Testimony before the House Ways and Means Committee Subcommittee
on Oversight regarding
"Non-Profit Credit Counseling Organizations"
November 20, 2003
Testimony presented by Deanne Loonin, Staff Attorney, on behalf of National
Consumer Law Center and Consumer Federation of America
Mr. Chairman and Members of the Subcommittee, the National Consumer Law Center
and the Consumer Federation of America thank you for inviting us to testify
today regarding the non-profit credit counseling industry. NCLC offers our testimony
here on behalf of our low-income clients and the Consumer Federation of America
(CFA). The National Consumer Law Center is a non-profit organization specializing
in consumer issues on behalf of low-income people. We work with thousands
of legal services, government and private attorneys, as well as community groups
and organizations nationwide that represent low-income and elderly individuals
on consumer issues. The Consumer Federation of America is a non-profit
association of almost 300 pro-consumer groups, which was founded in 1968 to
advance the consumer interest through advocacy and education.
LEGITIMATE CREDIT COUNSELING AGENCIES PROVIDE MUCH-NEEDED SERVICES FOR CONSUMERS
IN FINANCIAL TROUBLE
Recent abuses by so-called non-profit credit counseling agencies have raised
serious questions about the quality and legitimacy of credit counseling services.
The National Consumer Law Center (NCLC) and the Consumer Federation of America
(CFA) highlighted many of these problems in an April 2003 report, “Credit
Counseling in Crisis: The Impact on Consumers of Funding Cuts, Higher Fees and
Aggressive New Market Entrants.”1
The credit counseling industry is at a critical crossroads. Consumer debt (all
non-mortgage loans) and credit card debt continues to grow, increasing consumer
demand for debt relief. As of June of this year, American consumers held about
$700 billion in credit card debt.2 The effects of the economic
recession, especially the loss of jobs and a sharp increase in the number of
Americans with inadequate or no health insurance, have combined with the growth
in consumer debt to cause a record number of Americans to seek bankruptcy protection.3
The need has never been greater to ensure that consumers who seek credit counseling
receive quality services. Yet, policymakers are increasingly encouraging or
requiring that consumers seek assistance from credit counselors without first
taking adequate steps to improve the quality of credit counseling. This type
of mandate is included in pending federal bankruptcy reform legislation.4
States are also increasing traffic at credit counseling agencies by imposing
counseling mandates or requiring the disclosure of credit counseling options
to consumers.5
At the same time that these economic and political pressures have pushed more
consumers toward counseling, abuses in the industry have led to serious deterioration
in quality and an increase in deceptive and abusive practices. Aggressive firms
masquerading as non-profit organizations have been among the credit counseling
agencies that are most likely to deceive or to gouge consumers. Massive cuts
in creditor funding for agencies has exacerbated this trend, and leaving many
well-intentioned organizations without sufficient funding to provide appropriate
services. Most creditors have also reduced the economic concessions that they
will offer to Americans who enter credit counseling, making it less likely that
consumers will successfully complete credit counseling and more likely that
they will have to declare bankruptcy.
Despite these trends, we do not believe that the picture is entirely dark.
On the contrary, we believe that multi-service credit counseling agencies can
provide valuable services for consumers. We also believe that there is a legitimate
and important role for non-profit agencies to provide these services.6
However, if current abuses are allowed to persist, credit counseling services
will all too often seriously harm rather than help consumers, leading them deeper
into debt.
It is important to note that the credit counseling industry developed in the
mid-1960’s through the efforts of credit card companies that saw a creative
opportunity to recover overdue debts. Creditors created the industry and provided
the bulk of the funding needed to keep the agencies in business. At first, most
of the agencies were affiliated with the National Foundation for Credit Counseling
(NFCC), a national trade organization that prescribes various standards for
member organizations.
From the outset, debt management plans (DMPs) were the feature service. Through
these plans, a consumer sends the agency a lump sum, which the agency then distributes
to credit card companies that the consumer owes money. In return, the consumer
is supposed to get a break in the form of creditor agreement to waive fees owed,
to eliminate all references to delinquent payments on the consumer’s credit
reports by “re-aging” the account, and, and in some cases, to lower
interest rates. Consumers also gain the convenience of making only one payment
to the agency rather than having to deal with multiple creditors on their own.
