Are Debtors Dishonest?

26 Dec Are Debtors Dishonest?

The alleged reasoning behind Congress passing of BAPCPA was that too many debtors (and their lawyers) were dishonest. The thought was that these dishonest debtors needed to be forced to pay more back to their creditors.

Despite extensive studies showing that the pre-BAPCPA bankruptcy law worked pretty well in identifying and dealing with dishonest debtors, there were some people who sought to prove that the radical changes that became BAPCPA were necessary.

Some people are still trying to prove that debtors are not altogether honest and that the bankruptcy system needs to crack down on them and their attorneys. BAPCPA requires that before filing bankruptcy debtors need to get a certificate that they have been through credit counseling (whether they need it or not). The credit counseling agencies has consistently reported that only a tiny percentage of people who file for bankruptcy have any other viable options open to them.

One person who seems bent on trying to show that debtors are dishonest, is Steven Rhodes, the Chief United States Bankruptcy Judge in the Eastern District of Michigan. He recently spoke at a conference of bankruptcy attorneys and judges in the Northern District of New York in Cooperstown, NY. In his presentation, he showed the results of a study he had completed that he said proved that a sizeable number of Chapter 7 debtors do not reveal assets on their bankruptcy petitions.

But like many studies conducted by someone who wants to prove a point, the data sought and the results found are suspect.

Judge Rhodes believes that there are good trustees (those that find undisclosed assets) and bad trustees (those who do not). When he reveals the types of assets that are typically undisclosed, however, he points to assets that do not necessarily show dishonesty on the part of the debtor. For instance, he lists tax refunds and fraudulent transfers.

Tax refunds are supposed to be listed on the petition. However, in many, if not most cases, when the petition is prepared and filed, the amount of next years tax refund is usually not yet known. In the case of fraudulent transfers, the petition requires that a debtor list all transfers of any type in the past (1 or 2) years. In New York State, fraudulent transfers can be for property transferred up to 6 years prior to the bankruptcy. So in both cases, the Judge identifies undisclosed assets for which there is no place to disclose them on the petition.

The Judge also does not indicate how many of the undisclosed assets he uncovered that were in fact brought to the attention of the trustee by the debtor. Often debtors disclose this information at the meeting of creditors, or by turning over a tax return after it was prepared, or by turning over a bank statement. What was most revealing was that the Judge admitted that in only a very few of the many cases he found with undisclosed assets was the debtor denied a discharge.

What was particularly alarming about the Judge’s presentation was that he revealed that he was going to summon to his chambers next week the debtor attorneys who were involved in most of the cases in which an undisclosed asset was discovered. What exactly is he planning to do at these meetings? He indicated that he would be reviewing with them their policies and practices in an effort to get them to improve so that there would be fewer undisclosed assets in their future Chapter 7 petitions.

The problem I have with this is that since 1976, the role of the Bankruptcy Judge has changed from administering bankruptcy cases to adjudicating disputed matters. Before 1976, judges actually conducted the meeting of creditors and administered the cases. But what Judge Rhodes is doing by meeting with individual attorneys when there is no case or controversy before him, is inappropriate and coercive.

There are some practical resolutions to the issue of undisclosed assets. One would be to exempt the earned income credit portion of tax refunds. Another would be to prohibit trustees from going after inconsequential assets.

Judge Rhodes study is designed to try to show that many debtors are trying to defraud the system. The truth is that for the most part, debtors are not trying to defraud the system. To his credit, the Judge did suggest that the bankruptcy schedules be made more user friendly and easier to understand.

I am also curious as to how concerned Judge Rhodes is about inaccurate and fraudulent claims made by creditors in their Proofs of Claim or in their Lift Stay Motions.

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Peter Orville is a bankruptcy lawyer in Binghamton, located in the Southern Tier of New York. He is a member and New York co-chair of the National Association of Consumer Bankruptcy Attorneys.
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