Do ‘No Money Down’ Bankruptcies Help or Hurt Debtors?

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By Diane Davis

The “no money down” bankruptcy, where debtors pay nothing in attorneys’ fees before filing for Chapter 13 bankruptcy, is a nationwide phenomenon reshaping the consumer bankruptcy system.

Chapter 7 bankruptcy, in contrast, requires the immediate payment of attorneys’ fees.

Though “no money down” might sound like a good idea to the broke consumer desperately thinking about filing for bankruptcy, empirical data from a recent national study suggests that “no money down” filers pay $2,000 more and have their cases dismissed at a rate 18 times higher than if they had filed Chapter 7. That means they don’t get the relief from the debt that prompted them to file bankruptcy in the first place.

Researchers who have been studying people who file Chapters 7 and 13 in a long-term consumer bankruptcy research project recently released a report entitled “‘No Money Down’ Bankruptcy.” Authors Pamela Foohey, Robert M. Lawless, Katherine Porter and Deborah Thorne raise questions about how people access the bankruptcy system and the extent of the benefits they get from it.

“The study is an important addition to a growing and persuasive body of research showing that personal bankruptcy law is not race-neutral in application, even if individual professionals have no express intent to discriminate,” Melissa Jacoby , a law professor at University of North Carolina at Chapel Hill who teaches bankruptcy law, told Bloomberg BNA March 13.

Jacoby was a co-principal investigator on a 2007 multi-researcher, long-term project to understand the people who file bankruptcy and why, but had no role in the current study.

The current study analyzes data from 2007, and 2013-2015, which allows for the collection of data on a continuing basis and the creation of a database that “incrementally builds” and will allow for comparisons over time, the report states.

“The authors and principal investigators are among the most careful demographers of consumer bankruptcy working in the field today, and the model of collecting a national random sample, as is done here, is imperative—particularly given that the government sharply limits the demographic information it requires on bankruptcy petitions,” Jacoby said.

Flaws in the System?

The “no money down” bankruptcy is a “buy now, pay later,” scheme that is “economically inefficient” but also affects consumers’ “access to justice,” the report concludes. More than one million people file bankruptcy every year, according to bankruptcy statistics from the Administrative Office of the U.S. Courts.

The purpose of the report isn’t to criticize or point fingers at bankruptcy attorneys who are the “gatekeepers” to the system, but to “open up a conversation about what will make the bankruptcy system more effective for the stakeholders in it,” Professor of Law Robert Lawless, of the University of Illinois College of Law, Champaign, Ill., told Bloomberg BNA March 8.

Stakeholders include attorneys, judges, advocates, trustees and debtors, he said.

The empirical data from the study is a national random sample and shows patterns across the entire country, Lawless said.

The data reflects “the present world as it is,” Associate Professor of Law Pamela Foohey, of the Indiana University Maurer School of Law, Bloomington, Ind., told Bloomberg BNA March 10.

There has never been a national study on this topic, Foohey said. The study “goes where the data takes you,” she said.

The data shows that we have an inefficient bankruptcy system, Foohey said. “Money is influencing access to the legal system that helps people deal with money problems,” she said.

Choosing Which Chapter

In Chapter 7 bankruptcy, a debtor gets a quick discharge —his or her debt is wiped out—but must give up assets that aren’t exempt. In Chapter 13 bankruptcy, a debtor must make monthly payments to complete a three-to-five year repayment plan before receiving a discharge, but most debtors can keep property like their homes and cars as they make plan payments.

Typically, debtors pay an attorney an average of $1,229 up front before their attorney files a Chapter 7 bankruptcy. Attorneys charge an average of $3,217 to file a Chapter 13 bankruptcy because it is more complicated than filing a Chapter 7 and takes longer, but debtors can pay attorneys’ fees over time as part of their case.

More than 95 percent of people who file under Chapter 7 receive a discharge, whereas only about one-third of debtors in Chapter 13 cases end in a completed repayment plan so that they receive a discharge. Most Chapter 13 bankruptcies end without debt forgiveness, according to the report.

Most people who need to file bankruptcy will hire an attorney. As a result, attorneys play a significant role in determining which chapter of the Bankruptcy Code their case is filed under.

The two most significant predictors of whether a consumer files a “no money down” bankruptcy are a person’s place of residence and a person’s race, according to the report. Debtors who live in judicial districts with high Chapter 13 filing rates are more likely to file “no money down” cases, and African Americans are more likely to file “no money down” Chapter 13s than other debtors, the report says.

