Telemarketing Sales Rule

Federal RegisterAug 10, 2010

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FEDERAL TRADE COMMISSION

16 CFR Part 310

Telemarketing Sales Rule

AGENCY:

Federal Trade Commission (“Commission” or “FTC”).

ACTION:

Final rule amendments.

SUMMARY:

In this document, the Commission adopts amendments to the Telemarketing Sales Rule (“TSR” or “Rule”) that address the telemarketing of debt relief services. These amendments define debt relief services, prohibit debt relief providers from collecting fees until after services have been provided, require specific disclosures of material information about offered debt relief services, prohibit specific misrepresentations about material aspects of debt relief services, and extend the TSR’s coverage to include inbound calls made to debt relief companies in response to general media advertisements. The amendments are necessary to protect consumers from deceptive or abusive practices in the telemarketing of debt relief services.

DATES:

These final amendments are effective on September 27, 2010, except for § 310.4(a)(5), which is effective on October 27, 2010.

ADDRESSES:

Requests for copies of these amendments to the TSR and this Statement of Basis and Purpose (“SBP”) should be sent to: Public Reference Branch, Federal Trade Commission, 600 Pennsylvania Avenue NW, Room 130, Washington, D.C. 20580. The complete record of this proceeding is also available at that address. Relevant portions of the proceeding, including the final amendments to the TSR and SBP, are available at (

http://www.ftc.gov

FOR FURTHER INFORMATION CONTACT:

Alice Hrdy, Allison Brown, Evan Zullow, or Stephanie Rosenthal, Attorneys, Division of Financial Practices, Bureau of Consumer Protection, Federal Trade Commission, 600 Pennsylvania Avenue NW, Room NJ-3158, Washington, D.C. 20580, (202) 326-3224.

SUPPLEMENTARY INFORMATION:

I. Overview and Background

A. Overview

This document states the basis and purpose for the Commission’s decision to adopt amendments to the TSR that were proposed and published for public comment on August 19, 2009.

After careful review and consideration of the entire record on the issues presented in this rulemaking proceeding, including public comments submitted by 321 interested parties,

the Commission has decided to adopt, with several modifications, the proposed amendments to the TSR intended to curb deceptive and abusive practices in the telemarketing of debt relief services. The Rule provisions will: (1) prohibit debt relief service providers

from collecting a fee for services until a debt has been settled, altered, or reduced; (2) require certain disclosures in calls marketing debt relief services; (3) prohibit specific misrepresentations about material aspects of the services; and (4) extend the TSR’s coverage to include inbound calls made to debt relief companies in response to general media advertisements.

TSR Proposed Rule,

74 FR 41988 (Aug. 19, 2009). The TSR is set forth at 16 CFR 310.

The comments and other material placed on the rulemaking record are available at (

http://www.ftc.gov/os/comments/tsrdebtrelief/index.shtm

). In addition, a list of commenters cited in this SBP, along with their short citation names or acronyms used throughout the SBP, follows Section V of this SBP. When a commenter submitted more than one comment, the comment is also identified by date.

Throughout the SBP, the Commission uses the term “providers” to refer to “sellers and telemarketers” as defined in the TSR. “Seller” is defined as “any person who, in connection with a telemarketing transaction, provides, offers to provide, or arranges for others to provide goods or services to the customer in exchange for consideration.” 16 CFR 310.2(aa). “Telemarketer” is defined as “any person who, in connection with telemarketing, initiates or receives telephone calls to or from a customer or donor.” 16 CFR 310.2(cc).

Beginning on September 27, 2010, sellers and telemarketers of debt relief services will be required to comply with the amended TSR requirements, except for § 310.4(a)(5), the advance fee ban provision, which will be effective on October 27, 2010.

B. The Commission’s Authority Under the TSR

Enacted in 1994, the Telemarketing and Consumer Fraud and Abuse Prevention Act (“Telemarketing Act” or “Act”) targets deceptive and abusive telemarketing practices, and directed the Commission to adopt a rule with anti-fraud and privacy protections for consumers receiving telephone solicitations to purchase goods or services.

Specifically, the Act directed the Commission to issue a rule defining and prohibiting deceptive and abusive telemarketing acts or practices.

In addition, the Act mandated that the FTC promulgate regulations addressing some specific practices, which the Act designated as “abusive.”

The Act also authorized state attorneys general or other appropriate state officials, as well as private persons who meet stringent jurisdictional requirements, to bring civil actions in federal district court.

15 U.S.C. 6101-6108. Subsequently, the USA PATRIOT Act, Pub. L. No. 107-56, 115 Stat. 272 (Oct. 26, 2001), expanded the Telemarketing Act’s definition of “telemarketing” to encompass calls soliciting charitable contributions, donations, or gifts of money or any other thing of value.

