COLUMN ONE : Swamped by Debtors and Abuse : The Southern California bankruptcy system is struggling under a deluge of cases, both legitimate and fraudulent. Bogus filings are pervasive, and consumers pay the price.
Take a married couple in their 30s or 40s with an annual income of at least $40,000. Give them credit card bills of $30,000. Put them behind in their mortgage payments. Where are they today?
Try bankruptcy court.
They are the couple next door and the family down the street. They are on the court calendar with Diamond Bar aerospace worker Joe A. Narvaez and Orange County accountant Dennis J. Zlaket.
There, too, are the names of the seemingly rich and famous--actress Margaux Hemingway and sportscaster Scott St. James--as well as the apparent town pillars, such as the San Bernardino County judge who went bankrupt with a household income of nearly $95,000.
At a time when the Southland is facing its harshest economic environment in at least a decade, cases have been piling into the region’s overburdened bankruptcy courts in such huge numbers that the system is a shambles.
Fraud is pervasive, corroding public confidence and curtailing the courts’ effectiveness. Bogus filings by the thousands clog the works, making the courts easy to abuse and difficult to run. The abuses “are a terrible problem,” said William J. Lasarow, a Los Angeles bankruptcy judge.
The bankruptcy courts are supposed to be the place were debtors get fresh starts and creditors are repaid as much as possible. Today’s reality is far different.
Straitjacketed by stingy budgets, the consumer bankruptcy courts have largely become assembly lines where even profligate credit card debts are usually written off without question. The main victims are banks that issue the cards--and other credit card customers who absorb the losses through higher interest rates and annual fees.
The private trustees assigned to supervise the cases are so swamped with work that the system’s checks and balances have virtually ceased to function. Bankruptcy authorities admit that prosecution is difficult because garden-variety consumer abuse is so common and resources are scarce.
For the corporate bankruptcies known as Chapter 11s, where companies are seeking to reorganize their affairs and pay back creditors, the courts are something akin to roach traps: Businesses check in, but they rarely check out.
With ample justification, Southern California is routinely referred to as the bankruptcy capital of the nation. Close to 78,500 filings--32% more than a year ago and roughly double the level in 1985--were filed in 1991 in the Central District of California, which includes all of the Southland except the border counties of San Diego and Imperial.
Many of the nation’s urban bankruptcy courts--notably in hard-pressed parts of New England, New Jersey and Florida--also are under severe strain. Yet, the breakdown is especially apparent here.
Unique to the Central District are its large population--more than 14 million people, an economy that is highly dependent on real estate for its health and the huge tide of sham bankruptcy petitions that are filed solely to head off apartment evictions, bankruptcy experts say.
The bankruptcy court in downtown Los Angeles is especially chaotic. Long lines abound, and clerks struggle to keep pace with the paperwork choking the system. Files are still not computerized.
The courts are a remarkable gathering spot for Southern Californians of all ages, colors and degrees of fame and fortune. What binds them is a pile of bills that have gotten way out of control.
One particularly intriguing window into this world is the personal bankruptcy filing of Duke D. Rouse. As presiding judge of the San Bernardino County Superior Court, Rouse filed for bankruptcy in mid-1989, despite an annual household income of nearly $95,000--a princely sum in a county where the median family income was about a third of that amount that year.
Though it escaped publicity, the filing eventually triggered an investigation by the top bankruptcy court administrator in San Bernardino, Timothy J. Farris, who said in a letter to the court clerk that the judge’s action may be a “substantial abuse” of the system. The investigation is continuing.
Farris refused to be interviewed about the Rouse case; his letter did not state the nature of the suspected abuse. But court records indicate that the judge did not make complete financial disclosures in his initial filing.
Rouse left the bench in early 1990 to become an attorney in San Bernardino, the town where he was raised and has spent almost all of his 48 years. He refused comment on his case.
Bankruptcy authorities in Los Angeles say that as many as 40% of the consumer bankruptcies filed in the Central District may be abusive if not downright fraudulent. Though many are quickly spotted and dismissed, the cases gum up the system.
Especially irritating to authorities are the so-called “petition mills"--typically services that file bankruptcy petitions for unsophisticated, low-income renters facing eviction. A bankruptcy petition automatically halts an eviction proceeding.
Other abuses include concealment of assets and repeated filings that are eventually dismissed but keep creditors off balance.
Those who know the system concede that there are few checks against cheating in consumer bankruptcy, even though statements on bankruptcy filings are made under oath. It is like the IRS trying to enforce honesty in the tax code with no threat of an audit.
