Is Chapter 7 Bankruptcy Shirking American’s Credit Card Debt?

In today’s economy, a somewhat shocking new trend is emerging: Americans’ credit card debt is shrinking.

The Federal Reserve’s monthly report on consumer credit showed balances on revolving credit declined at a rate of 9.75 percent during February. This marked the largest reduction of credit card debt in a month since 1978.

This statistic means that $7.8 billion in credit card debt vanished during February. How did that happen?

With millions unemployed and many more struggling to make ends meet, it seems odd to think that Americans are relying on credit cards less and, what’s more shocking, actually paying balances down.

In order to understand how credit card debt is shrinking, we need to consider several factors. When we look at the big picture, this reduced amount of debt may not mean that everyone is doing okay.

After the collapse of the housing market, the U.S. headed into a recession. This tightened up credit markets and effectively shut many people out of obtaining new credit.

Without traditional means of obtaining credit, this could mean that many people are now using unscrupulous lending outlets, such as payday lenders and check cashing stores. These types of loans come at a high price and consumers often get trapped in a cycle of debt that quickly becomes unmanageable. So while Americans may not be using credit cards and other revolving credit accounts, the alternatives could be far worse.

Those who are still employed and find little has changed for them financially must also realize that we are living in uncertain times. Now would not be a great time to incur more debt, if it can be avoided. In fact, paying down debt to free up credit in case of emergencies is a good idea. For some people, reducing credit card debt has become an urgent goal.

A third possibility that could partially explain the statistics is Chapter 7 bankruptcy. Debtors who file Chapter 7 bankruptcy often have the opportunity to have credit card debt discharged, or eliminated.

Filing Chapter 7 bankruptcy is an attractive option for consumers who owe an unmanageable amount of credit card debt, yet own little personal property. Each state has specific bankruptcy exemptions for Chapter 7 bankruptcy, so debtors may keep some of their personal property. Any non-exempt property the debtor owns may be sold by the bankruptcy trustee, with the proceeds going towards prioritized debts.

In February, bankruptcy filings in the U.S. were up 37 percent over the previous year. Many of those bankruptcies were Chapter 7 bankruptcy. As a result, a large chunk of credit card debt was wiped away.

So are the statistics misleading? It’s possible. It is great news that consumers owe less to credit card companies. But for many, the statistics could indicate harder times with even less available credit and fewer options.