As one of the more toxic topics in the United States political and social realms, healthcare, and the debt associated with it, is always at the tip of most people’s tongue. Whether eagerly waiting to argue for proposed changes and overhauls or defending the current model as the best option, it is a topic that can rile up even the most tame and docile humans. And, thankfully, the U.S. healthcare model is not the topic of this article and serves only as a backdrop for the less exciting, though troubling, topic of medical debt.

Medical debt is a significant burden for many Americans and one that can be experienced at any juncture in life. Highlighting the extent of the issue with medical debt, according to a 2021 study by the Journal of the American Medical Association (“JAMA”), approximately 17.8% of individuals in the United States have medical debt. Given the high cost of healthcare, one devasting medical episode can lead to insurmountable debt that can devastate personal finances and overall well-being by threatening personal savings, retirement, and primary residences. Whether the episode is anticipated or unexpected, the effects can be long-lasting and devastating.

In addition to legislative changes, which are discussed briefly below, bankruptcy is an avenue that can offer relief and protection but, unfortunately, it is a dirty word that many know so little about and yet, still fear it. Our founding fathers understood that the importance and need of debt relief was so great that they wrote it in our constitution and made it a right that congress shall always maintain and protect. See Article I, Section 8. Despite this, many Americans are either naïve or misinformed to the benefits and protections afforded by bankruptcy, and as a result, never consider it as the pathway to the relief that they desperately need.

Education and understanding of bankruptcy are tantamount to ensuring every American, especially those crippled with medical debt, is aware of all their options. Below, is a brief list of myths surrounding bankruptcy:

• Credit Score: Many assume that bankruptcy is the “end” of their credit. They hold the belief that once they file, they will never be able to lend money, purchase homes or cars, secure a credit card. However, the opposite is true. Bankruptcy acts as a floor – there will be a dip in the score, of course, but then the credit score is protected. No creditors can continue to attack the credit score, and it will slowly begin to rebuild. In reality, credit scores tend to rebuild more quickly after bankruptcy than if one tries to handle their debt on their own.
• Lose All Property: There is an assumption that if you file bankruptcy, you will lose all your property – real and personal. This is false. While bankruptcy is federal law, state laws usually control what type of and the amount of property you can save. When practicing bankruptcy and advising clients, it was explained as there are generally 2 groups of exemptions for protecting property. One exemption was based on the type of property (401(k), IRA, etc.), and the other based on the value of the property (think, homestead exemption and equity). Regardless, the point of bankruptcy is to assist people to get back on their feet, to get a “fresh start”, and if bankruptcy made everyone destitute and without shelter, rebuilding one’s life would be difficult.
• Lose No Property: As there is this belief that you will lose everything in bankruptcy, there is also a belief that you will lose nothing in bankruptcy. While there is a lot of property that is protected from liquidation in bankruptcy, there is some property that cannot be protected and will be liquidated assuming it does not fit within a state or federal exemption or if you are unable to protect it through a Chapter 13 plan. A common example is a homestead (primary residence) with equity above the exemption level. As a side note, given the recent and dramatic rise in home prices, this prevented many people from seeking relief under Chapter 7 as their equity was above the exemption level and therefore, could not be protected.
• Only Irresponsible People File Bankruptcy: There is a perception that only people who cannot manage their finances and debts file bankruptcy. However, the three main causes of bankruptcy are divorce, job loss, and medical debt (see the trend). No matter how well intentioned and prepared someone is, prolonged income loss or substantial and unanticipated medical debt can catapult anyone to file for protection under bankruptcy.

While bankruptcy is much more complicated than the above myths would indicate, usually these are the most common conversation starters. This article is to focus mainly on medical debt and its specific interplays with bankruptcy. The first item to understand is that medical debt is treated slightly differently for bankruptcy purposes. Specifically, in the type of bankruptcy that can be filed. There are 2 types of bankruptcy that consumers usually file – Chapter 7 and Chapter 13. In the short, Chapter 13 is a reorganization or payment plan bankruptcy. The payment plan is based upon secured debts and then any disposable income (if any). The payment plan is between 36 to 60 months. Chapter 7 is a liquidation bankruptcy – no payment plan and a full discharge of all debts except any non-dischargeable debts including some taxes, domestic support, etc.

As one can imagine, Chapter 7 is usually the preferred bankruptcy but there are income limits. An individual is presumptively eligible for Chapter 7 if their income is at or below the median income for the individual’s household size. If not, then the individual must pass the means test where certain allowable living expenses are considered and if their disposable income is below the median for a similar household size, then they may file Chapter 7. However, if the debts of the individual are not primarily consumer debts, then the individual does not have to pass the means test. Based on the topic of this article, it is easy to guess that medical debt is not considered a consumer debt. Therefore, if someone has substantial medical debt, it can push someone’s debts to being primarily non-consumer and allowing them to qualify for Chapter 7 liquidation bankruptcy. If someone does not qualify for Chapter 7, then they must enter a Chapter 13 bankruptcy and calculate a payment plan based on the disposable income and a portion of their unsecured debts will be repaid over a period of 36 to 60 months.

Once an individual files bankruptcy, they are afforded insurmountable protections under the bankruptcy code. From the moment of filing, the automatic stay goes into place. This is an injunction that protects individuals from being harassed by creditors. No more calls, no more letters, and all collection efforts must cease, including lawsuits. Once the discharge is entered, most debts (there are exceptions of course) are discharged/forgiven, and the individual can begin to rebuild their credit. They are unburdened by their former debt, and they can start anew.

Despite the above, given the growth and rise of medical debt and impact on families and the American people, there have been several legislative changes to alleviate the burden of medical debt. These changes affect the way in which medical debt can be collected and pursued. While these changes may be good for individual consumers, the long-term impact on the overall healthcare industry is uncertain and a topic for a future article. Briefly, these include:

• The No Surprises Act: Effective January 1, 2022, this legislation protects individuals from “surprise” bills from out-of-network providers. This is to increase transparency in billing practices from medical providers. By preventing unexpected and inflated charges, this legislation aims to reduce the incidence of medical debt arising from unforeseen circumstances.
• The Medical Debt Relief Act: This proposed federal legislation focuses on mitigating the long-term impact of medical debt on credit reports. By reducing the duration that medical debt affects credit scores, this act seeks to alleviate the long-term financial consequences and improve access to credit for those burdened by medical expenses.
• State-Level Reforms: There are various states that are enacting numerous bills and pieces of legislation regarding medical debt. For example, North Carolina approved a bill to “de-weaponize” medical debt which limits interest rates that can be applied. In New York, the Consumer Credit Fairness Act shortens the statute of limitations on medical debt collection and requires more transparency in debt collection practices.

Until such time that the medical and healthcare system in the United States evolves, medical debt will be a topic that is consistently on most minds. Between bankruptcy and new legislation, consumers can find assistance with this burden.