With 2010 upon us, it is a good time to review new legal changes on the horizon and some trends that are likely to continue – both of which every credit counseling agency should pay close attention. Below, we first take a brief look back at the past decade and the current state of the industry. Then, we identify several proposed and final regulatory actions and other legal trends relevant to consumer credit counseling agencies.
What a Difference a Few Years Make
As the decade draws to a close, it is apparent that credit counseling agencies are in a new era of acceptance. As credit and budget counselors, housing counselors, bankruptcy counselors, and providers of financial literacy education, the industry is well-positioned to provide consumers with services that are relevant and in high demand.
Many may look back on the early part of this past decade as tumultuous and uncertain. But, if the trend continues, one will be able to look back at the later half of the decade and recognize the time as one in which credit counseling agencies’ work truly became a recognized and accepted part of solving consumer financial issues. This is a significant development, and one that certainly came with a lot of hard work by agencies and their counselors.
The praise and support credit counseling agencies are now receiving from individuals and government organizations in record numbers would have been unthinkable just a few years ago. Indeed, just five or ten years ago, the major issues confronting the industry were a few “rotten apples,” leading to what some would say was unfair criticism of an entire industry. As you will recall, the result was Congressional hearings, the Internal Revenue Service (“IRS”) compliance initiative, state regulators rushing to back-fill and regulate debt management plans (“DMPs”), and the attention of private plaintiffs seeking to tear away at the services provided to consumers in financial distress regardless of the character of the organization providing the services. The industry and individual agencies had to work hard to adapt to these challenges.
Now, the diversity of services offered by credit counseling agencies makes them wellpositioned to serve the needs of their communities and the broader population; the diversity of services offered means new demographics of consumers can be helped. Many agencies are offering multiple types of counseling and taking full advantage of the various government-sponsored and –subsidized programs, working in conjunction with public and private organizations to maximize the number of consumers that are exposed to their service offerings.
Accompanying this positive change, there has been no shortage of legal and regulatory compliance issues and economic changes to take into account. But changes in the treatment of credit and debt have resulted in new opportunities as well. Without a doubt, the legal and regulatory landscape in this area will continue to evolve in the future. The challenge in the coming decade will be to continue to move beyond the issues of the past and to stay out in front of the current challenges, while continuing to provide relevant and timely services needed by consumers.
Now, a few specific developments and trends to be on the lookout for:
EOUST Credit Counseling and Debtor Education Final Rules
In December 2009, the U.S. Department of Justice Executive Office for the United Trustees (“EOUST”) released its regulatory plan outlining its plans for the next six months and beyond on regulatory matters. The EOUST submission states that it anticipated releasing the final rule on the application procedures for approval of nonprofit budget and credit counseling agencies before the end of December 2009. Separately, EOUST’s submission states that it anticipates releasing a final rule on the application procedures to be used for approval of providers of a personal financial management instructional course by the end of January 2010.
Although there may be further delay, whenever each one is released, it will have an impact on bankruptcy counseling and education providers (and potentially on bankruptcy attorneys as well). Further, each of the two final rules is expected to differ in certain respects from earlier proposals in response to comments that were submitted and EOUST’s own observations.
In the meantime, credit counseling agencies and debtor education providers remain subject to the July 5, 2006 Interim Final Rule until the each of the final rules takes effect.
For additional information, see EOUST Issues Debtor Education Notice of Proposed Rulemaking, available at http://www.venable.com/eoust-issues-debtor-educationnotice- of-proposed-rulemaking-11-15-2008/; U.S. Trustee Program Begins Approval Process for Credit Counseling Agencies under New Bankruptcy Law, available at http://www.venable.com/us-trustee-program-begins-approval-process-for-creditcounseling- agencies-under-new-bankruptcy-law-06-30-2005/.
Federal Trade Commission Proposed Amendments to the Telemarketing Sales Rule to Address Debt Relief Services
According to the Federal Trade Commission (“FTC” or “Commission”) regulatory plan, FTC staff anticipates sending a recommendation to the Commission on the proposed amendments to the Telemarketing Sales Rule (“TSR”) to address the sale of debt relief services by April 2010.
The proposed amendments to the TSR were announced on July 30, 2009. As proposed, the amendments would cover a broad range of services including: for-profit credit counselors; debt settlement companies that promise to obtain substantially reduced lump-sum settlements of consumers’ debts; and debt negotiators that offer to obtain interest rate reductions or other concessions to lower consumers' monthly payments. The proposed changes would not directly apply to bona fide nonprofit organizations, but the standards established may set a new benchmark that others will look to for guidance.
