Ted Michalos, Bankruptcy Trustee

As readers of this weekly Trustees Talk feature are well aware, in September of 2009 the federal government decided to implement changes that had been approved by Parliament (quite literally years ago) that had the affect of increasing the length and cost of filing bankruptcy in Canada. One of the effects of these changes was to make the filing of a consumer proposal a more attractive solution than it may have been previously.

The changes worked – the number of persons filing consumer proposals now, as opposed to filing for bankruptcy, has seen a marked increase. Unfortunately, it is unclear if the government consulted with the major lenders in Canada before making these changes. Many of the lenders take a decidedly different view (and by that I mean more negative) to proposals than the government.

This may be a little difficult to accept, but the banks and other lenders in Canada know that a certain portion of their customers won’t be able to repay their debts. To the lenders this is a cost of doing business and it is factored in to the fees and interest rates that all of us pay when we borrow.

So, if you are a bank and you know some of your customers won’t pay, your attitude to those accounts is “how do we get rid of them as quickly as possible”. In their minds, a bankruptcy provides that quick relief.

Looked at from another angle, if they agree to a multi-year repayment plan via a consumer proposal then they have to keep the account active and open, and they have the added cost of administering the bad debt over a longer period of time. In the lender’s eyes, in order for this to make sense financially, they need to be recovering enough money to justify the added cost of keeping the account open.

What does this mean to you? If you are thinking about offering your creditors a consumer proposal then you need to pass two tests. The first is simple: the proposal must offer your creditors a greater benefit than they would receive in bankruptcy. The second test is a little less precise: you need to offer your creditors enough of a repayment that they think it is worth their while.

Being “worth their while” is a tricky proposition. That means you have to be offering to repay them enough money to justify keeping the account open.

Let’s try an example or two.

Let’s say you’ve met with a trustee and determined that if you file for bankruptcy you will have to pay about $1,500 – this is the basic cost for filing in most areas of Canada, although the cost of bankruptcy in Canada will vary based on your circumstances. Instead of filing for bankruptcy, you would prefer to offer your creditors a consumer proposal to repay $6,000 of the $30,000 that you owe.

You certainly pass the first test as $6,000 is greater than the $1,500 that would be available in a bankruptcy, but do you pass the second? I am sorry to say, probably not. After fees and other costs the creditors might receive half of the money you are offering in your proposal, $3,000. In a lender’s mind, it is not worth keeping the file open in order to recover $0.10 for every dollar they were owed.

Let’s change the example by lowering the amount of your debt to $12,000. It appears you are offering to repay 50% of the debt, but again, after costs the creditors will receive $3,000 and that probably is not enough of an incentive for them to keep their files open.

When you are selecting a trustee to administer your proposal, ask enough questions to be certain that they are familiar with the various lender’s criteria for voting in favour of a proposal. The last thing you want to do is offer a number that is obviously too low simply because the administrator you decided to deal with doesn’t handle enough proposals to know how the creditors will react to your offer.

Ted Michalos, Bankruptcy Trustee

There is a new trend in the insolvency world. The term “reasonable” has always been a part of our lexicon, but until recently, very few creditors were bothering to define it. That is all changing.

When you offer your creditors a consumer proposal, (a legal procedure whereby you offer and your creditors agree to accept less than 100% of what you owe them on your debts) the creditors are provided with enough information to determine how much they may be likely to receive if you filed an assignment in bankruptcy in Canada. The creditors will want more money in a proposal than they would get in a bankruptcy, otherwise it would be in their best interests to simply let you go bankrupt. A proposal is still a good deal for the debtor, because they can stretch the payments out over a longer period of time to make the monthly payments more affordable. The information presented to the creditors will include a monthly budget showing your household income and expense. You and your trustee attest that the proposal and your budget are “reasonable”.

In the past, very little attention was paid to the line by line expenses listed on a person’s budget. The reasonable test seemed to mean you were offering a greater benefit (more money) to your creditors with your consumer proposal than they would receive if you filed for bankruptcy – which made it reasonable for the creditors – and on paper you could afford to make the monthly payment – which made it reasonable for you.

It has become apparent that due in part to the dramatic increase in the number of proposals being filed these days, the creditors are reviewing the budgets in detail for items that, in their opinion, may not be reasonable.

For example, a typical single person household spends anywhere from $150 to $300 per month on food. If a single person’s budget included $600 for food, the creditors may question that expense.

A more obvious example: the family budget includes $400 for smoking. The creditors won’t tell you to quit smoking, but they may point out that if you cutback or quit then you could afford to repay more of your debt.

Any and all expense items seem to be fair game for creditor review. The term “reasonable” has evolved to mean “necessary to maintain a standard of living”. Items that might be classified as luxuries or extravagant are being singled out. Keep in mind that one person’s luxury might be another person’s necessity. What matters now is whether or not your budget reflects a certain frugality towards your own living expenses so that you can repay a greater portion of your debts.

This may be a temporary change in attitude – a way of trying to slow down the rate at which people are filing proposals. Or it may represent the new “reality” that we have to live with.

So what does this mean to you? If you are filing a consumer proposal and expecting your creditors to accept less than 100% repayment of your debts, you must demonstrate that you are cutting back on your own living expenses as well.

What is reasonable? Each creditor has different standards, so contact a licensed bankruptcy trustee in Canada for more information (they will all provide you with a no-charge initial consultation).