Through the “Fair Share” contribution, creditors voluntarily return
to the agency a set percentage of the funds that are disbursed to them.
Debt management plans include unsecured debt only. This is a critical issue
because consumers with sparse resources should generally prioritize secured
debt, such as home and car loans, over unsecured debt.8 In
addition, DMPs may not even include all unsecured debt.
NCLC and CFA have found that in the last decade, the credit counseling industry
has undergone an alarming transformation. Consumer demand for credit counseling
has grown, funding to agencies has been sharply reduced, and an aggressive new
class of credit counseling agencies has emerged. This new generation has brought
some advances, such as flexible hours, electronic payments and easy access to
counselors by phone and the Internet. Unfortunately, however, complaints about
deceptive practices, improper advice, excessive fees and abuse of non-profit
status have grown significantly as this new generation of credit counseling
agencies has gained market share.
Key problems highlighted in the NCLC/CFA report include:
Deceptive and Misleading Practices: Among other problems,
we described agencies that do not pay consumers’ DMP payments on time,
that deceptively claim that fees are voluntary, and that do not adequately
disclose fees. In many cases, agencies deceptively exaggerate the types of
concessions they can get from creditors to get people out of debt.
Excessive Costs: As creditors have reduced funding, some
reasonable fee increases are to be expected. However, in an industry that
rarely charged for counseling and other services a decade ago, the vast majority
of agencies now charge fees for services. At least a few agencies charge as
much as a full month’s consolidated payment simply to establish an account.
Monthly DMP fees and costs for non-DMP services are also growing.
Abuses in Non-Profit Status: This is the focus of our testimony
today. The reality is that non-profit agencies are increasingly performing
like profit-making enterprises. Many agencies aggressively advertise and sell
debt management plans and a range of related services. The multi-service counseling,
education, and debt management plan provider is becoming the exception rather
than the norm.
Decline in Consumer Education and Counseling Options: Consumer
educational services are rapidly declining. Many agencies that claim to provide
education and/or counseling merely sell slickly produced, but unhelpful, CD
ROMs, videos or internet information. For example, our survey of agencies
not affiliated with the National Foundation for Credit Counseling (NFCC) found
that only five of the forty agencies surveyed offered services unrelated to
DMPs. Among this minority of agencies, four out of five charged for these
other services, including books and videos on debt problems.
Although all of these issues are important and in many ways connected, I will
focus mainly on issues related to non-profit status since this is the focus
of today’s hearing.
ABUSES OF NON-PROFIT STATUS
Non-profit status has become, in practice, a requirement to do business in
the credit counseling world. The credit counseling industry is comprised almost
exclusively of 501(c)(3) tax-exempt organizations.
Credit counseling agencies seek (and get) tax-exempt status for a variety of
reasons. This status makes them eligible for exemptions from federal and state
corporate income taxes. Most states automatically allow corporations that qualify
for federal tax-exempt status to also qualify for state tax exemptions. Non-profit
status is also required to get many public and private grants. In addition,
creditors have traditionally required non-profit status to initiate Fair Share
contributions.
Agencies also seek non-profit status in some cases to comply with applicable
state laws, some of which require non-profit status as a condition for doing
business in the state. In other cases, non-profit status allows agencies to
escape the reach of consumer protection laws. Many of these laws, such as federal
and state credit repair laws and many state credit counseling laws specifically
exempt non-profit organizations. This concern was explicitly noted in the October
2003 joint I.R.S. /F.T.C. advisory urging consumers to exercise caution when
seeking help from credit counseling organizations. The agencies stated that,
“Federal and state regulators are concerned that some credit counseling
organizations using questionable practices may seek tax-exempt status in order
to circumvent state and federal consumer protection laws.”9
Perhaps most deceptively, agencies use non-profit status as a marketing tool.
