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The History of Bankruptcy

You are not alone in your financial difficulties. Since ancient civilization, bankruptcy has been available to individuals who found themselves unable to repay debt.  Below is a short historical background on the history of bankruptcy.
Bankruptcy defined:

The word Bankruptcy is derived from the French words banque (bank) and route (road or path) or the Italian word bancorupto. Johnson, Samuel, A Dictionary of the English Language (Harrison & Co., 1786). Justice Story, quoting Sir Edward Coke, adopts the French origin of the word, explaining metaphorically that a bankrupt is one who “has wasted his estate, and removed his bank, so as there is left but a mention thereof.” Story, Joseph, Commentaries on the Constitution of the United States; with a Preliminary Review of the Constitutional History of the Colonies and States, Before the Adoption of the Constitution, section 1107 (Hilliard, Gray and Company and Brown, Shattuck , and Co., 1833). Justice Story continues, observing that the first statutory reference to the word bankrupt is found in the title of the English statute of 1542. That title, which states “against such persons as do make bankrupt” is likely a translation of the French phrase “qui font banque route.” Story, Commentaries, section 1107; 34 & 35 Hen. VIII, c. 4 (1542). On the other hand, the lexicographer in Justice Blackstone prefers the Italian lineage. “The word itself is derived from the word bancus or banque, which signifies the table or counter of a tradesman (Dufresne. I, 969) and ruptus, broken; denoting thereby one whose shop or place of trade is broken and gone....” Blackstone, William, Sir, Commentaries on the Laws of England, Bk. II, ch. xxxi, p. 472, Note e, (Clarendon Press, 1765-1769); see also, The Catholic Encyclopedia, Volume II, Civil Aspect of Bankruptcy (Robert Appleton Company, 1907).

Still others prefer a more colorful explanation of the word's Italian origins. They contend that money lenders and merchants in Florence would offer their services in public places, where they would set up a bench or a table. If they were unable to repay their creditors, the creditors would simply break up the bench to signify the business' failure. The Italian phrase for this process of retribution was “banca rotta” (“banca” from the latin “bancus” and “rotta” from the latin “ruptus”) meaning, “broken bench.” Hence the origin of the word “bankrupt.”

The Biblical Roots of Bankruptcy:
Many of the basic concepts of our modern day Bankruptcy Code, can be traced back to biblical times. Specifically, the concept of a discharge of indebtedness is directly traceable to both the Old Testament and the New Testament. The Old Testament, in Deuteronomy, contains the first modern pronouncement respecting discharge.

At the end of every seven years you must cancel debts. This is how it is to be done: Every creditor shall cancel the loan he has made to his fellow Israelite. He shall not require payment from his fellow Israelite or brother, because the Lord's time for canceling debts has been proclaimed. You may require payment from a foreigner, but you must cancel any debt your brother owes you.  Deuteronomy, 15:1-3; see generally Exodus, 21:2 (“If you buy a Hebrew servant, he is to serve you for six years. But in the seventh year, he shall go free, without paying for anything.”); and Leviticus, 25:10 (“Consecrate the fiftieth year and proclaim liberty throughout the land and to all its inhabitants. It shall be a jubilee for you; each one of you is to return to his family property and each to his own clan.”).

In other words, Deuteronomy provides that all debts to non-foreigners are to be discharged at the conclusion of every seven years period. Consistent with Deuteronomy, the old Bankruptcy Act of 1938, prevented a debtor from filing for bankruptcy within seven years of a prior filing. In 1978 Congress overhauled the Bankruptcy Act and in so doing shortened the Biblical seven years to six years.

The New Testament also makes reference to the concept of debt forgiveness. Saint Matthew states the following in his instructions on prayer:

“Forgive us our debts, as we also have forgiven our debtors.” Matthew, 7:12.

