Bankruptcy Filings Way Up, But Fewer of Them Are Chapter 13

The bankruptcy numbers for 2009 are out, and as expected, they're high. According to a report in the Associated Press, 1.4 million people declared bankruptcy last year. That's the seventh highest number ever, and the largest number since the change in the 2005 bankruptcy laws. 110,000 people declared bankruptcy in November, marking the 9th straight month of more than 100,000 bankruptcy filings.

The news isn't surprising, as the economic downturn takes its toll on more and more American families. Even while some economists suggest that the recession is over, unemployment remains high, and many people are suffering from months of reduced income, which results in credit cards, mortgages and other bills piling up.

However, buried in the AP story was one very interesting fact. While all bankruptcies have increased over the last year, Chapter 7 bankruptcies are up 42% and Chapter 13 bankruptcies are only up 12%. That means that the share of people filing Chapter 13 is down to 28%. This is surprising, considering that the 2005 bankruptcy law is specifically designed to encourage – sometimes even force – people to file Chapter 13 instead of Chapter 7.

Why are fewer people filing for Chapter 13? There are no definitive answers, but it's possible to speculate. For one thing, a Chapter 13 filing requires a debtor to have some form of income. The purpose of the Chapter 13 filing is to pay some or all of your debts, both secured and unsecured, over a period of 3-5 years. In order to do that, you need to have money coming in. Given the millions of people who've lost their jobs over the past two years, it's not surprising that fewer debtors have enough income to file Chapter 13. While unemployment benefits do count as income, the length of this recession means that – despite the efforts of the federal government to increase these benefits through the stimulus – more and more people have lost their benefits before they're able to find a job. And it's likely that many of these people may have run up large credit card bills over the course of their unemployment, bills they have no way to pay.

A second possibility has to do with the foreclosure crisis. Many people who choose to file Chapter 13 do so as part of an effort to keep their home. Many people who bought homes during the housing bubble are now stuck with enormous mortgages. Since underwriting was so lax during that time, these mortgage payments may be far more than the one third of household income that's recommended by banking standards, making it impossible to make the payments if your income has decreased for any reason. In other words, these debtors may have some income, but not enough to make the mortgage. In addition, housing prices have decreased across the country, in some markets by as much as 66%. Some homeowners may feel it's not worth it to try to keep their homes, if they have negative equity. Filing Chapter 7 bankruptcy gives them a fresh start, and if they work quickly and steadily to rebuild their credit, they could apply for another mortgage in less than 5 years.

Finally, it's possible that as bankruptcy lawyers become more familiar with the bankruptcy law, they become better positioned to advise their clients. Debtors who might seem required to file Chapter 13 on the face of it, may actually have other options that their lawyers can point them to. Just one more reason why it's wise to seek out an experienced attorney before filing bankruptcy.