15 U.S.C. 6102(a).

15 U.S.C. 6102(a)(3).

15 U.S.C. 6103, 6104.

Pursuant to the Act’s directive, the Commission promulgated the original TSR in 1995 and subsequently amended it in 2003 and again in 2008 to add, among other things, provisions establishing the National Do Not Call Registry and addressing the use of pre-recorded messages.

The TSR applies to virtually all “telemarketing,” defined to mean “a plan, program, or campaign which is conducted to induce the purchase of goods or services or a charitable contribution, by use of one or more telephones and which involves more than one interstate telephone call.”

The Telemarketing Act, however, explicitly states that the jurisdiction of the Commission in enforcing the Rule is coextensive with its jurisdiction under Section 5 of the Federal Trade Commission Act (“FTC Act”).

As a result, some entities and products fall outside the scope of the TSR.

TSR and Statement of Basis and Purpose and Final Rule (“TSR Final Rule”)

, 60 FR 43842 (Aug. 23, 1995);

Amended TSR and Statement of Basis and Purpose (“TSR Amended Rule”)

, 68 FR 4580 (Jan. 29, 2003);

Amended TSR and Statement of Basis and Purpose (“TSR Amended Rule 2008”),

73 FR 51164 (Aug. 29, 2008).

16 CFR 310.2(cc) (using the same definition as the Telemarketing Act, 15 U.S.C. 6106(4)). The TSR excludes from the definition of telemarketing:

the solicitation of sales through the mailing of a catalog which: contains a written description or illustration of the goods or services offered for sale; includes the business address of the seller; includes multiple pages of written material or illustrations; and has been issued not less frequently than once a year, when the person making the solicitation does not solicit customers by telephone but only receives calls initiated by customers in response to the catalog and during those calls takes orders only without further solicitation.

Id.

15 U.S.C. 6105(b).

See

15 U.S.C. 44, 45(a)(2), which exclude or limit from the Commission’s jurisdiction several types of entities, including bona fide nonprofits, bank entities (including, among others, banks, thrifts, and federally chartered credit unions), and common carriers, as well as the business of insurance.

In addition, the Rule wholly or partially exempts several types of calls from its coverage. For example, the Rule generally exempts inbound calls placed by consumers in response to direct mail or general media advertising.

However, there are certain “carve-outs” from some of the TSR’s exemptions that limit their reach, such as the carve-out for calls initiated by a customer in response to a general advertisement relating to investment opportunities.

16 CFR 310.6(b)(5)-(6). Moreover, the Rule exempts from the National Do Not Call Registry provisions calls placed by for-profit telemarketers to solicit charitable contributions; such calls are not exempt, however, from the “entity-specific” do not

call provisions or the TSR’s other requirements. 16 CFR 310.6(a).

See, e.g.,

16 CFR 310.6(b)(5)-(6) (provisions related to general advertisements and direct mail solicitations).

The TSR is designed to protect consumers in a number of different ways. First, the Rule includes provisions governing communications between telemarketers and consumers, requiring certain disclosures and prohibiting material misrepresentations.

Second, the TSR requires telemarketers to obtain consumers’ “express informed consent” to be charged on a particular account before billing or collecting payment and, through a specified process, to obtain consumers’ “express verifiable authorization” to be billed through any payment system other than a credit or debit card.

Third, the Rule prohibits as an abusive practice requesting or receiving any fee or consideration in advance of obtaining any credit repair services;

recovery services;

or offers of a loan or other extension of credit, the granting of which is represented as “guaranteed” or having a high likelihood of success.

Fourth, the Rule prohibits credit card laundering

and other forms of assisting and facilitating sellers or telemarketers engaged in violations of the TSR.

Fifth, the TSR, with narrow exceptions, prohibits telemarketers from calling consumers whose numbers are on the National Do Not Call Registry or who have specifically requested not to receive calls from a particular entity.

Finally, the TSR requires that telemarketers transmit to consumers’ telephones accurate Caller ID information

and places restrictions on calls made by predictive dialers

and those delivering pre-recorded messages.

The TSR requires that telemarketers soliciting sales of goods or services promptly disclose several key pieces of information in an outbound telephone call or an internal or external upsell: (1) the identity of the seller; (2) the fact that the purpose of the call is to sell goods or services; (3) the nature of the goods or services being offered; and (4) in the case of prize promotions, that no purchase or payment is necessary to win. 16 CFR 310.4(d);

see also

16 CFR 310.2(ee) (defining “upselling”). Telemarketers also must disclose in any telephone sales call the cost of the goods or services and certain other material information. 16 CFR 310.3(a)(1).