Despite the usage of the words “debt” and “debtors,” the foregoing passage is not intended to be interpreted narrowly and in all likelihood speaks generally of the forgiveness of sin. Nonetheless, it is interesting to take note of the example Saint Matthew uses to teach the principle of forgiveness. In the parable of the unmerciful servant Matthew explains the tale of a king who wanted to settle accounts with his servants. Matthew, 18:21-35. The parable begins with the master seeking to settle the account of a servant whose debt to the master is ten thousand talents (more than a lifetime's worth of wages). Initially, the master orders the servant and his family be sold into slavery, however, after hearing the pleas from the servant for mercy, the master recants the order and releases the servant from all obligations. Subsequently, the servant approaches a fellow servant that owes him money and makes demand for payment. The fellow servant, despite pleading for mercy is thrown into debtor's prison. Upon learning of the treatment of the fellow servant, the master turns the servant over to the jailers to be tortured until his debt to the master is paid in full. In short, Matthew uses the concept of debt forgiveness to teach the principle of forgiveness referenced in the Lord's Prayer (Matthew, 7:9-13).

Other bankruptcy concepts found in the Old Testament include certain exemptions, rights of redemption, security interests, pledges and priority of payment. For example, the exemption for tools of the trade can be traced to the following verse:

“Do not take a pair of millstones – not even the upper one – as security for a debt, because that would be taking a man's livelihood as security.” Deuteronomy, 24:6.

Likewise, the exemption for personal clothing is traceable to the following scripture:

“If you take your neighbor's cloak as a pledge, return it to him by sunset, because his cloak is the only covering he has for his body. What else will he sleep in? When he cries out to me, I will hear, for I am compassionate.”  Exodus, 22:26-27; see also, Deuteronomy, 24:12-13.

Moreover, the Bankruptcy Code's concept of priority respecting the payment of wages owed by a debtor in bankruptcy finds its roots in the Old Testament.

“Do not take advantage of the hired man who is poor and needy, whether he is a brother Israelite or an alien living in one of your towns. Pay him his wages each day before sunset, because he is poor and is counting on it. Otherwise he may cry to the Lord against you, and you will be guilty of sin.”  Deuteronomy, 24:14-15.

In the Beginning, the concept of debt relief, in a very general way, is traceable to the Code of Hammurabi (c. 1795 - 1750 B.C.). King Hammurabi united all of Mesopotamia and ruled for forty-three years in Babylon. The Code of Hammurabi is one of the best preserved legal documents and fairly reflects the social structure of Babylon during Hammurabi's rule. The Code contains two hundred eighty-two laws.

The Code of Hammurabi was harsh; providing for the imprisonment of debtors who are unable to satisfy their obligations. Code of Hammurabi Translated by L.W. King. with Commentary from Charles F. Horne and Claude Hermann Walter Johns, Law 115, Encyclopaedia Britannica (11th ed., 1910) (“If any one have a claim for corn or money upon another and imprison him; if the prisoner die in prison a natural death, the case shall go no further.”); Levinthal, Louis Edward, The Early History of Bankruptcy Law, 66 U. Pa. L. Rev. 223, 230 (1918). The Code was not, however, without mercy. The honest debtor also had the option of selling himself and or family members into slavery, for a period of no more than three years, in an effort to satisfy the obligation. Code of Hammurabi, Law 117 (“If any one fail to meet a claim for debt, and sell himself, his wife, his son, and daughter for money or give them away to forced labor: they shall work for three years in the house of the man who bought them, or the proprietor, and in the fourth year they shall be set free.”); see also, Early History, 237. Yet as harsh as this remedy was, the Roman debtor faired much worse. Early History, 231-232.

In the early days of the Roman Empire individual creditors were left to pursue their remedies by such means as the law or practice of the community might permit. Such laws were often quite severe in their application. For example, under the Roman law of the Twelve Tables, Table III, Execution of Judgment (c. 450 B.C.), creditors might, as a last resort, cut the debtors body into pieces, each of them taking his proportionate share (de debitore in partes secando). Johnson, Allan Chester, et al., Ancient Roman Statutes, 10 (Clyde Pharr ed., 1961). While Sir William Blackstone, in commenting upon this law, appears to cast some doubt upon its implementation, there can be no doubt that early Roman law offered little solace for the debtor. Blackstone, Commentaries, Bk. II, ch. xxxi, p. 472; see also, Ancient Roman Statutes, 14 n.25. In fact, prior to 326 B.C. the early Romans continued to enslave or kill debtors who defaulted upon their obligations. Brunstad, G. Eric, Jr., Bankruptcy and the Problems of Economic Futility: A theory on the Unique Role of Bankruptcy Law, 55 Bus. Law. 499, 514 n. 49 (2000).