“The chances of being caught for a bankruptcy crime are very slim,” said former FBI Agent William Atherton, a private investigator hired by Visa U.S.A. to probe credit card abuse.
Assistant U.S. Atty. Maureen A. Tighe said that about a dozen people have been convicted of consumer bankruptcy crimes in the last three years--a period in which about 167,000 personal bankruptcies were filed in the Southland. The crimes ranged from forging a judge’s signature on a petition to hiding assets from the trustee, she said.
“I think we’re having some deterrent effect,” Tighe said, “but it is hard to say how much.”
Even if the system functions imperfectly and inefficiently, the bankruptcy courts are a refuge for those with bad luck, bad judgment or both. The trademarks of today’s bankrupt consumer in Southern California are a lost job coupled with runaway credit card bills and multiple mortgages on a house falling in value.
The courts are particularly useful for saving those houses from foreclosure. Filing automatically puts off the foreclosure and allows people time to either pay back their debts or have many of them discharged.
Indeed, one person’s abuse can be another’s salvation. Joe Narvaez has repeatedly--and legally--sought protection in bankruptcy court to keep his home in Diamond Bar out of foreclosure. All his filings have been dismissed--but not before buying him more time.
Though bankruptcy administrators view these repeated filings as a bane of the system, many debtors see them differently. “It has saved my house,” said Narvaez, who contends that health problems have prevented him from making his mortgage payments.
Personal bankruptcies in Southern California are especially vivid testimony to the dangers of excessive credit card debt and the extent to which the cards have proliferated.
“I used the credit cards to live on because business was so slow,” said Dennis Zlaket, the accountant from Orange County who filed a personal bankruptcy in November. “It was a crucial mistake.”
Bruce David White, a bankruptcy attorney in Orange County, said: “Now, it’s not unusual to see people with seven separate Visa cards and seven separate MasterCards.”
A close look at the Southland’s consumer bankruptcy courts reveals that the system’s safeguards have withered away under escalating caseloads.
A key dilemma, experts say, is that good economics and good law mix poorly in consumer bankruptcy, resulting in a system where those responsible for oversight are more interested in keeping the production line moving than rooting out abuse or probing for hidden assets.
“Nobody has the economic incentive to prove the dishonesty,” said Vic Abrunzo, a bankruptcy administrator in the San Fernando Valley.
The overseers are roughly two dozen experts--accountants, lawyers and personal finance specialists--appointed by the Office of the U.S. Trustee, an arm of the Justice Department. They are known as private trustees.
Private trustees who oversee Chapter 7 cases, known as straight personal bankruptcies, receive $45 a case, hardly enough to justify more than a cursory look at each filing. The trustees usually receive about 200 new consumer bankruptcy cases every three weeks.
One consumer bankruptcy that sailed through the system was that of former major league baseball umpire David M. Pallone, who went broke only a few weeks before he was to begin promoting “Behind the Mask,” a book about his life in baseball. He filed for personal bankruptcy in May, 1990.
Pallone left baseball three years ago, charging that he was forced to quit because he is gay. It was Pallone whom Pete Rose shoved during the 1988 season--an incident that cost Rose a $10,000 fine and 30-day suspension.
In his court papers, Pallone described himself as an unemployed writer with huge personal debts, not mentioning the book that was eventually to become a bestseller.
Bankruptcy experts queried by The Times say that Pallone certainly should have disclosed that he had just written a book, even if it had not yet been published.
Curtis B. Danning, the veteran trustee in charge of Pallone’s case, said that he could not recall the filing, though he is a baseball fan. “There are so many of these . . . cases that come along,” said Danning. “We just can’t keep track of them.”
In a letter to The Times, Pallone said that the “information contained in my bankruptcy schedules is true and correct.”
He said that he received an advance on the book in early 1990, but that the amount did not have to be disclosed. The bankruptcy forms he completed asked only about income received in the two calendar years preceding the filing.
Pallone also indicated that the book, which he co-authored, has not made him rich. “I had no reason to expect that I would receive any additional money . . . from the book at the time of the filing of my bankruptcy,” he said. “That has now turned out to be a very reasonable expectation.”
Though bankruptcy records are public and the court proceedings open, almost all consumer bankruptcies move through the court system without much attention. As with divorce, bankruptcy has lost its shock value. Ads for bankruptcy lawyers blanket daytime television and are plastered on bus benches.
