I just got off the phone with a gentleman who is in extreme debt, lives with his parents, and is essentially unemployed. He works part time odd jobs from time to time. His credit is apparently still good, since he is borrowing from one card to pay for another, even though his debt exceeds $50,000. I told him that he certainly qualifies for a Chapter 7 Bankruptcy, and probably needs one; but with no income and no assets, what was his plan to pay for the bankruptcy?

“I have been told that I can do that with cash advances,” said he without hesitation. I questioned him more trying to determine exactly who had said that or where he got that idea. He side-stepped and never really answered my questions. I explained that if a lawyer had told him that, it was a violation of every code of ethics I ever heard of. It would also be fraud if not theft, and if it preceded the actual filing of a bankruptcy, it would also be bankruptcy fraud. Bankruptcy fraud, I explained, is a federal felony. It is investigated by the FBI. I would like to stay as far away from that sort of thing as possible.

I would not have thought much of this call, and would not find it worthy of mentioning, except that this was the second such discussion I have had in the last ten days or so. Since it has now come up twice, I am wondering if someone on a web site, blog or other media source has been either promoting or at least discussing the idea.

Let me see if I can spell something out. If a creditor can show that a debt was incurred at a time that the debtor intends to not pay it, but intends instead to run it through a bankruptcy, that is bankruptcy fraud. The person who does that will at least be subject to an objection to the discharge brought by the creditor, and at worst possibly be subject to criminal charges. If the debt is more than $600 or so, and it is incurred within 90 days before filing, it will be presumed to be for luxury goods – which also makes the debt nondischargeable if the creditor objects. Even if all the specific rules for the bankruptcy filing are satisfied, there is still a possibility that the case won’t pass the “totality of the circumstances” test. Essentially it’s a smell test. If it doesn’t smell right, the court can dismiss it.

Senate to Vote Next Week on New Mortgage Relief Bill

I’m sitting here looking at an email I have received from the National Association of Consumer Bankruptcy Lawyers, of which I am a member. The Association has been pushing for legislation which would allow a bankruptcy court to order modifications in mortgage loans, something which would currently be entirely off limits. The bill is S. 2636, and the section of the bill with the mortgage modification provisions is Title IV. There is fear that before the bill is passed that this section will be removed. Now would be a good time to call or write your US Senator if you would like to see them do something about the current mortgage foreclosure crisis.

You can find the text of the bill here. I’m not sure I fully understand all the language, but it looks as if it would give the bankruptcy court authority to lower interest rates and extend the term of the loan to 30 years. I just met today with a gentleman whose mortgage balloons in less than two years. At that time he may have to just walk away from the house. If the term could be extended under the terms of this bill, the effect would be to save this guy’s house. Links to both of Minnesota’s senators can be found here, including info on how to contact them.

Executive Office of U.S. Trustee Suspends Debtor Audits

About a week ago reported that the Executive Office of the U.S. Trustee has suspended auditing of debtors filing for bankruptcy because Congress did not fund the audits in the 2008 appropiration. This is good news. Under the 2005 changes to the bankruptcy law, the U.S. Trustee could engage the services of outside accounting firms to audit the records of bankrupt debtors. At least until they find some funding somewhere, and they are looking for alternative sources, this auditing activity will come to a stop.

This does not mean that the Trustees themselves cannot continue requesting detailed information, documents and records from bankrupt debtors; and going over it with a fine tooth comb. It just means that they can’t hire outside accounting help to do it. When these audits were in progress, they only involved a very small percentage of the bankruptcy cases being filed. A much higher percentage of cases were investigated directly by U. S. Trustee personnel without outside help.

It is my hope that the failure to appropriate funds represents the beginning of a backlash against the so-called Bankruptcy Reform Act.

Don’t Sell Yourself Short

I am now receiving calls from people who have done what is called a “short sale” of their home to avoid a foreclosure. The typical situation is one where the value of the house has fallen below what is owed on the mortgage or mortgages, since often there is more than one. Meanwhile, the homeowners are falling behind in their payments. There are many possible reasons why they are behind in paying, but the most common is that one or more of the mortgages is an ARM, and the payments have jumped sky high The assumption may have been at the time of taking out the ARM that by the time the payments went up, they would be able to refinance again with a new and more reasonable mortgage. Now in this market that plan is pretty much out the window.