They promote the non-profit label as a mark of credibility, appealing to consumer
trust that non-profit organizations are “above-board” and about
more than just making money. Agencies take great pains to characterize themselves
as charitable in 990 tax forms, advertising and promotional materials. For example,
many claim to serve the community through education even though, as noted above,
they often charge for educational services or simply provide videos and CD ROMs
and no individual counseling. More than one agency we contacted as part of our
national survey told us that they are a non-profit agency, “just like
a church.”
Using non-profit status as cover, many agencies characterize any fees charged
as “donations.” Similarly, agencies often claim that creditors work
with them because they too can “write off” contributions to the
agencies. All too often, the basic scheme is a charade, disguising what is in
reality a business arrangement between creditors and agencies. The truth is
that even if they are voluntary, fees paid by consumers for services should
not be classified as charitable contributions. Instead, consumers are paying
for services. Similarly, the Fair Share arrangements between creditors and agencies
are often formal, written agreements that describe how creditors will compensate
agencies for helping the creditors collect money owed to them.
Sadly and at great expense to taxpayers and to consumer clients, many credit
counseling agencies should never have been able to attain the advantages of
tax-exempt/non-profit status. There are two key areas where I.R.S. (and corresponding
state laws) are being violated. Each of these is discussed in greater detail
below.
1. Improper Ties to For-Profit Businesses
Agencies are not properly “non-profit” if they are organized or
operated to benefit individuals associated with the corporation including directors,
officers or members.10 No part of the net earnings of a §501(c)(3)
organization may inure to the benefit of any private shareholder or individual.
This is often called the ban on private inurement and is a basic tenet of I.R.S.
tax-exemption requirements.
There is considerable evidence that the ban on private inurement is violated
by some credit counseling agencies. Beginning a few years ago, the media began
to uncover the extent of this problem, documenting instances of lavish salaries
for agency directors and self-dealing in purchasing real estate and in creating
close connections with for-profit affiliated businesses such as lenders or payment
services.11
More recently, these abuses have been the target of public and private lawsuits.
For example, both the Missouri and Illinois Attorney General Offices sued AmeriDebt,
Debticated and related affiliates and individuals.12 Among
other claims, both suits allege that AmeriDebt and Debticated falsely represent
that they are “not for profit” companies. According to the Missouri
complaint, the credit counselors are thought of and even referred to as “salesmen”
of DMPs and are judged and evaluated in part upon their current week or month’s
sales and revenues. The complaint further alleges that AmeriDebt and Debticated
transfer virtually all tasks and virtually all consumer fees to the related
for-profit company DebtWorks. DebtWorks, according to the Missouri Attorney
General, prepares proposals to creditors for consumers, communicates proposals
to creditors, obtains consumers’ approval for changes, and responds to
consumer calls. The suit further alleges that the agencies falsely represent
that they provide consumer credit counseling.
Interestingly, AmeriDebt announced in October 2003 that it would lay off most
of its workers and stop seeking new customers because of “negative publicity.”
A Massachusetts Attorney General action focuses on another way in which “non-profit”
agencies have linked up with for-profit businesses to generate profits. In this
case against Integrated Credit Solutions and Flagship Capital Services Corporation,
the Massachusetts Attorney General alleges that Integrated, a for-profit telemarketer,
solicits business for the non-profit Lighthouse Foundation.13
According to the complaint, Integrated induces consumers to pay exorbitant “enrollment”
and “education” fees to Integrated, a for-profit telemarketer, in
order to receive credit counseling from Lighthouse, which purports to be independent
and non-profit.
To the extent the allegations discussed above are true, these agencies should
have their non-profit status revoked and/or should be sanctioned appropriately.
Related abuses involve unreasonable compensation and other benefits that are
directed by the “non-profit” agencies to directors and officers.
In our report, we described “non-profit” agencies that were paying
directors salaries and related benefits worth over $400,000 annually. These
troubling practices raise serious warning signs that agencies may be operating
more to benefit themselves than the public. In addition, this is an area where
I.R.S. has the power to sanction offending agencies.14
2. Many Credit Counseling Agencies Do Not Meet Threshold I.R.S. Tax-Exempt
Requirements
This second set of problems relates to the I.R.S. threshold requirements for
tax-exempt status. Section 501(c)(3) exempts from payment of federal taxes groups
organized and operated exclusively to accomplish permissible charitable, educational,
religions, literary or scientific purposes. Organizations must limit their purposes
to one or more of these categories and must not engage, other than as an insubstantial
part of their activities, in activities that do not further one or more of these
purposes.
