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Our English Heritage
The American system of debt and debt collection was modeled after, to no one’s surprise, the British legal system. This led to some colorful laws. The first bankruptcy law occurred in English law in 1543 and allowed the imprisonment of debtors. Later statutes in 1571, 1604, and 1623 allowed for punishment of those who aided bankrupts. All bankrupts were presumed dishonest and fraudulent and could be forced to repay or be hung. However imprisonment was far more common and occurred in England for over three hundred years. Although severe by modern standards imprisonment for debt was not a British invention as the Greeks and Romans had condemned debtors to slavery.

In the seventeenth century when the commercial market in England was expanding the concept of bankrupts as honest but unfortunate started to circulate. This gave birth to the thought that creditors could oppress debtors as well as debtors oppress creditors. In 1706 a new bankruptcy statute recognized differences by offering absolution to honest bankrupts while retaining criminal punishment for dishonest ones. Eventually the public view of debtors began to change. This was in large part due to the 1760 Depression that happened after the end of the Seven Years War. Then even prominent merchants failed and it became harder to stigmatize insolvency as moral failure.

Bankruptcy in Colonial America
Colonial laws followed the English precedents. Early bankruptcy laws in the Colonies included a 1714 Massachusetts law that allowed creditors not the debtor to file a bankruptcy petition. The debtor’s property would then be seized and sold. The creditors would be paid in proportion to their debts and the debtor would receive a discharge from further liability. The law expired in 1717 and was not renewed.

Bankruptcy laws contained harsh punishments in hopes of providing an incentive for bankrupts to avoid court proceedings. The Pennsylvania Bankruptcy Act of 1785 allowed convicted bankrupts to flogged and have an ear nailed to a pillory. In order to make the punishment permanent the ear was then cut off. In early colonial New York, bankrupts were branded on the thumb with a "T" for "thief."


Bankruptcy in the U.S. Constitution
Bankruptcy was such a foregone conclusion that it was included in the U.S. Constitution with little or no opposition or debate. Under Article 1, Section 8 is states, “To establish a uniform rule of naturalization, and uniform laws on the subject of bankruptcies throughout the United States.”

The Bankruptcy Act of 1800
Even though Bankruptcy was written into the U.S. Constitution a debate over the morality of it kept a comprehensive bill off the books until 1800. Even when the proponents of bankruptcy mustered enough votes to get a bill passed they couldn’t keep it on the books for long. The first national bankruptcy bill was passed in 1800 but it had significant restrictions.

The bankruptcy law of 1800 made the proceedings involuntary; it could only be initiated by a creditor. And it was could not be declared unless the debtor engaged in certain commercial occupations, amassed debts in excess of a large amount and committed statutorily defined acts of bankruptcy.

After a large number of debtors actually had their debts cleared the Republican dominated Congress repealed the bankruptcy act in 1803 eighteen months before it would have expired on its own. The bankruptcy bill of 1841 fared no better lasting barely a year.

The Bankruptcy Act of 1841
The Bankruptcy Bill of 1841 still allowed for involuntary proceedings but unlike previous laws allowed the debtor to declare voluntary bankruptcy. It provided for an automatic discharge unless fifty percent of creditors in filed a written dissent. While allowing large numbers of debtors to gain financial relief the Act immediately became highly unpopular with creditors. It was repealed in 1843 after only thirteen months on the books.

The Bankruptcy Act of 1867
In 1864 a political movement started to call for a new bankruptcy law. It was in March that The National Bankruptcy Association began recruiting. Also in 1864 U.S. Representative Thomas A. Jenckes urged “emancipation” for all Union soldiers who wore a mantle of oppression under their blue tunics. He was not speaking of the behalf of the Union’s Negro soldiers but of the white soldier who was shackled by “the bondage of debt.” His plea became the first comprehensive bankruptcy law in American history in 1867. It included both voluntary and involuntary bankruptcy filings.

Previous to the 1867 Bankruptcy Act debtors had only been allowed to keep the most basic necessities, including clothes, bedding and tools of their trade. But now the exemptions were controlled by state law. This prompted Texas to establish a generous homestead exemption for real property in hopes of attracting new settlers. Mississippi allowed an exemption of 240 acres of land plus $4,000 in personal property and Florida granted a 160 acre exemption.

The Act was amended in 68, 72, & 74. The 1874 Amendments abandoned the 50 cents on the dollar requirement applicable to involuntary cases thereby preventing creditors from blocking the discharge in these cases.

One of the major problems with the Bankruptcy bill of 1867 were the fees involved with carrying it out. There were filing fees, administrative fees, and Marshall’s fees. In many cases after the exemptions were made and the fees paid there was nothing left for the creditor.

But it did offer help for many debtors. George Lyman Cannon, founder of the National Bankrupt Association used the 1867 bankruptcy law to relieve himself of $30,000 in debts and went on to found and run the prosperous Colorado Chemical Company

The bankruptcy law of 1867 lasted far longer than its predecessors but was finally repealed in 1878.

The Bankruptcy Bill of 1898
The 1898 law was brought about by a variety of forces; business, pro-debtor, and legal interests. But the forces that gave the final momentum were the Republican lawmakers who supported pro-business debt collection groups that wanted a uniform statute to replace a myriad of state debt collection laws. In 1890 creditor groups commissioned a St. Louis attorney to write a bankruptcy law. That bill passed the House but bogged down in the Senate. In 1897 the House again passed a version of the creditor bill with the Senate passing its own debtor friendly version. Compromise arrived and President McKinley signed the Bankruptcy Act in July of 1898.

