Why Don't More Households File for Bankruptcy?
Journal of Law, Economics and Organization, Vol. 14, No. 2, October 1998
Posted: 21 Apr 1998
A much higher fraction of U.S. households would benefit financially from bankruptcy than actually file. While the current bankruptcy filing rate is about one percent of households each year, I calculate that at least 15% of households would benefit financially from filing and the actual figure would be several times higher if most households plan in advance for the possibility of filing. Two explanations are explored for why more households don't file for bankruptcy. The first is a model of the interaction between creditors' remedies against debtors who default and debtors' right to file for bankruptcy. The model implies that some debtors default but do not file for bankruptcy, even though they would benefit financially from doing so, because creditors do not always attempt to collect. The other explanation involves the option value of bankruptcy. Many debtors who would not benefit from filing immediately gain from having the option to file in the future. I calculate the value of the option for typical households and show that it can be very valuable, particularly for households that have high variance of the return to net wealth and households that live in states with high bankruptcy exemption levels.
JEL Classification: K2, G33
Suggested Citation: Suggested Citation