The clearest problems occur among agencies that do not offer a range of services,
have inappropriate ties to for-profit businesses as noted above, and aggressively
sell DMP products. However, the question is relevant even beyond these most
egregious offenders, primarily because of the close ties between credit counseling
agencies and creditors. Credit counseling agencies can provide benefits for
both consumers and creditors. However, an agency’s primary concern, in
all instances, should be providing the most appropriate services for consumers.
It should be clear that an agency that primarily or exclusively sells DMPs
is not providing a charitable service or product. This conclusion was affirmed
in the October 2003 I.R.S/FTC statement that organizations that offer only DMP
services, without significant education and counseling, “…would
not qualify for tax-exempt status.” 15
A DMP is a structured way to help consumers pay back unsecured debt. DMPs work
well for some people, but not for everyone. In today’s climate, creditors
offer fairly limited concessions for consumers on DMPs. These limited concessions
may be sufficient to allow some people to avoid defaulting on debt and to restore
good credit. For others, it is just a dead end. It can prolong difficult financial
circumstances, ruin a consumer’s credit record, create innumerable difficulties
and tensions at work and at home, and delay or stop a consumer from taking actions
that might be more beneficial, such as negotiating individually with creditors
or declaring bankruptcy. The exclusive focus on unsecured debt may also lead
consumers to fall farther behind on secured priority debts such as mortgages
or car loans. The consequences are severe, including possible foreclosure or
car repossession.
The key abuse that can occur when an agency with non-profits status is operating
as a for-profit is that it will steer consumers into DMPs regardless of whether
this is the best choice for them. The agencies do this because it makes financial
sense for them, although not necessarily for consumers. DMPs bring in revenue
and the agencies exist to bring in revenue. This may be a legitimate business
if done well and honestly, but there is nothing “non-profit” or
charitable about it.
Over the years, the close ties between creditors and credit counselors have
been questioned in a few court decisions, but for the most part upheld.16
The problem is that these decisions derive from earlier days when the vast majority
of credit counselors provided a wide range of services, rarely charged consumers,
and were able to receive sufficient funds from creditors to fund other aspects
of their services.
A more recent decision addresses the same issues in the context of the current
credit counseling environment. In deciding that an NFCC-affiliated agency was
not entitled to a charitable tax exemption, the Supreme Judicial Court of Maine
found that the agency provided benefits to creditors that were not merely incidental
to its charitable purposes.17 The court noted the magnitude
of the amounts colleted for creditors and that the creditors paid Fair Share.18
The Maine Court recognized that the traditional model is no longer the norm.
For the most part, however, courts and regulatory agencies have yet to catch
up. The agencies have continued to get tax-exempt status despite the huge transformation
in the industry toward national, aggressive agencies that often function as
virtual for-profit business and are in “business” to sell a particular
product-a DMP.
Thus, the threshold requirement for tax-exempt status is in serious doubt
in many cases. It is not always clear whether an agency is primarily charitable.
The picture is clouded even further by unscrupulous agencies’ efforts
to disguise themselves. There is a lot of money at stake in the credit counseling
industry. Disguised for-profit agencies will go to great lengths to hide the
true nature of their businesses.
In many cases, the “real picture” can be uncovered simply by calling
agencies and asking about their services, particularly about any non-DMP counseling
and educational services. We did this as part of our national survey and the
results were often astounding. Nearly all of the “counselors” at
the non-NFCC agencies we contacted by phone were surprised by inquires about
courses or other consumer education resources. When asked this question, one
counselor simply said, “We consolidate credit cards. That’s it.”