The proposed amendments would: define the term “debt relief service;” ensure that, regardless of the medium through which such services are initially advertised, telemarketing transactions involving debt relief services would be subject to the TSR; mandate certain disclosures and prohibit misrepresentations in the telemarketing of debt relief services; and prohibit any entity from requesting or receiving payment for debt relief services until such services have been fully performed and documented to the consumer. The comment period, as extended, closed on October 26, 2009. A public forum was held on November 4, 2009.
For additional information, see FTC Hosts Public Forum on Proposed Amendments to the TSR, available at http://www.venable.com/ftc-hosts-public-forum-on-proposed-debtrelief- amendments-to-the-telemarketing-sales-rule/.
Federal Trade Commission Rulemaking on Mortgage Loans
Based also on its regulatory plan, the FTC staff anticipated that the Commission will announce notice of proposed rulemakings on both (1) mortgages assistance relief services; and (2) mortgage acts and practices, by the end of 2009 (although this appears to now be pushed into 2010). This rulemaking was initiated in two parts earlier this year as a result of specific statutory authority granted by Congress:
- On June 1, 2009, the Commission issued an advanced notice of public rulemaking (“ANPRM”) – the Mortgage Acts and Practices Rulemaking – that addressed activities that occur throughout the life cycle of a mortgage loan (i.e., practices with regard to mortgage loan advertising and marketing, origination, appraisals, and servicing).
- Another ANPRM – the Mortgage Assistance Relief Services Rulemaking – addressed the practices of entities (other than mortgage servicers) that offer assistance to consumers in dealing with owners or servicers of their loans to modify them or avoid foreclosure.
During the summer months, the Commission sought public comment with regard to the unfair and deceptive acts and practices that should be prohibited or restricted pursuant to any rules adopted in this proceeding. The proposed rules would not apply to bona fide nonprofits (as least right now based on the current status of the FTC’s jurisdictional reach), but the rules will impact the landscape for mortgage related counseling services, as well as likely establish a benchmark for disclosures and other consumer protections.
For additional information, see Federal Trade Commission Rulemaking Targeting Foreclosure Assistance and Mortgage Practices; Opportunities for Housing Counseling Agencies to Comment, available at http://www.venable.com/federal-trade-commissionrulemaking- targeting-foreclosure-assistance-and-mortgage-practices-opportunitiesfor- housing-counseling-agencies-to-comment-06-19-2009/.
Mortgage SAFE Act Licensing
On December 15, 2009, the U.S. Department of Housing and Urban Development (“HUD”) published the long-awaited proposed rule (“Proposed Rule”) that would set the minimum standards that states must meet to comply with the federal Secure and Fair Enforcement Mortgage Licensing Act of 2008 (“SAFE Act”) in licensing loan originators. (Note that the SAFE Act licensing requirements apply to individuals, not their employers.) This Proposed Rule also would set forth clarifications and interpretations of the SAFE Act that HUD previously provided to the public through published commentary. The rulemaking will be open to public comment until February 16, 2010.
Among the important clarifications that this rule proposes to make are definitions of what activities are included in “tak[ing] a residential mortgage loan application” and “offer[ing] or negotiate[ing] terms of a residential mortgage loan,” and what it means to do so “for compensation or gain.” The meanings of these terms largely determine whether or not a particular individual is subject to state loan origination licensing requirements – including mortgage servicers, loan modification specialists, and housing counselors.
To the extent an individual is not “taking a loan application” or “negotiating loan terms” with the prospective borrower, it is questionable that the person would be subject to the SAFE Act as enacted by Congress. But HUD views these terms broadly in the Proposed Rule and, to date, some state laws (and the state regulators interpreting them) take a more stringent position. Moreover, HUD makes clear that its inclination is to require licensing – at least in certain instances – for activity related to loan modification and third-party loan modification specialists. State licensing requirements generally go into effect on July 31, 2010.
For additional information, see HUD Seeks Comment on SAFE Mortgage Licensing Act Responsibilities, available at http://www.venable.com/hud-seeks-comment-on-safemortgage- licensing-act-responsibilities-housing-counselors-in-the-crosshairs-12-22- 2009/.
Congressional Consideration of Consumer Financial Protection Act and Expanded Authority for the FTC
Congress is considering a number of bills that would revise how financial firms and financial activities are regulated. This includes the creation of a Consumer Financial Protection Agency that would regulate the consumer protection aspects of financial products and services for consumers, including potentially credit counseling. A version of the proposal favored by the Obama administration, the Consumer Financial Protection Agency Act, passed the House narrowly in the fall of 2009. It is expected that the Senate will consider its (modified) version of the legislation sometime in 2010. In addition to consumer financial products and services, the House version would expand the FTC’s rulemaking authority and promote consumer financial literacy. Nothing is set in stone yet, but federal regulation of credit counseling agencies (irrespective of nonprofit and tax-exempt status) is a strong possibility if any of the current proposals were to be approved.