Yet, also like divorce, bankruptcy is still painful and few are proud of it.
Sportscaster St. James showed up at his creditors meeting wearing a cap and sunglasses, according to Jeffrey C. Coyne, the trustee who supervised the case. “He did not want anybody to recognize him,” Coyne surmised. St. James’ case was closed in 1988, court records show.
St. James disputed Coyne’s version of the hearing, which occurred more than four years ago.
“I don’t wear hats,” he said, “and I’m certainly not going to walk into a (hearing) room wearing sunglasses.” St. James said that he declared bankruptcy primarily because he had been out of a job for a long stretch at the time.
Another familiar name in the court records is Hemingway, a 36-year-old model and actress whose debts exceeded $800,000--the bulk of them back taxes. Hemingway, who filed a Chapter 7 petition last July, could not be reached for comment.
In the vast majority of cases, known as no-asset Chapter 7s, debtors have only to make a brief appearance at a creditors meeting a few weeks after their petition is filed. Their unsecured debts, such as credit card and medical bills, are usually discharged four to nine months later.
Though the meetings are mostly routine, sparks occasionally fly and revealing events occur.
For example, it turns out that one paralegal who helps debtors fill out their petitions is Ben Perkins Jr., a disbarred attorney.
Perkins’ work came under sharp criticism at a recent creditors meeting run by Elsie Davis, a veteran trustee with an impatient manner and a sharp tongue who retired last month. “He has never gotten one (filing) right yet,” Davis told a couple who had paid Perkins to help fill out their bankruptcy papers.
In a phone interview from his office in Inglewood, Perkins claimed that any mistakes in his filings were minor and called Davis’ charges a lie. Perkins was disbarred in 1989 for repeated misconduct and client neglect, including two cases involving bankruptcy, State Bar records show.
Paul Virgo, assistant chief trial counsel for the State Bar, said it is legal for Perkins to help clients fill out bankruptcy papers as long as he does not provide legal advice “or otherwise practice law.”
A major flaw in the bankruptcy system is that most creditors--who are expected to help police the system, objecting publicly when they see abusive filings--do not try to get any money back after a debtor files bankruptcy. They apparently believe it is not worth the time or trouble to file claims when only small sums are involved.
Yet some creditors are fighting back.
A familiar figure around the Federal Court Building in downtown Los Angeles these days is a slender, 34-year-old lawyer from the San Fernando Valley named Lloyd D. Dix, who was hired to uncover consumer abuses as part of a program sponsored by Visa.
Visa estimated that personal bankruptcies nationwide cost the bank credit card industry $1.75 billion in 1989--$650 million of which was “attributable to bankruptcies that were fraudulent or abusive.”
For a flat fee, Dix seeks to have abusive filings dismissed or to negotiate debt-repayment plans. Dix insists that he is not after consumers who are down on their luck and seeking a new start. “We are only interested in fraudulent debtors,” he said in an interview.
The debtors that Dix has challenged include an unemployed Russian immigrant who ran up nearly $5,000 in credit card charges in Las Vegas and a plumber from Sun Valley who claimed he lost $300,000 gambling.
In another case not so clear-cut, Dix questioned the bankruptcy of Long Beach businessman Adam Smrokowski and his wife, Linda, who went bankrupt in 1989 in the face of huge medical bills not fully covered by insurance and other unexpected personal expenses, court records show.
Dix challenged the filing on the grounds that the Smrokowskis had compiled huge debts on dozens of credit cards before their problems began. He sought repayment on nearly $61,000 in credit card debt on 11 Visa and MasterCard accounts, court papers show.
Bankruptcy Judge James R. Dooley ordered the Smrokowskis to make a partial repayment, but wondered if banks issuing the credit cards ever looked into the couple’s financial background.
“Some investigation before issuing credit cards, particularly in such large numbers, might prevent a recurrence of cases like this,” the judge said in a written opinion. The Smrokowskis declined to be interviewed.
Rouse’s filing has resulted in careful scrutiny of the veteran jurist with a $152,000 suburban home, two cars--and $47,400 in unsecured debts as of May 15, 1989, the day he and his wife filed under Chapter 7.
Rouse’s case has been kept open for more than two years at trustee Farris’ request. “The United States trustee believes that this filing may constitute a ‘substantial abuse’ of the bankruptcy process and is presently investigating the debtors,” according to Farris’ letter to the court clerk.
