Bankruptcy Filings Delayed Until Tax Refund Arrives

While some debate whether to save or spend their tax refunds, others are just waiting on the money so they can go totally broke.

New research from economists at Columbia University, the University of Chicago, and Washington University in St. Louis reveals that bankruptcy filings actually increase after Americans receive tax refunds. The issue: It costs money to file for bankruptcy and many Americans could not afford to pay the average of $1,477 in fees necessary, write economists Tal Gross, Matthew Notowidigdo, and Jialan Wang.

Total bankruptcies rose 7 percent in 2008 after Americans received their tax refunds, according to their research.

Going broke wasn't always so expensive. The turning point was the 2005 Bankruptcy Abuse Prevention and Consumer Protection Act, which increased by 60 percent the legal and administrative fees necessary to file for bankruptcy, according to the paper. The law also mandated that people had to pay for their own credit counseling before filing.

While total bankruptcies rose 2 percent after tax rebates in 2001, they increased 7 percent in 2008: a more than threefold increase.

The authors of the paper concluded that the increased fees prevent households low on cash from filing for bankruptcy, rather than screen out households that would not gain much from bankruptcy.

The 2005 bankruptcy law severely curtailed Americans' ability to file for bankruptcy. Though more than 2 million Americans filed for bankruptcy in 2005 -- near the height of the housing boom during relatively good economic times -- that number plunged 71 percent to 598,000 in 2006, according to the American Bankruptcy Institute. More than 1 million Americans per year had filed for bankruptcy in every year between 1996 and 2005. The number of Americans filing for bankruptcy per year exceeded 1 million again in 2008 when the financial crisis struck.

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Comments

[SueZbell]

01:06 AM on 03/26/2012

recovery 101

[loki]

09:05 PM on 03/25/2012

there is good news though. We have new state lottery's popping up everyday, and now Illinois even started the ability to buy tickets on line with a credit card, but have a responsible (?) $100 a day limit? And they wont let you buy lottery tickets anywhere in Illinois with debit or credit cards, but now will online? That right people, lets give away billions, trillions buying lottery tickets so our gov can pass it to the Ruling Class rich via tax breaks , bail outs, and special interest favors. While we all go bankrupt and fall into foreclosure.

I know, everyone has the dream of winning it big instantly, and thats great, as long as you only spend what you dont need. and nowdays many need all they can get. But the states are going stupid with lottery and gambling casinos. And thats not right.

[tfj3]

01:13 PM on 03/25/2012

Another mistake the article makes is to attribute to the severe restrictions of the 2005 law the decline in bankruptcy filings from 2005 to 2006. Many of the 2 million people who filed bankruptcy in 2005 did so once it was obvious that the 2005 law, which passed in April 2005, would be come effective in October 2005. Everyone (and there were many) who ever considered filing chapter 7 bankruptcy rushed to file between April and October 2005. Hence, those who were candidates for chapter 7 filed before the 2005 law became effective in October 2005. Thus there were fewer people available to file chapter 7's in 2006. Once the 2005 law became effective in October 2005, anyone who did not file chapter 7 and who earned more than the median income for their state, was relegated to filing chapter 13 and paying their unsecured creditors (ie. credit cards, medical bills, personal loans) what is required by the highly artificial Means Test. Most chapter 13 bankruptcy filings in 2006 were done to prevent home foreclosures and to a lesser extent, prevent vehicle repossessions.

[soli11]

10:03 AM on 04/03/2012

Actually, median income is only the first hurdle. Many potential chapter 7 debtors whose income is above median for their household size nonetheless "pass" the means test due to actual and attributed expenses (IRS standards), and can therefore qualify for chapter 7. It is not true that the bankruptcy "reform" of 2005 "severely curtailed Americans' ability to file bankruptcy". But it did increase the number of hurdles and level of complication to filing bankruptcy, thereby doubling in many cases the typical legal fee paid to bankruptcy lawyers.

[tosc]

03:26 PM on 03/24/2012

bankruptcy is a viable means to get out from underneath interest gauging lending companies who conduct themselves like a neighborhood mafia that extort monthly payment to "protect your credit standing" credit standing? Hell even whole countries are being put on credit lists....the entire world is operating on credit.