Another incorrectly said that no agency in the country offers classes. It is
important to note, in contrast, that most agencies affiliated with the NFCC
and some others still strive to provide some type of educational services. However,
even among NFCC agencies, in-person presentations by counselors declined by
16.2% from 2000 to 2001.19
Regulatory agencies should also focus on the content and quality of any education
offerings. Does the agency simply sell “cookie-cutter” CD ROMS,
videos and other materials? Does the agency have evidence that consumers have
used these materials, have learned more about effective debt management, and,
most importantly, have changed their behavior? Do they charge for these materials
and, if so, how much?
WHERE DO WE GO FROM HERE? VISION FOR THE FUTURE
There have been many developments and responses, just in the past year, that
have addressed abuses in the industry. As noted above, the I.R.S., F.T.C. and
state regulators issued a joint October 2003 advisory warning consumers about
potential problems with credit counselors. The I.R.S. also issued a report earlier
this year examining abuses in the credit counseling and credit repair industries.20
Public and private lawsuits, some of which were described above, have targeted
key abuses. In addition several states have passed new laws meant to address
abuses. However, some of these new laws either exclude “non-profit”
agencies from regulation or confine the industry to non-profits without doing
additional investigation as to whether the non-profit status of agencies that
are operating is legitimate. In addition, to date, most of these laws have been
inadequately enforced.
Many sectors of the industry have also responded to the abuses that exist.
For example, two of the key trade associations, the National Foundation for
Credit Counseling and the Association of Independent Consumer Credit Counseling
Agencies (AICCCA) have developed joint best practices standards. These standards
are meant to foster self-policing of the industry. Although important, it is
unclear to what extent the associations enforce these standards. In any case,
the possible penalties include revocation of association membership only, with
no effective recourse for consumers. In general, we believe that best practices
standards can be positive if rigorously enforced, but are not a substitute for
effective federal and state laws.
Creditors have also begun to respond to these problems, but in contradictory
ways that have had more of a negative than positive effect so far. For example,
instead of contributing a flat amount to all agencies, several major creditors
now link the amount of their contribution to the fulfillment of multiple requirements
by agencies. In conjunction with lowering Fair Share contributions and making
them more conditional, creditors have begun imposing restrictive standards that
agencies must meet before they will accept proposed DMPs. Some of these new
creditor-imposed conditions and requirements could help limit some of industry
abuses. This is most likely to occur if these requirements are focused on increasing
the affordability and range of options that are available to consumers and the
quality of credit counseling. For example, conditioning creditor contributions
on agencies’ willingness to charge reasonable fees could lead some agencies
to lower their fees, benefiting both consumers and creditors. However, until
very recently, creditors have focused only on their bottom line costs by making
deep, across-the-board funding cuts. Despite that fact that creditors have abandoned
this unilateral approach and say that they are trying to properly fund effective
agencies, the overall trend in the Fair Share has been down. This trend hurts
the good agencies and the consumers who need access to quality credit counseling.
Moreover, creditor policies have increased administrative overhead and reduced
options at counseling agencies. In addition, creditor requirements have tended
to reward the agencies that provide a high number of DMPs at low cost. This
has helped to fuel the growth in high-cost, low-quality “mills”
that are focused only on getting as many people as possible into DMPs. 21
In addition to these existing responses, much more needs to be done. It is
particularly critical that the I.R.S. and state charitable regulators follow
up on the October 2003 advisory and take disciplinary action against offending
agencies, including, if necessary, revoking agencies’ non-profit status.
Only through proper enforcement can a legitimate non-profit credit counseling
sector flourish.
We believe that credit counseling can be a viable choice for many consumers.
We also believe that scrupulous credit counseling agencies can properly meet
non-profit standards. However, these goals will not be reached by federal and
state regulatory enforcement alone. Agencies and creditors must also work to
preserve the credibility of credit counseling and non-profit credit counseling
in particular. Among other changes, non-profit credit counseling agencies must
avoid undue reliance on creditor funding. Agencies can and are diversifying
funding. Many receive funding from HUD or from foundations to provide housing
counseling to first-time homebuyers and homeowners in distress.22
Others receive local funding to help seniors, for example, understand long-term
care options and how to budget on a fixed income.
