Is Bankruptcy Different for the Wealthy?

[nickshepDEM]

Interesting post I found over at the Economics blog I read on a daily basis.

Is Bankruptcy Different for the Wealthy?

There's a saying that I've heard attributed to Martin Luther King that goes something like "In this country, there is capitalism for the poor and socialism for the rich." I'm not sure if MLK was the one who said it or not, but I think there is some truth to it.

Consider, for instance, the Donald and the boys at Long Term Capital Management. I understand that twice, properties owned and managed by the Donald declared bankruptcy. I understand that in both instances, he continued to collect a hefty salary (for running the company in such a way that it had to declare bankruptcy?). Additionally, he doesn't seem to have trouble finding new investors. The boys at LTCM had a similar story, though on a bigger scale. LTCM's demise (I don't recall if it every actually declared bankruptcy) even required the Fed's intervention, but a "where are they now" shows the main characters at a new hedge fund, each of whom is presumably making more money per year than most readers of this blog put together and we're a reasonably well educated bunch.

Now, I'm fortunate in that I know almost nothing about bankruptcy. I hope to keep it that way. But I have come across people who have had to declare bankruptcy. They weren't living well before it, and they weren't living well after either.

Are the Donald and the LTCM boys a special case? Or do big losers really come out well while small losers get hosed? (There's the old saying: If you owe $10,000 to the bank, you're in trouble, but if you owe $100 million, the bank is in trouble.) If the latter, how does it happen? If there is a disparity in how the rich and the poor fare after bankruptcy, are the new bankruptcy laws going to make it better or worse?

http://angrybear.blogspot.com/2007/01/is-bankruptcy-different-for-wealthy.html

Thoughts?

[Redstone]

1. Of course it is. EVERYTHING is different for the wealthy.

Redstone

[nickshepDEM]

2. True...

Just wanted to post this because I thought the blogger made several excellent points.

[Mikey929]

9. Nope

Not everything is different for the wealthy. A rich man's clock ticks away the loss of time just as a poor man's. He may have more jewels in his time-piece, but he can't make time slow down. Death will come to him just as it comes to everyone else. Even with his mansions and luxury cars, he will feel the ever-present march toward death and there is nothing he can do it stop it.

[Mr Rabble]

11. Good point Mikey. Welcome to DU.

[Mikey929]

12. Thanks!

Thanks for the welcome! Nothing like a little political wrangling in the morning to get the blood flowing!

[tkmorris]

15. No he can't stop it. However

The rich certainly can slow it down in ways that the poor cannot. Such is the health care system in these United States.

[sandnsea]

16. Not even that anymore

A rich man can afford medical care that a poor man cannot, consequently that clock doesn't tick the same way either.

[CTyankee]

22. Yes, of course. But on the way to that inevitable fate the rich man has

an easier way and his children and to be widow are cared for so he does nothave to worry and stress over their well being.

Please.

[SharonAnn]

21. I believe these people's companies filed for bankruptcy. Few of the wealthy

ever file for personal bankruptcy. And if they do, they make sure they've got various "untouchable" assets in place like homes in Texas or Florida, annuities, etc.

They don't really go "broke" like you and I would.

And when companies go bankrupt, the investors lose but the person who started it doesn't necessarily lose anything personal other than their investment.

[Stargazer99]

3. I keep telling 'em the well to do have it figured out how to

make the taxpayer foot the bill for what ever the "more equal than others" want.

[mongo]

4. K&R

and posting so I can find this to read the whole article later.

[Mrs. Ted Nancy]

5. One thing to consider. . .

is that "the Donald" and Long Term Capital Management (if it did file for bankruptcy) were companies that filed for bankruptcy and thus did not file as individuals.

Also, these companies could have filed for chapter 11 reorganization and not a chapter 7 liquidation.

But I do agree that bankruptcy is different for wealthy individuals because they can buy a home in Florida or Texas (where they have an unlimited homestead exemption) and thus pour millions into a home and shelter that money from being in the bankruptcy estate. And I'm sure a lot of them have hidden some money in the Cayman Islands or exotic locale.

[Pragmatic Pilgrim]

6. Right on the button, Mrs. TN!

I'm a consultant to small businesses, and I've had personal experience with this topic.

Corporations are legally considered to be "individuals," so when they go BK it usually means the shareholders and/or directors lose nothing but the value of their stock when that stock crashes. If it's a Chapter 11--a reorganization--the Bankruptcy Referee may actually let the execs keep earning their fat salaries during the reorganization (so long as those salaries are sorta commensurate with those of similar execs in other companies). Even if it's a Chapter 7--a complete liquidation--there are instances where the owners may also be considered creditors of the company and get some cash out of the liquidation.

Things are far different for individuals who declare bankruptcy. A Chapter 13 can preserve your assets while you repay the creditors over a period of a few years...however, relatively few people actually complete a Ch. 13, so they're often thrown into a Chapter 7, which means liquidation of assets. There are often ways to protect some of your assets in a Chapter 7, but generally speaking you'll end up plucked.

The credit-card lobbyists have been able to gain incredible advantages from the Republican Congress: Interest rates up to 30% if you miss a payment or two, big fees and penalties for everything you do, and the right to raise the interest-rate on your credit-card if they learn you've been slow in paying some utterly unrelated bill, such as your utility bill or a different credit-card. And this year, they can demand minimum monthly payments that are twice as big as they used to be (which helps them get those credit-card debts paid down to a smaller sum before the debtor files bankruptcy.)

Ordinarily, these usurious policies would shoot them in the foot by pushing more people into bankruptcy, but they've also persuaded Congress to tighten the Bankruptcy Act to give the creditors an even stronger hand than in the past.