ABI’s New Commission

The timing of the research study coincides with the American Bankruptcy Institute’s March 13 announcement of the creation of a commission to modernize the consumer bankruptcy system “with practical and cost-effective recommendations.”

The commission, which will be co-chaired by retired bankruptcy Judges William Houston Brown and Elizabeth Perris, will consist of 15 experts who represent various stakeholders in the consumer bankruptcy system. One of the study’s authors, Robert Lawless, is the commission’s reporter.

The commission expects to issue a final report in December 2018.

The “No Money Down” study is an “important empirical work” of “careful and fair scholarship,” Prof. Angela Littwin, of The University of Texas School of Law, Austin, Tex., told Bloomberg BNA March 13. Littwin studies bankruptcy, consumer and commercial law from an empirical perspective. She was a principal investigator on the 2007 consumer bankruptcy project but wasn’t involved in the current study.

The ABI’s commission will find the study useful and will take it “seriously” when making their policy proposals, Littwin said.

Attorneys as Gatekeepers

Attorneys play an important role in bankruptcy as they are the “gatekeepers” to the system, Lawless said.

Attorneys have a duty to advise clients which bankruptcy chapter to file under based on the best interests of the client, Lawless said. The “no money down” Chapter 13 filing may be in the client’s best interests in that particular case, he said.

“No money down” Chapter 13s, however, create a “fundamental tension between attorneys’ and debtors’ interests, the report states. Attorneys may prefer that their clients file under Chapter 13 even if some debtors can pay attorneys’ fees up front. They spend more time on Chapter 13s than Chapter 7 cases, which allows attorneys to charge their clients more money.

“‘No money down’ Chapter 13 simply is good business,” according to the report. Based on the data, attorneys may be placing their business interests above their client’s financial interests, the report states.

The report is important in “untangling race and Chapter 13s,” Littwin said. Based on the report’s findings, attorney steering likely played a role in the large numbers of African Americans filing Chapter 13 bankruptcy, she said.

In districts where there are higher rates of Chapter 13s filed, attorneys are expected to put clients in Chapter 13, Littwin said. Filing Chapter 7 in those districts will be challenged, she said.

Timing of Paying Fees

One solution to combat the effects of the “no money down” bankruptcy is to allow debtors to pay bankruptcy attorneys’ fees in installments during their Chapter 7 cases, Foohey said.

Eliminating the different treatment of attorneys’ fees in Chapter 7 and Chapter 13 should allow debtors to make the chapter choice based on their needs, the report states.

It would also “align Chapters 7 and 13 on how consumer attorneys collect fees from clients,” Foohey said.

This change would involve amending the Bankruptcy Code and would be the “cleanest” solution, Lawless said. It would require congressional action though, which Lawless said is unlikely at the moment.

Littwin agrees with the report’s conclusion that reforming the timing of when debtors pay attorneys’ fees in Chapter 7 is the “superior approach.”

Revise Judge’s Standing Orders

Another possible reform would be to change the standing orders in bankruptcy courts that typically set a “no look” attorneys’ fee for Chapter 13 cases, the report states. These “no look” fees are for routine Chapter 13s and give attorneys assurance that if they charge their clients no more than that amount, the bankruptcy court will approve their fees.

The standing orders could be changed to provide that the “no look” fee will apply only if the debtor has paid 25 percent or more in attorneys’ fees prior to filing, the report states.

The “no look” fee could only apply in cases where the Chapter 13 plan contemplates substantial repayment to creditors.

Revisions to standing orders are much more likely to happen and would require only changes to local practice and the local rules in a district, Lawless said.

Publicizing this report and encouraging bankruptcy attorneys, trustees and judges to take a look at their data is one way to get changes made to those standing orders, Foohey said. Judges write those standing orders and they are more likely to give the data consideration and change those orders, she said.

New Requirements for Ch. 13 Plans

The requirements for confirmation of Chapter 13 plans could also be modified to include a condition that the plan must make a substantial repayment to creditors, Foohey said. This would be the least likely revision to happen because it involves a substantial change to the Bankruptcy Code, she said.

Under this proposal, bankruptcy judges could set a standard for “substantial” that takes into account the debtor’s circumstances. The “substantial” requirement might eliminate “fee only” Chapter 13 plans.

This change isn’t meant to “rule out the ability to do ‘fee only’ plans, but attorneys should be aware that they will be targeted for more judicial scrutiny,” Foohey said.

To contact the reporter on this story: Diane Davis in Washington at

To contact the editor responsible for this story: Jay Horowitz at

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