Debt Rule Expected to Slash Default Judgments

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By Michael J. Bologna

July 28 — The Consumer Financial Protection Bureau’s debt collection proposal could provide much-needed help to consumers battling debt collectors in a courtroom environment where the industry generally holds the advantage.

Academics and attorneys representing defendants in debt actions said the proposal addresses a fundamental problem: the overwhelming volume of default judgments issued against consumers who don’t show up in court or don’t understand their rights.

The CFPB proposal unveiled July 28 would force debt collectors to provide consumers with better information about the debt in question, substantiate their claims before filing suit, and disclose the possibility of litigation and the implications of a default judgment before a case is filed. Significantly, the rule would also prohibit debt collection litigation and threats of litigation on “time-barred debt,” obligations absolved by a jurisdiction's statute of limitations.

Judith Fox, a law professor at the Notre Dame Law School and director of the school's consumer law clinic, said the debt collection business model relies on an active stream of cases built on incomplete information about the consumer and the debt in question. She said debt collectors file large numbers of suits, betting that the defendants will either skip their court appearance or fail to present a viable defense, triggering a default judgment.

Fox, a member of the CFPB's Consumer Advisory Board, said the rule would force debt collectors to do their homework before heading to the courthouse, and would arm borrowers with better information about the action filed against them.

“I think it is a huge positive that debt collectors would have to have evidence before they could file and that they would have to substantiate their claims,” Fox told Bloomberg BNA in an interview. “The current model for many of them (debt collectors) is to just file hundreds of lawsuits, hoping that two or three will stick.”

Consumers Are Outgunned

CFPB Director Richard Cordray referenced the default judgment problem in a July 28 speech at a Sacramento, Calif., field hearing, pointing to research indicating that 60 percent to 95 percent of debt collection suits result in default judgments against the consumer.

“Few consumers have the resources, the time or the ability to appear and defend their cases in court,” Cordray said. “This will often lead to a default judgment and a victory for the debt collector, regardless of whether the suit is against the wrong person or for the wrong amount. It is even true where the time allowed for filing the lawsuit has already expired.”

Judge Thomas P. Boyd of Michigan's 55th Judicial District Court, who is president of the Michigan District Judges Association, said he hopes the proposal would improve a courthouse climate that leaves judges with few options beyond granting default judgments. More information provided to consumers, higher evidentiary standards placed on debt companies and vigorous prohibitions on time-barred debt would be steps in the right direction, he said.

“The defendants really are not bad people,” Boyd told Bloomberg BNA. “They run into this buzz saw that is not telling them they have rights, not telling them they can consult with legal aid, not telling them they have time-barred debt, not telling them that if they make a payment they could still get sued. It’s an incredibly dishonorable system. The reason people are so fed up is the system does not require [debt collectors] to play fair or be nice.”

Leveling the Field

The CFPB is considering several fundamental changes to address the current litigation climate:

  •  Debt collectors would be forced to substantiate debts prior to any contact with consumers.
  •  Collectors would be required to provide a “litigation disclosure” in all written and oral communications. Such disclosures would include statements explaining that a court could enter a judgment against the consumer if he or she fails to defend in court.
  •  Collectors would be prohibited from filing suits or threatening litigation involving time-barred debt. Collectors would also be obligated to provide time-barred debt disclosures informing consumers that, due to the age of the debt, the collector cannot sue to recover it.
  •  The bureau would place limitations on state “revival statutes,” which reset the statute-of-limitation rules in scenarios where borrowers make payments or acknowledge their debts in writing. The bureau is proposing a flat prohibition on the collection of time-barred debt that cannot be revived unless the collector waives the right to sue on the debt.
  •  And, the bureau would create new restrictions on “zombie debts,” barring subsequent debt buyers from suing on debts that were dismissed when an earlier collector issued a time-barred debt disclosure.

Junk Debt Churn

Peter Holland, a Maryland consumer debt attorney and a former director of the Consumer Protection Clinic at the University of Maryland Law School, said the CFPB's proposal could help empower consumers and force debt collectors to substantiate their claims before getting to court.

At the same time, Holland said the proposal doesn't do enough to interrupt the constant churn of “junk debt,” weak or worthless debt claims that nonetheless get sold and resold by multiple players in the collection industry. Without some prohibitions on such churning, he predicted some level of consumer harassment would continue.

“This is way better than what we have, but is this going to fundamentally prevent the sale of known junk debt?” he asked. “It may prevent the enforceability of known junk debt in litigation, but will it prevent the sale? There is not a requirement that a seller of debt affirmatively states ‘we have checked our records and we know that this is accurate.'”

Boyd and Notre Dame's Fox said they're concerned about a rule that relies so heavily on disclosures.

Financial and legal disclosures can be helpful but can also be confusing to consumers. Fox said consumers would be best served by plain English explanations that avoid legal technicalities.

“We’re not all that sure that disclosures work, but I don’t know what else you could do,” Fox said. “It will depend on how they disclose it and where. In theory, it sounds good. But we’ll have to see how complicated this gets.”

To contact the reporter on this story: Michael J. Bologna in Chicago at mbologna@bna.com

To contact the editor responsible for this story: Seth Stern at sstern@bna.com

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