One result of the investigation is that Rouse amended his filing to disclose that he paid back nearly $27,000 in loans from relatives during the 12 months before his filing. By law, bankruptcy experts say, he should have disclosed the loans in his initial filing.
According to Robert Whitmore, the trustee assigned to the case, talks are under way to recoup about $15,000 of that amount to the Chapter 7 estate--money that presumably would be used to pay Rouse’s creditors.
Bankruptcy specialists familiar with Rouse’s filing are left with numerous questions. They ask why Rouse--with an excellent job and a high degree of public trust--did not try to repay his unsecured debts through a Chapter 13 financial reorganization instead of seeking to have them discharged through a Chapter 7? Why, as his records show, must he spend $500 a month on transportation expenses, not including his car or insurance payments?
Ronald E. Michelman, a veteran Los Angeles bankruptcy specialist who examined Rouse’s court papers at the request of The Times, said that Rouse made too much money and had too few debts to justify a Chapter 7.
“This (case) is ridiculous,” Michelman said.
Rouse turned aside all queries through his lawyer, Norman L. Hanover, a well-known San Bernardino bankruptcy attorney.
“My client is of the opinion that an interview is not needed nor warranted at this time. However, we appreciate your interest,” Hanover told The Times.
Bankruptcy Rules and Terms
* Chapter 7: Known as “straight” personal bankruptcy, Chapter 7 is used by consumers to wipe out their unsecured debts. Most often used by people of modest means and few assets who have lost their jobs, are undergoing a divorce and/or are facing runaway debts. businesses also file under chapter 7 as a means of liquidation.
* Chapter 13: A personal financial reorganization under which consumers pay back their creditors under the supervision of a court-appointed trustee. Payback period typically lasts three to five years. Most often used by homeowners facing foreclosure. Used by people with less than $100,000 in unsecured debts and $350,000 in secured debts.
* Chapter 11: Typically a business bankruptcy that allows companies temporary protection from creditors while they reorganize. Common in a recession for companies short of cash and good management.
* Dischargeable debts: Bills wiped clean by bankruptcy--typically credit-card debts, medical bills and unsecured bank lines of credit.
* Nondischargeable debts: Debts that must be repaid even after bankruptcy--including income taxes, child support, criminal fines and student loans.
* Automatic stay: Court order that kicks in once the bankruptcy petition is filed and automatically halts other legal actions, such as foreclosures and wage attachments.
* Credit impact: Agencies such as TRW may list bankruptcies on personal credit records for up to 10 years.
* Repeat filings: Once debts are discharged, consumers may not file under Chapter 7 again for six years. If the bankruptcy petition is dismissed for any reason, it usually may be refiled at any time.
* Exemptions: California law allows bankrupt homeowners in Chapter 7 to keep up to $75,000 in equity if they are married, $50,000 if unmarried and $100,000 if over 65 or disabled. There is a $1,200 equity exemption for automobiles. Bankrupt renters may claim property exemptions (cars, money, stocks, etc.) of up to $7,900.
* U.S. trustee: The arm of the U.S. Justice Department that administers the bankruptcy system and acts as a watchdog against fraud and abuse.
* Private trustees: Court-appointed specialists--lawyers, accountants and personal-finance specialists--who supervise bankruptcy filings.
1. Personal bankruptcies take two forms. In a Chapter 7, consumers aim to wipe out their unsecured debts. In a Chapter 13, consumers develop a financial reorganization plan for paying back their creditors under a trustee’s supervision.
2. Either filing triggers an “automatic stay” that provides debtors temporary relief from paying bills. The petition costs $120 to file.
3. Within 15 days, debtors must file with the court clerk’s office a listing of their assets and liabilities, including secured and unsecured debts and property they own.
4. Within six weeks of the initial filing, a meeting is held so creditors can meet with a debtor face to face.
In a Chapter 7:
* If no creditors show up--they usually don’t--and the court-appointed trustee approves the filing--he usually does--the unsecured debts in a Chapter 7 case are discharged by court order in a few months.
In a Chapter 13:
* Debtors present financial reorganization plans in which they propose to repay creditors--partially or in full--over a period usually lasting three to five years. If no one objects to the repayment schedule at the debtor-creditors meeting and the trustee approves it, the plan takes effect.
* The personal bankruptcy is discharged when the repayment period has expired and the debts have been repaid as promised. However, only 10% to 15% of the Chapter 13s filed in the Los Angeles area actually work out as scheduled. Most are dismissed or converted to Chapter 7s when debtors fail to adhere to the payment plans.