Counsel: blessing or burden?
Bankruptcy bill requirements draw strong arguments
City Business
September 17, 1999
Volume 17
By Dan Emerson

The most significant piece of bankruptcy reform legislation in 20 years is prominent on the recently reconvened U.S. Senate's agenda this fall. The legislation, which the House passed last spring, includes a provision to shift some debtors from Chapter 7 to Chapter 13 bankruptcy if they have the ability to repay at least 20 percent of unsecured debts over five years. That determination would be based on means-testing.

While legislators and lobbyists debate means-testing and other parts of the bill, another provision has drawn opposition from bankruptcy attorneys and consumer groups. The controversy surrounds a requirement that debtors filing for Chapter 7-bankruptcy protection be required to undergo credit counseling. Advocates of credit counseling say it's an effective way to help debtors restructure their debt, develop a realistic repayment plan, and gain the insight and knowledge needed to avoid similar problems in the future. But critics of the proposed legislation say requiring credit counseling for those who have already filed bankruptcy would be a case of too little, too late, and add unneeded expense and bureaucracy.

For a financial future

"It's important we do anything that can be done to help people understand how they can get in trouble with credit card (or other) debt - it's just a matter of good financial management," said Tiff Worley, founder and owner of Metropolitan Financial Management (MFM), the largest credit counseling agency in Minnesota. It also is on of the 10 largest agencies of its type in the nation, with offices in 10 states. "If additional counseling can be provided in order to foster better financial management, that should be part of the bankruptcy process," added Worley.

The local agency is part of a network of nonprofit credit-counseling agencies nationwide that serve debtors who file for bankruptcy protection under the executive office of the U.S. Trustees. (The office is the arm of the U.S Justice Department that oversees and administers the bankruptcy-code provisions in 23 districts.) Worley said the "entire credit-counseling industry" has agreed on a set of proposed guidelines that must be met to be included on the federal government's approved list of credit-counseling agencies.

The guidelines propose that the counseling be done by nonprofit agencies, and that a reasonable fee be charged - a one-time fee of not more than $50 for credit counseling, and no more than $35 a month if the client agrees to a debt-management plan imposed by the court. "Most of our member agencies fall well under those guidelines; some provide free counseling," Worley said. The association has about 45 member agencies - all nonprofits - and the other trade group, the National Foundation for Consumer Credit, has about 180 member agencies.

Worley said that both organizations are behind the proposed guidelines, which also call for maintaining a separate trust account to safeguard client funds; full disclosure to clients, including funding sources and counselor qualifications; and possible impact on credit standing. Counseling should include an analysis of each client's current financial situation and the development of a plan to resolve the situation without increasing debt. Under the guidelines, counselors would receive no commissions or bonuses based on the counseling-session outcome.

As for the credit-counseling requirements proposed for the bankruptcy bill, Worley explained that they aren't intended for debtors who find themselves in bankruptcy due to factors beyond their control, such as the loss of a job or unforeseen medical bills. "The problem is with the person who has simply overspent - the person who makes $50,000 a year and has $60,000 in debt (through a Chapter 7 filing) is no guarantee they are not going to incur another $30,000 in debt later." Counseling is an effective way to prevent those debtors from repeating their mistakes in the future, Worley added.

The credit-counseling provisions in the legislation "really provide a much better way of dealing with an individual's financial situation than having the court determine the extent of repayment they can make from their wages over five-year period of time," Worley contends. "People in that situation almost always nee education, s well as whatever remediation s going to be available," he said. "And credit counseling offers a way to reduce conflict between debtors who have overextended themselves and creditors whose only interest is in maximizing their profits."

Worley said the credit-counseling guidelines have been submitted to the office of the Senate bankruptcy-reform bill's author, Sen. Charles Grassley (D-Iowa). And according to the MFM head, Grassley's staff indicated that the suggestions would be incorporated into the proposed legislation.

Too much red tape?

Minneapolis attorney Richard Pearson, a partner in the high-profile consumer-bankruptcy firm of Prescott & Pearson, has made two trips to Washington lobbying on behalf of the National Association of Bankruptcy Attorneys, which opposes the reform effort.

