Debt-settlement firms misled consumers, GAO report says

By Ylan Q. Mui
Washington Post Staff Writer
Friday, April 23, 2010

A government investigation into the burgeoning debt-settlement industry has found that many firms misled consumers by claiming to be affiliated with federal stimulus programs and exaggerating their ability to reduce consumers' loans.

The report by the Government Accountability Office, presented Thursday at a Senate commerce committee hearing, included audio recordings of salesmen describing their companies as "government approved" and linking settlements to the federal bailout of troubled banks. Another sales recording stated that all customers eliminated their debt in three years, while others encouraged customers to stop paying their creditors -- a practice that violates the industry's own standards.

"It is appalling beyond words," Sen. John D. Rockefeller IV (D-W.Va.), who heads the committee, said at the hearing. "These debt-settlement companies are kicking people when they are down."

The number of debt-settlement companies has ballooned to more than 1,000 during the past five years, after changes to the federal bankruptcy law made it more difficult for consumers to qualify and as the recession ravaged household budgets. The companies promise to negotiate with a customer's creditors to reduce the principal, rather than just interest and fees, as many credit-counseling firms do.

But consumer advocacy groups have attacked the industry for charging hefty upfront fees before calls to creditors are made. In addition, they have accused debt-settlement firms of misleading consumers in sales pitches and instructing them not to pay bills.

Industry groups have defended their business by pointing to roughly $2 billion in debts that they have settled. The U.S. Organizations for Bankruptcy Alternatives (USOBA) and the Association of Settlement Companies (TASC) said that their members are supposed to fully disclose the terms of their agreements with customers and are prohibited from encouraging them to stop paying bills.

But the GAO examination, which was conducted from November through this month, found that 17 of the 20 companies contacted told undercover investigators to do just that.

"Once you are in our program, you will no longer make any of your credit card payments," one debt-settlement salesman said, according to the GAO.

Companies also claimed to be affiliated with federal stimulus programs or government agencies. One Web site is titled the North Carolina Relief Act and displays the seals for the Social Security Administration and the Federal Trade Commission, though small print at the bottom of the home page states that the site is not connected to any government agency.

In addition, the companies claimed success rates from 85 to 100 percent. The FTC and state investigations have found the rate to be less than 10 percent, though the industry argues that it is closer to 34 percent.

USOBA legislative director John Ansbach acknowledged wrongdoing at the companies contacted by the GAO. He said that his organization, along with TASC, supports regulations proposed by the FTC that call for additional disclosures and bar certain advertising practices.

"This is not a rosy picture," Ansbach said at the hearing. "There are absolutely issues in this industry that must be addressed."

Both groups, however, said that preserving advance fees is crucial to the survival of their industry, though they would support capping the amount. The FTC has proposed banning advance fees altogether, as it has for other credit services companies. Julie Brill, an FTC commissioner, said that it is still unclear when a final ruling will be adopted.

At the end of the hearing, Rockefeller said that he was open to drafting legislation imposing new limits on debt-settlement companies. Sen. Charles E. Schumer (D-N.Y.) is planning to introduce a bill next week that would prohibit the industry's advance fees and cap the total amount charged. It would also allow consumers to cancel the program and receive a refund.

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