Federal Aid Has So Far Averted Personal Bankruptcies, but Trouble Looms

Nearly 40 percent of households earning less than $40,000 a year had already lost at least one job by May, according to the Federal Reserve, which has been analyzing household finances closely. That compares with just 19 percent of households earning $40,000 to $100,000, and 13 percent of households earning more than $100,000 a year.

A survey done in May by the Census Bureau showed further that younger households, and those with less education and lower earnings, were likeliest to be losing income in the shutdowns. They were also likelier to say they could not make their rent or mortgage payments and had sought forbearance.

Jenny Doling, a consumer bankruptcy lawyer in San Diego, said consumers whose debts started to snowball were generally better off seeking protection in bankruptcy right away. That’s because bankruptcy automatically halts creditors’ collection efforts, giving insolvent consumers a safe place to work out their three- to five-year repayment plans, and possibly save important assets like a house or a car.

But for many, the idea of bankruptcy comes with the threat of a stigma.

“Filing bankruptcy, for consumers, is sort of an admission that you’re a financial failure, and people just can’t admit that,” said John Rao, a lawyer at the National Consumer Law Center in Boston. “They still think that they can pull out of it somehow.”

People also get sticker shock when they hear that the cheapest consumer bankruptcy case, a liquidation, is likely to cost about $1,500. In 2005, amid concerns that spendthrift consumers were abusing the bankruptcy system, Congress tightened the laws, increasing the cost of a case and requiring legal fees to be paid upfront. The next year, the number of cases fell to around 600,000 from more than two million in 2005, but began climbing again in the aftermath of the 2008 financial crisis. Last year, 752,160 cases were filed; this year, if filings continue at their current rate, there will be 590,854 by the end of December.

While consumers struggle, they often turn to their credit cards to make ends meet, thinking they will pay down the balance when they’re called back to work. In the meantime, they make just the minimum monthly required payment.

Each month’s unpaid interest, accruing at 20 percent or more, is then tacked onto their principal balance, causing their debt to balloon even if they don’t buy anything.