During second century B.C., creditors obtained the right of venditio bonorum. Venditio bonorum permitted the creditor to petition the praetor (elected local magistrate) for an order authorizing the creditor to take possession of the debtor’s property in order to secure it from dissipation (rei servandae causa). Bankruptcy and the Problems of Economic Futility, 55 Bus. Law. 499, 514 n. 52. A public proclamation would then issue advising all of the debtor’s other creditors of the seizure. After adequate notice, a second praetorian order would issue to those creditors responding to the proclamation summoning them to a meeting the purpose of which was to elect a magister bonorum to supervise the estate’s liquidation. Id. The venditio bonorum brought about the infamia (shame or disgrace) of the debtor, did not discharge the debtor from any deficiency still owing after the sale of the estate, and did not prohibit personal execution (personal arrest). Id.

The harshness of the venditio bonorum was addressed by Augustus (ruler of Rome 31 B.C. - 14 A.D.) in the lex Iulia de bonis cedendis of 17 A.D.. The lex Iulia de bonis cedendis established the more forgiving procedure of cessio bonorum (the surrender of goods). Bankruptcy and the Problems of Economic Futility, 55 Bus. Law. 499, 514. Cessio bonorum permitted the insolvent debtor to voluntarily surrender his property to his creditors in satisfaction (in whole or in part) of his debts. Story, Commentaries, section 1108. The creditors sold the goods in satisfaction, pro tanto, of their claims. Bankruptcy and the Problems of Economic Futility, 55 Bus. Law. 499, 514 n. 50. The surrender of the goods did not procure the debtor a discharge, leaving the debtor liable for any deficiency. Id. The debtor was, however, permitted to retain certain necessities and was not subject to personal execution or infamia. Id.

Unfortunately, all good things must come to an end. Rome could not and would not last forever. The fall of the Roman Empire occurred over a period of several hundred years and marks the beginning of the medieval period (approximately 5th through 15th centuries A.D.). As the Roman Empire gradually weakened, the Germanic tribes from the Scandinavian regions began to conquer. These Germanic tribes were uneducated, subject to tribal rule and barbarous in nature. They lived mainly by hunting and some crude farming and their laws were based upon tribal custom and superstition.

The Germanic invasions destroyed most commerce. Money almost went completely out of use. By the ninth century, most of western Europe was carved into large manor estates ruled by landlords and worked by poor peasants. Each manor was autonomous and supported almost entirely by the production of its inhabitants.

Bankrupt Laws of England:
Laws concerning the debtor and creditor relationship, however, began anew in the late Middle Ages. This societal shift, in the context of England, is explained below by the United States Supreme Court.

The nature of the population of England in feudal times [Middle Ages], develops the cause. The different counties of England were held by great lords; the greater part of the population were their villains; commerce hardly existed; contracts were infrequent. The principal contracts that existed were with the lords and their bailiffs, the leviers of their fines and amercements, receivers of their rents and money, and disbursers of their revenues.  Sturges v. Crowninshield, 17 U.S. 122, 140 (Wheat. 1819). The Court then continues, listing the first statutes enacted concerning imprisonment for debt.

In the year 1267, imprisonment for debt was first given against the bailiffs, by the statute of Marlbridge, 52 Hen. III., c. 23; Burgess 18, 19; F. N. B. Accompt, 117. The statute of Acton Burnel, 11 Edw. I., gave the first remedy to foreign merchants, by imprisonment, in 1283. The statute 13 Edw. I., c. 2, gave the same remedy against servants, bailiffs, chamberlains, and all manner of receivers. Burgess 24, 27. These instances show how imprisonment for debt first commenced, how few were at first included, and accounts for the non-existence of legal insolvency.  Sturges, 17 U.S. 122 at 140 -141.

As the Middle Ages waned and commerce increased it became clear that debt became necessary for the growth of society. “Trade cannot be carried on without mutual credit on both sides: the contracting of debt is therefore here not only justifiable, but necessary.” Blackstone, Commentaries, Bk. II, ch. xxxi, p. 474.