In addition, the TSR prohibits misrepresentations about, among other things, the cost and quantity of the offered goods or services. 16 CFR 310.3(a)(2). It also prohibits making false or misleading statements to induce any person to pay for goods or services or to induce charitable contributions. 16 CFR 310.3(a)(4).

16 CFR 310.4(a)(7); 16 CFR 310.3(a)(3).

16 CFR 310.4(a)(2).

16 CFR 310.4(a)(3). As the Commission has previously explained, [in] recovery room scams . . . a deceptive telemarketer calls a consumer who has lost money, or who has failed to win a promised prize, in a previous scam. The recovery room telemarketer falsely promises to recover the lost money, or obtain the promised prize, in exchange for a fee paid in advance. After the fee is paid, the promised services are never provided. In fact, the consumer may never hear from the telemarketer again.

TSR Final Rule

, 60 FR at 43854.

16 CFR 310.4(a)(4);

see TSR Amended Rule,

68 FR at 4614 (finding that these three services were “fundamentally bogus”).

16 CFR 310.3(c).

16 CFR 310.3(b).

16 CFR 310.4(b)(iii).

16 CFR 310.4(a)(7).

16 CFR 310.4(b)(1)(iv) (a call abandonment safe harbor is found at 16 CFR 310.4(b)(4)).

16 CFR 310.4(b)(1)(v).

C. Overview of Debt Relief Services

Debt relief services have proliferated in recent years as the economy has declined and greater numbers of consumers hold debts they cannot pay.

A range of nonprofit and for-profit entities - including credit counselors, debt settlement companies, and debt negotiation companies - offer debt relief services, frequently through telemarketing. Thus, consumers with debt problems have several options for which they may qualify. Those who have sufficient assets and income to repay their full debts over time, if their creditors make certain concessions (

e.g.

, a reduction in interest rate), can enroll in a debt management plan with a credit counseling agency. On the other end of the spectrum, for consumers who are so far in debt that they can never catch up, declaring Chapter 13 or Chapter 7 bankruptcy might be the most appropriate course. Debt settlement is ostensibly designed for consumers who fall between these two options,

i.e.

, consumers who cannot repay their full debt amount, but could pay some percentage of it.

See, e.g.,

TASC (Oct. 26, 2009) at 7; NFCC at 2; Federal Reserve Board,

Charge-off and Delinquency Rates

(May 24, 2010),

available at

(

http://www.federalreserve.gov/releases/chargeoff/delallsa.htm

) (charting recent increase in credit card delinquency rate);

Debt Settlement: Fraudulent, Abusive, and Deceptive Practices Pose Risk to Consumers: Hearing on The Debt Settlement Industry: The Consumer’s Experience Before the S. Comm. on Commerce, Science, & Transportation,

111

Cong. at 1 (2010) (statement of Philip A. Lehman, Assistant Attorney General, North Carolina Department of Justice) (“NC AG Testimony”).

See

Weinstein (Oct. 26, 2009) at 8 (

see

attached Bernard L. Weinstein & Terry L. Clower,

Debt Settlement: Fulfilling the Need for An Economic Middle Ground

at 7 (Sept. 2009) (“Weinstein paper”)). It is not clear, however, how wide a “slice” of the debt-impaired population is suitable for debt settlement programs.

See

Summary of Communications (June 16, 2010) at 1 (according to industry groups, consumers who can afford to pay 1.5-2% of their debt amount each month should enter debt settlement). Moreover, even for those consumers for whom debt settlement might be appropriate, the practice of charging large advance fees makes it much less likely that those consumers can succeed in such a program. CFA at 9; CareOne at 4;

see

SBLS at 2-3.

Over the last several years, the Commission has addressed consumer protection concerns about debt relief services through law enforcement actions,

consumer education,

and outreach to industry and other relevant parties.

The brief description of the debt relief services industry in the next section is based upon information in the record, the enforcement activities of the FTC and the states, and independent research by Commission staff.

See

List of FTC Law Enforcement Actions Against Debt Relief Companies, following Section V of the SBP, for a list of cases that the FTC has prosecuted since 2003 (“FTC Case List”). In addition, as detailed in the subsequent List of State Law Enforcement Actions Against Debt Relief Companies (“State Case List”), state law enforcement agencies have brought at least 236 enforcement actions against debt relief companies in the last decade.

See, e.g.,

FTC,

Settling Your Credit Card Debts

(2010); FTC,

Fiscal Fitness: Choosing a Credit Counselor

(2005); FTC,

For People on Debt Management Plans: A Must-Do List

(2005); FTC,

Knee Deep in Debt

(2005).

