Congress takes up bankruptcy bill

Tucked away in this year’s federal bankruptcy bill are key provisions that would help cities and counties collect much needed property taxes from people who file for bankruptcy. But a handful of controversial elements contained in the legislation threatens its enactment this year.

According to National League of Cities legislative counsel Kristin Cormier, cities and counties are losing about $10 million a year because of loopholes contained in the current bankruptcy code. The way the code currently reads, local governments are among the last creditors to be paid.

Since bankruptcies are on the rise, local officials increasingly are concerned about collecting past due property taxes. Last year alone, about 1.4 million bankruptcies were filed, an increase of 300 percent over the 1980 number. That would indicate that about one in every 68 homes opted to seek shelter from creditors in 1998.

Local lawmakers describe property taxes as the bread and butter that help them pay for critical services such as police and fire or fund their education budgets. A key provision in the Bankruptcy Reform Act of 1999 restructures the bankruptcy repayment plan, placing property taxes higher on the priority debt repayment ladder.

Most cities finalize their fiscal budgets prior to collecting the property taxes to pay for the upcoming year’s services and programs. When their residents file for bankruptcy, the local government must decide whether – and how – to make up the revenue. “Cities are basically losing money in areas where they shouldn’t be losing money,” Cormier says. “Taxpaying citizens are being harmed because [local governments] have to make the decision either to raise taxes or cut programs.”

The reform bill also would require debtors to pay interest on unpaid property taxes. Many local governments already require interest to be paid on past due property taxes, but, increasingly, people are able to persuade bankruptcy judges to minimize – or in some cases, waive – their interest payments.

Additionally, many debtors are successfully challenging their property valuation after filing bankruptcy. In some cases, valuations are overturned, and debtors are awarded money – sometimes 10 years past the original valuation date. The reform bill also sets a six-year limit on non-payment of property taxes. Currently, payment plans can last up to 10 years, a length of time that effectively devalues the payments.

The House passed the bill in a 313-108 veto-proof vote in May. The Senate is expected to open debate soon, but it is unlikely that the bill will pass by a veto-proof margin there.

President Clinton has threatened to veto the legislation because of a number of provisions. The most controversial one is a “means test” that calculates a debtor’s income to decide if he or she should repay part of the debt or be given a clean slate. Clinton, who says he wants to fix the bankruptcy code, calls the means test “inflexible” and “arbitrary.”

James Shepard, a California-based bankruptcy tax consultant who helped write the current bill, says its passage is crucial for cities and counties. Shepard, who served on the most recent National Bankruptcy Review Commission, blames the original National Bankruptcy Commission for leaving city and county governments out of the decision-making process when it wrote the bankruptcy code in the 1970s.

“The tax code was badly drafted in many cases,” Shepard says. “We are correcting errors. We are not creating any new taxes. All we are doing is trying to put it close to right.”