As the use of debt increased, England instituted a variety of laws concerning debt relief. Such laws evolved along two different fronts. One set of laws, commonly referred to as bankrupt laws, were directed to debtors engaged in business, whereas the other set of laws, referred to as insolvency laws, covered the remainder of debtors. Justice Blackstone explained:

[England allows] the benefit of the laws of bankruptcy to none but actual traders; since that set of men are, generally speaking, the only persons liable to accidental losses, and to an inability of paying their debts, without any fault of their own. If persons in other situations of life run in debt without the power of payment, they must take the consequences of their own indiscretion, even though they meet with sudden accidents that nay reduce their fortunes: for the law holds it to be an unjustifiable practice, for any person but a trader to encumber himself with debts of any considerable value. If a gentleman, or one in a liberal profession, at the time of contracting his debts, has a sufficient fund to pay them, the delay of payment is a species of dishonesty, and a temporary injustice to his creditor: and if, at such time, he has no sufficient fund, the dishonesty and injustice is the greater.  Blackstone, Commentaries, Bk. II, ch. xxxi, p. 473-4.

Insolvency laws were nothing like the bankrupt laws. See Infra. For the most part the English laws on insolvency related to the nature, extent and duration of imprisonment. Insolvency laws were initiated in response to 19 Hen. VII, c. 9 (1503), “which gave like process in actions of the case and debt, as in trespass, [and] is the true basis of the right, or wrong, of general imprisonment.” Sturges, 17 U.S. 122 at 141; 19 Hen. VII., c. 9 (1503). The beginnings of insolvency laws began with the statute 8 Eliz., c. 2 (1566), which “restricted the right of imprisonment, and guard[ed] against its abuses.” Sturges, 17 U.S. 122 at 141; 8 Eliz., c. 2 (1566) (proof by declaration was required and costs were awarded the defendant for delay, discontinuance and nonsuit). Various proclamations issued over the years to follow, which proclamations were subsumed into 22 & 23 Car. II, c. 20 (1670); Sturges, 17 U.S. 122 at 142. The 1670 Act was the first great regular insolvent act and “the model of all that follow; its provisions and language having been copied by the subsequent parliaments in England, and by our colonial legislatures, with almost unvarying exactness.” Id.

The first bankruptcy law, promulgated in 1542 under the reign of Henry VIII, was a remedy designed solely for the benefit of the creditor and directed at merchants and tradesmen. 34 & 35 Hen. VIII, c. 4 (1542). The 1542 Act, entitled “An Act Against Such Persons as Do Make Bankrupt,” was an involuntary proceeding initiated by the creditors in order to facilitate the complete liquidation of all of the debtor’s holdings. The preamble and section I of the 1542 Act provide ample insight into how debtors of the day were perceived as well as the ramifications of being declared a bankrupt:

“Where divers and sundry persons craftily obtaining into their hands great substance of other men’s goods do suddenly flee to parts unknown or keep their houses, not minding to pay or restore to any their creditors their debts and duties, but at their own will and pleasure consume the substance obtained by credit of other men, for their own pleasure and delicate living, against all reason, equity and good conscience ...the Lord Chancellor ... shall have power and authority by virtue of this Act to take ... imprisonment of their bodies or otherwise, as also with their [real and personal property however held] and to make sale of said [real and personal property however held] for true satisfaction and payment of the said creditors, that is to say; to every of the said creditors a portion, rate and rate like, according to the quantity of their debt.”  34 & 35 Hen. VIII, c. 4. (1542).

Perhaps of greater import, however, is what the 1542 Act did not address. The 1542 Act did not discharge the debtor nor did it exempt future earnings or acquisitions of the debtor from execution for the debt. 34 & 35 Hen. VIII, c. 4 (1542); see generally, Tabb, Charles Jordan, The Historical Evolution of the Bankruptcy Discharge, 65 Am. Bankr. L. J. 325, 331-2 (1991).

The 1542 Act was followed by 13 Eliz., c. 7 (1570). The preamble of the 1570 Act exemplifies the frustration England faced in dealing with bankrupts.

[T]hose kind of persons have and do still increase into great and excessive numbers, and are like more to do, if some better provision not be made for the Repression of them; and for a plain declaration to be made and set forth who is and ought to be taken and demand for bankrupt....  13 Eliz., c. 7 (1570).