State Debt Adjusting, Other Laws, and Litigation
For decades, credit counseling agencies were governed by a myriad of state laws and regulations. In 2009, a number of states considered and passed new or revised existing laws to regulate credit counseling agencies. Now only one state requires tax-exempt status to provide DMPs (several more require nonprofit corporate status). However, virtually across the board, all of these changes were designed to expand the regulation of credit counseling agencies and debt management plan providers. States that are expected to have activity in 2010 include California, Florida, Illinois, Kentucky, New York, New Jersey, and others. In addition, in July 2010, the Uniform-Debt Management Services Act takes effect in Nevada and Tennessee. In addition, over two dozens states have enacted laws to regulate mortgage foreclosure consultants and all states have laws to regulate loan origination. Finally, if the events of the last few years in this area tell us anything, it is that these laws and regulations will continue to be vigorously enforced by state regulators and state Attorneys General, as well as private plaintiffs.
IRS Audits / Compliance
While the IRS’ credit counseling audit initiative will likely come to a close in the early part of the coming decade, the IRS’ enforcement of the Internal Revenue Code (the “Code”) and its intense scrutiny of credit counseling agencies likely will continue. The stakes are high for credit counseling agencies that are recognized as tax-exempt under Code Section 501(c) (3). This is especially true now with the surge in demand for housing counseling and various government grants, virtually all of which require 501(c)(3) tax-exempt status. Maintaining tax-exempt status has become critical to the survival of many credit counseling agencies. As a result, compliance with prohibitions on impermissible private benefit, private inurement, and Code Section 501(q), among other requirements, is essential.
In addition, during 2009, the IRS has begun to get serious about its enforcement of the socalled “intermediate sanctions” law. Specifically, Code Section 4958 of the Code imposes an excise tax on excess benefit transactions between a disqualified person and an applicable tax-exempt organization. The disqualified person who benefits from an excess benefit transaction is liable for the excise tax (and is required to pay back the “excess” amount to the organization). An organization manager also may be liable for an excise tax on the excess benefit transaction.
Prior to 2008, we were aware of no IRS examinations of credit counseling agencies that resulted in an assessment of intermediate sanctions, despite the many well-publicized incidents of bad actors receiving excessive benefits. However, over the course of the last year, we have seen the IRS propose the assessment of intermediate sanctions in several examinations, including examinations that resulted in “no change” letters. Moreover, the IRS has not limited the proposed assessments to situations involving clearly excessive amounts; rather, we have seen the Service propose sanctions for excess benefit transactions as low as $700 and others that have exceeded millions of dollars. As such, organizations should continue to exercise vigilance in their transactions – including making proactive use of compensation studies to establish, in advance, the fair market value of executive compensation and other payments to disqualified persons – and consider undergoing “mock IRS audits” to prevent surprises during any later actual IRS audit.
Private and Class Action Lawsuits
Private lawsuits including class action lawsuits that accuse credit counseling agencies of defrauding consumers continue to be a risk and are expected to rise. Not surprisingly, when credit counseling agency services expand beyond solely budget and debt counseling, there are new areas of concerns that plaintiffs’ attorneys will identity. Areas such as loan modification and foreclosure-related counseling services and reverse mortgage housing counseling have become just as well known as DMPs. Meanwhile, traditional areas of focus, such as cases brought under the Credit Repair Organizations Act (“CROA”) and state credit repair statutes, likely will continue. Although, under CROA and other statutes, plaintiffs’ efforts at recovery should be stymied to the extent that the credit counseling agency (doing exactly what it was supposed to do) is exempt by virtue of its nonprofit, taxexempt status, strong compliance programs, adequate insurance coverage, and a record of exemplary service can help to minimize these risks and ultimately survive a private lawsuit.
While future developments in this area are subject to change and can be affected by a number of factors – including, importantly, proactive industry advocacy on both the federal and state legislative and regulatory fronts – credit counseling agencies should take pause and reflect on how they may be impacted in the coming year. On the one hand, we know many of the potential pitfalls to avoid and developments to anticipate, as described above. On the other hand, changes on the horizon could mean potential additional adjustments to the legal and compliance framework for credit counseling agencies, as well as new opportunities.