Close-up: Bankruptcy

Physician's Money Digest, May 2006, Volume 13, Issue 5

n.

Bankruptcy: A proceeding in a federal court in which an insolventdebtor's assets are liquidated and the debtor is relieved of further liability.

There was a time when the term "bankruptcy" wasfraught with negative connotations and consideredan act of desperation, a last-ditch effort to stave offcreditors and avoid being turned out onto the street. Overthe years, filing for bankruptcy became more strategy thanstigma. The shame that had once been associated withthis action was viewed as a way for consumers to wipe theslate clean of their debts and make a fresh start. All thatchanged on October 17, 2005, when a new bankruptcylaw went into effect.

How popular had it become to file for bankruptcy?Researchers at Lindquist Consulting estimated that morethan 200,000 bankruptcies were filed in the week leadingup to the law change, or 3 times as many as the previousrecord high for a single week. That's not surprising, consideringthe new law has much more stringent requirements.

New Law Overview

The new law makes it much more difficult for individualsto file for Chapter 7 bankruptcy. Instead, consumerswill be forced to file under Chapter 13, and the differencebetween the two filings is considerable.

According to CNNMoney.com, in a Chapter 7 filing, anindividual's assets—other than those that are exempt bystate law—are liquidated, and the funds, as far as theywill stretch, are used to pay off the individual's debts. Ifthere are any debts remaining, they are canceled, and theindividual is allowed to start over.

In sharp contrast, a Chapter 13 filing places individualson a repayment plan for up to 5 years. This is of particularinterest to physician-investors because of the formulaused to determine which filing category is appropriate.According to California-based bankruptcy attorneyStephen Elias, you cannot file for Chapter 7 bankruptcy ifyour income is above your state's median and you canafford to pay 25% of your unsecured debt.

In addition, finding a bankruptcy attorney to handleyour case will be more difficult and more costly. That'sbecause the new law invokes stronger lawyer liability,stating that a bankruptcy attorney may be subject to variousfees and fines if information about a client's case isinaccurate. As a result, attorneys are expected to chargenearly double for handling a bankruptcy.

Required Counseling

Under the new law, physician-investorscannot simply file for bankruptcy. The lawrequires that, regardless of whichfiling you are contemplating,you must meet with an approvedcredit counselor atsome point during the 6-monthperiod prior to filing. The counselor,and their agency, must beapproved by the US Trustee'soffice. You can locate an approvedagency in your area byvisiting the Trustee's Web siteat www.usdoj.gov/ust, and clickingon "Credit Counseling and Debtor Education."

However, that's not where the counseling requirementsend. Once your bankruptcy case is over, but before you canbe absolved of your debts, you must attend a second counselingsession to learn about personal financial management.As noted on the FindLaw.com Web site, you will geta bankruptcy discharge fromthe court only after you submitproof that you fulfilledcounseling sessions.

The new law also altershow personal property isvalued. Under the old law, if you were filinga Chapter 7 bankruptcy, you couldvalue personal property based on what itmight sell for in a "fire sale." The new law,however, states that property value must bebased on its retail replacement cost, consideringits age and condition. Filers could see thevalue of their property rise and, as a result, soldoff to cover their debts.In short, bankruptcy has come full circle,returning to the days when filing was avoided atvirtually all costs.

How to File

Financial experts agree that filing for bankruptcyshould be a last resort. "I'm a believer in tryingto take control of a situation and work through itas best as possible," says Mary McGrath, CPA,CFP®, of Cozad Asset Management, Inc.

If, however, you decide to file, eHow.com suggeststhe following procedure.

Start by contacting a reputable bankruptcyattorney, someone who has experience workingwith physicians. When you meet, make certain tohave all your financial papers with you. This isimportant because the attorney will help youdetermine the extent of your debt. If something isomitted from your bankruptcy petition, you couldowe more money later on.

Discuss both secured and unsecured debt withthe attorney. Cars and mortgages fall into thesecured debt category because a creditor stillholds an interest in the property. Some debts—like delinquent taxes, student loans, and child support—will still be owed even after your bankruptcycase is over.

Once your attorney files the bankruptcy petition,you should notify all your creditors. An automaticstay is put into effect, and creditors are prohibitedfrom collecting on debts. Atrustee assigned to your case willsell and distribute your assets topay off your debts.

POP QUIZ

1) The new bankruptcy law is

  1. more stringent than the old law
  2. less stringent than the old law
  3. about as stringent as the old law
  4. a complete abandonment of the system

2) The new law makes it more difficult to file for

  1. Chapter 13
  2. Chapter 12
  3. Chapter 7
  4. Chapter 11

3) Under the new bankruptcy law, attorney fees areexpected to

  1. stay the same
  2. double
  3. triple
  4. lower by 50%

4) Personal property values will now be based on

  1. an action sale
  2. retail value
  3. wholesale value
  4. Blue Book value

5) The new bankruptcy law states that financial counselingsessions are

  1. required
  2. recommended
  3. up to the individual
  4. a waste of time

Answers: 1) a; 2) c; 3) b; 4) b; 5) a.