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January 31, 2009

Bankruptcy Risk Score - the new FICO

Here is a good article by Jeremy Simon at creditcards.com about a new Bankruptcy Risk Score computed by Fair Issac and designed to help a lender "sharpen" its risk assessment.  I am interested in this.

Some people cannot file bankruptcy irrespective of the financial mess they are in.  That should be reflected in the credit decision.   

1.  Home equity.  In the late 90s and the first few years of this century, many, many people wanted to file bankruptcy and get credit card relief but could not because of the equity in their homes.  I told probably half the people who called me during those years - "you can't file.  The trustee will sell your home and pay off the credit cards."  (That's why its a little annoying to me, by the way, that the news pundits talk about soaring bankruptcys today.  We are no where near the filings for the 2000-2004 period and that's when many people could not file because of the equity in their homes.) 

2.  The means test.  Nearly everyone "passes" the means test but a person with good income, a small family, and no house payment is the candidate to fail.  No matter how bad his credit is, he is not a likely bankruptcy candidate.     

3.  The chapter 13 limits.  People whose debts exceed the chapter 13 limits, i.e., $1,010,000 in secured debts and $330,000 (roughly) in unsecured debts will have to file chapter 11 to save property (if that's the goal).  The difference in cost to get a chapter 11 plan confirmed versus a chapter 13 is staggering.  A simple chapter 11 is probably $25,000 in fees. 

4.  Business debts.  On the other side, a person whose debts are "primarily business debts," doesn't have to worry about the means test.  It is more likely that person will file irrespective of his income and good credit.

5.  The luxury purchase and abuse.  Also on the other side (and certainly ironically), if the debtor is buying a luxury vehicle or other item, he will likely not be filing soon because the UST will move to dismiss saying the purchase shows abuse under the totality of the circumstances.      

6.  Other assets.  A person with a paid-off boat, or large luxury car, or a patent he is trying to sell, or is waiting for a lawsuit to settle (perhaps he was injured in an auto accident), or may be about to collect an inheiritance also cannot file.  The trustee will take the asset.  A chapter 13 won't work because the debtor will have to pay the value of the asset over the 3 to 5 year period. 

Anyway, the point is that the decision to file often has nothing to do with the financial condition of the debtor.  I'm not sure that is what this Bankruptcy Score does but the comments above must be part of it.   

January 31, 2009 in Current Affairs | Permalink


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Posted by: Completely Debt Free | Feb 1, 2009 12:49:34 PM

well, we can always inflate our way out of debt

Posted by: Cyber Rainbow | Jun 15, 2009 7:06:35 PM

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