rhode Island Legal Services with bankruptcy and foreclosure cases.
In my experience working with consumers when at Rhode Island Legal Services, and in my continuing work with advocates nationwide, I have found that many consumers use credit cards as a safety net, to make essential purchases that they are unable to pay in full on a cash basis. Living paycheck to paycheck, these consumers often lack savings to cover unexpected expenses. In a recent national survey of indebted low and middle income households, seven out of ten households of all ages reported using their credit cards as a safety net, relying on cards to pay for car repairs, basic living expenses, medical expenses or house repairs.
It is also my experience that few consumers borrow money on credit cards without intending to repay it. The Federal Reserve Board acknowledges this in its report requested by Congress after enactment of the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA). These plans to repay, however, easily change, often due to unforeseen, adverse events such as illness or divorce.
Other consumers fall into traps set by credit card companies and do not always know that they are borrowing at an unaffordable pace. Even small setbacks, such as using a credit card for a supply of prescription drugs or to repair a home furnace, can send consumers into a spiral of late fees, over-limit fees and increased interest rates that become impossible to escape.
Specific Practices That Harm Consumers
Credit cards provide a great convenience for many consumers. The danger comes from the borrowing features of credit cards, the exorbitant costs of borrowing, and the downward spiral that hits consumers once they get into trouble.
Credit card companies push consumers into borrowing because they derive profits mainly from consumers that use their cards to borrow ("revolvers"), not from convenience users who pay off their cards. As discussed above, income loss and increased expenses lead to shortfalls that many consumers attempt to make up by using credit cards. To make matters worse, credit card companies aggressively sell the borrowing features of the cards and push convenience users into borrowing. Companies do this by increasing consumers’ credit limits, and encouraging them to take cash advances at high rates or to increase spending to get rewards. All of this is done with little attention to whether the consumer can actually afford to borrow at these rates.
Credit Card Accounts in Bankruptcy
Consumers file bankruptcy as a last resort. By the time they do file bankruptcy, their pre-bankruptcy payments have been diverted away from paying off their charge balances for so long that account balances are typically loaded up with interest and fees.
And once consumers file a chapter 13 case and their delinquent debt is sold at pennies on the dollar, creditors will not allow consumers to pay off the debt for that amount or some reduced amount. To compound matters, debt buyers routinely file claims that do not have documentation and are difficult to verify.
The current economic crisis has made it even more impossible for many consumers to repay debts. Declining property values and the home foreclosure crisis have eliminated the option many consumers previously used to repay credit card debt by cashing in on home equity.
Now more than ever Congress should enact laws which encourage credit card companies to work with payment troubled consumers, and most importantly, to limit excessive interest and fees. We believe that S.3259, introduced by Senator Whitehouse, is a strong step in that direction.
By requiring that claims filed on "high cost consumer credit transactions", as defined in S.3259, are subordinated to all other claims in a bankruptcy case, the bill will give the credit card industry an incentive to keep interest and costs below the definitional trigger. S.3259 also provides that the means test under section 707(b) of the Bankruptcy Code would not apply if a consumer’s bankruptcy filing "resulted from a high cost consumer credit transaction." We also support this provision as it would help some consumers avoid potential litigation costs in proving that a bankruptcy filing was not abusive.