In a recent issue of the L.A. Times, Liz Weston compared bankruptcy and debt settlement as ways to deal with overwhelming debt.  Her column was good, but given the limited space she had, it was a bit brief.  In this post I will expand on her discussion.

I.  Debt Settlement

The idea behind debt settlement is pretty simple:  You ask the creditor to accept less than you owe in full satisfaction of the debt.  You can do the negotiation yourself, or you can hire someone to negotiate on your behalf.

If the creditor agrees to lower the balance, you pay the reduced amount, either in one lump sum, or in a stream of payments.  Unless you have a friend or relative to help you, the lump sum approach isn’t too likely because if you had the lump sum the creditor would assume you could get more and would demand more.
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ZombieIn today’s LA Times, Sean Pyles wrote a nice summary of the problem of zombie debt.

He began with the observation that when the statute of limitations has passed on debt collection actions, creditors are estopped from suing you to collect.  However, I suspect that in the interest of saving columnar space, he elided over

I'm gonna offer you a jail cell you can't refuse.The National Association of Consumer Bankruptcy Attorneys (“NACBA”) has asked its members ― I am one ― to post the following warning on their blogs:

Telephone-Scam Soliciting Wire Transfers Prompts NACBA and Vermont Attorney General to Issue Consumer Warning

Across the country, consumers are falling prey to a new scam targeting people who

Yeah I can settle your debt for yaYou’ve got too much debt to ever pay off.  What can you do?  Some people facing gargantuan debt don’t want to avail themselves of bankruptcy, the most effective way of dealing with debt, and instead hire a debt settlement company to negotiate with their creditors.  The following exchange appeared in Liz Weston’s March 13, 2016 column in the L.A. Times (emphasis added):

Dear Liz:  My wife and I owe about $46,000 in credit card debt.  We are considering a debt consolidation plan in which our debt would be reduced to about $27,000.  According to what I’ve read and what’s included in the paperwork, any reduction in our debt may be reported to the IRS as income.  I’m assuming this would not only increase our tax burden but could result in the forfeiture of some of my Social Security benefits. Am I correct in these assumptions?

Answer: What you’re considering is debt settlement, not debt consolidation.  With debt consolidation, you get one loan to pay off other, smaller debts in full.  The right debt consolidation loan would offer a fixed interest rate and would allow you to pay off what you owe within three to five years.  Debt settlement, on the other hand, means you’re trying to get your creditors to accept less than what you owe.  Debt settlement typically requires that you stop making payments to your creditors, which will trash your credit scores and could lead to lawsuits.  You typically accrue interest, late fees and penalties that could offset or even wipe out any savings the debt-settlement company is promising you.  And the fact that the company seems to be promising you specific results, such as a $19,000 reduction in your debt, is a red flag all on its own.  Your creditors don’t have any obligation to settle with you, and a debt settlement company shouldn’t promise that it can make the debt disappear.  To answer your specific questions: Yes, any debt that is “forgiven” in a settlement is considered income that can be taxed.  It isn’t considered earned income, however, and so doesn’t trigger the Social Security earnings test that can reduce your benefits.  You’d be wise to read what the Federal Trade Commission and the Consumer Financial Protection Bureau have to say about debt settlement on their sites.  In the vast majority of cases, you’re better off avoiding this option.  Pay off what you owe if you can. If you can’t, explore a debt management plan offered by a nonprofit credit counselor and also make an appointment with a bankruptcy attorney so you understand all your options.

Brava Liz!  (Brava is the feminine of bravo.)  Exactly how will a debt settlement company be able to force a creditor to reduce a debt from $46,000 to $27,000?  What power do they have over the creditor?  Answer:  none; not even the Vulcan death grip.

Occasionally I come across stories of debt settlement companies that reinforce my opinion of them.  A recent one involved an entity that had fleeced one of my clients.  Over an eighteen month period my client paid them almost $9,000 for debt settlement services.  Then one of the creditors filed suit against my client.  At that point my client hired me to do a bankruptcy.  The bankruptcy was successful, and my client emerged debt-free. 
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Frauds R Us bannerAlthough I have written at length on debt collection scams, I am still amazed by the fact that they continue to proliferate.  You’d think the word would get out far enough so that people would be on their guard against these Frauds-R-Us franchises.  Not so.

