Abuse or Protection? Economics of Bankruptcy Reform Under BAPCPA

Prior to the enactment of the Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA) of 2005, United States bankruptcy law provided a number of different mechanisms designed to both facilitate credit markets and provide some measure of consumption insurance. The interplay between chapter 7 and chapter 13 discharge procedures in particular influenced debtor behavior such that debtors sought to maximize financial gain from bankruptcy by transferring wealth from nonexempt forms to exempt forms.BAPCPA dramatically altered the procedures affecting debtor behavior. In an effort to stop opportunistic behavior, BAPCPA eliminated a number of wealth manipulation strategies. However, BAPCPA provided new strategies and incentives to transfer wealth to new exempt forms, manipulate the means test, and ultimately succeed in avoiding debt re-payment.This article examines incentives to act opportunistically before and after BAPCPA. As demonstrated in the article, BAPCPA creates a ten-fold incentive to curtail work six months before filing to reduce median income for purposes of manipulating the means test. However, because of increased costs to file, BAPCPA significantly deters nonopportunistic debtors. After examining BAPCPA’s deleterious effect on bankruptcy law as a source of consumption insurance, the article suggests an alternate approach. Under the approach, a single filing procedure is created where debtors must repay debts from both income and wealth in an effort to track obligation to repay with ability to repay. The article suggests this approach creates greater economic efficiency, significantly deters opportunistic behavior, and maintains bankruptcy as a source of consumption insurance. Ultimately, the article suggests that BAPCPA benefits credit markets, damages consumption insurance goals, and may not have a significant effect on opportunistic behavior.

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