The fact that agencies are funded by creditors is not intrinsically a violation
of I.R.S. rules. The key question is whether the agencies are working primarily
for the creditors or for the consumers. As one way of addressing this very real
conflict in the industry, we recommend that new laws regulating credit counseling
place an explicit fiduciary duty on agencies to their consumer clients.
In addition, it is important to emphasize that legitimate non-profit credit
counselors can charge fees in some cases. However, these fees must be reasonable
and imposed without undermining the charitable purposes of the agency. Whenever
possible, agencies should strive to charge fees on sliding scales so that the
neediest consumers can still receive assistance.
In order to restore consumer confidence in the industry, it is also critical
that the agencies and creditors operate more transparently. Financial arrangements,
including Fair Share, must be disclosed. Fee scales should be honestly disclosed
and not deceptively described as voluntary or donative. Agencies should also
disclose their client “retention rates” annually – the proportion
of consumers who do not successfully complete DMPs. And finally, non-profit
agencies must counsel clients, provide education, and advise consumers on the
full range of options.
The creditor role in bringing about change is just as critical. Creditors should
immediately take steps to encourage the improvement and expansion of effective
credit counseling options for consumers who would not benefit from a DMP. This
step alone will insure that agencies are meeting the educational requirements
that non-profit status demands. Creditors should also increase financial support
to credit counseling agencies, especially to improve credit counseling options
for consumers who are unlikely to benefit from a DMP.
Citigroup took a hopeful step in this regard when it notified agencies on November
4th that it will be replacing its Fair Share donation with lump sum charitable
donations, which could be used for counseling and client education.23
This could have the positive long-term effect of decreasing a major incentive
for agencies to inappropriate enroll consumers in DMPs. However, this move could
also prove to be hollow and counterproductive if Citigroup doesn’t increase
the actual amount it provides to effective agencies, allowing these agencies
to hire additional staff to assist in providing and increasing counseling efforts.
Otherwise, the agencies will be stuck simply trying to process DMPs and maintain
the status quo, especially over the short-term.
Creditors should also reverse the current trend toward reducing the concessions
they offer to consumers who enter a DMP, especially regarding lower interest
rates. This will help improve the retention rates in credit counseling and decrease
the number of former DMP clients who end up in bankruptcy. Creditors should
also work together to develop consistent administrative and payment requirements,
thus reducing agency overhead and ensuring that more funds are used to assist
consumers. In addition, creditors should immediately stop providing funding
to agencies that charge high fees or are employing deceptive or misleading marketing
practices.
Finally, to promote these goals, there is a need for greater regulation to
ensure that consumer rights are protected and that victims can seek redress
in the courts. We are in the process of developing detailed recommendations.
Among other provisions, we call for a limited registration system requiring
an agency to register as a debt management or debt settlement provider in each
state where it is doing business. Only agencies that are properly registered
should be allowed to perform services in that state. At the time of filing for
registration, all agencies should be required to furnish a cash or surety bond.
We also recommend that the following written disclosures be given to
consumers before initial enrollment for any service with the agency:
Percentage and amount of funding the agency receives from creditors (as
defined).
Disclosure of any other financial arrangement the agency has with any lender
or other provider of financial services.
Disclosure of the various types of services offered by the agency.
A statement that debt management and debt settlement plans are not suitable
for everyone and that consumers can request information about other options,
including bankruptcy. (This disclosure must appear in all advertisements
as well).
A statement that debt management and debt settlement plans do not include
secured debt, including a brief description of the most common types of secured
debt such as mortgages and car loans.
Existence of the surety bond.
Statement that the agency cannot require donations. (This statement
must appear in all advertisements as well).
We recommend that the following disclosures be given to all consumers before
initiating debt management or debt settlement services:
Full disclosure of all services to be provided and any up-front and ongoing
fees to be charged for services (“fees” includes both
mandatory and voluntary fees).
An estimate of the length of time required to complete services, the types
of concessions offered by major creditors, and estimated amounts of concessions
throughout the entire period of the plan.
Agencies should be required to give consumers enrolling in debt management
plans copies of written contracts that include certain critical information.
