Charles Phelan

In a follow-up to a recent 4-part series on debt collection insanity in Massachusetts (see my blog entry for August 10, 2006), the Boston Globe has published a new article, “Debt Collectors Hunt the Innocent.”

The focus of this latest article is on the growing problem of collection agencies targeting the wrong person. As the debt purchasing industry grows, the sloppiness and ineffiency of the system becomes increasingly apparent. The article provides several examples of relentless collection activity against the wrong consumer, people who truly did not owe the debts in question. Mistaken identity does not seem to matter in this industry. With incorrect or incomplete information on debtors, collectors simply target any person with the same name without being certain they are dunning the correct person.

The message is loud and clear: Don’t think you are safe from the debt collection machine just because you pay your bills on time! If your name happens to be similar to someone who has skipped out on their bills, you too may be on the receiving end of such aggressive and misplaced collection activity. It’s probably true to state that such cases of mistaken identity are the exception rather than the rule. However, that is small comfort to those individuals on the receiving end of intense collection pressure on someone else’s bills!

You might expect a serious response to this article from the folks who speak on behalf of the collection industry. You would be wrong. The editorial response was even more pointless, arrogant, and unbelievably condescending in tone than the earlier one in response to the original 4-part series. The editor actually refers to the Globe series as a “jihad” against the collection industry. What an unbelievably cheap shot. If this is the best response the experts can manage, it’s small wonder that the debt collection industry is viewed with outrage and deep suspicion by the average consumer.

As I’ve stated before, the collection industry serves a legitimate function in our economy and creditors have a right to collect on delinquent debts. But the practice of debt purchasing clearly needs some regulatory attention.

The Federal Trade Commission and the Board of Governors of the Federal Reserve System have released their joint “Report to Congress on the Fair Credit Reporting Act Dispute Process.” The report makes for some pretty dry reading, even for someone like me who’s really into this stuff. But there are also some fascinating tidbits of information, and if you know anything at all about “credit repair” there is some useful material in the report as well.

When “the FACT Act” (Fair and Accurate Credit Transactions Act of 2003) was passed as an update to the FCRA (Fair Credit Reporting Act), one of the provisions was for this report to be provided by the FTC and Fed to Congress. Largely a paper exercise, the overarching conclusion of the report “…finds that, although the materials that the FTC and the Board reviewed indicated that most disputes seem to be processed within the statutory time frame, there is disagreement as to the adequacy of the CRAs’ and furnishers’ investigations.”

Translation: The credit reporting agencies (CRAs) do a good job of keeping the paperwork moving, so that disputes are responded to in a timely manner, but very little actual “investigating” is taking place in response to the disputes.

Some interesting facts: The three major CRAs (Experian, TransUnion, and Equifax) collectively manage data on 1.5 billion credit accounts spread over 210 million individual credit files, with more than 4 billion information updates hitting the bureaus on a monthly basis from more than 30,000 creditors (called “furnishers” in the report). That’s a mountain of data to keep under control, so it’s no wonder the system is rife with errors.

Ever wondered how public record items (such as bankruptcies, judgments, liens, etc.) get on your credit report? Many people think that the court system reports this information directly to the CRAs. Not so. “Because some public record information is accessible only by visiting courthouses and other government buildings in person, the repositories sometimes hire contractors to gather the information.” This leads to an important question. When you dispute a derogatory item on your credit report that stems from a matter of public record, does the CRA send one of their “contractors” back to the courthouse to verify the entry? This seems highly unlikely, given the cost and time constraints involved, although the report does not directly address this issue. This makes me wonder how the CRAs verify disputes at all when public records are involved.

Since this report was intended to specifically address the dispute process, it goes into great detail on the mechanics of that process:

Step A: Consumer Reviews Consumer Report and Conveys Dispute to CRA

In 2003, 57.4 million consumers were issued their credit reports. Of those 57.4 million reports issued, consumers entered disputes 21.8% of the time. So already we can see that 1 out of 5 reports were perceived by consumers to contain errors in need of correction.

Step B: CRA Processes Dispute

Here’s where it gets interesting. The CRAs have 30 days to investigate the dispute, and they are supposed to consider all relevant information supplied by the consumer. However, in a joint letter by numerous well-known consumer rights organizations, it is “asserted that CRAs fail to conduct meaningful reinvestigations and merely ‘parrot’ information received from furnishers as ‘verified’, without independently investigating the accuracy and completeness of such information.”

Step C: CRA Forwards Dispute to Furnisher

The credit reporting agency then supposedly provides notice of dispute to the company that furnished the credit data within five business days of receipt of the dispute.