In yesterday’s (January 22, 2016) L.A. Times, David Lazarus discussed the recent proliferation of scam calls on cell phones.  He quoted Nadege Joly’s comment on the regular cell phone calls she receives from Scamway representatives:  “‘I get a scam call on my cellphone at least once a week,’ she told me.  ‘Each time, they say I owe them money and I’m going to get in trouble if I don’t pay.’”  Nadege’s experience is very common.One interesting twist in the tactics this wave of crooks uses is a tax scam:

An especially popular racket last year was the IRS scam, which involved a call supposedly from the tax agency and a threat of arrest if overdue taxes weren’t immediately paid.  The IRS said this week that such calls are now the most common tax scam. Since 2013, it said, at least 5,000 victims have been bilked out of more than $26 million.

Holy fake tax liability, Batman!  5,000 victims paid out $26,000,000!  That’s an average of $5,200 per victim.  That’s a 16% down payment on a bottle of 50-year old Macallan.
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Social Security checkI have written in great detail about the treatment of social security income in a bankruptcy case.  What happens outside of bankruptcy?  The answer is obvious:  It depends.

Well, that was a worthless answer, wasn’t it?  Not so fast.  What if I throw in some statutory authority?  And if you act right now, operators are standing by to give you a special deal on some case law!

It turns out that my apparently flippant answer, “It depends,” really is correct.  Let’s see why.

I.  What The Right Hand Giveth

The federal statute dealing with social security is the Social security Act (no big surprise there), which is Chapter 7 of Title 42 of the U.S. Code.   Among its many provisions is what appears to be a blanket protection of social security benefits from the depredations of all creditors except the IRS (with emphasis added):
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Many ― but not all ― debt collectors working for loan sharks are alleged humans who do the bidding of the dark side of the force.  I have written about abusive debt collectors several times, in unflattering terms.  It turns out that I’m not the only one who has noticed their abusive tactics.  The feds are paying attention too.

I.  The Abusive Tactics Epidemic

A.  Criminal Charges Against Collectors

Writing in the November 18, 2014, issue of the ABA Journal, Martha Neil reported:

A Georgia-based debt-collection company, its owner and six employees have been criminally charged in what is described by federal authorities as a $4.1 million national scheme that took advantage of more than 6,000 people.  U.S. Attorney Preet Bharara of Manhattan, who is overseeing the case, says a larger investigation of “an absolute epidemic of abusive debt-collection practices” is ongoing by the Consumer Financial Protection Bureau, the Federal Trade Commission, the Federal Bureau of Investigation and federal prosecutors in his own office.  This appears to be the first time these agencies have coordinated on such a probe, which could signal that a major enforcement effort is underway, reports CNN Money.  The Atlanta Journal-Constitution, Newsday (sub. req.) and Reuters also have stories.  “[R]uthlessly persistent” collectors at Williams, Scott & Associates in Norcross, Georgia, bullied thousands of people nationwide into paying millions between 2009 and 2014, sometimes even when they didn’t owe money, said Bharara.  Collectors falsely claimed affiliations with government agencies and threatened people with arrest or other enforcement action, he said.

Collectors lied!  I’m shocked, shocked.  Actually, I’m not shocked because I’ve had clients tell me that collectors have threatened to jail them for not paying a debt.

The FBI has an article about the Williams, Scott & Associates case, that provides much more detail about the scope of the abuse.  I mention this to emphasize the fact that the FBI really is interested in going after abusive collectors.  However, they cannot do so unless the victims report the abuse.  Therefore, if you’ve been told by a debt collector that you’re headed for jail unless you pay a debt, call the FBI and the U.S. Attorney’s Office, and tell them about it.  If enough people complain, they will act.
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