FTC: Fix 'broken' debt collection system

After several years of investigation into credit card and other debt-related disputes, the Federal Trade Commission this week unanimously approved and issued a 118-page report that did not mince words:

"The commission concludes that the current system for resolving consumer debts is broken, because consumers are not adequately protected in either debt collection litigation or arbitration."

It's the second salvo the FTC has fired at the debt-collection industry. In a 2009 report, the FTC took aim at the unfairness of debt-collection legal proceedings, which put consumers at a distinct disadvantage. In this week's report, the federal agency repeated those charges, but added a new target: unfair arbitration.

FTC urges fixes to 'broken'
debt collection system 

A Federal Trade Commission report says neither arbitration nor litigation serves consumers well when it comes to debt collection. In both, the FTC says, the odds are stacked against consumers.

Arbitration is an alternative process to the courts that has fallen out of favor during the past year, but remains written into millions of credit card and other consumer contracts. Some of the arbitration abuses cited by the FTC are:

  • Companies unobtrusively slip language into contracts that requires consumers to resolve disputes through arbitration, preventing customers from seeking redress through the court system.
  • Though arbitrators are supposed to be neutral referees, companies generally have the sole right to select the arbitrator, a process that could introduce bias into the process by making arbitrators beholden to these companies.
  • Some contracts require consumers to pay substantially more to participate in arbitration proceedings than in court proceedings.

Among the abuses found by the FTC that are related to the court systems of many states:

  • Lawsuits based on insufficient evidence.
  • Judicial processes that fail to properly notify consumers of lawsuits that are filed against them, leading to an outsized number of default judgments lodged against consumers.
  • Debt collectors who improperly garnish Social Security payments and other exempt funds from bank accounts.
  • Lawsuits or threatened lawsuits filed long after the statute of limitations has expired.

"The current situation is untenable," FTC Commissioner Julie Brill said in a statement released in conjunction with the report.

At the same time, however, the FTC kicked most of the problem down to the state level, calling on legislatures to eliminate loopholes in state laws and otherwise tighten consumer protection clauses when it comes to debt collections.

In the report, "Repairing a Broken System: Protecting Consumers in Debt Collection Litigation and Arbitration," the FTC called on states to make it easier for consumers to defend themselves in the court system and avoid default judgments, to require debt collectors to disclose more details about the alleged debt, and to tighten and enforce debt-related statutes of limitations.

The agency also recommended that all consumers be given a clear choice between arbitrating disputed debts and taking their cases to court, that arbitrations be completely free of bias or perceived bias, and that the entire arbitration process be rendered more transparent.

In fact, quite a bit of the commission's attention was focused on arbitration, a debt-collection process employed by credit card issuers and many other companies nearly universally -- until last July.

Advocates of the procedure historically hailed it as being fair and relatively swift. In addition, they said, having these disputes resolved by an independent referee kept the court system from becoming even more bogged down, especially during economic hard times.

But it turned out that many arbitrators weren't all that independent.

On July 14, 2009, Minnesota Attorney General Lori Swanson filed a lawsuit accusing the National Arbitration Forum -- one of the largest of such firms, at the time handling more than 200,000 disputes a year -- of being affiliated with a large debt-collection agency and being too cozy with credit card issuers.

(A 2007 study by Public Citizen, a consumer rights organization, found that consumers lost 94 percent of the cases filed by MBNA, now owned by Bank of America, and assigned to the NAF.)

The commission concludes that the current system for resolving consumer debts is broken, because consumers are not adequately protected in either debt collection litigation or arbitration.

-- FTC report, "Repairing a Broken System"

Within days of the filing of that Minnesota lawsuit, the NAF capitulated, agreeing not to take any new cases from credit card companies, banks and many other consumer-related firms.

Soon, the American Arbitration Association (AAA), another large firm, said it was suspending its consumer debt arbitration programs.

At the same time, several large banks announced that they would stop filing arbitration claims against consumers or stop enforcing arbitration clauses, and, in some cases, would eliminate the clauses from their contracts.

Now, a year later, arbitration clauses are found in fewer consumer contracts, but they still survive in many others.

Richard Naimark, a senior vice president of the AAA, said Wednesday that his group participated in the FTC's study and was generally satisfied with the result. As part of its investigation, the federal agency conducted public roundtable sessions in Chicago, San Francisco and Washington, D.C.

"We have been in regular consultation with the FTC all the way along," said Naimark, who testified during two of the three roundtable sessions. "We subsequently organized a task force to deal with all of these issues in terms of due process protocols."

When it comes to the arbitration of consumer debts, Naimark does quibble with the FTC's assertion that the system is "broken."

"The starkness of the language of the title [and the conclusion] is, to a certain degree, in contrast with the careful and balanced wording of the report," he said.

As for the temporary moratorium placed by his firm nearly a year ago on credit card and other consumer debt arbitrations, Naimark said it remains in place.

But the final word has not yet been written on this subject, he said.

The arbitration of consumer debt dispute could return, if proper protections are in place.

My inclination is not to use the word 'broken' since that form of arbitration is quite recent," Naimark said. "I would say it hasn't matured or developed enough yet. There is an open question of whether it can."

That worries Brill, the FTC commissioner.

She urged Congress to enact a ban on the mandatory arbitration of credit card and other consumer debt collection disputes. She said it should remain in place until the process can demonstrate that it is fair, affordable and transparent to all involved.

"While I appreciate the industry's sensitivity to the serious problems with mandatory pre-dispute arbitration of consumer debt collection matters, and its attempt to address these concerns through this self-imposed moratorium," Brill said, "the debt collection industry is, of course, free to lift that moratorium at any time and return to its old ways."

See related: More credit card issuers ditch mandatory binding arbitration, Credit card binding arbitration system crumbling, Leading arbitration firm quits the business after lawsuit, Minnesota Attorney General files suit against arbitration firm

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Updated: 01-17-2018