In September 2008, the Commission held a public workshop entitled “Consumer Protection and the Debt Settlement Industry” (“Workshop”), which brought together stakeholders to discuss consumer protection concerns associated with debt settlement services, one facet of the debt relief services industry. Workshop participants also debated the merits of possible solutions to those concerns, including the various remedies that were subsequently included in the proposed rule. An agenda and transcript of the Workshop are available at (

http://www.ftc.gov/bcp/workshops/debtsettlement/index.shtm

). Public comments associated with the Workshop are available at (

http://www.ftc.gov/os/comments/debtsettlementworkshop/index.shtm

). As discussed below, in November 2009, the Commission held a public forum on issues specific to the rulemaking proceeding.

A more detailed description of the history and evolution of these different forms of debt relief can be found in Section II of the Notice of Proposed Rulemaking in this proceeding.

1. Credit Counseling Agencies

Credit counseling agencies (“CCAs”) historically were nonprofit organizations that worked as liaisons between consumers and creditors to negotiate “debt management plans” (“DMPs”). DMPs are monthly payment plans for the repayment of credit card and other unsecured debt, enabling consumers to repay the full amount owed to their creditors under renegotiated terms that make repayment less onerous.

To be eligible for a DMP,

a consumer generally must have sufficient income to repay the full amount of the debts, provided that the terms are adjusted to make such repayment possible. Credit counselors typically also provide educational counseling to assist consumers in developing manageable budgets and avoiding debt problems in the future.

GP (Oct. 22, 2009) at 2; Cambridge (Oct. 26, 2009) at 1. Each creditor determines what, if any, repayment options to offer the consumer based on

the consumer’s income and total debt load. Repayment options, known as “concessions,” include reduced interest rates, elimination of late or over limit fees, and extensions of the term for repayment.

GP (Oct. 22, 2009) at 2; Davis at 2; CCCS NY at 2; FECA (Oct. 26, 2009) at 2-3; DebtHelper at 1; Cambridge (Oct. 26, 2009) at 1 (“Roughly 85% of the individuals who contact Cambridge [a credit counseling agency] simply have questions about a particular aspect of their finances or wouldn’t qualify for creditor concessions due to too much or too little income. Nevertheless, they receive the same financial analysis and Action Plan offered to Cambridge’s DMP clients, and are also offered ongoing counseling, educational guides and web resources, free of charge.”). In fact, Section 501(c)(3) of the Internal Revenue Code (“IRC”), 26 U.S.C. 501(c)(3), dictates that nonprofits must provide a substantial amount of free education and counseling to the public and prohibits them from refusing credit counseling services to a consumer if the consumer cannot pay. FECA (Oct. 26, 2009) at 4.

Nonprofit CCAs generally receive funding from two sources. First, consumers typically pay for their services: usually $25 to $45 to enroll in a DMP, followed by a monthly charge of roughly $25.

The second source of funding is creditors themselves. After a consumer enrolls in a DMP, the consumer’s creditors often pay the CCA a percentage of the monthly payments the CCA receives. In the past, this funding mechanism, known as a “fair share” contribution, has provided the bulk of a nonprofit CCA’s operating revenue, but these agencies now typically receive less than 10% of their revenue from such contributions.

Cambridge (Oct. 26, 2009) at 1; NWS (Oct. 22, 2009) at 6 (

see

attached Hasnain Walji,

Delivering Value to Consumers in a Debt Settlement Program

at 6 (Oct. 16, 2009) (“Walji paper”)) (the average account set up fee is $25 and monthly maintenance fee is $15);

see also

Cards & Payments, Vol. 22, Issue 2,

Credit Concessions: Assistance for Borrowers on the Brink

(Feb. 1, 2009) (nonprofit agencies’ counseling fees average about $25 per month); Miami Herald,

Credit Counselors See Foreclosures on the Rise,

July 13, 2008, (CCAs charge an initial fee of $25 and a $25 monthly fee).

These fees are often limited by state law.

See

e.g.

, Me. Rev. Stat. Ann. Tit. 17, § 701, et seq., tit. 32 § 6171, et seq. (limiting fees to $75 for set-up and $40 monthly charge); Md. Code Ann. § 12-901 et seq. (limiting fees to $50 consultation fee and the lesser of $40 per month or $8 per creditor per month); Ill. Com. Stat. Ann., § 205 ILCS 665/1 et seq. (limiting fees to an initial counseling fee of $50, provided the average initial counseling fee does not exceed $30 per debtor for all debtors counseled, and $50 per month for each debtor, provided the average monthly fee does not exceed $30 per debtor for all debtors counseled); N.C. Gen. Stat. § 14-423 et seq. (limiting fees to $40 for set-up and 10% of the monthly payment disbursed under the DMP, not to exceed $40 per month).

