Bankruptcy Reform Passed, Now What?

WASHINGTON-Now that lenders’ legislative struggle to reform the bankruptcy code ended with President George W. Bush signing it into law, credit unions have to look ahead to implementation implications. When NCUA Director of Governmental and Congressional Affairs Cliff Northup, CUNA President and CEO Dan Mica, NAFCU President and CEO Fred Becker, CUNA Senior Vice President of Governmental Affairs John McKechnie, CUNA Vice President of Legislative Affairs and Senior Legislative Counsel Gary Kohn, and NAFCU Director of Political Affairs Murray Chanow, watched the president sign S. 256, the Bankruptcy Abuse Prevention and Consumer Protection Act, at a signing ceremony April 20, they knew the torch-for the most part-had been handed off to the regulatory and compliance side of matters. The law has a six-month grace period before it goes into effect, but as an immediate practical matter, credit unions will have to deal with the expected rush of bankruptcy filings from candidates trying to get in under the current system. “I would expect that in the next six months, between now and October 20 when the bill goes into effect, that you’re going to see a substantial incline in the number of bankruptcy filings because of the activities of the bankruptcy lawyers out there,” CUNA’s Kohn stated. “But in the meantime, we’re going to be preparing obviously for the implementation of the bill and continue to work with our members to try to help them in difficult financial circumstances.” South Carolina Federal Credit Union CEO Scott Woods agreed, “Initially, we need to be prepared for a rush of filings between now and the end of the year.” He said his credit union is working with its employees in the related areas, first at least, “by being aware of it.” Following the bill becoming law, credit union bankruptcy consultant Bill Mapother put out cassettes for clients on what credit unions should be doing right now to cope with the anticipated increase in bankruptcy filings. He said he expects bankruptcy filings to double and triple monthly over the next six months. At an educational seminar he was putting on last week, Mapother said he had a Maryland credit union CEO who’s bankruptcy filings went from about three a month for the last couple of years to 13 just a couple weeks after the new law. Mapother asked the CEO how many of those filers had applied for a loan recently and been turned down, to which she said about one-third. This is credit unions’ mistake, he contends. Credit union loan officers need to be directed to do two things: 1) If someone in financial trouble comes to the credit union asking for a loan and the person does not already owe the credit union money, turn them down; and 2) If the person already owes the credit union money, “Is there anything we can do now on the outstanding loan to help steer them away from bankruptcy or rewrite the loan so that we will have better protection in bankruptcy if they do file?” Steering members away from bankruptcy, at least until the new law takes effect Oct. 17, is credit unions’ best option on collecting anything. “Credit unions will be better off under the new law than they are now,” he emphasized, particularly on car loans. The law eliminates “cramdowns,” where the bankruptcy judge can take into account the current value of the vehicle rather than the amount owed. The other thing credit union senior management needs to do is tell the collections department “to lighten up. This is not the time to have hard collection tactics,” Mapother explained. If the borrower can be let off until October, again, the credit union will be better off. He said credit unions are also in error because many of them stick their `not-so-shining-stars’ in the collection department when senior management, or those with potential, should really have a hands on grasp of that side of the business as well. Down the Road From a regulatory standpoint, there will not be a whole lot going on, according to NAFCU Associate Director of Regulatory Affairs Carrie Hunt. “Bankruptcy reform is different in that most of the rule will be derived from the code section rather than by regulation,” she explained. The Department of Justice will be responsible for maintaining a list of qualified credit counselors to deal with the requirement that bankruptcy filers must go through financial counseling prior to filing, which is “of interest to credit unions who want to offer those types of credit counseling services,” Hunt said. Mapother had a few choice words to say about individual credit union’s financial education efforts-or lack thereof. Regarding the acceptance of credit unions into the qualified financial counseling providers, he said, “I don’t know. They’re going to have to step up to the plate. If the U.S. Trustees come up with standards, I think the Trustees office will approve them if they qualify.” However, he said he does not consider the majority of credit unions sophisticated enough in the area to offer the services. “Ninety percent of credit unions don’t have any kind of established counseling program,” he said, adding that many just suggest a member seek help. The U.S. Trustee Program is a component under DOJ that is responsible for overseeing the administration of bankruptcy cases. On a more positive note, CUNA CEO Mica said the financial education provision of the law presents a real opportunity for credit unions. “Credit unions now will redouble their efforts on financial education and set forth a clear distinction between credit unions and those who offer inappropriate and irresponsible credit,” he stated following the bill signing. Under the new law, the Trustees will be responsible for implementing the new “means test;” supervising audits to determine whether a Chapter 7 debtor’s documents are accurate; certifying entities to provide the credit counseling; certifying entities to provide the financial education that an individual must receive before discharging debts; and conducting enhanced oversight in small business Chapter 11 reorganizations, according to its Web site (www.usdoj.gov/ust). The Trustees office started working groups of employees within its executive, regional, and field