The History of Bankruptcy Laws

By Gary D. Hammond and Jeffrey E. Tate | THE JOURNAL RECORD, September 26, 2002 | Go to article overview
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The History of Bankruptcy Laws

Gary D. Hammond and Jeffrey E. Tate, THE JOURNAL RECORD

Although bankruptcy is not new to our country, six of this nation's largest bankruptcies have been filed since December 2001. In addition, for the one-year period ending June 30, there were 1.5 million bankruptcy filings, 97 percent of which were individuals.

Because of the recent focus on bankruptcy filings, this article will give a historical background on bankruptcy.

The term "bankruptcy" comes from two sources. One source is the Italian phrase "banca rotta," meaning "broken bench." In medieval Italy, when a merchant did not pay his debts, the merchant's creditors would break his trading bench, oftentimes over his head. The other source is the French word "banqueroute." Banqueroute signified debtors being on the "route" or the lam, a fugitive from creditors, often living well off their ill-gotten gains.

Modern bankruptcy law is directly traceable to ancient Roman law. Creditors were allowed to attach a debtor's person and property under these laws. In fact, creditors could sell the debtor and his family into slavery to satisfy debts because the law considered the debtor's body as part of the bankrupt's estate.

Modified Roman bankruptcy law was utilized in medieval France and Italy, and was first adopted by England in 1542. These bankruptcy laws were not intended to give relief to debtors, but to give creditors remedies (other than imprisonment) against debtors who did not pay their bills. A bankrupt individual was also subject to criminal punishment ranging from debtors' prison to the death penalty.

Over the next 100 years, Parliament's few changes to the bankruptcy laws sought primarily to increase the bankrupt's assets that creditors could seize and to increase penalties for noncompliance. One of the changes in 1604 even permitted the debtor's ear to be cut off.

In 1705, England introduced the concept of a discharge of debts. The discharge rewarded honest debtors who appeared for court and who revealed property instead of fleeing. A debtor could only receive a discharge if 80 percent of the creditors approved it. Furthermore, early bankruptcy laws were only for "merchants" and could only be initiated by the merchant's creditors.

In 1785, Colonial Pennsylvania enacted a bankruptcy law borrowed from English custom. The law included standing the bankrupt in a public place for two hours with an ear nailed to a pillory before cutting off the ear. The "earmark" forever marked the debtor as an unreputable person with whom to contract. Colonial New York branded its bankrupts on the palm with a "T" for thief.

Later, Article I, Section 8 of the U.S. Constitution conferred the power to establish uniform bankruptcy laws to the Federal government. America's first bankruptcy act was passed in 1800 and was similar to the 1705 British law, excluding the death penalty. Congress passed the 1800 act after a speculative panic in land and government debt, and repealed it just three years later because of excessive debtor fraud.

America's next bankruptcy laws were enacted in 1841, following the Panic of 1837, which was the most severe depression in American history to that date. The 1841 act allowed debtors, including non- merchants to file a voluntary bankruptcy. Because of the unprecedented number of bankruptcies filed after the passage of the 1841 act, Congress repealed it only thirteen months later.

America enacted bankruptcy laws again in 1867 to absorb the bad debts from the Civil War. Under the 1867 act debtors were required to take an oath of allegiance to the United States. The 1867 act first allowed states to set their own property exemptions, a practice still used today. The 1867 act allowed both merchant and non-merchant debtors to file bankruptcy, and permitted both voluntary and involuntary cases. Also, the 1867 act was the first to include some bankruptcy protection for corporations. Congress repealed this act in 1878 amidst widespread fraud and during a general economic rebound.

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