GP (McNamara), Transcript of Public Forum on Debt Relief Amendments to the TSR (“Tr.”), at 77-78; RDRI at 2 (creditor fair share has fallen to 4% to 5% of consumer debt amounts and in some cases has been eliminated); NWS (Oct. 22, 2009) at 5 (

see

attached Walji paper at 5) (fair share is 4% to 10%);

see also

National Consumer Law Center, Inc. & Consumer Federation of America,

Credit Counseling in Crisis: The Impact on Consumers of Funding Cuts, Higher Fees and Aggressive New Market Entrants

at 10-12 (April 2003); NFCC (Binzel), Transcript of “Consumer Protection and the Debt Settlement Industry” Workshop, September 2008 (“Workshop Tr.”) at 37;

but see

JH (Oct. 24, 2009) at 8 (without citation, the commenter states that CCAs receive 22.5% of the total amount collected from each consumer).

Over the past decade, a number of larger CCAs entered the market. Many of these CCAs obtained nonprofit status from the Internal Revenue Service. Other CCAs openly operated as for-profit companies. In response to illegal practices by some of these new entrants, the FTC and state attorneys general brought a number of enforcement actions challenging these practices.

Specifically, since 2003, the Commission has brought six cases against credit counseling entities for deceptive and abusive practices. In one of these cases, the FTC sued AmeriDebt, Inc., at the time one of the largest CCAs in the United States.

The defendants in these cases allegedly engaged in several common patterns of deceptive conduct in violation of Section 5 of the FTC Act.

First, most made allegedly deceptive statements regarding their nonprofit nature.

Second, they allegedly made frequent misrepresentations about the benefits and likelihood of success consumers could expect from their services. These included false promises to provide counseling and educational services

and overstatements of the amount or percentage of interest charges a consumer might save.

Third, the Commission alleged that these entities misrepresented material information regarding their fees, including making false claims that they did not charge upfront fees

or that fees were tax deductible.

In addition to allegedly violating the FTC Act, some of these entities were engaging in outbound telemarketing and allegedly violating the TSR, particularly the Rule’s disclosure requirements and prohibitions of misrepresentations, as well as its provisions on certain abusive practices, including violations of the National Do Not Call Registry provision.

See

FTC and State Case Lists,

supra

note 27.

FTC v. AmeriDebt, Inc.,

No. PJM 03-3317 (D. Md., final order May 17, 2006). On the eve of trial, the FTC obtained a $35 million settlement and thus far has distributed $12.7 million in redress to 287,000 consumers.

See

Press Release, FTC,

FTC’s AmeriDebt Lawsuit Resolved: Almost $13 Million Returned to 287,000 Consumers Harmed by Debt Management Scam

(Sept. 10, 2008), (

http://www.ftc.gov/opa/2008/09/ameridebt.shtm

See, e.g., FTC v. Debt Solutions, Inc.,

No. 06-0298 JLR (W.D. Wash. filed Mar. 6, 2006);

U.S. v. Credit Found. of Am.,

No. CV 06-3654 ABC(VBKx) (C.D. Cal. filed June 13, 2006);

FTC v. AmeriDebt, Inc.,

No. PJM 03-3317 (D. Md. filed Nov. 19, 2003).

See U.S. v. Credit Found. of Am.,

No. CV 06-3654 ABC(VBKx) (C.D. Cal. filed June 13, 2006);

FTC v. Integrated Credit Solutions, Inc.,

No. 06-806-SCB-TGW (M.D. Fla. filed May 2, 2006)

; FTC v. Express Consolidation

, No. 06-cv-61851-WJZ (S.D. Fla. Am. Compl. filed Mar. 21, 2007);

FTC v. Debt Mgmt. Found. Servs., Inc.

, No. 04-1674-T-17-MSS (M.D. Fla. filed July 20, 2004);

FTC v. AmeriDebt, Inc.,

No. PJM 03-3317 (D. Md. filed Nov. 19, 2003). Although the defendants in these cases had obtained IRS designation as nonprofits under IRC § 501(c)(3), they allegedly funneled revenues out of the CCAs and into the hands of affiliated for-profit companies and/or the principals of the operation. Thus, the FTC alleged defendants were “operating for their own profit or that of their members” and fell outside the nonprofit exemption in the FTC Act.

