Bankruptcy: A Short History

Bankruptcy:  A Short History

Bankruptcy in the United States is permitted by the United States Constitution (Article 1, Section 8, Clause 4) which authorizes Congress to enact “uniform Laws on the subject of Bankruptcies throughout the United States.” Congress has exercised this authority several times since 1801. Before 1898, there were several short-lived federal bankruptcy laws in the U.S. The first was the act of 1800 which was repealed in 1803, followed by the act of 1841which was repealed in 1843, and then the act of 1867, which was amended in 1874 and repealed in 1878.

Modern Bankruptcy Act - Nelson Act

The first modern Bankruptcy Act in America, sometimes called the “Nelson Act”, was initially entered into force in 1898. The current Bankruptcy Code was enacted in 1978 by § 101 of the Bankruptcy Reform Act of 1978, and generally became effective on October 1, 1979. The current Code completely replaced the former Bankruptcy Act, the “Chandler Act” of 1938. The Chandler Act gave unprecedented authority to the Securities and Exchange Commission in the administration of bankruptcy filings.

Bankruptcy Reform Act of 1978

The most recent reform occurred in Bankruptcy Reform Act of 1978, codified in Title 11 of the United States Code, commonly referred to as the Bankruptcy Code (“Code”). The Code has been amended several times since 1978, most recently in 2005 through the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 or BAPCPA. Some law relevant to bankruptcy is found in other parts of the United States Code. For example, bankruptcy crimes are found in Title 18 of the United States Code (Crimes), tax implications of bankruptcy are found in Title 26 of the United States Code (Internal Revenue Code), and the creation and jurisdiction of bankruptcy courts are found in Title 28 of the United States Code (Judiciary and Judicial procedure).While bankruptcy cases are filed in United States Bankruptcy Court (units of the United States District Courts), and federal law governs procedure in bankruptcy cases, state laws are often applied when determining property rights. For example, law governing the validity of liens or rules protecting certain property from creditors (known as exemptions), derive from state law. Because state law plays a major role in many bankruptcy cases, it is often unwise to generalize some bankruptcy issues across state lines.

Bankruptcy:  6 Chapters of the Bankruptcy Code

Bankruptcy cases are filed in federal court under one of six chapters of the bankruptcy code:

1.  Chapters 72.  Chapters 93.  Chapters 114.  Chapters 125.  Chapters136.  Chapters 15

Consumer Bankruptcies

I intend to focus on consumer bankruptcies, which are chapters 7, 11 12, and Chapter 13. Chapter 9 cases are for municipalities and chapter 15 cases involve foreign debtors who have filed bankruptcy under their home country’s insolvency laws but need protection of the U.S. bankruptcy code.“The central purpose of the Code is to provide a procedure by which certain insolvent debtors can reorder their affairs, make peace with their creditors, and enjoy ‘a new opportunity in life with a clear field for future effort, unhampered by the pressure and discouragement of pre-existing debt.’” Grogan v. Gardner, 111 S.Ct. 654 (1991). The purposes are thus two-fold: a fresh start for the debtor and equity among creditors. In most cases involving consumer debtors, the first is by far the more significant, because there are typically few assets to be distributed, equitably or otherwise, to the creditors involved.

Bankruptcy:  A Fresh Start

The “fresh start” concept encompasses the statutory goal of allowing individuals who have become mired in debt to free themselves from that and engage in lives unencumbered by their past financial problems. Bankruptcy thus offers hope of avoidance of permanent discouragement that might prevent a person from ever becoming reestablished as a productive member of society.Practically speaking, bankruptcy is a safety valve that somewhat tempers the harshness of the free-market economy while at the same time encouraging risk taking and encouraging new enterprises by limiting the risk involved and offering a fresh start to those whose efforts fail.The Bankruptcy Code, Title 11, United States Code, provides protections for both debtors and creditors, not only to provide the debtor with a “fresh start” but also to assure an orderly distribution of assets of the bankruptcy estate. The goal of equity among creditors is achieved by the fair distribution of the debtor’s assets according to established rules guaranteeing identical treatment of similar creditors. That guarantee can have the effect of discouraging creditors from rushing to repossess property and encourages creditors to negotiate with debtors.All assets of the debtor become part of the estate that is administered by a trustee or debtor-in-possession under the oversight of the United States Trustee’s Office and the bankruptcy court. A debtor is entitled to retain property that is exempt under applicable state or federal exemption laws. The value of any non-exempt assets is available for distribution to unsecured creditors on a pro-rata basis, either through liquidation by a bankruptcy trustee or through a reorganization plan.A debtor seeking a “fresh start” through bankruptcy is required to file with the bankruptcy court a petition, schedules of assets and debts, and a statement of financial affairs disclosing all assets, liabilities, income, expenses, payments to creditors, sales and other transactions, and business interests.Full disclosure is required; debtors who fail to disclose assets or conceal transfers from the bankruptcy court may be denied a discharge. Failure to list creditors may prevent the discharge of debts owed to them. Any intentional non-disclosure may result in civil or criminal charges.

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