However, while bankruptcies declined for awhile last year after the new law was enacted, they're on the rise again, which should cause some well-deserved headaches for the credit-card companies. The truth is, it really isn't all that hard to "take a bath" with a Chapter 7 and dump all your unsecured debt...provided your income isn't sufficient to repay a substantial percentage of the debt over a few years.

(By the way, if you own a home with your spouse and one of you has a business that might someday force him or her into bankruptcy, you might look into owning your house in a form of ownership that's often called "Tenants In The Entirety." In certain states and under certain conditions, this may "judgment-proof" your home. Look it up for more details.)

Disclaimer: I'm not an attorney, and nothing I've said is intended to be legal advice. If you think you need legal advice, consult a qualified professional.

[primative1]

7. As a FootNote Consider ...

Here's a tidbit to toss around while digesting this info.
Enron!
Without dredging out the details, I found it particularly enlightening to note that after the companies spiral into bankruptcy, not only did its board of directors get to continue collecting their lavish salaries (for what remaining activities I wondered), but one year after they filed bancruptcy they actualy voted themselves a huge pay INCREASE and the court appointed trustee actualy allowed them to collect the new INCREASED salary out of the already dwindling settlement fund.
Amazing sh*t.

[annabanana]

8. Welcome to DU, Mrs. Ted Nancy!

These are good points. When all your disposable income isn't tied up in keeping you fed and sheltered in the most basic sense... there are options that aren't available for the rest of us.

[newyawker99]

13. Hi Mrs. Ted Nancy!!

Welcome to DU!! :toast:

[rolleitreks]

10. Of course. I had a professor in law school who put it this way:

Bankruptcy? It's essentially the same transaction as filling your suitcase with money and flying to Brazil. Because whose money do you go bankrupt with people? You don't go bankrupt with your own money -- you go bankrupt with other people's money.

[sandnsea]

17. Gouge. Other. People

It's the Republican way.

[johnlal]

19. Of course with 25% APR Credit Cards...

and late charges, and penalties, and fees, by the time most people file a bankruptcy, they have already paid back a truckload of "other people's money".

[Pragmatic Pilgrim]

20. At best, that's a half-truth.

If your professor meant to imply that a bankruptcy takes money out of the pockets of the average consumer, I'd say he's making a rather broad and imprecise statement. It's much more true where, say, an Enron is concerned, but much less true where bankruptcies by individuals are concerned. Let me focus on individual bankruptcies, since those are most likely to affect DU members.

Secured creditors--such as mortgage lenders--usually recover a good part of what they're owed (sometimes all of it, minus certain costs). And if the bankrupt person has a regular (non-Social Security) income or some valuable assets, then even the unsecured creditors will often see a substantial recovery. The IRS may do much better, because a bankruptcy doesn't wipe out that obligation at all, and the IRS can even garnish Social Security income (up to 15%).

So we gotta start by recognizing that not all individual bankruptcies result in big losses to the creditors.

Now, the unsecured creditors in the majority of individual bankruptcies are credit-card companies. Generally speaking, they have to absorb the hit themselves--they can't pass it on to their cardholders by raising interest-rates to everybody. Those rates are pretty much fixed, partly by law and partly by competitive forces.

Where they CAN raise their rates, though, is to any debtors who show even the slightest hint of maybe someday defaulting (such as by being late on an unrelated bill of some sort), and they're quick to boost those rates to the ceiling--29.5%--as well as to assess fees of $35 on every late payment. Which means those debtors are paying huge sums, usually for many months, before they finally give up and run for cover under the Bankruptcy Act. So it's the high-risk debtors themselves--the future bankrupts--who subsidize much of the bankruptcy losses.

Furthermore, the credit-card companies have already anticipated a certain volume of bankruptcies and have established a Loss Reserve for them, just like banks or other lenders do. This Loss Reserve is set aside as a Cost of Business before the company computes its Net Profit. Thus it would take a massive uptick in bankruptcies before the Loss Reserve would be exhausted and they'd have to dig into their Net Profit to cover those losses. Barring that occurrence, though, the losses make no difference to the company's share-value.

Thus the company's shareholders aren't affected either, except theoretically (that is, if everybody always paid their debts in full, the Loss Reserve could be abolished and Net Profits would be higher).

Yeah, other kinds of creditors--such as hospitals and doctors--may very well raise their overall prices in order to offset the cost of bankruptcies by their patients. That's when the average consumer might be affected.

But generally speaking, the costs of individual bankruptcies are not taken out of the pockets of innocent bystanders. Meanwhile, the savings to taxpayers of allowing bankruptcies rather than tossing people into Debtor's Prison are incalculable.

At least that's the way I see it. But of course I might have missed some big factor. I've never been a business professor, I've just practiced business (for maybe 50 years).

[rolleitreks]

23. I believe he was talking about corporate bankruptcies,

where say, ones personal fortune is secure while the investors lose their money.

I also think it was tongue-in-cheek. Sorry that didn't come across. I've always found it amusing.

[AX10]

14. Yes it is.

[johnlal]

18. I've noticed one similarity

It seems that in America, you often see people trying to live beyond their means. I have seen bankruptcies involving people who make less than $20,000.00 and bankruptcies of people who make more than $100,000.00. In either case, the bankruptcy resulted from living beyond their means.

(Note, this is not a criticism of people who find themselves in bankruptcy due to injury, illness, catastrophic loss or divorce, which are the most common causes of personal bankruptcy)

[groovedaddy]

24. The average self-made millionaire in the U.S.

has filed bankruptcy, on average, 2.5 times - I read that statistic somewhere once. Can't source it now but it's very revealing. Very few people get there without some serious risk taking and most have failures along the way. Many fail once and that's the end of it. There is a double standard though. It's the old "large corporations" are so integral to our economy, they have to be "shored up" if they start to go under (i.e. Chrysler).