Step D: Furnisher Investigates and Sends Response to CRA

This is where the system is truly broken. The law says that the furnisher is supposed to actually conduct an investigation in response to the dispute. So what constitutes an investigation? According to the watch-dog consumer groups, “furnishers are simply not conducting meaningful reinvestigations; they do not train their employees on effective reinvestigation procedures; and they repeatedly default simply to verifying the existence of an account.” In plainer language, when the original creditor gets a dispute notice from a CRA, they have some low-paid clerk verify that an account exists with the consumer. Then they respond to the CRA and say, “Yes, this person owes us money. Verified as reported.” And the CRA leaves it at that. This can be extremely frustrating to the consumer who has a bonafide dispute regarding a negative credit entry.

Step E: CRA Communicates Reinvestigation Results to Consumer

In one government study, of the consumers who filed disputes, 69% reported that the disputed information had been removed from their credit files. That’s pretty good odds in favor of the consumer who takes action to dispute the inaccurate junk on their credit report. Another interesting tidbit is that TransUnion reported that about 5% of disputes were repeats, where the consumer simply repeated the dispute with no new information. If you’ve ever looked at what credit repair companies do, it’s easy to spot their footprints here. (Credit repair outfits simply keep repeating the dispute process over and over again.) How likely is it for a consumer to simply repeat a dispute without providing new information? Not very likely in my view. So although this is a very rough approximation, this points to at least 5% of disputes as coming from credit repair companies. The actual figure is probably much higher, since the 5% only takes into account repeat disputes, and not the ones that succeed in getting the item deleted on the first pass.

Step F: Consumer Disputes Information Directly to Furnisher

This has been another weak link in the chain, but the FACT Act will require credit furnishers to investigate disputes conveyed to them directly by consumers, and it will be illegal for furnishers to report information they have determined to be inaccurate.

Although this report does not break any new ground or even recommend any specific actions, it provides a fascinating look at the tug-of-war going on between consumer protection groups and the financial industry. The bottom line is that the creditors and the CRAs don’t want the burden of having to properly investigate disputes, to the extent of providing supporting documentation. Meanwhile, the consumer groups continue to criticize the flaws in the current process. Both sides look to improvements that will come into force under the FACT Act as it modifies the FCRA, but it remains to be seen whether or not enforcement of the new rules will occur at a sufficient pace to ensure compliance.

Consumer credit jumped by $10.3 billion in June 2006, according to the latest figures released by the Federal Reserve. Of that amount, $6.65 billion was in the form of revolving (credit card) debt. With most analysts predicting an increase of just $4 billion in June, these figures were much higher than expected. In addition, the May numbers were revised upward from $4.4 billion to $5.88 billion. Total U.S. consumer debt, not including mortgages, now stands at $2.19 trillion.

There’s no way to know for sure what prompted the large upward spike in use of credit, but the twin culprits of high gas prices and high utility bills seem like a sure bet to me, at least for a significant portion of the increase. Consumer spending usually slows down during the summer months. It will interesting to see if that trend continues this year, or if consumers keep piling on debt at unexpected levels.

The Boston Globe recently ran a scathing 4-part special report on abusive debt collection practices in Massachusetts. Part One, “No Mercy for Consumers” describes the tactics of two area collection agencies that purchase old delinquent debts and enforce collection by filing lawsuits in small claims courts. The preferred method of forcing payment is the repossession of vehicles under court order, a tactic which often leaves distressed consumers at their wits’ end and is extremely disruptive to their lives.

Part Two, “Dignity Faces a Streamroller,” documents the incredible abuse of the small claims court system in Massachusetts. Originally intended to facilitate small disputes without need for lawyers and costly public trials, the small claims court system in this state has been effectively turned into an extension of the third-party collection industry. The complete and total abandonment of the debtor — as described in the eyewitness testimony of the Globe’s reporters as they sat through court sessions — is utterly appalling. Humiliation of debtors by collection attorneys, court clerks, and even judges is common in the hopelessly overcrowded system. The article notes, “At a cost of just $40 to file a lawsuit for any amount up to $2,000, debt collectors find a bargain in Massachusetts small claims. A victory in court lets them pursue a debt for up to 20 years, and earn 12 percent annual interest on it – a rate that’s matched or exceeded in only five states. The Legislature hasn’t adjusted that rate since the 1980s.”