While it had been the general practice under the 1542 Act to limit its application to merchants and tradesmen, the 1570 Act codified the practice. The 1570 Act is distinct from the 1542 Act in two very important aspects. First, the 1570 Act strengthened the provision respecting fraudulent transfers. No longer would the Commissioner have to settle for turnover of the asset fraudulently transferred. The Commissioner was entitled to collect double the loss to the estate. 13 Eliz. C. 7, sec. VI (1570). Second, the 1570 Act created a perpetual bankruptcy estate. If after liquidation of all of the bankrupt’s assets there was a remainder still owing, not only was that remainder not discharged, but the Commissioner retained the right and authority to seize and sell any property subsequently acquired (by any means) by the bankrupt until all creditors were paid in full. 13 Eliz. C. 7, sec. X (1570).

The frustration in England concerning bankrupts continued. In 1 Jac. I, c. 15 (1604), entitled “An Act for the Better Relief of the Creditors Against Such as Shall Become Bankrupt,” it is stated:

“For that Fraud and Deceit as new diseases daily increase amongst such as live by buying and selling, to the hindrance of Traffic and mutual Commerce, and to the general Heart of the Realm, by such as wickedly and willfully become Bankrupt...”  1 Jac. I, c. 15, sec. I (1604).

In its continuing efforts to stem the tide of bankrupts, Parliament continued to increase the powers of the Commissioner to investigate fraud. The Commissioner was now entitled to depose persons thought to be in possession of the bankrupt’s assets. 1 Jac. I, c. 15, sec. V (1604). If a person refuse to attend or give evidence the Commissioner had the right to imprison, without bail, such person until the questions are answered and evidence given. Id. Even harsher, however, was the treatment of the bankrupt that commits perjury.

“And that if upon his her or their Examination, it shall appear that he she or they have committed any willful or corrupt perjury tending to the hurt or damage of the Creditors of the said Bankrupt to the value of Ten Pounds ... the Party so offending shall [pay] or may thereof be indicted ... and being lawfully convicted thereof, shall stand upon the Pillory in some public place by the space of two hours, and have one of his ears nailed to the Pillory and cut off.”  1 Jac. I, c. 15, sec. IV (1604).

The bankrupt laws continued to evolve thereby increasing the rights and remedies of the creditors. For example, in 21 Jac. I, c. 19 (1623) a debtor indicted for fraudulent transfers was also subject punishment by Pillory and the loss of an ear. 21 Jac. I, c. 19, sec. VI (1623). The severity of punishment, however, reached its pinnacle in 4 & 5 Anne, c. 4 (1705), wherein it is stated:

“That if such Person or Persons so voluntarily surrendering him her themselves shall afterwards neglect or omit to discover and deliver his her or their Estates and Effects shall be taken and adjudged to be a fraudulent Bankrupt within the true Intent and Meaning of this Act and thereof being lawfully convicted shall suffer as a Felon, without Benefit of Clergy [the death penalty].” 4 & 5 Anne, c. 4, sec. XIX (1705). On the other hand, 14 Car. II, c. XXIV (1662) did afford certain citizens protection from the bankrupt laws.
The 1662 Act provides that a commission of bankrupt shall not issue against a person by reason of investments in the Royal Fishing Trade, East India Company or Guiney Company. 14 Car. II, c. XXIV, sec. I (1662).  The punitive aspects aside, the 1705 Act, is the first bankrupt law to actually provide the bankrupt a discharge. The discharge language is as follows:

“And be it further enacted by the Authority aforesaid, That all and every Person and Persons so becoming bankrupt as aforesaid who shall within the Time limited by this Act surrender him her or themselves to the major part of the Commissioners therein named and in all things conform as in and by this Act is directed shall be ... discharged from all Debts by him her or them due and owing at the Time that he she or they did become Bankrupt....”  4 & 5 Anne, c. 4, sec. VIII (1705).

The discharge in the 1705 Act was neither automatic nor self-executing. A majority of the commissioners had to find the bankrupt conformed to the Act as a condition precedent to receiving a discharge. The discharge was evidenced by a “certificate of conformity. Bankruptcy Discharge, 65 Am. Bankr. L. J. 325 at 334. The discharge did not bar or enjoin any subsequent litigation on debts arising before the date the commission of bankrupt issued.. 4 & 5 Anne, c. 4, sec. VIII (1705). It did however, permit the discharged bankrupt to plead discharge as an affirmative defense. In addition to the discharge provision, the 1705 Act permitted, subject to some limitations, the conforming bankrupt to receive as much as five percent of the estate recovered up to a maximum of 200 pounds. 4 & 5 Anne, c. 4, sec. VIII (1705).

