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Credit & Debt

Zombie debt and the Supreme Court

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This may be a first: I’ve been cited to the Supreme Court.

Specifically, a column I wrote back in 2006 about “zombie debt” was cited in a brief filed by AARP, the Consumer Federation of America, the National Association of Consumer Advocates and other good folks for a case known as Marx v. General Revenue Corp. The case is about whether someone who lost a lawsuit against a collector can be forced to pay damages if the lawsuit wasn’t filed “in bad faith and for purposes of harrassment.”

Olivea Marx sued debt collector General Revenue Corporation after it contacted her employer to find out about her employment status. Marx believed that General Revenue’s action violated the Fair Debt Collection Practices Act. She lost, and the U.S. Court of Appeals for the 10th Circuit ruled she had to pay more than $4,500 to cover the collector’s legal costs.

The Federal Trade Commission, the Department of Justice and the Consumer Financial Protection Bureau also have weighed in against the decision, saying it was inconsistent with the FDCPA, which says people who lose cases against collectors must pay defendants’ litigation costs only if the consumers sued in bad faith or for purposes of harassment.

Collectors complain about frivolous lawsuits. Consumer advocates counter that more lawsuits would be filed if people truly understood their rights. The AARP/CFA brief notes that there isn’t much regulatory enforcement of fair debt collection practices laws, which leaves private action in the form of lawsuits brought by consumers. Debt collection already tops the list of industries that draw FTC consumer complaints; imagine how much bolder collectors might be if they could win damages against anyone who sued them and lost.

 

Co-signed loan burdens parent with student debt

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Dear Liz: I co-signed some private student loans for my youngest child. She graduated two years ago with about $80,000 in student debt, including federal and private loans. Like many other recent graduates, she has had a difficult time finding a job. She worked part time at a retail store until about a month ago and made around $7,000 annually. I have been helping her make reduced payments and she has gotten deferments and income-based repayment plans.

But I’m planning to retire in a few months and won’t be able to make the payments as I have been. I am heartsick about this whole situation, not just for my family, but also for thousands of young people who face this mountain of un-dischargeable debt. We desperately need some advice on how to deal with huge debt.

Answer: As you know, student loans typically can’t be shed in Bankruptcy Court. Even your Social Security benefits aren’t safe: In 2005, the U.S. Supreme Court upheld the government’s ability to offset Social Security disability and retirement benefits when a borrower has defaulted on federal student loans.

Income-based repayment plans can provide some relief with the federal loans. This repayment option limits the required payment to 15% of your daughter’s discretionary income, and her balance can be forgiven after 25 years, according to Mark Kantrowitz, publisher of the FinAid.org financial aid site. If your daughter has no income, her required payment would fall to zero. Unlike deferment and forbearance plans, which have three-year limits, the income-based repayment allows zero payments indefinitely. She should investigate signing up for such plans for all her federal loans.

The private loans you cosigned have far fewer repayment options. Some have forbearance and deferment options, while others do not. You may be able to negotiate a lower payment temporarily, or you may not. Because private student loans’ rates and terms aren’t regulated the same way federal loans’ are, they’re considered much riskier. Using them is kind of like paying for college with credit cards, except unlike with credit cards, the debt can’t be discharged.

It’s too late to tell you that you shouldn’t have co-signed loans so close to retirement or any time you would be unable to take over the payments. If you have sufficient equity in your home, you may want to consider using it to pay off the private loans. A variable-rate home equity line of credit would allow you to pay only interest for 10 years, while a fixed-rate home equity loan would lock in today’s current low rates for the 20-year life of the loan. You will, of course, be putting your home at risk if you can’t make those payments.

Another possibility is to postpone your retirement until your daughter is gainfully employed. This may not be desirable or even possible, but at the moment you’re the only one with income to repay these loans.

Otherwise, your option is to try to negotiate an affordable repayment plan with the private lenders, which is no easy task. For more information, visit the Student Loan Borrower Assistance program at http://www.studentloanborrowerassistance.org.

Why high credit scores take longer to heal

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Dear Liz: I am confused about your recent article about a person who did a short sale and questioned its effect on her credit. You said that if she started with a score of 680, it would take about three years for her FICO numbers to return to normal. You then said, “If your scores were high, say 780, it would take about seven years to restore them to their old peaks.” This doesn’t make sense to me. Why would it take longer to recover if you started with better credit?

