American Prepaid Legal Service Institute

Justices to weigh constitutionality of controversial bankruptcy reform act

The U.S. Supreme Court has agreed to resolve a long-simmering debate over the constitutionality of provisions in the controversial bankruptcy reform act of 2005 that include lawyers as "debt relief agencies" and restrict the advice they can give to clients.

The high court granted review in two cases, consolidated for argument next term, involving the Bankruptcy Abuse Prevention and Consumer Protection Act and an Edina, Minn., law firm.

In U.S. v. Milavetz, Gallop & Milavetz, the Obama administration is challenging a ruling by the U.S. Court of Appeals for the 8th Circuit that struck down, on First Amendment grounds, a provision prohibiting debt relief agencies from advising consumer clients "to incur any additional debt when the assisted person is contemplating bankruptcy."

The circuit court said the provision was overbroad and "would include advice constituting prudent pre-bankruptcy planning that is not an attempt to circumvent, abuse, or undermine the bankruptcy laws."

The government contends that the provision can be given a narrow construction that avoids the constitutional problem. The provision, the government argues, should be interpreted to forbid only advice that a client take on new debt on the eve of bankruptcy with the intent of abusing the bankruptcy system.

The Minnesota plaintiffs' firm Milavetz, Gallop & Milavetz argues that including bankruptcy lawyers in the definition of "debt relief agencies" is unconstitutional as are requirements and restrictions on their advice and advertisements.

The term "debt relief agency" is defined to include "any person who provides any bankruptcy assistance to an assisted person." The law requires them to clearly and conspicuously include in their advertising the statement "we are a debt relief agency." It also requires them within five days of first providing any bankruptcy assistance services to an assisted person to execute a written contract explaining services and fees. (Attorneys say this leaves no extra time for a client who needs to consult with family or friends.)

The 8th Circuit held that attorneys may be debt-relief agencies and that the debt-relief agency provision was constitutional. "When we started this lawsuit, economic times were not bad, but the climate has changed so dramatically that constitutional rights being impinged upon are of even greater concern to consumers," said Milavetz's Chad Schulze, who drafted the firm's petition. "Bankruptcy continues to be a large issue and [the law] restricts our ability to help people try to avoid bankruptcy all together and to give them the financial advice they need."

The high court has a third challenge pending, Hersh v. U.S., in which Dallas bankruptcy attorney Howard Spector is seeking review of the U.S. Court of Appeals for the 5th Circuit's holding that the so-called "gag rule" on advice about additional debt is not unconstitutional.

Similar challenges pending in the lower courts include: Zelotes v. Adams and Connecticut Bar Association v. U.S. in the 2d Circuit, and Olsen v. Holder in the 9th Circuit. Zelotes was argued in October, the other two have yet to be argued.

Marcia Coyle can be contacted at marcia.coyle@incisivemedia.com.