While the additional rights afforded the bankrupt under the 1705 Act are significant, it must not be forgotten that the Act was passed for the sole benefit of the creditors. The 1705 Act is entitled “An Act to Prevent Frauds Frequently Committed by Bankrupts” and remained limited in its application to those persons who were merchants or tradesmen. 4 & 5 Anne, c. 4 (1705). The preamble states “[w]hereas many Persons have and do daily become Bankrupt not so much by reason of Losses and unavoidable Misfortunes as to the Intent to defraud and hinder their Creditors of their just Debts and Duties to them Due....” 4 & 5 Anne, c. 4 (1705). Also lets not forget, as stated supra, the 1705 Act introduced the death penalty for fraudulent bankrupts. 4 & 5 Anne, c. 4, sec. XIX (1705). Lastly, one year after the passage of the 1705 Act, Parliament passed 6 Anne, 22 (1706), a primary purpose of which was to require creditor consent as a condition precedent to the bankrupt’s receipt of a discharge. 6 Anne, 22, sec. II (1706).

Parliament passed a comprehensive revision of British bankruptcy law in 1732. 5 Geo. II, c. 30 (1732). The 1732 Act retained the discharge and the allowance features for conforming bankrupts as well as the death penalty for fraudulent bankrupts. 5 Geo. II, c. 30, sec. I and VII (1732). The 1732 Act, while substantively similar to the 1705 Act, was procedurally much more detailed. The conditions precedent for a discharge were spelled out in detail as was the method for enforcing the discharge. More attention was paid to the allowance portions of the Act making clear when and under what situations a dividend or allowance should be paid the bankrupt from the estate proceeds.

The 1732 Act was the bankrupt law that was in place in England during: (1) the American Revolution; Constitutional Convention of 1787; enactment of the first United States bankruptcy law in 1800. “It thus was the bankruptcy model envisioned by the drafters of the bankruptcy clause of the Constitution and which was followed in material part in the first United States law.” Bankruptcy Discharge, 65 Am. Bankr. L. J. 325 at 340-1.

United States Bankrupt Laws:
The subject of bankruptcy was not addressed in Constitutional Convention of 1787 until its waning days by Charles Pinckney of South Carolina. Warren, Charles, Bankruptcy in United States History, p. 4 (Harvard University Press, 1935). On September 3, 1787, the Bankruptcy Clause, the power of the federal government to establish uniform laws on bankruptcies, was adopted into the Constitution. Id.; United States Constitution, art. I, sec. 8, cl. 4. The bankruptcy power remained unexercised by the federal government until 1800, when Congress enacted the first federal bankruptcy law. Bankruptcy Act of 1800, Act of Apr. 4, 1800, ch. 19, 2 Stat. 19, repealed by Act of Dec. 19, 1803, ch. 6, 2 Stat. 248. The Bankruptcy Act of 1800 lasted three years and closely tracked 5 Geo. II, c. 30 (1732).

The salient features of the Bankruptcy Act of 1800 are:

“Only merchants were eligible debtors; only involuntary bankruptcy was allowed, on proof of an act of bankruptcy; and the act provided for the discharge of debts as well as the person of a cooperative debtor. It granted a graduated allowance to the conforming bankrupt ... and allowed limited property exemptions.... Fraudulent bankruptcy constituted a criminal offense, subjecting the debtor/criminal to a prison term of from twelve months to ten years (but not to capital punishment, as under the English law).”  Bankruptcy Discharge, 65 Am. Bankr. L. J. 325 at 346.

However, as indicated above, the statute was short lived. After its repeal in 1803, creditors and debtors were again dependant upon the individual states for rules of law concerning bankruptcy. Bankruptcy Discharge, 65 Am. Bankr. L. J. 325 at 348.

The Bankruptcy Act of 1841, while short lived (approximately one year), provided a major substantive change to the law of bankruptcy. The Bankruptcy Act of 1841, Act of Aug. 19, 1841, ch. 9, 5 Stat. 440,repealed by Act of Mar. 3, 1843, ch. 82, 5 Stat. 614. First, by virtue of the Panic of 1837, it evidences a shift in the focus from a creditor oriented statute to one that is more debtor oriented. Bankruptcy Discharge, 65 Am. Bankr. L. J. 325 at 349-40. Second, it permitted voluntary bankruptcy. “A debtor desiring the benefit of a bankruptcy discharge could simply file a petition in bankruptcy, comply with the provisions of the act, and, if the creditors consented, receive a discharge.” Bankruptcy Discharge, 65 Am. Bankr. L. J. 325 at 349-50. Third, relief was extended to “all persons whatsoever ... owing debts.” The Bankruptcy Act of 1841, ch. 9, 5 Stat. 441.

