Besides practicing bankruptcy law for more than 35 years, I have taught this area of law at 2 different law schools (including my own “alma mater”) for 13 years. Each time I teach the course, the very first question I ask the class is “why do people file for bankruptcy?” Here we go!
1. The Financial Dimension
Many of my law students give the answer that, “well, people file for bankruptcy when the amount of their debts exceed the value of their assets”. While this answer is rational, it is actually a very simplistic notion. In our current “consumer economy”, where consumer debt both secured (for example, home mortgages and car loans) and unsecured debts (credit cards, personal loans, student loans, overdraft and unsecured lines of credit, et al.) is available to virtually every one and where banks and credit card issuers literally compete for business on the basis of such, funds and blandishments as (a) where people went to college, (b) free airline tickets, and (c) “cash back” incentives, consumer debt has become in the United States as common as clouds in the sky. It is not uncommon that financially stable people can maintain substantial credit balances equal to more than 30% (or MUCH more) of their annual income, without placing them at immediate financial risk of default.
So it is not simply a matter of one’s “debt to asset ratio” that determines whether a person ought to file a bankruptcy case. The more immediate question rather is the ability of the borrower to be able to successfully “service” or “manage” their total debt load at any given point in time based upon the availability of liquid assets (for example, cash in the bank, savings, securities, and the like). In the world of accounting, this might be referred to as a business’ “current ratio”; that is, the ratio of “current assets” (cash current accounts receivables and liquid securities [stocks and bonds]) to “current liabilities” (the amount of any expenses do on debts that ***must*** be paid immediately). The lower this “current ratio” is in any given point in time, the greater the likelihood that external “financial pressure” will force a person to consider filing a bankruptcy case.
2. Events of External Financial Distress
By “events of external financial distress”, I’m referring to events, either foreseen (and previously ignored) or wholly unforeseen, that because the borrower to suffer a sense of such great concern that they no longer “feel” financially secure. The longer this “external financial distress” exists or increases, the greater the likelihood that bankruptcy becomes a substantial option. What form can these “events of external financial distress” take? They include, but are not limited to:
(a) “collections activities” such as default notices, demands for payment from collection agencies and collection attorneys , the initiation of one or more lawsuits in the local courts;
(b) loss of “overtime” pay or the loss of employment;
(c) the death or long-term illness of a family member that previously provided substantial financial support for the household;
(d) the Notice of Tax Assessment by the IRS or state taxing authority; and
(e) the break-up, separation or divorce of the family unit which previously provided financial support of the borrower.
3. The Psychological Dimension of Debt
Even if one is facing one or more of the “events of external financial distress” and has a low or faces a decreasing financial “current ratio”, this does not necessarily mean that a person would be prepared to file a bankruptcy petition to eliminate their debts and get a “fresh start”. In my experience, what drives most borrowers to seriously consider the bankruptcy filing as more to do with their own sense of “psychological resilience” to financial distress that almost anything else.
We live in a country that treats as a “moral virtue” the ability to manage their financial affairs regardless of external circumstances and stigmatizes those people that, for one reason or another, seek to take positive action to finally eliminate their financial distress. In the United States, it is altogether too common to view “credit scores”, “creditworthiness” or the aggregate of the their credit cards’ “credit limits” as a standard by which to evaluate a person’s “self-worth”. We lionize those that many times by circumstance or by birth, have given them great wealth while diminishing those persons not so blessed.
The reality is that, for most of us, the extent of a person’s “emotional support system” and “emotional endurance” or the lack thereof, is a substantial determining factor towards the likelihood of a bankruptcy filing in the face of financial distress. It is essentially a dynamic tension between the ever-present anxiety generated by financial distress against the speculative perception of one’s self-worth based of how others might view them.
If this sounds squishy and irrational to you, that’s okay. Because it is. In short, there are rational reasons to file for bankruptcy protection that people will refuse to even consider because of great emotional resilience in the face of events of external financial distress. Concomitantly, there are irrational reasons that a person may choose to file a bankruptcy petition based upon their misperception of their financial status because of their lack of “emotional resilience” in the face of events of external financial distress.
