Prisoners of Debt
November 5, 2007 Oh So Random No CommentsBusinessWeek has an interesting article detailing how finance companies are abusing the credit system to try and collect on cancelled debt. Apparently, the trading of delinquent accounts is big business. From the article:
Traditionally, discharged debt was seen as not worth the paper it’s written on. Once a judge excuses some of a debtor’s obligations—part of the bankruptcy system’s goal of granting a financial fresh start—that person has no legal duty to pay them. In fact, bankruptcy law prohibits efforts to collect discharged debt.
In the 1990s, businesses adept at tracking and trading consumer debt expanded their reach to dabble in accounts enmeshed in bankruptcy. That dabbling has grown into a robust market. Some of the trade in so-called bankruptcy paper involves debts that remain collectible. What’s troubling is that the market now also includes billions in discharged debts, which ought to have no dollar value. Owners of canceled liabilities can revive their value in two main ways: by directly pressuring consumers to cough up cash or by gaming the credit system, as allegedly happened in the Rathavongsa case.
Other judges warn that the secondary market in bankruptcy paper is encouraging improper collection tactics, which increase the potential value of that debt. William R. Sawyer, a U.S. bankruptcy judge in Montgomery, Ala., says that in the past two years he has seen a surge in cases alleging that lenders and debt buyers have purposefully neglected to report the discharge of debt to credit bureaus. The ploy, he says, is an “indirect means” of pushing consumers to pay debts they no longer really owe. “Creditors and collectors are skating as close as they can to the law and really trying to diminish its value.”
The market in discharged debt has its roots in the early 1990s, when lenders began to seek at least minimal returns from overdue consumer accounts. The stale debts included those of customers who had filed under Chapter 7, saying they couldn’t pay their bills, and those who filed under Chapter 13, a provision allowing individuals with some resources to set up schedules to pay creditors. Creditors are notified by the court when a consumer files bankruptcy, and again when a discharge is granted.
Rusbasan says that the keys to success in this esoteric field are buying debt very inexpensively—it can sell for a fraction of a cent on the dollar—and employing proprietary software to track debts as they move through the bankruptcy process. He plays down his companies’ trading in debt discharged under Chapter 7, saying most of his business has focused on Chapter 13 debt, which is supposed to be repaid. Bear Stearns doesn’t break out the financial results of its debt-buying units, but filings by publicly traded debt buyers show they are highly profitable. Norfolk (Va.)-based Portfolio Recovery Associates (PRAA) earned $44 million in 2006 on $188 million in revenue, a margin of 23%. Portfolio Recovery said in its 2006 annual report that it had paid $55 million to buy debts with a face value of $6.3 billion that had gone into bankruptcies since 2004. (It didn’t distinguish between Chapter 7 and Chapter 13 cases.)
But at the same law firm, another attorney for lenders and debt buyers frets that the heating up of the bankruptcy-paper market portends misuse of tools like the credit report. “There is a sense that people are using it as a weapon,” says Barbara M. Barron, the firm’s managing member. After Chapter 7 cases, “debtors expect their credit is going to become pristine,” she notes. “But now you have people who buy the debts, even bankruptcy debts, and all of a sudden, new people are supplying information to the credit bureaus.” She adds: “The way the system is working now, it doesn’t give [debtors] that fresh start.”
And of course, a real live example:
The case of John Pfister, in which Barron Newburger has no role, provides one illustration. Pfister, 63, a retired AT&T technical supervisor in Denton, Tex., received a Chapter 7 discharge in 2001. Then, last January, while applying for a mortgage, he learned that two discharged credit-card debts, a Discover Card balance of $6,306 and a former Chase account for $2,683, were showing up on his credit reports. Lenders turned him away because of what appeared to be unpaid obligations, he says.
The Chase loan has been sold twice and is now owned by a debt buyer called Pinnacle Credit Services, according to Pfister’s reports from credit bureaus TransUnion and Experian. Pinnacle reported to those credit bureaus as recently as May—six years after the bankruptcy discharge—that the debt is still subject to collection. In addition, Pinnacle has given the former Chase debt a new account number. Pfister’s lawyer, James J. Manchee, says that creating a new account number is a strategy some debt buyers use to make it more difficult to tie accounts back to discharged debts, and therefore make the debts appear collectible. Pinnacle declined to comment. In June, Quicken Loans became the 12th mortgage lender to reject Pfister.
Exacerbating Pfister’s frustration, collectors for Discover were still leaning on him as recently as late August, despite his having faxed them a copy of his bankruptcy papers. On Sept. 20, he sued Discover in U.S. Bankruptcy Court in Dallas. Contacted by BusinessWeek, a Discover spokeswoman blamed the collection attempts on administrative error and said Pfister’s credit report has now been corrected. She declined to discuss the lawsuit.
You can read the full article HERE.
