Lawyers Blast Bankruptcy Reform

Lawyers Blast Bankruptcy Reform

By Janet Leiser

Senior Editor

Criticism of the new, tougher bankruptcy code was expected, especially by consumer activists who say it's punitive and unfairly targets those with few assets. But even the attorneys that represent business are waving a big, red flag.

Larry Foyle, who represents the finance companies of large automakers, says it looks like the train left the station - without an engineer or conductor. Former bankruptcy judge Timothy Corcoran III calls it terrible legislation written by lobbyists on behalf of credit card companies. And Roberta Colton, a business lawyer, fears it will chill entrepreneurial activity - the backbone of America's capitalistic system.

"Usually the plaintiffs' bar will have one view and the defense bar will have another view," says Corcoran, who is now in private practice. "In this instance, all professionals have uniformly thought this to be very, very poor legislation."

Still, the new law has its proponents.

In Washington, D.C., they include President Bush and Congress, plus large parts of the business community, such as the U.S. Chamber of Commerce and the CATO Institute.

For years, abuses of the system allowed debtors to shield assets through homestead exemption. Remember Paul Bilzerian? The corporate raider kept his multimillion dollar 11-bedroom, 20 bath home in Tampa after he filed bankruptcy.

It seems most everyone has heard of someone who took a shopping spree, thanks to credit cards, on the eve of bankruptcy.

Yet Corcoran and other Tampa Bay area lawyers contend those abuses weren't the norm. Most people have a legitimate reason to file bankruptcy, from a divorce to a job loss to a medical catastrophe.

"What we had was a problem with some aberrational debtors that judges needed to be addressed on a case-by-case basis," says Corcoran, who was a Middle District of Florida bankruptcy judge for 14 years. "What we got instead was a system written by lobbyists that tries to make all these hard-and-fast rules that are so easy to get around."

He contends the law, which went into effect last month, doesn't really fix those problems.

He also remains unconvinced fewer consumers will file Chapter 7, which previously erased most debts, since debtors must now repay more if they have the ability. The CATO Institute says consumers account for about 96% of the nearly 1.5 million U.S. bankruptcies filed annually.

"It's big. It's complicated," Corcoran says of the code. "And it's very poorly written so there are all kinds of questions.

"The legislation will not solve the kinds of problems it was touted to solve."

Powerless judges

The rules eliminate much of the discretionary power of the nation's bankruptcy judges when it comes to deadlines.

Jeffrey Warren, a Bush Ross PA shareholder who represented debtor Celotex Corp., which had $1.5 billion in assets, says bankruptcies, especially Chapter 11 reorganizations, are often complex and judges must find solutions that "aren't straight by the book." There is no one size fits all, he adds.

The new code removes the flexibility the judges had to extend deadlines for good reason, Warren says.

When it comes to Chapter 11 cases, Colton, of Trenam, Kemker, Scharf, Barkin, Frye, O'Neill & Mullis PA , says: "There's going to be a push to reorganize or just liquidate and move on."

And that's not always best for creditors, she says.

"Sometimes you just wait awhile for the business to turn around," Colton says. "Creditors can be better off in a reorganization as opposed to a quick liquidation if you can retain the inherent value of a company, even for a short time if you're going to ultimately sell it, long enough to get more money out of it."

One shot

Despite the publicity that surrounds the bankruptcies of major corporations such as Winn Dixie, Enron, Delta Airlines and WorldCom, most businesses that seek bankruptcy court protection are mom-and-pop businesses. Mega-cases, as they're called in bankruptcy lingo, are the exception.

Corcoran says: "What these changes mean is mom and pop are going to get one shot, and one shot only. They're going to have one chance to use the bankruptcy system to salvage their business. If they mess up, they're not going to get another chance."

Colton says it's now much more difficult for a small business - categorized as a company with $2 million or less in debts - to reorganize. The business will have to provide more paperwork to justify its bankruptcy, she says, including tax returns, projections and analyses.

Warren says it's rare in a liquidation case for the unsecured creditors - those whose claims are not backed by collateral - to be paid. The new code further strengthens the rights of secured creditors, he adds.

Entrepreneurial spirit

Colton questions whether the code, now more punitive, is short-sighted and a threat to the entrepreneurial spirit of capitalism. Look at what makes America successful economically, she says.

"We're different from other countries in how we treat people who file bankruptcy," she says.

"If you file personal bankruptcy, you're not discredited and lose face and ruined forever. You basically get a fresh start, you get back into the system and you start buying again."

In other countries, such as Austria, she says, if you file bankruptcy, that's it. She says that's also partly accounts for why that country struggles economically. To start a company, entrepreneurs often must personally sign for credit.

"If the company goes down, you're personally going to go down." she says. "It used to be you could get a fresh start, go out and start a new business, start hiring people."

How many entrepreneurs, she says, failed more than once before finding success?

"People are going to think twice about starting a new business because you are going to put your personal assets on the line and you may not have that escape hatch," Colton says.

Warren says that despite the semblance of the sky is falling attitude in the bankruptcy legal community, he expects the profession to adapt.

"This is not the end of the world, Warren says. "It's not slit-your-wrist legislation. We will adjust and live with it."