Answer: Think of credit scores as a mountain that gets steeper the higher you climb. Not only does it take longer to achieve the lofty peaks, but if you tumble down the mountain, it will take you longer to return to those peaks than to achieve some intermediate stage.

The FICO formula is designed to reflect your likelihood of default. If you’ve recently missed a payment, had a bill go to collections or had a foreclosure or short sale, the formula assumes you’re much more likely to default on another bill than someone who doesn’t have those black marks on his or her record, and your scores fall to reflect that higher risk of default. As time passes and you handle credit responsibly, your scores will begin to slowly rise, but it will take more time to regain your peak scores if they were high.

Something else to understand is that the penalty for most negative credit events is greater for people with high scores than those with lower scores. Missing a single payment can knock up to 110 points off a 780 score but might deduct just 60 points from a 680 score. That’s because a higher risk of default is already “baked in” to the lower score. The higher score presumes you’re less likely to default. If you do miss a payment, the formula is set up to punish you more. In most cases, though, you won’t “fall down the mountain” as far as someone who started with a lower score. After the missed payment, the 780 score could be 670, while the 680 score could be 620.

Will her bad credit prevent him from getting a mortgage?

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Dear Liz: Is it possible for me to buy a home without having my wife on the mortgage? She lost her business because of the recession. I do not want to deal with her creditors.

 Answer: You can apply for a mortgage based solely on your own income, credit scores and debt-to-income ratio, if those are sufficient to buy the house you want. Your wife’s income and credit does not have to be considered.

If you can’t swing the purchase without her income, though, you’ll both need to spend some time improving her credit scores. That might include adding her as an authorized user to your credit cards. Another option is to negotiate settlements with her creditors in return for their deleting the collection accounts from her credit reports. You’d want to be cautious in these negotiations, especially if the statute of limitations on the debts hasn’t expired and your wife could be sued. Consider visiting DebtCollectionAnswers.com for help in negotiating with creditors.

Why some debtors don’t get sued

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Dear Liz: You recently answered a question from a business owner who defaulted on some credit card accounts and wanted to know how to pay these old debts. How is it that this person has not been subjected to numerous judgments on the cards in question? In fact, how could he or she have proceeded in business without being subjected to garnishment of accounts?

Answer: To get a judgment and a garnishment, the credit card company or a subsequent collector typically must sue the borrower in court. Different collectors have different policies about when to file such lawsuits. Sometimes they decide it’s not worth the hassle given the slim chances of collecting. However, many collectors also regularly check’ credit reports to see if a debtor’s financial circumstances seem to be improving. If they see signs of such improvement, they may renew collection attempts, including lawsuits.

Old debts don’t disappear

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Dear Liz: I am astonished you would counsel someone to try to negotiate a settlement of credit card debts from 2003 that were written off in 2007. Why? The statute of limitations is no more than six years in California and can be much shorter in many other states. If a reader of your column begins to negotiate over debts that are that old, they risk creating a new debt or resurrecting the old one, thereby becoming liable for repayment of a debt that is not collectible. When there is a stale claim, the response to the collection agency needs to be: “This is a stale claim, the statute of limitations has expired. I do not owe this debt to you or to my original creditor. Please stop contacting me.”

Answer: Statutes of limitations limit how long a creditor is supposed to be able to sue a borrower in court. The statutes vary by state and the type of debt, but range from three to 15 years. The expiration of that limit doesn’t make the debt somehow disappear or prohibit a creditor from continuing collection efforts.

Many people feel a moral obligation to pay their debts when they can. Others want to negotiate to remove collections from their credit reports in return for payment. (Time limits for reporting negative items on credit reports are different from state statutes of limitations; in most cases, the limit is seven years and 180 days from the time the account first went delinquent.) If someone wants to get a mortgage, for example, a lender may require payment of an open collections account regardless of the state statute of limitations.

You’re correct that anyone who wants to negotiate a settlement of an old debt should be aware of the statute of limitations affecting that debt. If the limitation hasn’t passed, the borrower needs to be aware of the danger of getting sued. If the limitation has passed, the borrower needs to avoid restarting it by making a small payment. Instead, the best approach is to settle for a lump sum and to get the collector’s assurance, in advance and in writing, that the remaining debt will be forgiven rather than resold.