Bankruptcy law changes
Prior to the adoption of Constitution, several states had bankruptcy laws that were similar to those in Britain and France, with punishment rather than rehabilitation of the debtor as a goal. The Constitution gave Congress the power to write the Bankruptcy laws for the United States, but congressional attempts to enact bankruptcy legislation were sporadic and ineffective for over 100 years after the ratification of the Constitution.
The first American bankruptcy statute was the Bankruptcy Act of 1800, but it was not very comprehensive. It dealt almost exclusively with merchants and bankers who were forced into bankruptcy by their creditors. Its aim was to protect creditors rather than to provide any sort of relief for debtors. The law created the office of a commissioner to exercise power over a debtor?s estate. The commissioner is the predecessor to the bankruptcy trustee and the bankruptcy judge today. Many provisions of Bankruptcy Code are carried over from the Bankruptcy Act.
Bankruptcy is a system of federal laws that allows a person who owes money to set the debts with the creditors. The Constitution of the United States gives Congress the power to make bankruptcy laws, which it has done in a series of bills beginning in 1800, subsequent changes in 1898, extensively modifications in 1938 which existed until 1978. On April 20, 2005, President Bush signed into law the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005. Most changes contained in the Act became effective 180 days after enactment (October 17, 2005). The new provisions do not apply retroactively to bankruptcy cases filed prior to the effective date. The Act is intended to give increased protection to employee benefits when an employer or employee files for bankruptcy and to curtail bankruptcy abuses. The Act includes the following provisions:
New exemption:
The Act amends the Bankruptcy Code (Section 522) to allow debtors to exempt from creditors? claims their interests in tax-favored retirement plans and arrangements established under Code Sections 401, 403, 408, 408A, 414, 457 and 501(a). Under the new rules, a plan or arrangement is assumed to be exempt from tax which would make debtor?s interest exempt from creditors? claims, if it has received a favorable IRS ruling that is in effect as of the date of the filing of the bankruptcy petition. Even if it has not received such ruling, it may still be considered exempt from tax for bankruptcy purposes if it is in substantial compliance with the Code and there is no prior IRS or court determination that it fails to be in compliance with IRC requirements. It can still be considered exempt for bankruptcy purposes even if it is not in substantial compliance with Code requirements provided the debtor is not materially responsible for the non-compliance. The exemption also applies to plan assets that have been directly transferred to another tax-favored plan or to an IRA, under Code Section 401 (a) (31) and to eligible rollover distributions, under Code Section 402 (c)) that are in the process of being rolled over. The new exemption is available to all debtors even if their state has opted out of the federal list of bankruptcy exemptions.
There is, however, one important limitation on the use of this new exemption. The total value of assets in a debtor?s IRA and Roth IRAs that is permitted to be exempted from claims of creditors is limited to one million dollars. In determining whether or not this limit has been reached, amounts rolled over from other plans to IRAs and any earnings are limited to one million dollars. In determining whether or not this limit has been reached, amounts rolled over from other plans to IRAs and any earnings attributable to such amounts are not included. The one million dollar limit is indexed for inflation. Further, the bankruptcy court can protect amounts in excess of the limit if such protection would be required in the interests of justice. It should be noted that nothing in the provisions of the Act diminishes, in any way, protections offered under existing law prior to the enactment of the Act.
Partcipant loans:
The Act clarifies that participant loans are not discharged in bankruptcy if owed to a pension, profit sharing, stock bonus or other plan established under Code Sections 401, 403, 408, 408A, 414, 457 and 501(a), provided the loan is permitted under ERISA Section 408(b)(1) or subject to Code Section 72 (p). Ongoing loan repayments by payroll deduction are permitted to continue so as to avoid a loan default and the resultant taxation under Code Section 72(p). The Act provides that amounts withheld from a debtor?s wages for the purpose of repaying a loan from a tax favored retirement plan or arrangement are not subject to the automatic stay of creditor collection actions (under Bankruptcy Code Section 363(b)). Additionally, the Act provides that a Chapter 13 plan to repay creditors is not permitted to materially change the terms of a plan loan and that any amount required to repay a plan loan is not to constitute Disposable Income (under Bankruptcy Code Section 1325), which would be required to be made available to pay creditors during the period of the Chapter 13 plan.
Employee contributions:
Employee contributions, including amounts withheld from an employee's wages, to a tax-favored retirement plan or arrangements are not to be included in a debtor?s bankruptcy estate. Such amounts that have been withheld by an employer from the wages of an employee will not be considered DISPOSABLE INCOME (under Bankruptcy Code Section 1325(b)) and, thereof ore, would not be required to be turned over to creditors.
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