Part Three, “Enforcers’ Might Goes Unchecked” reports on the use of “constables” in the debt collection process. A leftover and obsolete office created in the Colonial era, constables are used as the foot soliders in the debt collection war, as they serve legal papers, repossess vehicles in the middle of the night, and even threaten people with arrest. Alarmingly, many of the Mass. constables themselves have criminal records. No training is provided for constables, and no state agency keeps track of their activities. In effect, they act as hired thugs for the debt collection industry.

Part Four, “Regulators, Policy Makers Seldom Intervene” describes the complete disregard toward collection industry abuses on the part of elected officals. Time and time again, regulators and policy makers side with corporate financial interests over the struggling American consumer. Stung by such criticism, Massachusetts Attorney General Thomas F. Reilly has announced that he will push for reforms to protect consumers from abusive collection practices.

Predictably, the collection industry fired back with an editorial that takes the usual anti-debtor stance. (Note: also predictably, the ACA has since deleted the web link to this editorial.) The editorial exposed the ACA’s arrogance, cynicism, and total lack of compassion exhibited by this particular industry representative in response to the Globe series. To my mind, the Globe series does not absolve debtors of responsibility, as this editorial seems to imply. Rather, the series focuses on the abuse of the legal system in Massachusetts, where notices of small claims lawsuits are often intentionally mailed to obsolete addresses. Many of the debtors interviewed for the series had no prior knowledge that they had been sued. They only discovered a judgment had been entered against them when a constable came to repossess their car in the middle of the night. The usual cynical response that “this wouldn’t happen if people just paid their bills” is a facile, ignorant, and grossly inaccurate representation of the what’s really going on here.

One final point: The antidote to such abusive collection practices is INFORMATION. Consumers have rights. Creditors and collection agencies can be sued for violation of debt collection laws. The one thing I kept thinking about as I read this eye-opening series is that if only these debtors had been properly educated about their rights and their options, then the “debtor hell” described in the series could have been avoided. So the message is clear: Get educated about your rights and fight back against abusive collection practices.

The debt collection industry is good for the U.S. economy! I’ll bet you didn’t know that, right? This conclusion was reported recently in a study commissioned by ACA International, the trade organization for the collection industry. Surprisingly, there has been very little media attention about the report.

Given the mountain of bad publicity that the collection industry has received in recent months, it’s interesting that this report didn’t receive more notice.

The survey, conducted by Pricewaterhouse Coopers LLC, reports that in 2005 the collection industry returned $39.3 billion to creditors. To drive the point home, it states that “…the $39.3 billion in debt returned to creditors on a commission basis is equivalent to an average savings of $351 per American household that might have otherwise been spent had businesses been forced to raise prices to cover the unrecovered debt.” Further, this translates to “…approximately 19 bags of groceries, 129 days of electricity or 155 gallons of gasoline.” A footnote informs us that a typical bag of groceries costs $18.79, the average monthly electricity bill is $81.42, and the average price of regular gasoline was $2.27 in 2005. (I’d like to know where they are shopping for groceries!)

The study cites numerous figures in support of the overarching claim that debt collection is a wonderful thing for our economy. Moreover, it’s a growth industry with nearly double the jobs (150,000) in 2005 versus 1990 (70,000).

Skeptical? Me too. I’ve little doubt that the figures cited in the survey are reasonably accurate based on the scientific sampling of collection companies that was conducted. The $39 billion figure is probably a pretty good measure of the size of the industry. But is it really so straightforward a relationship that it translates to $351 for every household? Not likely.

There are some serious flaws in the logic used to arrive at this conclusion. For starters, who’s to say that the $351 ever made it back to the American consumer? There’s simply no way to analyze this. We don’t know whether that $39 billion in revenue returned to American businesses was used to hold off on price increases, as the report claims with no supporting evidence whatsoever. How do we know the returned money simply didn’t go into corporate coffers, mergers and acquisitions, or executive compensation plans? Taking the figure of $39 billion and simply dividing by the number of American households is, quite frankly, an absurd thing to do, as it assumes even distribution across our society.

But that’s not even my main objection to the conclusion of this report. What about the offsetting costs in lost productivity due to collection activities? As anyone who’s been on the receiving end of a collection phone call knows, there’s no way to concentrate on getting anything useful done while a collector is haranguing you. This important factor is simply ignored in the report, as though there were no costs on the other side of the equation.

So let’s do some fuzzy math of our own here to provide a more balanced treatment of this issue. If there are 150,000 collectors working in the industry, that translates to 300 million person-hours per year, or 18 billion work-minutes per year. So I think it’s reasonable to say that it took 18 billion collection minutes to recover that $39 billion of debt. That works out to $2.16 per minute, which is why the collection industry is so profitable. But someone was on the other end of the telephone for those 18 billion minutes, presumably not getting any work done. That translates to 300 million hours of lost productivity to the economy.

