17 June 2014

Two-Fer: Municipal Bankruptcy AND Student Loans!

Several days ago Senators Elizabeth Warren (D-MA) and Jay Rockefeller (D-WV) introduced a bill that would enhance the rights of employees and retirees in municipal bankruptcy. The enhancement would take two forms. First, municipalities wouldn't be able to reject collective bargaining agreements with current employees or change the benefits of retirees without meeting the more stringent requirements imposed on corporate debtors in Chapter 11 bankruptcies. This idea is a non-starter given the exceptional power of municipal labor unions and the lack of significant modifications to pensions in Chapter 9 cases thus far. While Stockton dropped retiree health benefits it hasn't so far been willing to put pensions on the table as I noted here. Frankly, this is a pro-forma sop to the unions who would prefer Sen. Warren over Hillary Clinton as the 2016 Democratic nominee for president.

Second, and far more reasonable (but still unlikely to garner any Republican support) would be a priority claim for employee wages and benefits in municipal bankruptcies. Without going too deeply into the weeds, employees who have been shafted for wages or benefits by a corporate employer that seeks bankruptcy relief get a limited priority over other unsecured creditors (i.e., ones without liens in property). Municipal employees do not. As I argued in my just-published article, Municipal Bankruptcy: When Doing Less Is Doing Best (download here), the absence of such a priority means that employees and retirees should take as much of a haircut as bondholders even though the marginal value of a pension dollar will almost certainly be greater than the same dollar to a bondholder (or the insurer of the bond issuer). And, for what it's worth, seven years ago I published The Missing Piece of the Puzzle: Perspectives on the Wage Priority in Bankruptcy (which you can download here) where I demonstrated that the first wage priority in bankruptcy found in the Bankruptcy Act of 1841 likely owed its existence to Northern Evangelicals who petitioned Congress to make it part of the law.

You can read a decent news account of the Warren-Rockefeller bill here.

And now, what my indebted students have been waiting for ever-so patiently, go here to read a positively glowing report at slate.com about Representative Tom Petri's (R-WI) proposal to deal with student loans. (Yes, I realize that anything positive about a Republican in Slate is a sign of the apocalypse, which suggests that no one need worry about student loans for long--but humor me.) Instead of the cockamamie current pottage, Petri proposes a purely income-based system. Most law grads know that there already are income-based alternatives to the standard 10-year repayment plan but lots of other folks do not. It's those folks who would be helped by Petri's simplified approach.

But two caveats: First, any system that forgives the unpaid balance of the loan (whether at the 20-year or 25-year point) generates taxable income in the year of forgiveness. Many folks don't realize that forgiveness of debt is every bit as much income as a paycheck and are thus greatly surprised when they get the tax bill for the balance of their unpaid student loan.

Second, why are we ("we" meaning the Federal government, which guaranties most student loans) handing out student loans like candy at Halloween? I've posted here, here, and here about our corrupt and irresponsible current system in which private lenders have no skin in the game and, together with venial (often for-profit) college administrators, lead unsuspecting young 'uns to undertake debt for no useful purpose. The Slate author simply shrugs his shoulders when he concludes "as long as we’re handing out education loans virtually no-questions-asked to all comers, that seems like a goal worth making some legislative compromises for. It wouldn’t solve the rising cost of college, but it would make paying for it far, far safer."

But why should the federal government subsidize higher education willy-nilly? At the very least, lenders shouldn't receive 100% guarantees and borrowers should be allowed to discharge students loans in bankruptcy more easily than now permitted. My suggestions might reduce the number of student loan borrowers but the value of much of what passes for higher education makes that a good, not a bad, idea.

1 comment:

  1. "Second, why are we ("we" meaning the Federal government, which guaranties most student loans) handing out student loans like candy at Halloween?"

    I could not have phrased the question better. Unfortunately, it's a question that no one seems eager to answer.

    I believe your recommendations might actually fix the problem in time or, at the very least, substantially improve matters. Unfortunately (and I hope I am wrong here), your proposals while logically sound are too unpopular politically to garner the support needed to pass and stay good law. I've read talk on and off of returning dischargeability for student loans for maybe 10 years or more now, but all I see are income based and graduated repayment plans designed to delay repayment on the theory that graduates will earn increasingly more in time. In this economic climate, however, there is no guarantee of employment much less a guarantee of increased earning capacity over time.