When Frank filed for bankruptcy last October, he thought he was closing a dark chapter in his life.
He had no idea he might be opening a new one.
Frank, a 50-year-old Bostonian who asked to be identified by first name only, had quit one of his part-time jobs after aggravating an old back injury in a car accident. Filing for bankruptcy seemed to be the only way to stem his spiraling debt and save his house.
Then came the bankruptcy hearing, where a representative from Sears, Roebuck and Co. approached Frank about signing an agreement to keep up his payments.
“I told him, `Look, I’m bankrupt. Tell me which word you don’t understand,’ ” Frank said.
Then the rep told Frank that Sears could repossess the washer and dryer he had purchased there.
“When they threatened to take that away, I thought I physically could not handle going to a laundromat because of my handicap,” Frank said.
The tactics Frank said Sears used have led to one of the biggest embarrassments in the company’s history. The Hoffman Estates-based retail giant failed to secure bankruptcy court approval of an estimated 250,000 repayment plans– called reaffirmation agreements–it negotiated since 1992 with debtors nationwide, including Frank.
Although credit card debt generally is wiped out during a Chapter 7 personal bankruptcy, Sears maintains that debt on its credit card is secured by the items purchased. Armed with the threat of repossessing everything from armchairs to dishwashers, bankrupt debtors said, Sears was able to persuade them to resume payments. Doing so is not illegal, but the court must agree in each instance. Sears admitted routinely failing to do this, meaning the company was collecting debts that legally had been wiped out.
Sears’ practice first came to light in Massachusetts, where Frank is a plaintiff in a class-action lawsuit against the company. On June 5, Sears agreed to pay as much as $265 million to debtors and states’ attorneys general. It may still be forced to pay unspecified penalties and is being investigated by the U.S. Justice Department.
Although Montogomery Ward & Co. and May Department Stores face their own lawsuits over reaffirmation agreements, most retailers that issue credit cards do not claim a security interest in their merchandise or actively pursue reaffirmations. A spokesman for J.C. Penney said it’s not worth the effort for companies that don’t sell big-ticket items.
Sears, whose customers often run up debt of $2,000 or more for major appliances, has said it will continue to pursue debt reaffirmations with its credit card holders. At its annual meeting in May, Sears CEO Arthur Martinez told reporters, “I have an old-fashioned view: If you take the goods, you should pay for them.”
But bankruptcy experts agree the snafu will change the way Sears does business. Fewer reaffirmations will be signed, because judges and debtors’ attorneys will be on the lookout.
And public awareness means the company won’t be able to get what it used to from debtors, predicts Steven Resnicoff, bankruptcy professor at DePaul University College of Law.
“Sears will have to settle reaffirmations for only a fraction of the debt,” he said.
It’s possible that Sears will have to abandon reaffirmations altogether. One proposal being considered by the National Bankruptcy Review Commission, which is charged with revisiting the 1994 federal bankruptcy statute, would do away with all such agreements in Chapter 7 liquidations.
Still, that’s small consolation to Frank, who said that his quality of life “has gone almost to zero” since the financial cave-in.
“I stopped going out, period,” he said. “I felt that I’d degraded myself by filing for bankruptcy.”
That feeling of worthlessness was something Sears tried to exploit, according to Jean, another plaintiff in the class-action suit who also asked that her real name not be used. Jean, a mother of three who took up a paper route to help pay bills after her bankruptcy, said the company was playing to the innate sense of guilt that people who file bankruptcy have about their situation.
“We’re not just a bunch of irresponsible idiots who don’t want to pay their bills,” she said.
John Roddy, a partner in the law firm of Grant & Roddy, which is handling part of the class-action suit, said that most bankruptcy filers are middle-class people who’ve hit hard times.
“They’ve just fallen on the wrong side of the 18 percent interest rate,” he said. “The tailspin only has to last a couple of months for everything to fall in.”
Despite Sears’ admission of wrongdoing, many people have voiced little sympathy for the plight of Sears’ bankrupt debtors, agreeing with Martinez that people should honor their debts.
But that’s beside the point, said DePaul’s Resnicoff. “The whole bankruptcy process is designed to give debtors some relief from collection activities, so they can have calmness of mind to get their houses back in order,” he said.
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It unclear whether Sears’ failure to file reaffirmation agreements with the court was an overt attempt to circumvent bankruptcy judges. Martinez has attributed the practice to “flawed legal judgment,” and some analysts dismiss it as “a mechanical screwup.”
Yet in an April 16 memorandum of decision on Sears’ practices, Judge Carol Kenner of the U.S. Bankruptcy Court in Boston ruled that it had engaged in “willful and intentional flouting of the Bankruptcy Code.” She said that by not filing the agreements, the company was trying to avoid having them thrown out by the courts.
Jean said she has no doubt what the company’s intent was.
“I really firmly believe they were trying to get away with this,” Jean said. “You’re supposed to be protected when you file bankruptcy–why did Sears feel exempt from that?”
Jean said the threats from the Sears representative at her bankruptcy hearing added insult to an already humiliating process.
“Businesses think Chapter 7 is the easy way out for people, but it’s not,” she said. “You’re sitting in a courtroom with a trustee, with strangers, and you lay information about all your assets out in front of you.”
Jean remembered the odd sensation of having to explain the loss of her husband’s job and family illnesses that had led them into bankruptcy. “It’s like going to confession,” she said.
Of her many creditors, the only ones who showed up at her hearing were Sears and Macy’s department store. Jean said that in contrast to the Macy’s representative, who tried to re-establish her credit but never threatened repossession, the Sears employee gave her an ultimatum: Pay for the goods or have them repossessed.
How likely is that? Peter Geraci, a Chicago-based bankruptcy lawyer, said that reaffirmation is almost never the best course, because companies are unlikely to come for their property.
Jean said the experience made her more cynical about the consumer-friendly image Sears projects in its advertising.
“I didn’t see the softer side of Sears at all,” she said.
The increased scrutiny that Sears’ actions has brought should ensure that, for now, people who have debts to settle with the company will be treated in accordance with the law, Resnicoff said. “Considering what’s happened, the court should be watching Sears very closely from now on.”