See

15 U.S.C. 44, 45(a)(2).

As the Commission has stated in testimony before the Permanent Subcommittee on Investigations of the Senate Committee on Governmental Affairs, significant harm to consumers may accrue from misrepresentations regarding an entity’s nonprofit status.

See Consumer Protection Issues in the Credit Counseling Industry:

Hearing Before the Permanent Subcomm. on Investigations, S. Comm. on Governmental Affairs

, 108

Cong. 2d Sess. (2004) (testimony of the FTC) (“[S]ome CCAs appear to use their 501(c)(3) status to convince consumers to enroll in their DMPs and pay fees or make donations. These CCAs may, for example, claim that consumers’ ‘donations’ will be used simply to defray the CCA’s expenses. Instead, the bulk of the money may be passed through to individuals or for-profit entities with which the CCAs are closely affiliated. Tax-exempt status also may tend to give these fraudulent CCAs a veneer of respectability by implying that the CCA is serving a charitable or public purpose. Finally, some consumers may believe that a ‘non-profit’ CCA will charge lower fees than a similar for-profit.”),

available at

(

http://www.ftc.gov/os/2004/03/040324testimony.shtm

See, e.g., FTC v. Integrated Credit Solutions

,No. 06-806-SCB-TGW(M.D. Fla. filed May 2, 2006);

U.S. v. Credit Found. of Am.,

No. CV 06-3654 ABC(VBKx) (C.D. Cal. filed June 13, 2006);

FTC v. Nat’l Consumer Council

, No. SACV04-0474 CJC(JWJX) (C.D. Cal. filed Apr. 23, 2004).

See U.S. v. Credit Found. of Am.,

No. CV 06-3654 ABC(VBKx) (C.D. Cal. filed June 13, 2006);

FTC v. Integrated Credit Solutions, Inc.,

No. 06-806-SCB-TGW (M.D. Fla. filed May 2, 2006);

FTC v. Debt Mgmt. Found. Servs., Inc.

, No. 04-1674-T-17-MSS (M.D. Fla. filed July 20, 2004).

See FTC v. Express Consolidation

, No. 06-cv-61851-WJZ (S.D. Fla. Am. Compl. filed Mar. 21, 2007);

FTC v. AmeriDebt, Inc.

, No. PJM 03-3317 (D. Md. filed Nov. 19, 2003).

See FTC v. Integrated Credit Solutions

, No. 06-806-SCB-TGW (M.D. Fla. filed May 2, 2006);

U.S. v. Credit Found. of Am.,

No. CV 06-3654 ABC(VBKx) (C.D. Cal. filed June 13, 2006). Other defendants allegedly claimed to have “special relationships” with the consumers’ creditors.

See FTC v. Debt Solutions, Inc.,

No. 06-0298 JLR (W.D. Wash. filed Mar. 6, 2006)

See FTC v. Express Consolidation

, No. 06-cv-61851-WJZ (S.D. Fla. Am. Compl. filed Mar. 21, 2007);

U.S. v. Credit Found. of Am.,

No. CV 06-3654 ABC(VBKx) (C.D. Cal. filed June 13, 2006).

Over the last several years, in response to abuses such as these, the

IRS has challenged the tax-exempt status of a number of purportedly nonprofit CCAs - both through enforcement of existing statutes and new tax code provisions.

To enhance the IRS’s ability to oversee CCAs, in 2006 Congress amended the IRC, adding § 501(q) to provide specific eligibility criteria for CCAs seeking tax-exempt status as well as criteria for retaining that status.

Among other things, § 501(q) of the Code prohibits tax-exempt CCAs from refusing to provide credit counseling services due to a consumer’s inability to pay or a consumer’s ineligibility or unwillingness to enroll in a DMP; charging more than “reasonable fees” for services; or, unless allowed by state law, basing fees on a percentage of a client’s debt, DMP payments, or savings from enrolling in a DMP.

In addition to receiving regulatory scrutiny from the IRS, as a result of changes in the federal bankruptcy code, 158 nonprofit CCAs, including the largest such entities, have been subjected to rigorous screening by the Department of Justice’s Executive Office of the U.S. Trustee (“EOUST”).

Finally, nonprofits must comply with state laws in 49 states, most of which set fee limits.

In 2006, the IRS examined all tax-exempt CCAs, resulting in revocation or proposed revocation of the existing tax-exempt status of 41 of them, as well as increased scrutiny of new applications for tax-exempt status.

TSR Proposed Rule,

74 FR at 41992; Hunter at 1; AICCCA at 5; FECA (Oct. 26, 2009) at 4; CareOne at 4; Eileen Ambrose,

Credit firms’ status revoked; IRS says 41 debt counselors will lose tax-exempt standing

, Baltimore Sun, May 16, 2006.

