When the Bankruptcy Code was revamped in 2005, one of the biggest changes was the requirement that debtors take credit counseling and financial management classes in order to get a bankruptcy discharge. Researchers at the University of Illinois sought to learn whether or not the classes were having any effect on the financial recovery of debtors over a long-term period.
The goal of the study was “to track debtors through the entire bankruptcy process and follow up with them to assess the long-term impacts of the requirements on debtors’ overall financial well-being.”
Among the study’s key findings are:
Significant improvements in debtors’ financial behavior post-bankruptcy – Prior to counseling and during the follow up, debtors were asked to report how often they were engaging in 12 financial practices. These behaviors were identified as necessary to successfully recover from bankruptcy. The results showed that debtors’ financial behavior for all 12 practices significantly improved over time from pre-counseling to the follow up. Moreover, the magnitude of the improvement was significantly large. On average, overall behavior seemed to improve by almost 30%.
Financial behaviors are holding over time – Not only did debtors’ demonstrate significant improvement in their financial behaviors, but these improvements appear to be holding over time. Debtors’ behaviors 12 months after counseling were at levels similar to debtors’ behaviors less than 3 months after counseling. There was a slight drop off in behavior over time, but this should not be surprising since some clients are likely to revert back to past behavior. There may be a longer-term need, though, for ongoing support and education to help debtors implement and maintain positive financial management practices over time.
Steps being taken to improve financial situation – Debtors appear to be proactively taking a number of steps to deal with their financial problems besides filing for bankruptcy. These actions include finding ways to reduce expenses, increase income, and make other lifestyle adjustments. Only 6% reported that they had incurred new debt post-bankruptcy, and it was either due to necessity (e.g., purchasing a vehicle to get to work, paying a reaffirmation agreement to save property, rebuilding credit, paying legal fees) or unfortunate circumstances outside of their control (e.g., health problems, loss of employment, child care expenses).
Longer-term financial goals are being set and achieved – Debtors also indicated post-bankruptcy that they had achieved, or were working towards achieving, a number of longer-term financial goals. These included saving more money, starting an emergency fund, starting a retirement fund, reestablishing credit, finding employment, starting or completing school, buying a car or home, and becoming/staying debt free. Some debtors could potentially benefit from additional education to help them lay out a post-bankruptcy financial action plan, where they set personalized financial goals and are provided regular motivation and support to help them achieve those goals.
Some debtors are recovering better than others – In particular, debtors who had a more solid foundation in personal financial management precounseling were more likely to engage in better financial management practices post-bankruptcy. This finding suggests that debtors with more severe financial knowledge and behavior deficiencies may require more intensive educational support and training to help them get back on track financially.
Bankruptcy filing status plays an important role – Debtors who filed Chapter 7 were significantly more likely than those who filed Chapter 13 to report better financial management practices postbankruptcy. This is perhaps not surprising since debtors discharge most (if not all) of their debt under Chapter 7, whereas they work to repay some portion of their debt under Chapter 13. Thus, under Chapter 7, they are likely to be in a better position to implement sound financial practices since they are less constrained by their previous debts.
Barriers to financial recovery though still exist – Debtors reported post-bankruptcy that issues related to job loss, health problems, child care expenses, and unexpected house and auto expenses were still preventing them from achieving their financial goals. Other barriers included bad credit histories and legal fees. Those facing these types of challenges were significantly less likely to show improvements in behavior, as were those with lower socioeconomic status. Yet, even though these factors seem to be making it more difficult to
recover financially, debtors’ financial situations, on the whole, seem to be improving.
You can read a copy of the research brief here. The full research report won’t be available until later this spring.