105 Iowa L. Rev. 1127 (2020)

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Abstract

For the first centuries of bankruptcy’s existence, only creditors could initiate a proceeding. “Voluntary” bankruptcy—initiated by the debtor rather than creditors—began in the nineteenth century, but well into the early twentieth century, involuntary bankruptcy accounted for about two-thirds of the money distributed to general creditors. Today, involuntary bankruptcy is a mere vestige. Just 0.05 percent of petitions are involuntary, and most of those are summarily dismissed without any court order formally commencing a bankruptcy case.

Evidence from both theory and practice suggests that the demise of involuntary bankruptcy has had significant social costs, with businesses delaying voluntary bankruptcy too long. To address that problem, other scholars have considered whether incentives should be offered to induce earlier voluntary bankruptcy, but the literature has largely overlooked involuntary bankruptcy. This Article fills that gap in the literature by providing a comprehensive study of the previously vibrant practice of involuntary bankruptcy. Crucially, we find that early twentieth century bankruptcy practice provided de facto incentives for involuntary petitions by rewarding filing attorneys with lucrative post-petition work. Such rewards helped overcome the collective action problems that otherwise discourage creditors from filing. The law of involuntary bankruptcy should look back to that past to find its future. We propose a number of reforms, including instituting a system of de jure “bankruptcy bounties” to encourage involuntary petitions that will revitalize involuntary bankruptcy and restore its rightful place in the law and theory of bankruptcy.