offices a few years ago to facilitate the implementation process, but would not go into further detail. “The U.S. Trustee Program welcomes this opportunity to further enhance the integrity, effectiveness, and efficiency of the nation’s bankruptcy system,” a statement on its Web site read. “The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 represents an important new development in the Program’s continuing efforts to improve bankruptcy processes and procedures.” As an aside, Director of the Executive Office for U.S. Trustees Lawrence A. Friedman resigned his post as of April 30 and no one has been appointed to fill the position as of yet. Jane Limprecht of the Executive Office of the U.S. Trustees said the vacancy would not impede the progress on bankruptcy reform. SCFCU’s Woods said he would have liked to see more detail in the credit counseling provisions in the bill as far as the type of counseling services needed and who can offer them. “Legislation that is that vague can sometimes lead to big issues,” he said. Other parts of the bill are much more clear. For example, the Federal Reserve is responsible for implementing the regulations concerning consumer credit disclosures, which the Fed must complete by the latest of either 12 months after enactment or 12 months after promulgation of the rules, Hunt said. The new bankruptcy law requires enhanced credit card disclosures for companies requiring a 4% or less minimum payment on how long it would take the consumer to pay off the debt, which can be illustrated in a sample chart of sample balances and pay offs. Woods added that these disclosures also will include late payment details and loan to value disclosures. “It’s too early to tell [the expense], but one thing’s for sure: it will cost more,” he said. Critics of the law said it by far favors lenders in the bankruptcy process over consumers, but the law contains a lot of pro-consumer provisions in it, such as this one, Woods pointed out. Really, he said there are three winners with the new law. First, all creditors from credit card companies to credit unions to local dental offices will benefit. Additionally, all consumers will save some of the estimated $400 per capita additional expenses paid each year to cover for bankrupts. Finally, the people who truly need bankruptcy relief will benefit because they “will not be caught in the background clutter of abusive bankruptcy filings.” Not to say the law will end abuse of the system, Woods cautioned, but, “It’s a good start.” Finally, NCUA and the Federal Deposit Insurance Corporation may have to make some changes to their rules regarding the netting provision, which helps facilitate liquidations of institutions, and the Internal Revenue Service may have to make some corrective changes. “The main thing is we have to educate our members as far as changes to the code,” Hunt emphasized. NAFCU has announced it will be holding a Web cast May 11. The trade group will also be publishing items on its Web site (www.nafcu.org) with summaries and effective dates. In addition, NAFCU is planning an update to NAFCU’s Bankruptcy Guide for Credit Unions through Sheshunoff. It Ain’t Over Even though the bill is now law, it may need some tweaking once credit unions and other interested parties have had some experience with it, NAFCU Director of Political Affairs Murray Chanow explained. Often with a big bill like this one, there will be technical corrections within a year. In the meantime, if the means test works out as it is supposed to, assuming about 10% are abusing the system and would move from Chapter 7 to 13 or from 13 our of bankruptcy protections, $3 billion would be put back in the economy, Chanow said. Credit union members accounted for approximately 250,000 of the 1.6 million total bankruptcy filings, or about 15.6%, he figured. Chanow said credit unions are hoping to get that 15.6% slice of the $3 billion pie out of the new law. With that credit unions can then maybe increase savings rates or lower loan rates, he suggested. However, credit unions are at least a year away from knowing the results, Chanow speculated. According to NAFCU statistics, as of December 2004, NAFCU-member bankruptcies accounted for 34% of charge-offs, in keeping with all credit unions. Getting Back Even More With the passage of bankruptcy reform, TransUnion announced the release of a new debt management score to work hand-in-hand with the new law. The debt management score, ranging from 500 to 650, is aimed at changing the way consumer credit counseling organizations and lenders implement and measure debt management programs and other strategies. According to TransUnion, the score predicts a consumer’s likelihood to be placed in collections, file for bankruptcy or charge-off by using measurable, empirically derived risk-based decisions. “One of the big pieces of bankruptcy reform is it requires consumers to attend financial counseling six months prior to filing,” TransUnion Director of Debt Management Solutions Mike Rosenthal stated. “That’s going to cause a flood to credit counseling.” TransUnion’s new debt management score is designed to help counselors and lenders deal with the influx with the same level of staffing. Too often, credit counselors and lenders use a one-size-fits-all approach, he explained. “Some may not need as much interest rate concessions as others,” Rosenthal said. The score can help determine what the borrower really needs and help lenders, including credit unions, get back more of their money. Once a score is determined and a debt management plan is an option for the debtor, he said, “Then the creditor can assess where along the troubled continuum that customer falls.” Other options can include budgeting recommendations or picking up a second income. “But the real value comes from the solution’s ability to help ensure consumers receive the credit counseling and debt management support that best meets their individual needs, further complementing the spirit and letter of the law,” Rosenthal said. TransUnion is currently piloting the program with Money Management International, a credit counseling services, and has agreements with nine of the larges financial institutions. [email protected]