By Michael Lewis
Mon Jan 10 2011
An optimistic 19-year-old, she took up the offers and was approved on the strength of her future income. Freeman, freshly armed with plastic, indulged in outings at the nearby Eaton Centre for stress-relief shopping.
It turned into more and more; she bought clothing, shoes, gifts, a laptop, “You name it, I charged it,” Freeman told the Star.
She rang up $12,000 in consumer debt before she'd completed her second year of studies. “The stores were just so close by and it was so convenient. It didn't feel like I was spending real money,” Freeman says.
She managed to arrange a debt consolidation line of credit at a bank — and ran that to its limit with a few more shopping trips. More than $42,000 in the red, she was in full-blown financial panic mode.
“I couldn't go to my parents. I spent the money and I needed to be an adult and get myself out by myself.”
Freeman contacted debt counseling agency Credit Canada, which negotiated a payment scheme with the credit card vendors. She pays $955 a month toward her debt and plans to increase the amount, thanks to a new job and a raise.
She managed to avoid bankruptcy and the black mark she think a “consumer proposal” (see below) would have left on her credit rating. She graduated in 2002 and says she will be debt-free by March 2012.
But for many others the tough choices may be just around the corner.
With the number of insolvencies — which include both bankruptcies and the less-drastic consumer proposal — was 22.5 per cent higher in October than the pre-recession levels recorded in 2007-2008, James Callon, superintendent of bankruptcy, took an unusual step Friday. He warned Canadians they may be an interest rate hike, or “a major life event” away from the harsh realities of insolvency.
So, what are the warning signs of impending financial crisis, and what are the options for survival? Mike: Can you work this list over, to make it read with less of a jargony, detached tone? Sound more human and part of the story? We need it, can't break it out. See edits on the second bullet and my notes. Alf
• The hallmarks of consumer insolvency — defined legally as having assets insufficient to cover debts — include delinquent loans, unpaid property and income taxes and harassment from collection agencies. Often, serious difficulties are triggered by job loss, serious illness or divorce.
• Canadians can avoid impending bankruptcy a number of ways. They can plead their case with creditors and negotiate a private arrangement. More formally, they can file a consumer proposal. That's a legal process under the federal Bankruptcy and Insolvency Act that has serious implications since the individual may be forced into bankruptcy if the proposal is rejected by creditors.
• If a proposal is denied and bankruptcy is unavoidable the process begins with the good news: the filing brings legal proceedings and creditors' attempts to collect debts to a halt.
• The next step in bankruptcy is for assets to be assigned to the trustee in bankruptcy for distribution among creditors.
• Mandatory counseling on managing financial affair follows.
• If requirements are met, an automatic discharge from bankruptcy can be ordered in nine months for first-time bankrupts who do not report income that is defined as surplus.
• You're discharged from the repayment of all eligible debts.
“I just think it's very important right now for consumers to be educated on managing debt and avoiding major troubles,” said Laurie Campbell, executive director of Credit Canada, a Toronto-based not-for-profit agency that offers no-charge consultation and assessment.
Bankruptcy is a profound step, a complex legal process that leaves a black mark on the consumer's credit report for up to 10 years, but one that can also provide a fresh start.
It will wipe out eligible liabilities — credit card balances, personal loans, certain tax obligations and payday advances. Debts not removed through bankruptcy include some student loans, child and spousal support, fines and most court-ordered restitution payments.
The bankruptcy process begins when an insolvent individual retains a licensed trustee, as required by statute, and provides an under-oath disclosure of liabilities and assets, including all assets disposed of in the year leading up to the filing.
Debtors in bankruptcy are required to surrender credit cards and release copies of pay stubs and proof of other income to the trustee, who calculates any so-called surplus income that must be earmarked for debt repayment.
Bankruptcy rules allow individuals enough money to live, but require that at least half of the surplus income, any take home amount in 2009 above a threshold of $1,870 per month for a single person, be disbursed to creditors.
If an insolvent person has surplus income of more than $200 per month, the consumer will remain in bankruptcy for a minimum of 21 months, or 36 months if previously bankrupt. Also, if there are tax debts above $200,000 that account for more than 75 per cent of total debt, an automatic discharge is not in the cards. A court hearing will be required to end the bankruptcy.
Bankruptcy trustee Robert Shier, of Stern Cohen Shier Inc. in Toronto, said its crucial that amount of income that will be deemed surplus be accurately estimated up front the so that there are no surprise arrears owing when the process is complete.
He also said a discharge is not automatic, particularly if the debtor fails to demonstrate that they have learned from their financial mistakes. In such cases, the bankruptcy court can impose conditions that must be met before a discharge. The court can absolutely refuse a discharge, but rarely does so.
The Bankruptcy and Insolvency Act also mandates at least two credit counseling sessions for applicants.
After filing for bankruptcy, the debtor's property is assigned to the trustee, who sells any assets and divides proceeds among creditors. Normally, lenders can withdraw money directly from the bank account of an individual in the bankruptcy process.
Rules allow two bankrupt persons in a close financial relationship to have their cases dealt with as one file, although bankruptcy does not normally affect a spouse unless they have co-signed a loan. The trustee will help the debtor complete forms, including property assignment and financial disclosure documents that must be signed and filed with the bankruptcy court's official receiver, who may also require an examination under oath.
If the applicant follows the rules, a meeting with creditors is generally not necessary. Employment is unaffected except, for example, in cases where the debtor needs to be bonded for work.
Bankruptcy involves administrative costs, including court fees, mailing costs, and government-set fees for filing. Any GST credits or tax refunds will be lost. In most cases, only creditors and those involved in the process will know about the bankruptcy filing. There is a filing fee to be paid to the Superintendent of Bankruptcy. The minimum charge for a trustee in bankruptcy's service is $1,800.
Credit counseling agencies typically charge 10 per cent of the applicant's debt to negotiate a reduced payment program, with the fee added to the payments.
Debtors in a bind who want to avoid the seizure of assets that bankruptcy requires have options. These include a debt consolidation loan or a consumer proposal, The latter option has gained in popularity since changes to the bankruptcy act in September 2009 gave consumer more flexibility in filing proposals.
In a proposal, a licensed trustee files a request with creditors to extend payment periods, reduce amounts and eliminate interest. The consumer is typically eligible to reapply for credit two or three years after the debt is paid, although consumers complain that debts can linger on credit reports long after they should have been expunged.
Debt counselors say proposals make sense when the insolvent individual is prepared to pay a premium for quick resolution, when the process of being discharged from debts is likely to be contentious, and if the debtor aims to continue in business or maintain a professional accreditation.
Proposals are also the best bet if the insolvent person wants to retain assets such as a property or pending inheritance, and when there has been a previous bankruptcy.
Holding onto a home in bankruptcy requires that the debtor pay all of the equity to the trustee before the bankruptcy is complete. Bankrupt persons in Ontario can retain personal possessions, motor vehicles, furnishings, trade tools and farm property up to specific limits, while most pension plans, some life insurance policies and certain RRSPs are also exempt from seizure.
Debtors must owe less than $250,000 excluding a mortgage on a principal residence to qualify for a proposal arrangement, which must still be accepted by creditors. If creditors refuse and mediation fails, bankruptcy may be the only option.