The Bankruptcy Act of 1898 was the first bankruptcy law to become permanent. It incorporated five fundamental principles. It relieved all debts not just ones arising out of contracts entered into after the law went into effect; it permitted both voluntary and involuntary bankruptcy; it applied to all business corporations, including national banks, but exempted farmers and wage earners from the involuntary provisions; it protected whatever property was exempt under state law from attachment; and it provided provisions by which insolvent debtors could have a grace period in which to reorganize their affairs or reach compositions with their creditors. Creditor approval and other conditions for discharge were fully removed.

The 1898 Bankruptcy Act set up an adversarial process. This was a major break from the administrative role that had been previously taken. Because of this both side would have legal representation and the proceeding would be overseen by a judge (at that time called a bankruptcy referee). This created an enormous demand for bankruptcy attorneys. There was also a provision that allowed debtors, in a creditor filed an involuntary petition, to have a state trial, where they would more likely have a jury of their local peers.

Amendments & Court Rulings
In 1902 The Supreme ruled that allowing state exemptions did not violate the uniformity requirement of Article 1 Section 8.

Discharge was tightened by the Amendments of 1903. Before the change debtors could declare bankruptcy and discharge debts an unlimited number of times with no time limits between bankruptcies. The 1903 Amendments limited voluntary bankruptcies to one during every six years.

The Chandler Act Reforms of 1938
The Chandler Act of 1938 created a menu of options for both individual and corporate debtors. Debtors could choose traditional liquidation. In addition to traditional liquidation individual debtors could seek an arrangement with their creditors through Chapter 10 of the Act or they could attempt to obtain an extension through Chapter 12.

Corporations could seek arrangements on their unsecured debts through Chapter 11 or reorganization of both secured and unsecured debts through Chapter 10. However, because Chapter 10 required Securities and Exchange Commission review for all publicly traded firms with more than $250,000 in liabilities corporations tended to prefer Chapter 11.

With the enactment of the Chandler Act of1938 American bankruptcy law had obtained its central features. Both individuals and businesses could declare bankruptcy. Both voluntary and involuntary petitions were allowed. Individual debtors could choose liquidation and a discharge, or some type of readjustment of their debts. By choosing Chapter 8 debtors retained possession of property, mainly residences, and offered creditors a three to five year payment plan during which a stay prevented lenders from enforcing liens. By 1939 involuntary bankruptcy became rare, never rising above 2,000 a year.

The Bankruptcy Reform Act of 1978
The Bankruptcy Reform Act of 1978 replaced the much amended 1898 Bankruptcy Act. It maintained a menu of options. Chapter 7 provided for liquidation for businesses and individuals while Chapter 11 allowed for debt reorganization with incumbent management rather than court appointed trustees were left in control of bankrupt companies. Chapter 13 provided for readjustment of debts for individuals with regular income. The Bankruptcy Amendment Act of 1984 limited the right of companies to terminate labor contracts. Chapter 12, added in 1986, allowed farmers to readjust debts with a special provision by allowing a "knockdown" of farm mortgage principal.

Bankruptcy Reform Act of 1994
The Bankruptcy Reform Act of 1994 included provisions to expedite bankruptcy proceedings, to standardize fees, and to encourage individual debtors to use Chapter 13 to reschedule their debts rather than use Chapter 7 to liquidate. It also included provisions to aid creditors in recovering claims against bankrupt estates

The Act’s nudge towards Chapter 13 didn’t work but the bill did create the National Bankruptcy Commission. It was created to investigate further changes in bankruptcy law. It did work. In November 1997, the National Bankruptcy Review Commission completed an extensive and detailed report on bankruptcy reform. The report included the provisions for the most pro-creditor reforms in the one-hundred years of uninterrupted bankruptcy laws.

Bankruptcy in 2000
Consumer debtors, through Chapters 7 &13, file more than 95 percent of bankruptcies but businesses filing Chapter 11 reorganizations account for a higher dollar amount than all other types of bankruptcy combined.

Chapter 9, municipal bankruptcy, designed for public subdivisions of a state, usually municipal utilities, government school and water districts, and cities remains in effect as does Chapter 12, designed specifically for the reorganization of family farms.

The Bankruptcy Abuse Prevention & Consumer Protection Act of 2005
In 2005 the United States Congress took a comprehensive look at bankruptcy. In regards to Chapter 9, for government entities, and Chapter 12, for farms, it took no action. In regards to Chapter 11 where incumbent management retains control of ongoing operations, can obtain new financing, and continue business all while having exclusive rights to propose reorganization plans to creditors theoretically for 120 days but in reality for the duration of the case, Congress did nothing.

However Congress did pass extensive changes designed to make individual filings more expensive, more cumbersome, and less effective.

The Bankruptcy Abuse Prevention & Consumer Protection Act of 2005 requires debtors to receive a briefing from an approved credit counseling agency at least six months before they can file their bankruptcy case. Then they must pass a strict Means Test to determine whether they can have their debts liquidated through Chapter 7 or whether they must enter a repayment plan through Chapter 13. And they must take an approved class on debt management techniques that they have to pay for, before they receive their bankruptcy discharge.

But that’s not all. There’s a provision making it easier for a court to dismiss a bankruptcy case outright or to convert a Chapter 7 case to a Chapter 13 case; and a provision permitting a court to impose sanctions on attorneys, or even on debtors, for filing a Chapter 7 case that is dismissed or converted to a Chapter 13 case. Furthermore, any party in interest (in other words, one of your creditors) can now move to dismiss a case. Another provision provides for sanctions. Under the Act, the court may order the debtor's attorney and even the debtor to pay sanctions to the bankruptcy trustee to reimburse the trustee for all reasonable costs if the court grants the motion.

 

 

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