There is no doubt, but that the Bankruptcy Act of 1841 generated much attention and discourse in its day. In fact, in September, 1842, Judge Wells, in the United States District Court in Missouri, held the Bankruptcy Act of 1841 to be unconstitutional and dismissed some 900 pending bankruptcy cases. Bankruptcy in United States History, at 86. Judge Wells, however, was over turned at the Circuit Court level and “[f]or the next fifteen years from the date of the repeal of the Act of 1841, not only was the question of the constitutionality of voluntary bankruptcy not seriously raised, but there was practically no agitation either for or against any National bankruptcy law.” Bankruptcy in United States History, at 87. In short, Americans lost interest in the debate over a national bankruptcy law. Bankruptcy in United States History, at 87-92.
This disinterestedness amongst Americans concerning federal bankruptcy legislation came to an abrupt halt after the Panic of 1857. Bankruptcy in United States History, at 95-98. Nonetheless, it was not until 1867 that there was a new federal bankruptcy statute. Id.; The Bankruptcy Act of 1867, Act of Mar. 2, 1867, ch. 176, 14 Stat. 517,amended by Act of June 22, 1874, ch. 390, 18 Stat. 178,repealed by Act of June 7, 1878, ch. 170, 20 Stat. 99. The battle lines for the debate on the Bankruptcy Act of 1867 were understandably along the Mason-Dixon line. The Northern States seeking passage, while the Southern States expressing opposition.

The Bankruptcy Act of 1867 provided for both voluntary and involuntary petitions and the commencement of proceedings by corporate debtors. As regards the debtor’s discharge, in the first couple years of the Bankruptcy Act of 1867, creditor consent was not required. Subsequently, and for the remainder of the Act’s tenure, some form of creditor consent was required. Also, in keeping with the times, debtors were required to swear their allegiance to the United States of America. Nonetheless, this bankruptcy law too succumbed to the criticism of the day and was repealed in 1878.

It would not be until 1898 that the next federal bankruptcy statute would pass Congress and become law. The Bankruptcy Act of 1898, Nelson Act, ch. 541, 30 Stat. 544, amended by Chandler Act, ch. 575, 52 Stat. 840 (1938), repealed by Act of Nov. 6, 1978, Pub. L. No. 95-598, 92 Stat. 2549. With the arrival of the Bankruptcy Act of 1898 came permanent federal bankruptcy legislation. As was often the case with bankruptcy legislation, the driving force behind the 1898 Act was creditors. Local creditors, via the “National Convention of Commercial Bodies of the United States,” pushed for a federal bankruptcy law throughout much of the 1880s and 1890s. Many believed federal bankruptcy legislation would put an end to the perceived interstate discrimination amongst creditors under various state insolvency statutes. Southern and western states opposed the notion for fear of governmental intrusion and the negative impact upon farmers. The 1898 Bankruptcy Act, as is the case of most legislation, represents a compromise of both positions.

Initially, the Bankruptcy Act of 1898 authorized the filing of voluntary bankruptcy petitions by any person who owes a debt, except a corporation. In 1910 the Bankruptcy Act was changed and amended, and the language used in the Bankruptcy Act of 1867 was restored thereby allowing corporations to file voluntary petitions for relief. 36 Stat. 839, Sec. 4 (Comp. St. Sec. 9588). The act extended eligibility for voluntary bankruptcy to “[a]ny person except a municipal, railroad, insurance, or banking corporation. . . .”

As a condition precedent to the filing of an involuntary petition under the Bankruptcy Act of 1898, creditors needed to present evidence of an act of bankruptcy, such as: (1) fraudulent conveyance or concealment of property; (2) preferential transfer, (3) suffering or permitting any creditor to obtain a lien through legal proceedings; (4) fraudulent or collusive assignment for the benefit of creditors; or (5) a written admission of inability to pay debts and willingness to be adjudged insolvent. A sixth was added in 1903: appointment of a receiver while insolvent. Under the 1898 Act, creditors retained the authority to elect trustees and the federal District Courts remained the courts of bankruptcy. The commissioners under earlier Acts and the registers under the Bankruptcy Act of 1876 were replaced by “referees” (the predecessor of today’s bankruptcy judges).

