One of the more acute & hilarious coinages in Coupland’s groundbreaking 1991 novel, “Generation X,” was 20-somethings’ “divorce assumption,” a form of Safety Net-ism where 20-somethings believed that if a marriage doesn’t work out, then there is no problem because partners can simply seek a divorce.
Coupland’s observation bespeaks of both the optimism and naivety of youth.
Myth: I’ll just file bankruptcy and start over; it seems so easy.
Truth: Bankruptcy is a gut-wrenching, life-changing event that causes lifelong damage.
Unfortunately, unlike the “divorce assumption” of 20-somethings, the “bankruptcy assumption,” or “Myth,” as Ramsey calls it, can’t be attributed to the simple, and understandable, naivety of youth.
A new phenomenon called “strategic foreclosure defaults” is on the rise: Underwater homeowners walk away from their mortgage payments because the costs of walking away are less than the costs of owning the house.
“You have a million bucks in the bank and you bought a house for $800,000 several years ago by taking out a $750,000 mortgage. Real estate market crashes and the value of the home is now $400,000. You’ve already paid $50,000 of the mortgage principal over the years. $300,000 of your mortgage is now unsecured ($700K mortgage balance – $400K value of property), which means your house is now an under-secured debt.” (Financial Samurai, Twelve Non-Recourse States Lets You Walk Away From Your Mortgage)
Furthermore, homeowners feel the Wall Street bailouts justify them walking away from their mortgages:
“There’s a sense that the banks don’t follow the ‘rules,’ but somehow the little guy is supposed to — more and more people are saying ‘enough is enough’ and walking away,” said White, who is also the author of “Underwater Home: What Should You Do If You Owe More on Your Home than It’s Worth?” (CNN Money,Walk away from your mortgage? Time to get ‘ruthless‘)
Frustration on Main Street appears to be mounting: based on the same economic calculation, and the same moral absolution, the Bankruptcy law network praises the idea of strategic bankruptcy, i.e., walking away from it all:
“Debtors need to step back for a second and prioritize their budgets, goals, and dreams… Bankruptcy has always been about ‘providing honest debtors a fresh start’.”
Fresh start in Bankruptcy Heaven or Bankruptcy Hell?
Despite all the calculations and moral justifications, in the end – Ramsey is right: the “bankruptcy assumption” should be called “bankruptcy hell:”
Bankruptcy is listed in the top five life-altering negative events that we can go through, along with divorce, severe illness, disability, and loss of a loved one . . . [a]lthough Chapter 7 and chapter 13 bankruptcies stay on your credit report for 10 years and 7 years respectively, it may affect your life permanently.
Ramsey fails to include one of the more potent downsides to declaring bankruptcy, especially in this economy: employers are increasingly turning to credit report history checks to evaluate the trustworthiness of their potential hires.
While employers cannot discriminate based on Rule 11 U.S.C. sec.525 of the Bankruptcy code, this only means your current employer cannot use your credit report against you, but prospective employers can.
Moreover, bankruptcy does not always fully clean the slate. For example, if you had a house that the bank foreclosed on and then sold for more than the mortgage amount, the difference is taxable income – meaning you have to pay the tax on it. Furthermore, tax debts incurred within three years of filing bankruptcy cannot be discharged.
It is also much more difficult to get a mortgage or loan in the future as well. You have to wait 2 years after a Chapter 7 case is discharged to be eligible for a home loan again and Auto loans and personal loans will most likely charge high interest rates since you have a bankruptcy on your file. Bankruptcy, like divorce, is not a “fresh start,” no matter how it is spun.
Finally, even if one feels like “Hey – the big guys don’t get to play by the rules, why should I?” There’s still a moral contradiction: if it was wrong for them, why is it right for you? Christina Romans on a CNN Money segment asked Jeff Horton who is walking away from his mortgage partly based on this justification: “do you really want to hold up Wall Street Banks as an example of how you should behave?”
That’s a great question.
Christopher Skyi is one of Peerform.com’s blog writers. He writes on topics concerning personal finance, banking, and peer-to-peer lending.