Subprime Foreclosures and the 2005 Bankruptcy Reform

11 Pages Posted: 18 Feb 2011 Last revised: 1 May 2013

See all articles by Donald P. Morgan

Donald P. Morgan

Federal Reserve Bank of New York

Benjamin Charles Iverson

Brigham Young University

Matthew J. Botsch

Bowdoin College

Multiple version iconThere are 2 versions of this paper

Date Written: February 1, 2011

Abstract

This article presents arguments and evidence suggesting that the bankruptcy abuse reform (BAR) of 2005 may have been one contributor to the destabilizing surge in subprime foreclosures. Before BAR took effect, overly indebted borrowers could file bankruptcy to free up income to pay their mortgage by having their credit card and other unsecured debts discharged. BAR eliminated that option for better-off filers through a means test and other requirements, thus making it harder to save one’s home by filing bankruptcy. By way of evidence, the authors show that the impact of BAR was greater in U.S. states where one would expect it to have a larger impact - namely, in states with high bankruptcy exemptions. Filers in low-exemption states were not very protected before BAR, so they were less likely to be affected by the reform. The authors estimate that for a state with an average home equity exemption, the subprime foreclosure rate after BAR rose 11 percent relative to average before the reform; given the number of subprime mortgages in the United States, that figure translates into 29,000 additional subprime foreclosures per quarter nationwide attributable to BAR.

Keywords: Bankruptcy, Subprime Foreclosures, Home Equity Exemptions, Cram-Down

JEL Classification: G21, G33, K35

Suggested Citation

Morgan, Donald P. and Iverson, Benjamin Charles and Botsch, Matthew J., Subprime Foreclosures and the 2005 Bankruptcy Reform (February 1, 2011). Economic Policy Review, March 2012. Available at SSRN: https://ssrn.com/abstract=1762755

Donald P. Morgan (Contact Author)

Federal Reserve Bank of New York ( email )

33 Liberty Street
Research Department
New York, NY 10045
United States
212-720-6573 (Phone)

Benjamin Charles Iverson

Brigham Young University ( email )

United States

Matthew J. Botsch

Bowdoin College ( email )

Brunswick, ME 04011
United States

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