Among other substantive provisions, we recommend that all contracts contain
a right to cancel without obligation within a prescribed period of time after
initial enrollment. A separate notice of the right to cancel must be provided
at the time the contract is signed. In any case, either party should be allowed
to cancel with proper notice. In addition, we believe that all contracts must
include a full disclosure of services to be provided and all fees that will
be charged.
We believe the law should include strong standards to ensure that only consumers
that can benefit from a DMP are enrolled. In order to make this assessment,
agencies should be required to evaluate the consumer’s household budget,
including types and amounts of debt.
New regulations should also specify minimum requirements for counselor training
and reasonable fee limits for services. It is important to require agencies
to maintain consumer funds in separate trust accounts and not commingle these
accounts with operating accounts.
At a minimum, the recommend prohibition of the following practices:
False and/or deceptive advertising.
Agencies should be prohibited from paying referrals to customers who bring
in new customers.
Agencies should be prohibited from purchasing debts from consumers and other
third parties.
Agencies should be prohibited from making loans to consumers and from profiting
in any way or receiving any compensation from referring consumers to lenders
and other creditors.
Agencies should be prohibited from compensating employees or contractors
based on any formula that provides commissions or incentives tied to the numbers
of consumers enrolled in debt settlement or debt management plans.
In order to ensure that these laws are meaningful, we call for strong remedy
provisions including the voiding of contracts that are not in compliance and
a private right of action for consumers to enforce the law, including provision
for actual damages, treble or appropriate statutory damages, attorney’s
fees, and injunctive relief. Record keeping requirements are also critical to
ensure that regulators can track trends in the industry and address abuses.
In a time of economic uncertainty and growing debt, it is increasingly important
to preserve credit counseling as an option to help consumers deal with debilitating
debt problems. The services are not appropriate for all consumers, but can provide
a much-needed safety net for many. This vision of a thriving credit counseling
sector is possible only as long as the services provided are quality services,
appropriate services, and to the extent offered by non-profit organizations,
truly charitable and educational in nature.
Thank you for the opportunity to testify today.
1 The executive summary is attached at
the end of this testimony. The full report is available for downloading from
either the NCLC web site or the CFA web site (www.consumerfed.org).
2 Revolving debt, most of which is credit
card debt, was $725.6 billion in June 2003, up from $712 billion at the beginning
of the year and $667.4 billion at the beginning of 2001. Non-revolving debt
(primarily auto and household loans) was $1.04 trillion in June, up from $1.01
trillion at the beginning of the year. Federal Reserve Bulletin, Table 1.55,
October 2003.
3 There were 1,661,996 non-business
bankruptcies filed in fiscal year 2003, the highest level ever, and an increase
of 7.4 percent from the 1,547,669 filings in fiscal year 2002. American Bankruptcy
Institute, November 14, 2003.
4 Section 106, H.R. 975.
5 For example, Georgia and North Carolina
do not allow lenders to make high cost mortgage loans unless the borrower has
received counseling from an approved agency. Ga. Code Ann. §7-6A-5(7);
N.C. Gen. Stat. §24-1.1E(c)(1). New York requires the lender to provide
a notice urging the potential borrower to consider consulting a “qualified
independent credit counselor or other experienced financial adviser” and
a list of approved counseling agencies. N.Y. Banking Law § 6-1(1). Florida
law allows consumers who cannot repay a payday loan to obtain a sixty day repayment
grace period, but only if they successfully complete credit counseling by an
approved agency during that period. Fla. Stat. Ann. §560.404.
6 Non-profit status is technically a
state law concept, making an organization eligible for certain benefits, such
as state sales, property and income tax exemptions. Although most federal tax-exempt
organizations are non-profit, organizing as a non-profit at the state level
does not automatically grant the organization exemption from federal income
tax. We are focusing on qualifications for federal tax-exempt status, but use
the terms “tax-exempt” and “non-profit” interchangeably.