Pension Protection Act of 2006, Pub. L. No. 109-280, Section 1220 (Aug. 2006) (codified as 26 U.S.C. 501(q)).

See

26 U.S.C. 501(q). Section 501(q) also limits the total revenues that a tax-exempt CCA may receive from creditors for DMPs and prohibits tax-exempt CCAs from making or receiving referral fees and from soliciting voluntary contributions from a client. 26 U.S.C. 501(q)(1)-(2);

see also

FECA (Oct. 26, 2009) at 4-5.

Pursuant to the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005, consumers must obtain credit counseling before filing for bankruptcy and must take a financial literacy class before obtaining a discharge from bankruptcy.

See

Pub L. No. 109-8, 119 Stat. 23 (codified as amended at 11 U.S.C. 101 et seq.). CCAs seeking certification as approved providers of the required credit counseling must submit to an in-depth initial examination and to subsequent re-examination by the EOUST.

See Application Procedures and Criteria for Approval of Nonprofit Budget and Credit Counseling Agencies by United States Trustees; Notice of Proposed Rulemaking

, 73 FR 6062 (Feb. 1, 2008) (seeking comment on proposed rule setting forth additional procedures and criteria for approval of entities seeking to become, or remain, approved nonprofit budget and credit counseling agencies). A list of EOUST-approved credit counselors is available to consumers at (

http://www.usdoj.gov/ust/eo/bapcpa/ccde/cc_approved.htm

Supra

note 33;

see also

CareOne at 4. Some of the state laws apply to for-profit credit counseling companies as well; others do not.

2. For-Profit Debt Settlement Services

Debt settlement companies purport to offer consumers the opportunity to obtain lump sum settlements with their creditors for significantly less than the full outstanding balance of their unsecured debts. Unlike a traditional DMP, the goal of a debt settlement plan is for the consumer to repay only a portion of the total owed.

The Promotion of Debt Settlement Services

Debt settlement companies typically advertise through the Internet, television, radio, or direct mail.

The advertisements generally follow the “problem-solution” approach - consumers who are over their heads in debt can be helped by enrolling in the advertiser’s program. Many advertisements make specific claims that appeal to the target consumers - for example, claims that consumers will save 40 to 50 cents on each dollar of their credit card debts

or will become debt-free.

The advertisements typically then urge consumers to call a toll-free number for more information.

Able (Oct. 21, 2009) at 17; CFA at 2-3; Weinstein (Oct. 26, 2009) at 7 (

see

attached Weinstein paper at 6);

see also

USOBA Workshop Comment at 9.

In April 2010, FTC staff conducted a surf of debt settlement websites, based on a sample of the websites that a consumer searching for debt settlement services on a major search engine would encounter. In conducting the surf, staff searched on Google for the term “debt settlement services,” obtaining more than 24,000 results. To best duplicate what a typical consumer searching for these services would find, staff narrowed the results to the websites that appeared on the first six pages of the search results and eliminated duplicates. The staff found that 86% of the 100 debt settlement websites reviewed represented that the provider could achieve a specific level of reduction in the amount of debt owed.

See also, e.g., FTC v. Better Budget Fin. Servs., Inc.

, No. 04-12326 (WG4) (D. Mass. filed Nov. 2, 2004) (Complaint, ¶ 12) (defendants’ websites represented that they could “reduce the amount of the consumer’s debt by as much as 50% - 70%.”);

infra

note 566;

Debt Settlement: Fraudulent, Abusive, and Deceptive Practices Pose Risk to Consumers: Hearing on The Debt Settlement Industry: The Consumer’s Experience Before the Sen. Comm. On Commerce, Science, & Transportation,

111

Cong. (2010) (testimony of the U.S. Government Accountability Office) (“GAO Testimony”) at 13.

Of the 100 websites FTC staff reviewed,

see supra

note 50, 57% represented that they could settle or reduce

all

unsecured debts (websites made claims such as “Become Debt Free,” “Debt free in as little as 24-48 months,” and “Achieve $0.00 Debt In 12-60 Months.”);

see also, e.g., FTC v. Edge Solutions, Inc

., No. CV-07-4087 (E.D.N.Y. filed Sept. 28, 2007) (Complaint, ¶ 16) (defendants’ websites represented that “we can reduce your unsecured debt by up to 60% and sometimes more and have you debt free in 18 to 30 months.”);

FTC v. Innovative Sys. Tech., Inc

., No. CV04-0728 GAF JTLx (C.D. Cal. filed Feb. 3, 2004) (Complaint, ¶ 26) (the company’s website “represent[ed] that, by using DRS’s debt negotiation services, consumers can pay off their credit card debt for fifty percent or less of the amount currently owed and be debt free within three to 36 months.”); GAO Testimony,

supra

note 50, at 18.

