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Forgiving our debtors

debt-relief2 The Central Bank’s 2010 household survey “Nos Cartera y nos Finansa” paints a fairly gloomy picture when it comes to individual debt in Aruba.

 

 

 

The results of the latest household survey are not yet available but there is little reason to think the situation changed dramatically. The survey’s findings appear to confirm what most of us would assume: individual overindebtedness is a widespread phenomenon in Aruba.

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No Way Out
Widespread as it may be, Aruban law offers the individual who is overburdened by debt no way out. Most importantly, Aruban bankruptcy law provides no relief. An individual may declare bankruptcy upon which all of his or her assets are liquidated for the benefit of the creditors. However, debts - to the extent that they have not been paid - remain enforceable also after the bankruptcy proceedings are closed. There is no discharge of debt, no fresh start for the debtor.

Aruban bankruptcy law is derived directly from Dutch bankruptcy law. Unlike its Aruban counterpart, however, the Dutch Bankruptcy Act does include a procedure designed to give individual debtors a chance to earn a fresh start free of debt. Such a fresh start does not come easily. It is available only if debts were incurred ‘in good faith’. The debtor is also placed under supervision for three years during which time s/he must try and repay as much as possible before if s/he wants to get a fresh start. 

In fact, Aruban law sometimes makes matters worse. For instance, up to one third of a debtor’s wages may be garnished (loonbeslag) by creditors, irrespective of whether as a result the debtor drops below subsistence level. As the majority of problematic household are in the Afl. 6.000,- or less income bracket and subsistence level for a four person household is Afl. 4.237 (source: Central Bureau of Statistics of Aruba) garnishment will quickly render a debtor unable to keep up other payments and force him or her to incur even more debts.

But why should we care? And, more specifically, why should the Aruban business community care? After all, are people not responsible for their own finances?

Causes of Overindebtedness: Who is to Blame?
Of course, people are, as they should be, in principle responsible for their own finances. But it would be too simple to say that a debtor can be blamed for becoming overindebted. Of the 14.000 debtors admitted to the Dutch fresh start proceedings in 2012, about 60% mentions loss of income (loss of job or business failure) and almost 25% mentions divorce as the main reasons for their problematic financial situation (source: Central Bureau of Statistics of the Netherlands). These are misfortunes which may befall anyone and for which a debtor is hard to blame.

Even if overspending is among the main reasons, one should be careful with putting the blame on debtors alone. Financial literacy is not part of the curricula of Aruban schools and people are not taught how to control their finances. Credit may also be too easily available, often against high or even excessive interest rates. Moreover, all human beings are susceptible to the so-called “scarcity-trap”.

In their book “Scarcity: Why Having Too Little Means So Much” (Times Books 2013) Professors Mullainathan and Shafir show that the anxiety people feel when lacking money affects their thinking and behavior. Scarcity makes people slower witted and weaker willed and; it shortens a person’s horizons and narrows his perspective, making long-term planning difficult. This also explains why people in financial trouble are often seen to make the ‘wrong’ choices: taking out expensive loans or paying in (expensive) installments. In short, once in financial trouble it becomes increasingly difficult for people to find a way out without help.

All this is not to say that there are no debtors who act in ‘bad faith’, who should know better: people who incur avoidable debt while they full well know that they are probably not able to repay it. However, these people should not spoil it for the ‘honest but unfortunate debtor’. Any type of debt relief should involve ‘screening’ so as to prevent abuse and the creation of a ‘moral hazard’: the risk that people will incur debt irresponsibly because the price of doing so is paid by others (the creditors) through debt relief.

Costs and Benefits of Forgiving our Debtors
Why should debtors, even those in ‘good faith’, be allowed to get away with not having to pay their creditors in full? And why should creditors accept less than what they are entitled to?

The reason is that while the costs of forgiving our debtors are low, the benefits for the creditors, businesses and the Aruban economy as a whole are substantial.

On the one hand, the costs of forgiveness for creditors are limited because in most cases the money is already lost. After all, the debtor simply cannot pay, and certainly not all creditors.

Furthermore, a creditor trying to obtain at least some payment will incur further (collection) costs to ensure that he and not some another creditor will be paid. In contrast, a fresh start procedure which allows a debtor to regain control of his or her finances and start earning an income again, may well mean that all creditors would be able to recover at least part of their claim. True, this may only be a small amount. However, as something is still more than nothing, most creditors would still be better off.

On the other hand, the Aruban businesses community and economy as a whole also stand to gain from forgiving debtors. Individuals overburdened by debt are very weak consumers. As they already have difficulty to make basic ends meet, they will not buy anything else, be it clothing, books and computers, or washing machines, cars and recreation. Furthermore, financial troubles tend to make people less productive employees. Their worries about how to pay the next bill, makes them less focused on their labour and more prone to being absent for health reasons. Finally, their contribution to society and economy as taxpayers will generally be close to nil.

Insisting on payment while it is evident a debtor will not be able to pay in the foreseeable future, produces no benefits to offset these costs. By forgiving our debtors and offering them a way out, creditors can be expected to recover at least part of their claims, while at the same time we would enable our debtors to become full contributing members of society and the economy again. In that sense, a smart business community is also a forgiving business community.

A Fresh Start
There is a strong case to forgive our debtors, although the form and shape of such debt relief is something to discuss further. Clearly, a balance must be struck between, on the one hand, allowing the honest but unfortunate debtor to obtain a fresh start and, on the other hand, preventing abuse. The laws of by far most Western economies not only provide for debt relief but have also been able to find that balance. It is time Aruba follows suit.

By mr.dr. Jona Isreal, Associate Professor of Private Law at the University of Aruba.

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