7 Although not the topic of this testimony,
many agencies now offer debt negotiation or settlement services in addition
to or instead of debt management plans (DMPs). Negotiation and settlement differ
from DMPs mainly because the agencies do not send regular monthly payments to
creditors. In fact, they encourage consumers to pay fees to the negotiation
firm and not pay their creditors. These agencies generally maintain debtor funds
in separate accounts, holding these funds until the agency believes it can settle
the entire debt. There are growing concerns about abuses in settlement and negotiation
practices.
8 See generally, National Consumer Law
Center, Surviving Debt: A Guide for Consumers (2002).
9 See “IRS, FTC and State
Regulators Urge Care When Seeking Help from Credit Counseling Organizations”,
IR-2003-120, October 14, 2003.
10 26 U.S.C. §501(c)(3).
11 See, e.g., Eileen Ambrose, “Debt
Counseling Leads to Deeper Credit Woes”, Baltimore Sun, November
14, 2003; Jennifer Bayot, “Not-for-Profit Credit Counselors Are Targets
of an I.R.S. Inquiry”, New York Times, October 14, 2003; Caroline
E. Mayer, Easing the Credit Crunch?, Washington Post, November 4, 2001
at H01. Also see Massachusetts Senate Committee on Post Audit and Oversight,
Losing Credibility: Troubling Trends in the Consumer Credit Counseling Industry
in Massachusetts, July 2002.
12 The Illinois suit was filed in February
2003 and the Missouri suit in September 2003. For a copy of the Missouri complaint,
see http://ago.missouri.gov/lawsuits/2003/091103ameridebt.pdf.
For a detailed discussion of a private lawsuit with similar allegations against
Debticated, see Debra E. Blum, “Checking Upon Credit Charities”,
The Chronicle of Philanthropy, August 21, 2003.
13 This lawsuit was filed in December
2002. See ”AG Reilly Sues Telemarketer Accused of Using Deceptive
and Misleading Tactics to Sell Credit Counseling Services to Consumers”,
Press Release, December 19, 2002. Available at: http://www.ago.state.ma.us/press_rel/ics.asp?searchStr=1.
15 See “IRS, FTC and State
Regulators Urge Care When Seeking Help from Credit Counseling Organizations”,
IR-2003-120, October 14, 2003.
16 For example, in a key 1979 decision,
the U.S. Tax Court disagreed with I.R.S revocation of tax-exempt status for
a credit counseling agency. Consumer Credit Counseling Service of Alabama,
Inc. v. U.S., 78-2 U.S.T.C. P 9660, 1978 WL 4548 (D.D.C. 1978). The court
was persuaded that the agency’s DMP services were merely “adjunct”
to its counseling functions. The court also considered the fact that the agency
charged only a nominal fee and that the community education and counseling assistance
programs were the agency’s primary activities.
17Credit Counseling Centers, Inc.
v. City of South Portland, 814 A. 2d 458 (Maine 2003).
18 A dissenting judge argued that any
benefit provided to creditors is incidental and that it is not clear in any
case that creditors receive a benefit since they receive only a portion of the
money already owed to them. See Id.
19 Statistics provided with permission
from the National Foundation for Credit Counseling. Data is derived from the
2001 Member Activity Report.
21 This attitude is exemplified by the
comments of Fritz Elmendorf of the Consumer Bankers Association to the Chicago
Tribune: “There have been cutbacks by some banks, particularly related
to general budget tightening, but also because the services were not seen as
providing a direct return by lowering credit losses. At the same time there
are payment plan ‘mills’ coming in with lower fees than the traditional
fair-share arrangements. They’re trying to gain market share. They help
you rehabilitate the customer, and it costs you less.” Janet Kidd Stewart,
“Debt Management and Counseling Services Are Multiplying as Consumer
Loans Mount, But Not All Are Working in the Clients’ Best Interest”,
Chicago Tribune, February 23, 2003.
22 Housing counseling funding, in particular,
is limited and credit counseling agencies are in competition with non-profit
HUD-certified housing counselors. Traditional housing counseling agencies, for
the most part, do not receive Fair Share funding and generally do not charge
for services.
23 Letter from Citigroup, November 4,
2003. On file with the Consumer Federation of America and the National Consumer
Law Center.
and NCLC