All the homeowners can think of it that they must avoid foreclosure. So they list the home for sale with a realtor. By and by the realtor finds a buyer, but it’s for a price that’s below the balance owing on the mortgages. This of course is no big surprise and is exactly what the homeowners figured was their best hope. The realtor contacts the mortgage lender or lenders, and the lenders agree to the sale. Specifically they will release their mortgage on the property in exchange for less than full payment. This can be a wise move from the point of view of the lender, because they were going to lose time and money in the event of a foreclosure anyway. The homeowners are relieved, go through with the sale, and move into a rented apartment.

The story does not have a happy ending. They do not live happily ever after. They neglected one thing. That release from the mortgage company just released the property, not them. There is an unpaid balance on the mortgage or mortgages, and the bill collectors start calling and threatening.

The amount they owe is way beyond any ability to pay they might have had; and so they call me about a bankruptcy. In my opinion, they would have been WAY better off to have just let the lenders foreclose. Ordinarily, foreclosure is done in such a way that the mortgage holder only gets the house and doesn’t get a right to go after the former homeowner personally. There may very well have been a possibility of living in the house rent free for a year or so and then walking away with no further debt.

Another possibility may have been that the first mortgage would foreclose and take the house. the second mortgage holder would not foreclose, let the house go, and then go after the former homeowners personally. That’s not such a good result, but it still includes the rent-free year or so.

Yet another possibility is that the release from the lender in the short sale DOES include a personal release. The former homeowners think all is well as they enjoy their new apartment. Then a 1099 arrives from the lender. The debt that was forgiven is reported as income to the IRS, and they may owe a tax on it.

My suggestion is that it is almost always best in the foregoing circumstances to just stay in the house and ride out the foreclosure. Don’t move out until the foreclosure is done, the redemption period has run out, and the lender starts an eviction action. If there is only one mortgage, you may come out of the process rather debt free and not need me. If there is more than one mortgage, you may have debt but at least no 1099. There may be circumstances where a short sale could be a good idea, but it is hard for me to think of one.

The idea that a short sale is the best thing for one’s credit seems to me to be an illusion. By the time the whole scenario is run, the credit report won’t look so good no matter what you do.

Bankruptcy "Abuse" Wasn’t There; Today’s Falling Stock Market

I am looking this afternoon at an October 15th article in the Duluth News Tribune. A bankruptcy lawyer I know has posted it on a local bankruptcy list serve to which I subscribe. The headline, “Bankruptcy filings are on the rise” is not really news to me. But one of the sub-headings in the article really caught my eye: “ABUSE WASN’T THERE”

The article rehashes how the credit and banking industry had lobbied for passage of the 2005 new legislation on the theory that a large number of people had been “abusing” the bankruptcy system. But then it takes a closer look at the filings under the new law, especially the ratio between Chapter 7s – which is where most of the abuse was supposed to have been happening – and Chapter 13s – which are preferred by the banking industry. They note that the ratio between 7s and 13s is the same now as it was in 1999. That ratio together with quotes from a credit counselor at Lutheran Social Services seems to support the proposition that the perceived “abuse” never actually existed.

In fact, judging by the whipping that some of the banks and credit card companies seem to be taking in the stock market today, it seems clear to me that a great deal of irresponsible behavior – abuse if you want to call it that – was engaged in by the bankers and lenders themselves. At the time of this writing, the Dow is down 192 points; and it’s been dropping for several days in a row. It is my hope that our economy can absorb the shock that is being expressed in today’s market, but I’m not at all sure that we won’t wind up in a recession. If it happens, I don’t think it will be the consumers who will be to blame.

Full Moon Tonight – Likely time to Get in Trouble

If you take a close look around my office, you will see an atomic clock on the wall that not only indicates time, but also shows the phases of the moon. I have that clock for a reason. For years I have been noticing that the phases of the moon seem to influence my business and the behavior of my clients. For example, last night at about 7 pm, just as the full moon was rising (I checked the Naval Observatory and the time was almost exact), one of my bankruptcy clients sent me an email on the subject of how he needs to go further into debt for something. I will be going over the situation with him, but I expect my advice will be that it’s a really bad idea.

