Household and credit card debt is at an all-time high. So it should come as no surprise that debt-relief legal and regulatory issues are back in the spotlight. The Consumer Financial Protection Bureau ("CFPB") will host "Evolutions in Consumer Debt Relief" on March 10, 2020. The CFPB says the event will explore options for consumers facing unmanageable unsecured debt and limited credit options.
Generally speaking, debt relief services are any program or service that offers to change the terms of a debt between a person and one or more creditors or debt collectors, including a reduction of the loan balance, interest rate, or fees owed. Different kinds of companies may promote or offer to assist consumers in obtaining relief from different kinds of debt, including credit card debts, home mortgages (referred to by the CFPB and Federal Trade Commission ("FTC") as Mortgage Assistance Relief Services or "MARS"), student loans, payday loans, car loans, or tax debts. There are also different kinds of debt relief services, including credit counseling, debt management plans, debt settlement, debt negotiation, foreclosure prevention, or loan modification.
Debt relief services have long been one of the most highly regulated sectors in the United States, based on the role that the providers play in assisting consumers who by definition are in financial distress. Debt relief services are also provided against a backdrop of contractual obligations of consumers to their creditors to repay amounts owed, and laws and regulations that govern creditors and their collection activities.
The direct regulation of debt relief services occurs on both the federal and state level, including potentially under state laws that require licensure and open the company up to state supervisory examination. However, there are some federal and state restrictions that can make it challenging or perhaps impossible to provide debt relief services on a 50-state basis, depending on the provider's federal income tax status and law in the state where the consumer resides. In addition, there can be prohibitions on the timing and collection of fees for service, holding funds destined for creditors, offering or soliciting other services, making and receiving compensated referrals, and more.
To thoroughly understand what options are available to consumers, and legal requirements relevant to debt relief service providers and to anyone advertising and marketing on their behalf, it's beneficial to have a basic understanding of the federal and state laws that may apply to the companies involved and products and services that will be offered.
Here's a brief introduction to the laws affecting debt relief services:
Bank Secrecy Act: The Bank Secrecy Act ("BSA") requires, with limited exception, a "money service business" ("MSB") to register with the Financial Crimes Enforcement Network ("FinCEN") Department of the U.S. Treasury. The BSA defines "money service business" as, among other entities, a "money transmitter." Whether a person, including a provider of debt management plans and debt settlement companies, is a money transmitter for BSA purposes is a matter of facts and circumstances. Note that the BSA analysis is separate and distinct from any analogous state money services business act analysis. It's also anticipated that there will be updates to guidance on BSA compliance for nonbanks issued in 2020.
Bankruptcy Abuse Prevention and Consumer Protection Act of 2005: The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (the "BAPCPA"), which was enacted on April 20, 2005, requires all individual debtors who file for bankruptcy on or after October 17, 2005 to undergo credit counseling within six months prior to filing. The debtors also must complete a financial management instructional course after they file for bankruptcy. With certain exceptions, an individual is not eligible to file for bankruptcy without completing credit counseling, and is not eligible to receive a bankruptcy discharge without completing a financial management instructional course. For the pre-filing counseling mandated by the law, tax-exempt status under Section 501(c)(3) is not required for approval as a budget or credit counseling agency under the BAPCPA; however, nonprofit status (typically, incorporation as a nonprofit corporation) is a prerequisite, among other requirements. For the pre-discharge education mandated by the BAPCPA, providers of financial management instructional courses can be either nonprofit or for-profit entities. The U.S. Trustee and Administrative Office of the U.S. Courts administers the approval (and renewal) process for budget and credit counseling agencies and providers of debtor education courses according to criteria set forth in the law.
Controlling the Assault of Non-Solicited Pornography and Marketing Act of 2003: The Controlling the Assault of Non-Solicited Pornography and Marketing Act of 2003 ("CAN-SPAM Act") establishes requirements for those who send unsolicited commercial email, including requirements to include electronic opt-out notice requirements, to include the sender's mailing address, and to identify the email as an "advertisement or solicitation," among others. Violators of the CAN-SPAM Act are subject to civil fines and penalties and potential criminal prosecution.
Credit Repair Organizations Act: The Credit Repair Organizations Act ("CROA") prohibits false or misleading representations and requires certain affirmative disclosures in the offering or sale of "credit repair" services. CROA bars "credit repair" companies from demanding advance payment; requires that "credit repair" contracts be in writing; and gives consumers certain contract cancellation rights, among other requirements. The definition of credit repair has been interpreted broadly. Tax-exempt organizations under Internal Revenue Code Section 501(c)(3) (a common tax status for credit counseling agencies) are excluded from regulation under the CROA. A number of states have enacted similar statutes, often called "Credit Services Organization Acts," that are enforced by state attorneys general. The state laws usually have all of the features of CROA, but also may encompass more services (and products) and require registration and bonding, in addition to including advance fee prohibitions that may only apply in certain circumstances. Not all state credit repair statutes exempt tax-exempt 501(c)(3) nonprofit organizations from regulation.