"The system we have has worked for 150 years; why are we so aggressively going after change?" Pearson said. "Our position is that increasing consumer debt always increases bankruptcy rates, then regulate you consumer debt," Pearson said, noting that bankruptcy filings are running from 15 to 25 percent less than in 1998.

Pearson contends that, of the bill's various provisions, the one requiring Chapter 7 filers to receive credit counseling "would be the most damaging. It would be a huge cost to consumers and create another level of bureaucracy."

Pearson also questions the agencies' ability to handle those who would seek counseling as a result of the potential bankruptcy law. "A lot of the people who have to file bankruptcy are not (in a) financially sophisticated group. A lot of them are not going to do it (submit to counseling)," he said. "We see a lot of folks who drop off the economic radar and go to the underground economy. They only come here as a last resort; they're being garnished, called and harassed. I don't know that these (credit) counselors could handle the impact of all these people."

Credit counseling might help Chapter 7 filers avoid future problems, Pearson acknowledged, "but if they're forced into that process, I question whether they're going to take it seriously or just take it as a requirement to get to bankruptcy."

Pearson said he refers clients who are in relatively less-severe straits to counseling when their situation calls for debt restructuring and a repayment plan. "But that's not common," he said. "Most of the people come to us as the last stop on a long road."

Salvation

Worley has a long list of those who have made it to MFM before reaching the end of the road. For instance, in late 1995, after finding himself about $30,000 in debt due to credit-card bill and lower-than expected income, Jim Rosvold of Brooklyn Park sought credit counseling as an alternative to filing bankruptcy.

"Bankruptcy would have been very self-defeating," said Rosvold. "I knew I needed help; I didn't want to just walk away from my debts."

A credit counselor helped Rosvold negotiate a repayment plan with his creditors, including reduced interest rates. On May 17, he finally paid it all off. Rosvold said the counseling agency's efforts on his behalf "saved me."

Timing is everything

Kathy Sanberg, a partner at Faegre and Benson in Minneapolis who usually represents creditors in bankruptcy cases, helps screen low-income debtors who are considering bankruptcy for the Volunteer Lawyers Network. "My experience is that credit counseling would be a little too late to help people once they get to the point of deciding to file Chapter 7," Sanberg said. "It may help in some cases, but in most cases, it would be too late. Education to help consumers keep out of trouble in the future would be helpful, but that's for the future, as opposed to the bind they may already be in."

St. Paul bankruptcy attorney Gregory J. Wald is another who doubts that the credit-counseling requirement in the bankruptcy bill would do much good. "Keep in mind that if a debtor can afford to repay a substantial portion of their debt through a Chapter 13 repayment plan, the court expects them to go that route," Wald added. "If they have enough disposable income to fund consumer credit counseling, they probably wouldn't qualify for Chapter 7 anyway." Mandatory counseling "would just force a lot people to go through the motions with credit counseling before they file Chapter 7," he said.

A number of consumer groups under the umbrella of the Washington, D.C-based Consumer Federation of America also oppose the bill "but not because we don't think credit counseling is extremely important," said Travis Plunkett, the federation's legislative director. He pointed out that the federation recently issued a report criticizing banks and other funding they provide to help cover the cost of credit counseling.

Plunkett said his organization's position on the proposed credit-counseling requirement is that "it is cumbersome and may actually hurt people who need to go straight to bankruptcy because they are in such dire financial straits." He continued, "Our fear is that a lot of people declare bankruptcy as last option. In some cases, they've waited far too long to declare. People are often in denial about their debt problems and some put them off until they may be on the brink of losing their home."

A "one -size fits all" approach requiring everyone who wants to declare bankruptcy to first receive credit counseling wouldn't help those in "dire straits," Plunkett said. He prefers an emergency exemption for such desperate cases.

"There's also a question of timing," Plunkett added. "By the time you retain and attorney and go through the whole process of realizing you're in financial trouble and deciding to file bankruptcy, that may not necessarily be the best time to go to credit counseling."

Plunkett said the timing question has been discussed by lobbyists and legislators, yet the bill hasn't changed accordingly.

Regarding the bankruptcy lawyers and consumer group's opposition to mandatory credit counseling, Worley acknowledges that "the timing would be better" if debtors sought and received counseling before reaching the stage of hiring an attorney and filing for bankruptcy protection. The old saying "an ounce of prevention is worth a pound of cure" hold true in this situation.