A little over a century ago, the United States Supreme Court stated that the purpose of the Bankruptcy Code was, in the words of James Clark McReynolds, was “to relieve the honest debtor from the weight of oppressive indebtedness, and permit him to start afresh free from the obligations and responsibilities consequent upon business misfortunes.” Justice McReynolds, a vicious anti-Semite, is considered by some to be one of the most forgettable Supreme Court justices. But he was spot-on in this declaration, and his mantra of debt relief for the honest but unfortunate debtor is as true today as it was in 1915.
Justice McReynolds’ statement implies that dischargeable (forgive-able) debts in bankruptcy must have a basis in legitimacy and that the surrounding circumstances, at least in part, must be beyond the debtor’s control.
As a general rule, unsecured debts are accounts that rely on a mere promise to pay. These debts are dischargeable. Secured debts are tied to collateral, like a house or car. As a general rule, secured creditors don’t care if the debtor filed bankruptcy or not because these accounts are still due and payable, assuming the debtor wishes to keep the collateral.
According to a 2015 survey, the average American household has over $15,000 in credit card debt. When balances get this high, it is difficult for most families to do more than make minimum payments, especially since many credit card companies upped their minimum payment amounts a few years ago. By making the monthly minimum payments and not using the card, the balance will be paid off at approximately the same time as the sun burns out.
Revolving credit lines, like MasterCard and Visa accounts, are unsecured debt. Department store credit cards, like those issued by Walmart or Target and valid only at those locations, are also unsecured debt. Furniture store-issued credit cards from Rooms to Go or Ikea are in more of a gray area between unsecured and secured debts. But in most cases, these accounts are unsecured and the debts are dischargeable.
Credit card debtors should be aware of the fraud presumptions in Section 523 of the Bankruptcy Code, because fraudulent credit card debts are not dischargeable. To prove fraud and negate discharge, the bankruptcy trustee must basically prove that the debtor did not intend to repay the debt when the money was borrowed. Fraud is presumed if the debtor:
- Obtained a cash advance (or cash advances) of more than $925 within 70 days of filing, or
- Incurred more than $650 in luxury items charges from a single creditor within 90 days of filing.
A “luxury item” is basically anything other than food or clothes. Sometimes food and clothes are considered luxury items because there is a difference between buying food at the grocery store and eating out at Cracker Barrel.
The government estimates that almost 27 percent of American households have outstanding medical bills that are financially burdensome. Like credit card bills, medical bills are unsecured. The fraud presumption is typically not a source of worry, because almost no one fraudulently incurs medical expenses.
If the account is more than a month delinquent, the creditor nearly always takes adverse action. At first, the action consists of collections letters and phone calls. Eventually, the lender will file suit to recover the balance. Bankruptcy’s automatic stay applies to all forms of adverse action, and the creditor cannot take any action against the debtor without special permission from the bankruptcy court while the case is pending. Once the debt is discharged, it is illegal for that creditor or any subsequent debt-buyer to pursue payment on the account.
Unpaid School Tuition, Utility Bills
These debts are an excellent example of an important bankruptcy principle, which is that even if the debt is forgiven there may still be adverse consequences. That is obviously not always the situation, because bankruptcy stops repossession and foreclosure. But most schools will withhold transcripts, prohibit re-enrollment, or take other action if there is outstanding tuition. To avoid these consequences, the account must be paid.
The same principle applies to delinquent utility accounts. After the judge signs the discharge order, the power company can no longer collect the past-due bill, but it may be able to keep the lights off until payment is made.
The payday loan company wants debtors to believe that these accounts are secured, but they are not. At best, payday loans are secured by a promise that funds will be available in a checking or other account on a given date, but that is not the same thing as tangible collateral for a loan.
Most courts consider ACH and other automatic withdrawals to violate the automatic stay, unless they were initiated at the debtor’s request. So, the payday lender is not supposed to pull money out of an account to satisfy a debt or a debt payment. Nevertheless, it is often a good practice to close the underlying account as a precaution. Always speak with your bankruptcy attorney before undertaking such a move.
Other Types of Accounts
Student loans and unpaid income taxes are both dischargeable debts under certain conditions, and both types of accounts will be discussed in more detail in future posts. By way of overview, student loans are typically dischargeable if the debtor has an unusual hardship, like a physical disability or other uncontrollable condition. Income taxes are dischargeable in a Chapter 7 if the debtor filed the return on time, the debt is at least three years old, and it has not been “assessed” in the last 240 days, which basically means that the IRS has not sent a letter in the last nine months.
Most unsecured debts are dischargeable in a bankruptcy proceeding. For a free consultation with an experienced bankruptcy attorney in Little Rock, contact Niblock & associates. We routinely handle cases throughout the state.