How Going Bust Got Meaner

By Adam Zagorin

When credit-card companies want something really badly, what do they do? They pay cash, of course. And that's just what they did, along with a lot of banks, retailers and auto lenders who contributed millions of dollars to key members of Congress as well as to President George W. Bush's campaign and Inaugural festivities. Last week that generosity paid off, with interest, when the Senate passed a new bankruptcy law. The bill could generate billions of dollars in extra revenue for creditors by making it more difficult for Americans to walk away from debts and regain their financial footing.

Credit-card issuers and their allies claim the measure will usher in a new era of personal responsibility at a time when bankruptcies have swelled 300% since 1980. The differences between the House and Senate versions must still be resolved, but both include limits on the so-called homestead exemption, which in some states protects assets invested in a house from being seized by creditors.

By strengthening repayment obligations and eliminating abuses that have allowed some deadbeats to shelter wealth, the bill, proponents claim, could cut the cost of borrowing for all Americans as much as $500 per person per year--if those savings are passed along. "It is totally unfair that wealthier filers walk away from billions of dollars in debt each year, regardless of their ability to pay," argues Edward Yingling of the American Bankers Association.

To prevent that, a new means test will be introduced. If a debtor can cover at least 25% of his obligations over five years, he'll have to enter a court-supervised repayment plan instead of being allowed to erase all debt immediately. But the legal changes will leave debtors with less cash to settle medical bills, pay child support and meet other obligations.

Critics contend that card issuers, whose profits have zoomed nearly 50% in the past two years, are in no need of relief from Congress. The industry is also blamed for creating the problem by extending credit--3.3 billion solicitations were sent out last year alone--to anyone with a pulse. "This bill is a wish list for the credit-card industry and a nightmare for vulnerable families," charges Senator Paul Wellstone, a Minnesota Democrat who led opposition to the measure.

The bankruptcy bill also includes a few nasty surprises for small businesses in trouble. Some could face liquidation if they do not meet accelerated deadlines for putting their finances in order. That, in turn, could cost jobs just as the economy weakens and credit-card debt, already at record levels, continues to rise.

--By Adam Zagorin