Analyzing Bankruptcy Code reform.

Any apartment owner or manager who has tried to remove a problem resident for non-payment of rent, illegal activity or any other legitimate reason only to have the resident file for bankruptcy protection at the 11th hour to avoid eviction has just been granted long-awaited relief from Congress.

On April 20, the president signed into law the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (P.L. 109-8), which revises the Bankruptcy Code's automatic stay and makes it more favorable for owners seeking possession of their property. This 500-page bill was eight years in the making and is the most sweeping change to the Bankruptcy Code since 1978.

Background

NAA/NMHC have been involved in the bankruptcy reform effort since 1995 when the Congressionally chartered National Bankruptcy Review Commission began its landmark study of the nation's bankruptcy laws. Alarmed at the increasing number of consumer bankruptcy filings, Congress charged the commission with making recommendations to improve the U.S. Bankruptcy Code.

NAA/NMHC members participated in this process and submitted letters to the commission describing how residents had abused the system to avoid paying rent. They told of residents who damaged property and, in many cases, conducted illegal activity on the premises, all while being protected from eviction by the Bankrupt cy Code. The commission heard powerful testimony and received more than 300 letters, including seven from members of Congress, concerning persistent, systemic abuse of the automatic stay by apartment residents who had successfully forestalled eviction for months by filing a bankruptcy petition. After an extensive evaluation, the commission issued its report on Oct. 20, 1997. While the recently passed legislation does not, in any large part, reflect the recommendations made in that report, it did set in motion the effort to enact meaningful bankruptcy reform.

According to the American Bankruptcy Institute, personal bankruptcies peaked in 2003 when 1.6 million cases were filed. That translated into one for every 73 households and was nearly double the amount since 1993. At that time, bankruptcies were being filed at a rate of 185 per hour.

The primary goal of the reform movement was to require people who could afford to repay some of their outstanding debt to make payments. Proponents of comprehensive reform have felt that the fundamental flaw in the Bankruptcy Code is that anyone can file regardless of need. While the new law still offers those with the least ability to repay a chance to erase their debt, it creates many new hoops debtors must jump through before getting a fresh start.

The biggest change is the addition of a means test to determine whether a debtor falls into Chapter 13 bankruptcy, which requires payments to creditors, or a Chapter 7 bankruptcy, which discharges all debts after liquidating all non-exempt property. The new law also imposes a counseling requirement of every filer. At least six months before filing, debtors must complete courses in personal financial management before their debts can be discharged. Other enhanced consumer protections include raising the priority of child-support and alimony payments and requiring that credit card issuers disclose how long it will take to pay off a balance when paying just the minimum amount due every month.

Automatic Stay Revisions

Of particular interest to the apartment industry is the revision made to the code's automatic stay provision. Under current law, when a resident files for bankruptcy, all creditor collection efforts, such as wage garnishments, legal actions and eviction proceedings, am stopped. The stay goes into effect the very day the bankruptcy petition is filed, offering a resident facing eviction an immediate benefit. The stated purpose of the automatic stay is to give debtors "breathing room" so they can attempt a repayment plan or, if appropriate, liquidate property and discharge their debt.

The automatic stay was intended to protect creditors as well. Without the stay, creditors would compete with each other to obtain payment from the debtor, clearly rewarding those who acted first. While some Creditors may benefit from this, apartment owners get little relief because the Bankruptcy Code not only prohibits owners from pursuing back rent, it also requires them to continue to extend credit, i.e., free housing, until the stay is lifted and the eviction can proceed.

The new bankruptcy law makes two changes to the automatic stay that offer relief to owners pursuing evictions. The first allows an eviction proceeding to continue if the owner obtained a judgment of possession before the bankruptcy petition was filed. This is a major improvement over the current system in which a bankruptcy filing provides last-minute protection from eviction. The changes are not without protections for the resident, however. The debtor continues to be protected for 30 days if he or she can certify that state law allows them to cure the default and if the debtor deposits the next rental payment with the clerk. In addition, if during that 30 days the debtor files a certificate that he or she has cured the monetary default, the owner must terminate the eviction process. While not perfect, when combined with the higher barriers to filing bankruptcy petitions, generally this provision should yield positive results for the industry.

The second change allows an eviction to proceed if the property is in danger or if there is illegal drug use on the property. For this to take effect, the owner must certify that an eviction action has commenced or that illegal or dangerous activity has occurred in the 30 days preceding the filing of the certification. The resident debtor can file an objection, however, in which case a court hearing must be held within 10 days.

Because bankruptcy law is highly technical and these changes are significant, it is difficult to predict the impact the changes will have in every scenario, meaning how they will be implemented and interpreted by bankruptcy trustees and judges.

NAA/NMHC will continue to monitor implementation of the new law and will issue additional guidance as the treatment of these new provisions plays out.

Jeanne Delgado is Vice President of Property Management for the NAA/NMHC Joint Legislative Program.