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Bankruptcy filings soaring again

It looks as if last year's reform law did not really stem the enormous flood
of bankruptcies after all. Here are the states with the highest bankruptcy
rates.

By Liz Pulliam Weston

The lull in bankruptcy filings may already be a thing of the past.

Consumer bankruptcy cases plunged to a 20-year low in the first three months
of 2006, reflecting the passage of a tough new bankruptcy law last year. But
the pace of new filings is already on the rise.

Courts now see an average of 2,000 new filings a day -- four times the
number that were filed in November 2005 after the bankruptcy law went into
effect, according to Chris Lundquist, founder of Lundquist Consulting, which
tracks bankruptcy trends.

If filings continue to rise at anything like this rate -- which is not a
given, but certainly a possibility -- we could see close to 1 million
filings by the end of the year. Credit card interest
out of control?

That would still be significantly less than the record filing levels that
drove passage of the Bankruptcy Abuse Prevention and Consumer Protection Act
of 2005. But it would be a pretty clear indication that the bankruptcy
juggernaut was just stalled, not cured, by the new law.

Flood hits credit counseling agencies
Meanwhile, the leading credit counseling organization says bankruptcy reform
is putting unprecedented strain on counselors' finances.

Bankruptcy filers are required to undergo credit counseling before they can
proceed with their cases, but many arrive at the counselors in such sorry
shape that they can't pay the nominal fee the agencies impose, said Bob
Ensinger, marketing director for the National Foundation for Credit
Counseling.

Each pre-bankruptcy counseling session costs the agencies an average $50.96,
Ensinger said, but the average amount collected is just $37.71. Losing
$13.25 on each session is bad enough, but the agencies complain that a
larger-than-expected number of applicants is forcing them to redirect
resources to bankrupts that might otherwise be used to help consumers who
still have a fighting chance to pay their debts.

Surely, this is not what Congress had in mind.

Lawmakers wanted to stem a rising tide of filings, so they passed a law that
can divert higher-income filers into Chapter 13 repayment plans, rather than
allowing them to file for a Chapter 7 liquidation of their debts. Critics
said the bill unfairly punished consumers while putting few restrictions on
irresponsible lenders.

Fallout from reform
The reform law's unexpected -- and unpleasant -- consequences started before
it even went into effect.

Consumers rushing to beat the Oct. 17 implementation flooded the court
system, leading to long lines outside courthouses and unprecedented numbers
of filings. More than 2 million consumer cases were filed in 2005, including
619,588 in October alone.

Consumers usually don't file bankruptcy on the spur of the moment.
Typically, they struggle for years with their finances before giving in,
Lundquist said. His research indicates that the "extra" filings last year
represented many people who otherwise wouldn't have filed for another 12 to
24 months.

All told, one in every 60 households filed a consumer bankruptcy in 2005,
according to the American Bankruptcy Institute. In 2004, one of every 79
households filed; by the first quarter of this year, the rate had plunged to
1 in 261.

Highest bankruptcy rates, 2005
RankStateHouseholds per consumer bankruptcy filing
1Indiana34.41
2Ohio37.19
3Utah39.52
4Tennessee39.7
5Oklahoma40.86
National average 60.16

The American Bankruptcy Institute survey ranked all 50 states and the
District of Columbia.

Lowest bankruptcy rates, 2005
RankStateHouseholds per consumer bankruptcy filing
51South Carolina123.16
50Alaska122.64
49Vermont119.61
48District of Columbia115.93
47Hawaii109.54

The American Bankruptcy Institute survey ranked all 50 states and the
District of Columbia.

Lenders knew many consumers would try to beat the deadline, but the actual
size of the pre-implementation surge caught the industry by surprise. Many
credit card issuers, in particular, wound up facing much larger losses than
they expected, as I wrote in "Bankruptcy law backfires on credit card
issuers."

The lull in filings after the law took effect -- Lundquist counted 102,949
filings in the first quarter, down 73% from the previous year -- was good
news for those lenders. One measure of the industry's pain, Fitch Rating
Service's credit card index for charge-offs, plunged from a peak of 7.52% in
November to 3.29% in February 2006. Fitch analysts say they expect
charge-offs for most mainstream issuers to remain below 6% for at least the
first half of the year.

Ominous indicators
If charge-offs and other delinquencies start to tick up, however, we could
see the pace of bankruptcy filings quickly follow.

"I would look to things like more delinquencies on revolving credit as well
as home mortgage delinquencies and foreclosures as pre-indicators, if you
will," said Sam Gerdano, head of the American Bankruptcy Institute, who
expects this year to end with about 900,000 consumer filings. But Gerdano
says he believes last fall's filing rush "sucked so many cases out of the
system that it will take quite a while to snap back."

Consider, though, that the bankruptcy rate that so concerned Congress had
averaged between 1.2 million to 1.6 million annual personal bankruptcies
since the late 1990s. If we add 900,000 new filings this year to the 2
million last year, the average for the two years is 1.45 million. It's hard
to see much progress in that.

Lundquist thinks filings could easily return to 90% of the old rate,
although the pace will depend on the long-term effects of the new law. Liz
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"Are more people discouraged from filing bankruptcy? Will more file Chapter
13s instead of Chapter 7s? Will more people chose alternatives to
bankruptcy?" Lundquist asked. "It's just too early to know."

Same factors propelling bankruptcies
The factors that helped feed the bankruptcy boom of the last decade are
certainly still in place. Those include:
An enormous expansion of credit by the lending industry, including to
customers with shaky repayment histories and questionable ability to repay.
The amount of outstanding credit card debt was more than quadrupled since
1990, to $696.7 billion, according to CardWeb.com.


A large segment of the public that's financially illiterate. Only one-third
of adults in a recent poll had a good understanding of basic economic and
personal finance concepts, according to a Harris Interactive study prepared
for the National Council on Economic Education.


Interest rates with no caps. Many credit cards now come with penalty rates
above 30% which can be triggered by a single late payment. Overextended
consumers facing those kinds of finance charges can quickly find themselves
unable to keep up with payments.


A growing number of people who are uninsured, or underinsured, against
medical bills. The Census Bureau counts 45 million uninsured, and a recent
Commonwealth Fund study found 41% of moderate- to middle-income adults did
not have health insurance for at least part of 2005, up from 28% in 2001. A
Harvard University study found medical bills were a factor in half of
consumer bankruptcies.
Given these trends -- and Congress' unwillingness to tackle any of them --
any lull in filings may well be as fleeting as a teaser rate.

Liz Pulliam Weston's column appears every Monday and Thursday, exclusively
on MSN Money. She also answers reader questions in the Your Money message
board.