[T-Salt]

02:22 PM on 03/24/2012

This article is confusing correlation with causation. A good bankruptcy attorney will advise a client to wait until after they receive the tax refund to file for bankruptcy so that the client will be able to spend the lump sum payment before filing. Depending on whether the client is exempting their assets under State or Federal law, the client might not be able to exempt and retain all of their cash, especially if they are taking an exemption on their homestead. Because of means testing, it is only the poorest of the poor who are eligible for a chapter 7, so maximizing their retention of their meager assets is really the primary reason why an individual will hire counsel to file their bankruptcy petition. Thus, rather then being merely a sign of people being "too poor to file for bankruptcy," it is all sound legal planning.

[soli11]

10:08 AM on 04/03/2012

"A good bankruptcy attorney will advise a client to wait until after they receive the tax refund to file for bankruptcy so that the client will be able to spend the lump sum payment before filing." This really depends on whether the future tax refund can be exempted under state law. There is usually a more practical consideration: Unlike in Chapter 13, Chapter 7 debtors must pay the full attorney fee before filing. The attorney who files a Chapter 7 before all fees are collected is in the same position as the client's creditors.

[kemcha]

02:05 PM on 03/24/2012

Bankruptcy is quickly becoming the law for the rich. Anyone who is broke who wants bankruptcy cannot afford the $1500 for the filing fee as they need that money for something else and it keeps the collection agencies alive to harass America's poor.

[John Shuck]

01:26 PM on 03/24/2012

There is a large class of people we never hear about. We simply don't care. It's all their fault. They don't try hard enough. They made bad choices. They are uneducated. Does anyone see that these are also just excuses?

[soli11]

10:11 AM on 04/03/2012

Divorce. Medical debt. Unemployment. These are the big three situations that may lead a solvent individual to bankruptcy. Even Horatio Alger would file if he thought he had to.

[glpseattle]

12:40 PM on 03/24/2012

we are already in a situation where we can't get afford to get sick because it's too expensive to get treatments.
The main ideology of the republicans which consist of having a system based on the law of the jungle is slowly becoming a reality.
The weak must disappear because they are not fit to live in their society.

[guveqzero]

10:54 AM on 03/24/2012

Yes, our wonderful system trying to prevent bankruptcy by making it unaffordable. And to make matters worse, the mandatory bankruptcy classes that you must take before bankruptcy teach you to negotiate your debt with banks. Which we all know, banks don't want to negotiate. They want you to work forever to pay them back. When a company goes bankrupt, who gets this mandatory training? Obviously, not the executives.

[larryvnyrd]

09:27 AM on 03/24/2012

So broke you can't afford to go bankrupt. That is about as broke as it gets.

[TaxpayingVoter]

01:20 PM on 03/24/2012

That's me.

[tribalogical]

04:37 AM on 03/24/2012

yep, "I'm so broke, I have to file for bankruptcy protection…" except now it's, "I'm so broke I can't AFFORD to file for bankruptcy protection…"

Well that sure makes sense doesn't it… let's ensure you get no protections at all when the hammer falls…

Thus the new wave of 'debtor's prisons' we see on the rise in the New Amerika...

[TimeMaster]

06:08 PM on 03/23/2012

If bankruptcy filings have the effect of more legal fees, then I guess there will not be any lawyer lay-offs.

If everyone citizen in the country filed bankruptcy would this help the economy +OR- would we see a bailout plan passed in Congress for the citizens? Naw, it would probably end up being proposed as a banking bailout again.

[lofttypeofaview]

11:02 PM on 03/23/2012

Many that would have to file for bankruptcy possibly also wouldn't be able to afford the associated fees of that filing, so lawyers wouldn't earn anything and therefore wouldn't take the case, unless it's pro bono but many can't afford to do that much more either..

[Izzymeister]

05:54 PM on 03/23/2012

Repeal Obamacare and we can all go bankrupt when we get a serious illness.

[TaxpayingVoter]

01:21 PM on 03/24/2012

Not when we can't afford to file.

We'll be sick AND broke. Likely homeless at that point, too.

[authorized-user]

03:59 PM on 03/23/2012

Go big or go home, take all you can, leave nothing behind
Welcome to the 21st century.

[timothygough]

03:50 PM on 03/23/2012

Bottom line- do not use credit card. Banks continue to get richer and richer with the interest. If we stop use credit cards, it will be the banks going BANKruptcy. How a great irony that would be.

[bookreader451]

08:47 PM on 03/23/2012

or pay them off. Chase has paid ME to use their card. I got money back and never paid a dime in interest. They game the system but so can you. I am the queen of interest free purchasing. Rule of thumb being never buy anything interest free unless you already have the money in the bank to pay for it. I once bought an appliance and paid it 12 month later, in full one payment, interest free. It also helps to have really good credit.