I have never read this anywhere. This is strictly my own observation. BUT here’s how it seems to me the moon phases seem to work: people get in various kinds of trouble during the full moon, and then call me asking to get the problem fixed during the new moon. So today I expect my phone to be fairly quiet. If you want to have a long talk with me, today is a good day to call. As October 11th the day of the new moon approaches, I know that my phone will get very busy – email too – and a lot of the communications will be rather breathless. It happens every time.

At the hospital where my wife works as a nurse, the busy time – especially in the emergency room – is the full moon. That’s when they get the most body part donors – lots of people out on their motorcycles without helmets after having a few too many. At my office it’s pretty much the opposite, with the busy time being the time of the new moon. There’s got to be some science behind this. If anyone who happens to read this knows what that is, I would appreciate some feedback on that subject.

A Home Equity Line of Credit is a Mortgage

When the same thing keeps happening over and over again, I feel I should say something. Yesterday I met with a well-dressed, obviously educated and intelligent man. We talked about filing bankruptcy. He brought in and deposited on my desk a stack of documents that I usually request for such meetings. As I looked them over I said something that referred to him as having two mortgages. He seemed surprised and stated that he had only one mortgage.

At this point I had to take a breath and explain that a home equity line of credit is a mortgage, usually a second mortgage – but a mortgage. When you use a line of credit like that, it is like withdrawing money from a bank account – only it’s not money in a bank account, it’s the equity in your home. It always disturbs me to see people doing this because:

  1. Most don’t seem to realize that a home equity line of credit creates a lien on their home and therefore eats away at their home equity.
  2. Under Minnesota law the equity in our homes is one of the few things that most creditors cannot take away, except of course for a creditor holding a mortgage.
  3. Unlike a credit card debt or a medical bill, amounts owing on home equity lines must be paid, even in the event of a bankruptcy filing, unless the debtor is willing to let the home be foreclosed upon.

It seems to me that the loan officers do their best to make sure that consumers don’t understand the true nature of these credit lines. Not only don’t they explain it, but they can be downright deceptive about it. They talk as if it is free money, and encourage that kind of unhealthy thinking. Then they give the consumer an incomprehensible stack of papers that nobody understands, and say “sign here.”

I strongly suggest that if you need to go into debt for any reason, be sure you are doing it in a way that does not diminish the equity in your home. Beware of paperwork that puts a mortgage on your home in exchange for a favorable interest rate. That deal is not as good as it looks.

Valuing Assets – and Automobiles – in Bankruptcy

There seems to be a lot of confusion these days about how to put a value on the assets when we list them on a bankruptcy petition. Under the old law it was easier. The value was what you could get for an item if you put it out in the front yard and had to sell it within 24 hours – or at least that was my interpretation of what the law said.

Under the new bankruptcy law the value is what it would cost to replace an item with exactly the same thing, with the same wear and tear and in exactly the same condition. That’s pretty theoretical, since it seems to require that you establish a value by finding the price of an exact duplicate of what you have. When we don’t know what to say for a value, I tell my clients to start looking at Craig’s List or Ebay and see if they can find what they have and at least establish a price range.

One of the most contested areas is the value of cars. It seems that the bankruptcy trustees want to use NADA values, which tend to be aimed at what a dealer should be able to get for a car. If a trustee does use Kelly Blue Book, it’s usually the dealership value. There is nothing in the law, however, that says you have to buy a car from a dealer or use dealership prices. Recently, in the Ramirez case (359 B.R. 794), a bankruptcy judge in Colorado decided that the proper standard for valuing an automobile is the Kelly Blue Book private party value, a number which is always a lot lower than the price that a dealer could get for the same vehicle. I applaud that decision. It seems right to me.

As far as I know, no bankruptcy judge in Minnesota has issued a written decision on the issue. I recently received an email from another attorney, however, stating that two of our judges have stated verbally from the bench that Kelly Blue Book private party value is the one to use.

Read my Answers to Questions at Law Guru

For about a decade now I have been answering legal questions which I receive from I just posted a link to those answers at the right here on the blog. Over the years I have answered hundreds of questions on a great variety of topics. You can view the questions at From there I’m sure you can find a link for posting your own question should you choose to do so.

I usually put a little disclaimer at the end of each answer. A lot of the questions leave out essential information which if I only knew would change my response substantially. I am quite fond of saying that there is no substitute for a face to face meeting with a competent lawyer.