4. How then SHOULD One Go About Deciding Whether to Consider a Bankruptcy Filing?
In my experience this is really a “factor-based” analysis that includes both financial and psychological aspects. These factors include, in no particular order, the following:
(a) the level of debt presently being carried versus the available net income (that is, after expenses) to service that debt;
(b) both the number of and the severity of the events of external financial distress the borrower is facing and the likelihood that those events will persist for the foreseeable future;
(c) whether the events of external financial distress are “acute” in nature (for example, the immediate threat of a garnishment of wages or foreclosure or repossession of an important asset) or “chronic” (for example, using credit cards to pay daily expenses of living);
(d) the nature of the “debt structure” of the borrower (that is, the composition by type of the debts carried) and the likelihood of being able to eliminate those debts without having to resort to the “legal tools” available under the Bankruptcy Code (simply stated, there are some things that you can do under the bankruptcy code that you could ***never*** be able, as a practical matter, to accomplish in any state court);
(e) the extent to which the borrower’s assets would be protected from the reach of creditors, both outside the bankruptcy process as compared to within the bankruptcy process;
(f) the extent of the borrower’s personal sense of financial distress and whether it is causing or is likely to cause future physical or mental illness (for example, anxiety, depression, insomnia, upset stomach or gastritis, etc.); and
(g) the extent of the borrower’s emotional and financial “support structure” to assist the borrower in confronting and combating the source or sources of his or her financial distress.
5. The Need For Specialized Legal Knowledge
If you are suffering from a stomach ailment, you would not go to an eye doctor. Similarly, if you knew that you were suffering from a specific type of eye illness, you would likely seek out the help of that very same eye doctor, as opposed to a general practitioner. The very same logic applies with respect to business and consumer bankruptcy law. A lawyer that knows how to do a divorce or defend a criminal action or prosecute a personal injury case, does not make him well-qualified necessarily to be a bankruptcy attorney. Bankruptcy law, perhaps like few other areas of legal practice, is a defined legal specialty that requires literally years of practice to do effectively and well. The reason for this is that most lawyers are taught to deal with mostly “bilateral” legal processes in matters such as contract law, civil litigation, real estate practice and the like. Bankruptcy law by comparison is a “multilateral” process involving multiple stakeholders, each of which with their own particular (and sometimes peculiar) points of view. Moreover, bankruptcy law can oftentimes be an area that combines different aspects of legal practice requiring disparate skills involved in civil litigation, administrative proceedings, and even ono-on-one negotiation, all being used together within one, single unified process. bankruptcy cases necessarily involve aspects of state law, federal law, and administrative law, all of which must be executed according to rules that have short and rigid timelines. In short, bankruptcy is no place for a layperson or a general practitioner to “dabble” in. He would know or try and do your own bankruptcy filing than you would try to do your own prefrontal lobotomy: the outcomes necessarily will be bad!
It is therefore important when evaluating whether bankruptcy is a good alternative to speak with a knowledgeable and competent bankruptcy attorney in your particular jurisdiction. How then to evaluate the competence and expertise of a bankruptcy lawyer:
(a) how many years of specialized bankruptcy practice has the lawyer had;
(b) how many cases as the bankruptcy attorney handled in the last 5 years;
(c) what notable cases as the bankruptcy attorney been involved in an what were the outcomes;
(d) what reviews has the bankruptcy lawyer received and how apparently “organic” are those reviews;
(e) has the bankruptcy lawyer represented clients with the same kinds of problems that you are currently facing;
(f) what is the bankruptcy attorney’s personality like, how “approachable” is he or she, and is the bankruptcy lawyer willing to take the time to explain the bankruptcy process to you?
These are just some of the qualities that you should use in evaluating the advice being given by a specialized business or consumer bankruptcy lawyer. Naturally, other factors will necessarily come into play.
6. Final Thoughts
As with much in life, timing is everything. The biggest problem that I have faced in my many years as a bankruptcy lawyer is that people wait to long before coming to me with their problems. In many cases, having come to see me sooner, I would have been able to have avoided much of the distress that they were forced to endure and prevent some of the negative legal consequences that came to pass only because they waited so long.
It is better to swallow one’s pride, and seek out legal advice before a “crisis” becomes a genuine catastrophe. However this requires perhaps the hardest thing that one can ask of oneself, namely, the capacity to see things as they actually and really are rather than as we would like them to be. This is very very hard for most people because it is all but impossible to be “objective” about oneself and the reality of one’s actual circumstances. This is the real reason (and it is a very good one) why people retain lawyers in the first place: lawyers are trained to engage in “critical” thinking and to view a client circumstances in the most objective way possible, and then based upon that objective reality provide clear and cogent advice as to how the client ought to proceed.
But in order to be able to do this, the client must first engage in an exercise of self-awareness and confront himself or herself and be honest with himself or herself about their legal and financial circumstances. Until that event comes to pass, the borrower will not pick up the phone and reach for the assistance that he or she likely needs.