This week, Sherrod Brown, the top Democrat on the Senate Banking Committee, submitted legislation so obvious and self-evident that I had to look up to see if it didn’t already exist. Amazingly, in 2015 we need to write a law saying that, when a consumer satisfies a debt, the bank actually has to let credit reporting agencies know about it. Because that’s not a strict requirement right now, debts that have been discharged in bankruptcy can linger on credit reports for as many as 10 years, and some of these completed debts have even been resold to debt collectors.
This undermines the entire bankruptcy process, the goal of which is to wipe out debts and give people a fresh start. Even if consumers aren’t harassed to pay twice, “zombie debt” brings down credit scores for people trying to rebuild their financial record, affecting interest rates for mortgages or consumer loans and even making it difficult to get a job. Ed Boltz, president of the National Association of Consumer Bankruptcy Attorneys (NACBA), estimates that more than 1 million Americans have zombie debt sitting on their credit reports.
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Under Brown’s proposed legislation, the Consumer Reporting Fairness Act, creditors would be required under the bankruptcy laws to represent a zero balance on any discharged debt to the credit reporting agencies. If they fail to do so, consumers would have the ability to sue the creditor. “This bill would ensure that debts prior to bankruptcy aren’t in effect double counted,” the senator said.
The question is whether zombie debt persists out of sheer negligence, from a disinclination to pay the cost to have staffers properly report to credit bureaus or because it’s lucrative. The nation’s biggest financial institutions, including JPMorgan Chase, Bank of America, Citigroup and Synchrony Financial (formerly GE Capital) have been sued over zombie debt in bankruptcy court. Debtors accused the banks of forcing them to pay debts they did not owe as a condition for cleaning up their credit report. In an era where credit scores have such outsized importance, it can be lucrative to extort people over it. The Justice Department is reportedly investigating the misconduct, but the Brown bill would give far more clarity to the law.
The lack of clear rules to discharge debt in bankruptcy buttresses the crazy business of buying and selling debt, perhaps the most unregulated space in the financial world. As recently as a couple of years ago, an incredible one in seven Americans were being hounded by a debt collector. Third-party debt buyers purchase thousands of delinquent accounts at a time on a caveat emptor basis, without trying to verify the underlying information. Banks sell them for pennies on the dollar, but if they’re passing off debts that have already been extinguished in bankruptcy, it’s pure profit. The debt sales often include indemnification agreements, so the buyers don’t try to hold banks liable for selling illegitimate accounts.
If debt buyers wanted verified accounts, presumably the banks would charge more, so the system has all kinds of incentives toward sketchy information. This is how accounts with inaccurate debt information routinely get sold into the marketplace, and consumers can easily find their wages garnished or tax refunds commandeered over a debt they don’t owe. That includes people who have already gone through the arduous bankruptcy process.
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The Consumer Financial Protection Bureau recently penalized JPMorgan Chase $216 million for passing on zombie credit card debts to third-party debt collectors, including accounts that were misstated with the wrong amounts, discharged, paid in full or never owed in the first place. JPMorgan actually suspended all its debt sales at the end of 2013 because of these rampant errors, but the CFPB action seeks to ensure that the bank never restarts such practices.
As bad as the banks appear to be in handling debt, the debt collectors can be even worse. Though states often limit how long creditors can try to collect a debt, consumers can restart that clock simply by acknowledging the debt’s existence or ignoring a summons. And of course, debt collectors frequently use illegal, harassing tactics to berate consumers into handing over cash.
In one notable case, the debt collector Unicredit decorated an office to look like a courtroom and held fake court proceedings designed to intimidate consumers into paying non-existent debts. There’s also a robust resale market for debt: Even if the first debt collector comes up empty, they can package the leftovers and ship them off to another firm, often engaging in the same practice of selling already paid-off debt.
Brown’s legislation wouldn’t solve all the problems of the debt collection industry. But by giving credit reporting bureaus accurate information it would give at least one safeguard to those who have already satisfied their debts. And it would prevent the consequences of that debt from lingering long after the situation has been resolved.
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You would think it would be uncontroversial to have banks comply with the bankruptcy process. In the current Republican Congress, there’s little hope of getting such legislation through. But the point of introducing such bills is to prepare for the eventual shift in the political winds while also putting corporations on notice that they need to change their processes. Practically every national consumer group supports the Brown legislation, and they can use it to encourage banks to comply.
This is already eliciting results. In May, JPMorgan Chase and Bank of America promised to remove discharged debt from credit reports voluntarily, though the lack of binding rules makes it difficult to monitor.
It’s bad enough that too many Americans don’t earn decent enough wages that they have to persistently use debt to keep up with the cost of living. It’s bad enough that the credit score, which is obviously susceptible to human error, looms so large in our financial lives. It’s bad enough that we make it really tough for tapped-out people looking for a fresh start to navigate through the bankruptcy process. But despite all the demands put on borrowers, creditors still have to pressured to follow the simple step of ensuring that a closed debt is actually closed.
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