Consumer Financial Protection Act: The Consumer Financial Protection Act ("CFPA"), which may be enforced by the CFPB and state attorneys general, prohibits unfair, deceptive, or abusive acts or practices by those who offer financial products or services to consumers.
Debt Adjusting Laws: The most comprehensive legislative efforts to regulate debt adjusters — e.g., debt management plan providers, debt settlement companies, debt negotiators — have occurred at the state level. Often, state debt-adjusting statutes are hybrids of money transmission laws and consumer protection laws. Nearly every state has some type of statute that regulates the practice of "debt adjusting," but the substantive requirements of these statutes vary from state to state. More than half of the states have enacted some type of registration or licensing requirement for debt adjusters that do business in the states. In addition, the most common substantive provisions include fee caps, requirements to post bonds, prohibitions on certain activities (e.g., making loans, compensated referrals, etc.), and the ability of state regulators to examine the provider for compliance. Notably, not all of the statutes will necessarily apply to the debt relief services of every company. Also, not every debt adjusting statute will permit for-profit or nonprofit companies without tax-exempt 501(c)(3) status to operate. The penalties for violating debt adjusting statutes vary from state to state but typically are quite significant. Noncompliance can lead to significant fines and penalties, injunctions, orders for consumer restitution, and potentially imprisonment. In addition, a number of state debt-adjusting laws include private enforcement rights.
Fair Credit Reporting Act: The Fair Credit Reporting Act ("FCRA") is a federal law that regulates the collection of consumers' credit information and access to their credit reports.
Fair Debt Collection Practices Act: The Fair Debt Collection Practices Act (the "FDCPA") regulates third-party debt collectors. The FDCPA prohibits debt collectors from employing deceptive or abusive conduct in the collection of consumer debts incurred for personal, family, or household purposes. Generally, the FDCPA applies to companies that collect debts for another person. The FDCPA exempts "any nonprofit organization, which, at the request of consumers, performs bona fide consumer credit counseling and assists consumers in the liquidation of their debts by receiving payments from such consumers and distributing such amounts to creditors."
Federal Trade Commission Act and "Mini-FTC Acts": The Federal Trade Commission Act (the "FTC Act") prohibits deceptive or unfair trade practices. Most states have enacted "mini-FTC acts" —- consumer protection statutes that are enforced by state attorneys general and that resemble the FTC Act in whole or in part; these laws also may expressly incorporate the FTC's regulations by reference.
Gramm-Leach Bliley Act: The Gramm-Leach Bliley Act ("GLBA") requires that financial institutions protect the privacy of consumers' personal financial information. Generally, financial institutions must develop and give annual notice of their privacy policies to their customers. Additionally, financial institutions must give notice and provide an opportunity for consumers to opt out of any disclosure of the consumer's personal financial information to an unaffiliated third party. Under the GLBA, the FTC also has issued regulations that require the safeguarding of personal financial information. The GLBA also limits the sharing of account number information for marketing purposes.
Internal Revenue Code Section 501(c)(3): Traditionally, many credit counseling agencies are nonprofit corporations exempt from federal corporate income tax under Section 501(c)(3) of the Internal Revenue Code ("Code"). Note that "nonprofit" status comes merely from incorporating as a nonprofit, nonstock corporation under state law. In addition to the basic tax-exemption requirements under Section 501(c)(3), credit counseling agencies that seek to be tax exempt under Section 501(c)(3) also must meet the express requirements of new Code Section 501(q) (see below) in order to qualify.
Internal Revenue Code Section 501(q): Enacted in 2006, Internal Revenue Code 501(q) provides a number of specific requirements for would-be 501(c)(3) credit counseling agencies regarding operational activities, governance, ownership interests, expenditures, and revenues, among other requirements. These rules are intended to ensure that no substantial part of the activities of a credit counseling agency is in furtherance of a non-exempt purpose and that the organization is providing substantial educational benefits to the public. Further, it should be noted that Section 501(q) effectively codifies into law the principle that a debt management plan program can, depending on its operation, be an integral part of a credit counseling agency's tax-exempt educational mission.
Mortgage Assistance Relief Services ("MARS") Rule: The MARS Rule is directed at companies that offer mortgage loan modification services to consumers for a fee; it requires certain disclosures and prohibits upfront fees.