The Bankruptcy Act of 1891, while amended from time to time, was not substantially revised until the passage of the Chandler Act of 1938. The Chandler Act replaced § 77B of the Bankruptcy Act of 1898 with Chapter X corporate reorganizations, and added chapters XI (arrangements and compositions for corporations, partnerships, and individuals), XII reorganization procedures for non-corporate entities engaged in real estate, and XIII (wage earner plans). The purpose of the Chandler Act was to encourage and facilitate bankruptcy reorganization in order to avoid unnecessary or premature liquidations.

The Bankruptcy Act of 1891 was not repealed until the passage of the Bankruptcy Reform Act of 1978. The Bankruptcy Reform Act of 1978, as amended, it the Bankruptcy Code of today. Bankruptcy Reform Act of 1978, Pub. L. No. 95-598, 92 Stat. 2549, amended by Bankruptcy Amendments and Federal Judgeship Act, Pub. L. No. 98-353, 98 Stat. 333 (1984), and by Bankruptcy Judges, United States Trustees and Family Farmer Bankruptcy Act, Pub. L. No. 99-554, 100 Stat. 3088 (1986), and by the Bankruptcy Reform Act of 1994, Pub. L. No. 103-394, 108 Stat. 4106. When the current Bankruptcy Code was passed in 1978, it became the first such statute to be passed in Congress that was not in a direct response to a financial crisis or panic

Current Bankruptcy Law:
The current Bankruptcy Code remains similar to the Bankruptcy Act of 1891, although improvements have been made. The current Bankruptcy Code resulted in a complete overhaul of the administrative functions of bankruptcy. Bankruptcy Courts were created in lieu of referees, The Office of the United States Trustee was established and the structure of the Bankruptcy Code was altered to reflect a more streamlined process. The reorganization chapters of the Bankruptcy Act of 1978 were condensed to form the current chapter 11, chapter XIII has become chapter 13 and liquidations (or straight bankruptcies) are now addressed under chapter 7.

The current Bankruptcy Code also seeks to encourage greater use of Chapter 13, the mode of relief allowing for the readjustment of the debts of individuals with regular income (the old “wage-earner” chapter expanded - chapter XIII). Congress had hoped that creditors would receive greater dividends under a Chapter 13 plan than they would under a chapter 7 liquidation. Congress also hoped that debtors would emerge with better credit. In so doing, Congress rejected any form of compulsory Chapter 13, but offered lieu certain enticements to the chapter 13 debtor (the old carrot on the stick approach that resulted in the first discharge in 4 & 5 Anne, c. 4, sec. VIII (1705)) such as: (1) the “super discharge” of some debts that would not be dischargeable in under chapter 7; and (2) the protection of co-debtors from joint creditors. Subsequent amendments have made Chapter 13 less favorable to debtors by weakening the discharge and requiring compliance with a “disposable income” test as a prerequisite to plan confirmation. Moreover, Bankruptcy Courts may dismiss a Chapter 7 case where it is determined that the granting Chapter 7 relief would be a "substantial abuse" of the liquidation process, thereby leaving the debtor with the choice of dismissal or chapter 13.

Thus is the terse and convoluted history of American Bankruptcy Law. While it might not be the most glamorous of tales to tell, it was critical to the development of trade and commerce in the western world. “The power of establishing uniform laws of bankruptcy is so intimately connected with the regulation of commerce, and will prevent so many frauds, where the parties or their property may lie, or be removed into different states, that the expediency of it seems not likely to be drawn in question.” Madison, James, The Federalist No. 42, The Powers Conferred by the Constitution Further Considered (Tuesday, January 22, 1788).\

As you can see, bankruptcy has been around as long as civilized society and commerce.  You should not feel embarrassed, ashamed or defeated in filing bankruptcy, as millions of people seek debt relief each year and have been doing so for centuries.

To receive a free consultation regarding your (or your friend or family member’s) debt problems, please contact us today.

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