Choosing Bankruptcy to Stay Afloat

Stephanie and Jerome Smith have refinanced their home several times, with their monthly payment more than doubling to $1,600, excluding taxes and insurance. They filed for bankruptcy protection to save it from foreclosure.
Stephanie and Jerome Smith have refinanced their home several times, with their monthly payment more than doubling to $1,600, excluding taxes and insurance. They filed for bankruptcy protection to save it from foreclosure. (By Jay Paul For The Washington Post)
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By Nancy Trejos
Washington Post Staff Writer
Wednesday, May 28, 2008

Danielle Lancaster makes $28,000 a year as a bank employee in Richmond. She owes almost twice that on her credit cards, student and car loans.

Add to that day-care expenses for her 2-year-old daughter, rent and utilities, and she uses up every cent she brings in. She has cut costs any way she can, suspending luxuries such as restaurant meals and movies. But that didn't stop her car from getting repossessed. "I work to live," she said. "I see my check, and it's gone right away."

Lancaster is 26 and bankrupt.

Two weeks ago, she filed for Chapter 13 bankruptcy protection, which will restructure her debt. She will have five years to pay it off under a plan that lowers her monthly payments. "Everything just got to be too much," said the Richmond resident who recently earned an undergraduate degree from Norfolk State University.

Despite the 2005 passage of a law that made it more difficult and expensive to file for personal bankruptcy, more Americans are choosing bankruptcy over destitution. Filings -- including Chapter 7, which wipes out debt, and Chapter 13, which reorganizes it -- totaled 822,590 last year, up 38 percent from 2006.

The numbers tell the story of a crippled economy, one in which people owe more than they can pay to their creditors -- be they credit card companies, mortgage lenders or auto and student loan servicers. And it's one more disturbing chapter in the saga of the subprime mortgage crisis, in which homeowners unable to handle higher interest payments on their adjustable rate mortgages are turning to bankruptcy to avoid foreclosure.

"The rise in bankruptcies is not about something that happened last week or last month," said Elizabeth Warren, a Harvard Law School professor and a bankruptcy expert. "It's about the fundamentals. It's about declining wages, rising costs, inadequate health insurance, job instability. More hardworking middle-class families simply can't make it in this economy, and it's only getting worse."

Bankruptcy attorneys and economists said the trend cuts across all segments of society -- the young and the old, homeowners with bad mortgages and renters, the poor and the middle class. In the past, bankruptcies were more common among people who had sudden life changes, such as a divorce, illness or job loss. Now, the bankrupt are people who have simply racked up too much debt.

"It is pretty widespread because there are widespread problems in the economy," said Peter Morici, an economist at the University of Maryland at College Park. "Americans have been spending 105 percent of their income for the last three or four years. That's not sustainable."

Declining home values are exacerbating the problem. No longer can people rely on the equity in their homes to pay down more expensive debt. Most troubling is that people are increasingly seeking bankruptcy protection to save their homes. Filing for Chapter 13 freezes a foreclosure and allows homeowners to negotiate more manageable payments with their lenders.

Take Jerome and Stephanie Smith. They used a fixed-rate mortgage to buy a house in Richmond in 2000, then refinanced to an adjustable rate loan in 2003. At least three more refinances followed -- Jerome Smith said he has lost count. The couple's monthly mortgage payment more than doubled to $1,600, excluding taxes and insurance. "I'm not dumb, but sometimes we do dumb things," Jerome Smith, 52, said.

Then something happened that had nothing to do with his judgment. He injured his back at his job as a machine operator. He has not worked since surgery in December and is getting $350 a week in disability payments, about one-third what he normally brings home.


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