Bankruptcy history

A legal condition whereby an individual or corporation legally claims that it is no longer able to pay its creditors. Bankruptcy laws usually allow the filer to claim protection while it reorganizes in order to continue doing business, a different stage of bankruptcy than declaring that the business or economic enterprise is no longer able to continue. Creditors may force a company into bankruptcy in order to protect the priority of their claims against it. In either case, bankruptcy is legally declared.

Bankruptcy is defined by the U.S. Bankruptcy Code, written and periodically updated by Congress. Originally, bankruptcy laws dealt harshly with those declaring insolvency. Congress passed bankruptcy laws in 1800, 1841, and 1867. The first was passed after a stock market panic in the outdoor market conducted in New York, caused by William DUER, resulting in him being sent to debtors’ prison where he eventually died. The law was repealed three years later. The next two were passed in the wake of stock market panics and were repealed several years later. The 1841 law was repealed three years after being enacted. The 1867 law was the first to include protection for corporations. It, too, was repealed.

A more substantial law was passed in 1898, which gave companies the opportunity of seeking protection from their creditors. However, it required a period of great economic instability and distress to pass new laws designed to give further protection. During the Great Depression, Congress passed two more laws, one in 1933 and the other in 1934. Then the Chandler Act was passed in 1938, allowing for the possible reorganization of businesses rather than their dissolution.

For the next 40 years, bankruptcy laws did not undergo major changes because the number of major bankruptcies was very small. The major exception was the filing by the Penn Central Railroad in 1970. A major reform was added to the code in 1978 when Congress passed the Bankruptcy Reform Act, which streamlined the procedures used for filing and increased the number of bankruptcy courts. Once a bankruptcy proceeding has been initiated, the questions arise of exactly what to do with the failing entity. Generally, two types of proceedings follow.

Under a Chapter 11 proceeding, the company is protected from its creditors while it reorganizes under the auspices of the court. When a bankruptcy plan has been approved by the courts and the SEC, the firm’s creditors then must also approve the plan. If reorganization proves unfeasible, then the company enters Chapter 7 of the law and must liquidate itself in order to satisfy creditors. Other amendments to the act followed. The Bankruptcy Amendment Act of 1984 limited the right of companies to terminate labor contracts. In 1986, another chapter was added to account for farms.

Sometimes filing for Chapter 11 bankruptcy has been used as a defense against large claims against a company. By freezing its assets and protecting current creditors and shareholders, a company can immunize itself against a large product liability claim or other anticipated lawsuit. This tactic was employed during the 1980s to protect some drug and medical device manufacturers against claims from customers. In the 1980s and 1990s, many well-known companies filed for bankruptcy, some being household names. Included among them were EASTERN AIRLINES, Continental Airlines, Allied Stores and Federated Department Stores, Greyhound, R. H. Macy, and PAN AMERICAN AIRWAYS. Another filing by Texaco was instigated as part of a corporate defense against an unwanted takeover. To date, the longest-standing bankruptcy proceeding was by the LTV Corporation, which declared Chapter 11 in 1986 and was reorganized only in 1993. The company was forced to file again in 2001.

Another reform was passed with the Bankruptcy Reform Act of 1994. This act includes increased streamlining procedures and also addresses individual bankruptcies more than its predecessors. It created a National Bankruptcy Commission to report on continuing bankruptcy reform. The 1994 act contains many new provisions for both businesses and individuals, including provisions to expedite bankruptcy proceedings and provisions to encourage individual debtors to use Chapter 11 to reschedule their debts rather than use Chapter 7 to liquidate.

Further reading

• Balleisan, Edward. Navigating Failure: Bankruptcy and Commercial Society in Antebellum America. Chapel Hill: University of North Carolina Press, 2001. 
• Coleman, Peter. Debtors and Creditors in America: Insolvency, Imprisonment for Debt and Bankruptcy 1607–1900.Washington, D.C.: Beard Books, 1999. 
• Mann, Bruce H. Republic of Debtors: Bankruptcy in the Age of American Independence. Cambridge, Mass.: Harvard University Press, 2002. 
• Skeel, David A. Debt’s Dominion: A History of Bankruptcy Law in America. Princeton, N.J.: Princeton University Press, 2001. 
• Warren, Charles. Bankruptcy in United States History. Cambridge, Mass.: Harvard University Press, 1935.