When considering the management of the most substantial change in bankruptcy law in the last 28 years, initial responses ranged from confusion to hysteria. With the images of new debtors celebrating their filings on the primetime news having now long faded from our minds, pain points are beginning to emerge as the default community settles in with the realities of the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005.

The default mortgage servicing industry seems to be grappling the most with issues arising from compliance and the fear of legal ramifications associated with section 524(i), a newly introduced section of legislation mandating the accurate posting of bankruptcy funds by a servicer as paid over the course of a Chapter 13 plan. Downstream BAPCPA requirements are only amplifying the deficiencies in rigid upstream legacy mainframe mortgage servicing platforms, whose design never considered today’s complexities or volume of managing incoming funds on loans in bankruptcy.

An old problem gains new urgency
The result is that many servicers find themselves with large amounts of unapplied funds in suspense accounts, misapplied payments and a large portion of their human resources dedicated to cash research and application. While this problem has existed for many years, it has gained greater focus under section 524(i). If an unintended material injury is inflicted upon a debtor due to the lack of information, the servicer stands a strong chance of being sanctioned and fined.

When designed, the various mortgage service platforms currently supporting much of the market were built to handle various amortization and simple interest products. Bankruptcies were an exception and, due to their small volume at the time, were often handled as a manual process. Times, as they say, have changed.

Managing the modern bankruptcy
Today’s requirements have forced servicers to accommodate the capture and tracking of a myriad of bankruptcy payment postings and events, including contractual due date, the debtor’s petition date, the pre-petition claim amount to be paid by the trustee, the amounts paid by the trustee over the plan term, the post-petition due date as owed by the debtor, consent or agreed orders and any direct payments received from the debtor.

Confused yet? That’s just for starters. The servicer must also be able to reconcile all of these, anticipating the myriad of business rules associated with capturing today’s imaginative and creative mortgage products in a bankruptcy plan and presenting them in a format easily read and understood by the court.

Signs of legal activity have already begun to bubble up, with the filing of a series of class-action complaints against numerous servicers for noncompliance. Recognizing the risks, servicers are seriously looking to the most appropriate path to guide them safely through the potentially deep litigious waters before them.

The need for a collaborative solution
Various industry leaders have already begun to publicly step up to bring the camps together. The Chapter 13 trustees, led by Jo-Ann Goldman (Chapter 13 Trustee, Little Rock, Ark.), have hosted several mortgage industry roundtable events in an attempt to open dialogue and help the default community better grapple with the tasks it now faces. The American Legal and Financial Network, for one, has worked to establish itself as a forum for mortgage industry issues; its annual default leadership session has provided fertile ground for many collaborative discussions.

And these discussions are now reaching into the broader industry conscience as well, with this year’s Five Star Conference in Dallas taking an open-ended look at how bankruptcy reform has changed the default landscape and addressing what servicers can do to control and minimize their risk of litigation.

In spite of these and other industry efforts, this problem may prove to be too big for any one individual organization to overcome, begging instead for a collaborative industry solution. Retooling existing servicing platforms wasn’t a solution in the past and does not appear to be a consideration now either. The majority of servicers use less than a handful of mortgage service platforms, which offers the unique opportunity for the emergence of a ubiquitous 524(i) appliance that can enable needed functionality and reporting.

New data sources are available today that were never considered in the past, including a consolidation of Chapter 13 account ledger data available via the National Data Center. But trustee data alone will not solve this problem. With the majority of debtors paying servicers directly, an integrated solution must consider all facets and relationships and their associated sources of data to truly meet the needs of the servicing community.

The fact remains that our industry is dealing with a finite set of common data elements. Individual processing rules and data element names will vary, but the required application and the output of the data should be the same. A solution should not only include industry peers, secured and unsecured, but include trustees, judges and attorneys, as well.

The natural turn-down in bankruptcy filings created by the 2005 rush has given the industry an opportunity to roll up its sleeves and address the 524(i) issue head-on, but with interest rates continuing to rise and the genuine concern surrounding our current economy, the window of opportunity may be smaller than all of us might like to think.

The uniqueness of the default world and the industry’s willingness to share ideas, technologies and processes provides hope for a collaborative industry answer to this problem. Where most industries tend to hold technology competitive advantages close to the vest, I’ve found that executives in the default industry have instead found strength in sharing. This prevailing attitude may yet provide the answer the industry seeks.

Editor’s note: Eric Donowho was a contributor to this article and is the associate director of bankruptcy for Barrett Burke Wilson Castle Daffin and Frappier LLP in Dallas. Bob Brasiel is CEO of the National Data Center, a subscription-based provider of consolidated Chapter 13 Case and Claims data. For more information, visit 13datacenter.com online.