The credit crisis that has overtaken the U.S. economy in the last 18 months has led to an uptick in the expansion of debt settlement services, giving consumers a resource to assist them with the crushing debt burdens they face as a result of job loss, mounting medical debt, or simple irresponsibility with regard to how much credit they should have obtained. Such debt settlement companies typically act on behalf of consumers to negotiate directly with creditors in order to facilitate the repayment of debts. As American consumers grapple with these increased debt burdens and look to debt settlement companies for relief, debt settlement companies have gathered together in trade associations to establish best practices, and regulators at both the federal and state levels have set their sights on these companies, seeking to afford consumers some protections from the predatory actions of a few bad actors.
Industry Self-Regulation. As with most industries, bad actors tarnish the reputation of legitimate companies. The debt settlement industry is no different. The Association of Settlement Companies (TASC) serves as one of three major trade associations for debt settlement providers. On its website, TASC provides consumer-friendly public information regarding the debt settlement industry, implications of debt settlement, and outlines some of the obligations of both the consumer and the debt settlement provider. The TASC website also contains member only accessible best practices guidelines, and claims to “shop” its members to “ensure compliance with organization standards and requirements.” Through trade associations such as TASC, legitimate debt settlement providers are making attempts to self-regulate.
Although efforts by trade associations to self regulate by providing best practices guidelines and education have been favorably received, they have not stopped federal and state actions aimed at curbing abusive practices within the debt settlement industry.
Congressional Action. Earlier this year, Congressman Bobby Rush introduced the Consumer Credit and Debt Protection Act (H.R. 2309), which includes provisions that will apply specifically to debt settlement companies. In early June, the House Committee on Energy and Commerce, Subcommittee on Commerce, Trade and Consumer Protections, approved H.R. 2309. As approved by the Committee, the bill contains language granting the Federal Trade Commission expedited rulemaking authority to address perceived unfair and deceptive acts or practices relating to debt settlement companies.
If passed, H.R. 2309 will regulate “debt settlement services,” defined as products or services represented directly or indirectly, to renegotiate, settle, or in any way alter the terms of payment or other terms of the unsecured debt between a consumer and one or more unsecured creditors or other entities, including a reduction in the balance, interest rate, or fees owed by a consumer to a creditor or other entity. This definition of debt settlement services would capture third-party loan servicers, sub-servicers, and loss mitigation companies acting on behalf of servicers, creditors, and investors that service unsecured debt. By potentially including the activities of these entities within the term debt settlement services, this legislation could unintentionally inhibit the ability of creditors to engage in efficient and effective loss mitigation of unsecured debt. Fortunately, H.R. 2309 does not capture secured debt.
H.R. 2309 would direct the FTC to determine whether it should issue rules governing debt settlement services to (1) prohibit or restrict charging advance fees and to limit the amount of fees charged after the debt settlement company renders services; (2) require pre-contract disclosures, including disclosures relating to fee structures, timing, success rates, and impact on a consumer’s credit score; (3) prohibit misrepresentation of material information in advertising; and (4) provide record retention requirements. H.R. 2309 would also allow the FTC to obtain civil penalties in connection with unfair and deceptive trade practice violations and would authorize state attorneys general to enforce federal law compliance and obtain damages and penalties for violations.
For-profit debt settlement companies have reacted strongly to the legislation, arguing specifically that the limitation on fees would, effectively, put them out of business. They note that numerous states already regulate the fees debt settlement companies can charge at the state level. Additionally, the American Financial Services Association, in conjunction with other industry trade associations, has decried the new expedited rulemaking authority granted to the FTC under H.R. 2309. The industry has urged Congress to consider and adopt a more procedure-intensive rulemaking process that would afford the FTC the time and the opportunity to gain an understanding of the debt settlement industry and carefully consider the impact of those rules. The deliberative rulemaking process would also provide the debt settlement industry with certainty because the process would involve defining with specificity the acts and practices which are unfair or deceptive. Without a more intensive rulemaking process, the industry is concerned that even legitimate providers could face excessive civil penalties for actions that only become “unfair” because a court deems them so.
Federal Trade Commission Action. Since 2001, the FTC has targeted debt settlement companies and other debt relief service providers with more than a half dozen enforcement actions. The enforcement actions provide a road map of sorts for legitimate debt settlement companies, as the FTC enforcement actions have targeted companies that made unsubstantiated claims of debt relief, misrepresented the benefits of debt settlement, and failed to clearly and conspicuously disclose the potential negative impact on consumer reports resulting from participation with a debt settlement company.
In testimony offered in support of H.R. 2309, Eileen Harrington, Acting Director of the Bureau of Consumer Protection, Federal Trade Commission, indicated that the FTC viewed the expedited rulemaking authority provided by H.R. 2309 favorably, noting that such authority would strengthen the FTC’s ability to address unfair and deceptive practices that cause the greatest harm to consumers in the financial services marketplace. The expedited rulemaking process allows the FTC to identify the predatory practice and ban it within a relatively short time frame.
State Action. The states have also turned their collective attention to regulation of debt settlement companies. State attorneys general have focused enforcement actions against debt settlement companies. In May, Texas Attorney General Greg Abbott charged four debt settlement companies with fraudulently misrepresenting the nature and risks associated with debt settlement services and misleading consumers about state law protections available to them. Attorney General Abbott claims debt settlement companies solicited consumers with exaggerated promises to reduce debt and failed to inform consumers about other debt repayment options. He has alleged that those companies also failed to inform consumers about risks faced by a consumer using the debt settlement service, including increased late charges and interest, reduced credit scores, debt forgiveness-related tax liabilities, increased collection efforts, and the risk of lawsuits. The Texas Attorney General is seeking civil penalties of $20,000 per violation, attorney’s fees, and restitution for customers harmed by the companies’ actions.
Also in 2009, approximately 13 states introduced some sort of debt settlement legislation. Of those 13 states, Iowa, Minnesota, Missouri, and Nevada have enacted laws regulating the debt settlement industry. For example, the new Minnesota law defines “debt settlement service” as the negotiation, settlement, or alteration of the terms of payment of a consumer’s unsecured debt with the consumer’s creditor without receiving or holding of money from a consumer for the purpose of distributing that money to the creditor. Creditors and agents of the creditor who render the service of debt settlement without cost to the debtor are specifically excluded from the definition of debt settlement provider. Minnesota has shown some foresight with this exemption from the definition, as the exclusion will give creditors the flexibility to modify loans to assist consumers and to use loss mitigation specialists as agents, if necessary.
In the wake of the credit crisis and re-regulation, debt settlement companies must adhere to best practices benchmarks provided by their trade organizations, and pay close attention to the laws and actions at the federal and state level.
Nikki Munro is a partner in the Maryland office of Hudson Cook, LLP. Basis Points readers can reach Nikki at 410-865-5430 or by email at nmunro@hudco.com.