Mortgage Foreclosure Assistance Services Laws: Several states have laws directed at companies that offer mortgage loan modification, foreclosure assistance, and related consulting services; often, the laws will require certain disclosures and prohibit upfront fees, and some laws may prohibit covered activity altogether.
Money Services Business Acts / Money Transmission Laws: State money services business acts or money transmitter statutes are not uniform, but generally work in the same way. They are usually under the auspices of the state banking or financial institutions department and cover, among other activities, the paper and electronic transmission of money by a licensed money transmitter and/or such licensed money transmitter's authorized distributors. Substantive requirements include bonding, examination, and compliance with money laundering screening. Under certain circumstances, failure to obtain a required state license to operate a money services business also can result in a violation of 18 U.S.C. § 1960, which requires "Money Services Businesses" to be registered with the federal government.
State Nonprofit Corporation Laws: Nonprofit organizations are incorporated under state law. Nonprofit organizations are barred from distributing their net earnings to individuals who control the organization. Similarly, they are barred from accumulating equity appreciation for private benefit. Nonprofit organizations have chosen to undertake programs to benefit members and the public rather than private individuals. Therefore, their earnings must, by law, be dedicated to furthering the purposes for which they were organized. Nonprofit organizations have no shareholders and pay no dividends; all earnings are "reinvested" in the organization in furtherance of its nonprofit purposes. Violations of state nonprofit corporation laws generally may be enforced by state attorneys general.
Telephone Consumer Protection Act / FTC Telemarketing Sales Rule (Generally): Outbound telemarketing calls that many companies make to leads generated through websites are subject to federal and state laws and regulations that govern telemarketing, including the Telephone Consumer Protection Act (the "TCPA"). These laws and regulations cover a number of issues, including do-not-call ("DNC") requirements; requirements that apply to calls placed to cell phone numbers; disclosure requirements that affect what a sale representative may say at the beginning and during a call; restrictions on the use of automated dialing systems; caller ID requirements; and other requirements. In addition to government enforcement, consumers may enforce certain provisions of the TCPA. A number of states also require certain companies that make outbound telemarketing calls to register or obtain a license before making such calls. Some of these states also have bonding requirements.
Telemarketing Sales Rule Debt Relief Amendments: The Telemarketing Sales Rule ("TSR"), among many things, has specific provisions that address the sale of debt relief services. Key aspects of the debt relief portions of the rule are: (1) it is illegal to charge upfront fees, although a provider can require customers to set aside money in a dedicated account for their fees and for payments to creditors and debt collectors, but the new TSR places restrictions on those accounts intended to protect customers; (2) the TSR requires providers to disclose certain information before signing people up for their services; and (3) the TSR prohibits the making of false or unsubstantiated claims about debt relief services. Importantly, the TSR debt relief provisions apply to inbound and outbound telemarketing, and to providers and their service providers that provide substantial assistance. The rule contains a number of technical requirements not summarized here.
Unauthorized Practice of Law: The unauthorized practice of law ("UPL") is prohibited in virtually every state and is classified as a criminal act in many states, punishable by fines and/or imprisonment. States that do not criminalize UPL typically remedy a violation by requiring a non-lawyer to disgorge all profits received from the UPL. Most definitions of UPL specifically prohibit a non-lawyer from providing legal advice because the provision of legal advice is inherent to the practice of law. Some states consider providing certain debt management and/or debt settlement services to constitute the UPL.
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Credit counseling agencies, debt management plan providers, and debt settlement companies are required to comply at all times with a complex patchwork of overlapping and interconnecting laws and regulations — including those described above, along with many, many others — in order to maintain legal and regulatory compliance. How these laws apply to your particular type of business will depend on a number of factors, including the business model, location of customers, and available statutory exemptions and interpretations, among other factors. Each business model has its own special characteristics, so the key is to identify the laws and regulations that apply to your company — and then to comply accordingly.
This article is adapted from A Legal Issues Primer for Credit Counseling Agencies, Debt Management Plan Providers, and Debt Settlement Companies (Oct. 16, 2008) by Jonathan L. Pompan.
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Jonathan L. Pompan, a partner in the Washington, DC office of Venable LLP, co-chairs the firm's Consumer Financial Services Practice Group. His practice focuses on providing comprehensive legal advice and regulatory advocacy to a broad spectrum of clients, such as nonbank financial products and services providers, nonprofit organizations, and trade and professional associations, before the CFPB, the FTC, state attorneys general, and regulatory agencies.
This article is not intended to provide legal advice or opinion and should not be relied on as such. Legal advice can only be provided in response to specific fact situations.