What’s the value of an hour of labor? I’m sure there’s a statistic on this someplace, but I’ll pull a number out of the air and say $50 value per hour. Remember, it’s not the average wage that we’re comparing here, but the revenue generated by that wage. It’s probably higher than that, but if the average annual income is around $40,000, that’s $20 per hour. An employer had better be making 2-3 times in revenue what’s being paid out in wages or they won’t be around for very long. So this works out to at least $15 billion in lost productivity due to collection activity. It’s interesting when you look at both sides of the story, isn’t it?

Another flaw in the report’s conclusion is that the $39.3 billion was “returned” to the economy. So, where was that money in the meanwhile — in the twilight zone? Presumably, that money was sitting in banks across the country, being lent out by the bankers in loans. Or it was money that would have been spent on other things anyway, like groceries, mortgage payments, car repairs, home improvements, etc. By taking the raw number of dollars collected and not looking at the other side, the report gives the false impression that the $39 billion was sitting in offshore bank accounts, totally outside the U.S. economy. That’s simply not the case, and that money was already doing other useful work in our economy.

While I do think that creditors have a right to collect what’s owed them, and the collection industry serves that purpose with ruthless efficiency, I seriously doubt that this report paints an accurate picture of that industry’s value to the U.S. economy as a whole. Rather, it tells only one side of the story, as though American consumers had $39 billion tucked away in coffee cans until those wonderful debt collectors came along and “returned” it to the rest of us. I guess this is just another example of how statistics can be used to say just about anything one wants them to say.

The Buffalo News has run two articles highly critical of the local debt collection industry. The first article, “Merchants of Debt,”focuses on the large collection industry presence in the area. Many of the complaints made by consumers about collectors are against firms located in Buffalo, which is a major hub of the collection industry.

The article quotes Federal Trade Commission official Peggy L. Twohig as saying, “The whole nature of the industry is there are incentives to be aggressive.” Talk about understatement! The $1,000 federal penalty for violation of the Fair Debt Collection Practices Act has not changed in decades. Many agencies view the occasional fine as a cost of doing business. Meanwhile, the amount of debt available for such agencies to work has grown enormously in recent years.

Collection industry spokespersons routinely claim that many of the complaints are groundless and that real abuses only happen in a small percentage of the cases. Yet ex-collectors say that the pressure to produce is always top priority, while managers look the other way on compliance issues.

Some of the worst offenses seem to be by collection law firms. Lenahan Law Offices went bankrupt last December under the weight of regulatory fines. And Giove Law Office was banned from collecting debt in Idaho for threatening debtors with criminal charges. But non-attorney agencies have also come under fire. Top industry agency NCO Financial paid $300,000 in a settlement with Pennsylvania’s Attorney General to resolve more than 800 complaints against the firm.

The second article, “Wide-Open Market for Debts Feeds Abusive Tactics,” focuses more on the industry practice of purchasing delinquent debts for pennies on the dollar and then dunning debtors to make a profit. In the past, debt purchasing was not as common as it has become in recent years. Banks would continue to retain ownership of the debt and hire third-party collection agencies on a commission basis. Since the banks did not want their own reputations damaged by abusive collection tactics, there was at least some oversight to maintain compliance. Now, however, it’s more common for the bank to sell off bad debts and turn a blind eye to collection tactics. The courts have ruled in several cases that banks are not liable for collection activity that occurs after the debt has been sold. So it’s open season for debt purchasers.

I personally do not object to the concept of debt purchasing or even third-party debt collection. I happen to think that the debt collection industry provides a necessary function in our economy. I do feel, however, that regulations need to be enforced to a much greater degree than they are at present. In addition, tighter rules need to be established for the collection of purchased debt. That end of the industry is the main source of the increase in consumer complaints. More than 40% of the complaints received by the FTC about debt collectors allege that consumers were being harassed over debts they did not owe. That’s not surprising, given that purchased debt is often several years old. Junk debt comes with very little documentation. Often, the purchaser takes a shotgun approach and duns everyone in the nearby area with the same name that’s on the account. Stories are multiplying about people being hassled and threatened over debts that aren’t theirs in the first place.

It’s clearly time for Congress to take a fresh look the Fair Debt Collection Practices Act, with an eye to increasing penalties for violations, and the addition of rules that pertain to debt purchasing.