The banking industry struck out Friday as the National Bankruptcy Review Commission tentatively agreed to make it tougher for creditors to collect debts and seize collateral.
The commission, chartered by Congress to revamp the bankruptcy code, is scheduled to formally vote on changes to consumer debt laws at a June 19 meeting in Detroit.
If adopted as proposed Friday, the changes would affect how banks handle home equity loans, car loans, secured loans of less than $2,500, and mortgages.
Although minor changes are still possible, the commission so far has rejected the bulk of the banking industry's recommendations.
"This lacks any sense of balance," said Philip S. Corwin, a principal at Federal Legislative Associates who represents the American Bankers Association. "The creditor community would have to oppose it as going in the wrong direction."
"We are generally disappointed at the product that has been rolled out," said Joseph A. Giampapa, lead attorney at Banc One Corp.
The commission, created in 1995, has until October to send it suggestions to Congress. Lawmakers are expected to vote on the recommendations next year.
Under discussion are Chapter 7 of the bankruptcy code, which allows consumers to shed all their debts, and Chapter 13, which allows them to retain assets in exchange for repaying creditors.
The banking industry had argued for a wholesale replacement of the current bankruptcy code with a more limited law that only provides as much protection as consumers need. The intent behind the so-called "needs-based" system was to require wealthy debtors to use their resources to repay creditors while allowing poor consumers to absolve their debts quickly.
This new approach never caught on with commission members. For example, they rejected efforts to require anyone with more than $40,000 in income to use Chapter 13, rather than Chapter 7.
One of the most controversial provisions in the proposal addresses home equity loans, which no longer would be considered fully secured. Instead, the amount of a loan that exceeds the value of the house would be treated as unsecured debt. Home lenders could end up collecting just pennies on the dollar for the unsecured portion of the loan.
Even commission members disagreed. "This is a bad policy choice because it would drive up the cost of home equity lending for people who need them," said Judge Edith H. Jones of the U.S. Court of Appeals for the Fifth Circuit.
But Babette A. Ceccotti, a partner at the New York law firm of Cohen, Weiss & Simon, argued that the home equity provisions were part of a larger compromise that tried to balance the interests of debtors and creditors. "Changing major aspects now may have the effect of unraveling the agreement," she warned.
The proposal also would prohibit Chapter 7 filers from "reclaiming" debts, which means they agree to repay the loan in exchange for keeping the asset. Consumers often reclaim a debt so they can keep a car.
Secured loans under $2,500 would be treated as unsecured loans, according to the proposal. Judge Jones criticized this provision, saying it would prevent lenders from foreclosing on wide-screen televisions and computers. She recommended lowering the exemption to $100.
The proposal also would allow consumers to protect up to $140,000 in home equity during bankruptcy. This national homestead exemption would replace various rules in 35 states.Consumers filed a record 1.17 million bankruptcy petitions in 1996, contributing to a 4.37% chargeoff rate on credit card loans.