In its review of debt settlement websites,

see supra

note 50, FTC staff found that 91% of websites reviewed directed the consumer to call a telephone number to learn more about the service. The Commission also has observed this practice in its law enforcement experience.

See, e.g., FTC v. Debt-Set, Inc.,

No. 1:07-CV-00558-RPM (D. Colo. filed Mar. 19, 2007);

FTC v. Edge Solutions

Inc.,

No. CV-07-4087 (E.D.N.Y. filed Sept. 28, 2007);

FTC v. Connelly,

No. SA CV 06-701 DOC (RNBx) (C.D. Cal. Am. Compl. filed Nov. 27, 2006);

FTC v. Jubilee Fin. Servs., Inc.

, No. 02-6468 ABC (Ex) (C.D. Cal. filed Aug. 19, 2002).

Consumers who call the specified phone number reach a telemarketer working for or on behalf of the debt settlement provider. The telemarketer obtains information about the consumer’s debts and financial condition and makes the sales pitch, often repeating the claims made in the advertisements as well as making additional ones. If the consumer agrees to enroll in the program, the provider mails a contract for signature. Providers sometimes pressure consumers to return payment authorization forms and signed contracts as quickly as possible following the call.

See, e.g.

FTC v. Debt-Set, Inc

., No. 1:07-cv-00558-RPM (D. Colo. filed Mar. 19, 2007) (Complaint ¶ 20) (alleging “[c]onsumers who agree to enroll . . . are sent an initial set of enrollment documents from Debt Set Colorado. During their telephone pitches, the defendants’ telemarketers also exhort consumers to fill out the enrollment documents and return the papers as quickly as possible . . . . Included in these documents are forms for the consumer to authorize direct withdrawals from the consumer’s checking account, to identify the amounts owed to various creditors, and a Client Agreement.”).

The Debt Settlement Program

In the typical scenario, consumers enroll one or more of their unsecured debts into the program and begin making payments into a dedicated bank account established by the provider.

These payments are apportioned in some fashion between the provider’s fees and money set aside for settlements of the debts. According to industry representatives, debt settlement providers assess each consumer’s financial condition and, based on that individualized assessment and the provider’s historical experience, calculate a single monthly payment that

the consumer must make to both save for settlements and pay the provider’s fee.

The providers typically tell consumers that the monthly payments - often in the hundreds of dollars - will accumulate until there are sufficient funds to make the creditor or debt collector an offer equivalent to an appreciable percentage of the amount originally owed to the creditor. The provider generally will not begin negotiations with creditors until the consumer has saved money sufficient to fund a possible settlement of the debt.

The provider pursues settlements on an individual, debt-by-debt basis as the consumer accumulates sufficient funds for each debt. According to industry representatives, the process of settling all of a consumer’s debts can take three years or more to complete.

See

SBLS at 1; USDR (Oct. 20, 2009) at 14; Orion (Jan. 12, 2009) at 5; NWS (Oct. 29, 2009) at 10 (

see

attached Walji paper at 10). In fact, most state debt management laws, including the Uniform Debt-Management Services Act (“UDMSA”), require providers to keep client funds in separate, dedicated bank accounts. ULC at 2; CareOne at 6.

See, e.g.,

FDR (Jan. 14, 2010) at 2; TASC (Oct. 26, 2009) at 7.

USOBA (Oct. 26, 2009) at 32. A trade association reported that creditors may not consider settlements until an account is at least 60 days delinquent. USOBA (Oct. 26, 2009) at 32. If consumers are current on their debts, debt settlement providers sometimes advise them to stop making payments to their creditors so that they can achieve the duration of delinquency necessary for the provider to initiate negotiations.

Infra

note 73.

DSA/ADE at 8;

see also

CO AG at 5 (based on data submitted by industry members, the average program length was 32.3 months).

While the consumer is accumulating funds, the debt settlement provider often advises the consumer not to talk to the associated creditors or debt collectors.

In addition, some providers instruct the consumer to assign them power of attorney

and to send creditors a letter, directly or through the provider, instructing the creditor to cease communication with the consumer.

In some cases, providers have even executed a change of address form substituting their address for the consumer’s, thereby redirecting billing statements and collection notices so that the consumer does not receive them.

Some providers represent that they maintain direct contact with the consumer’s creditors or debt collectors and that collection calls and lawsuits will cease upon the consumer’s enrollment in the debt settlement program.

See

CFA at 9; SOLS at 2; AFSA at 2; JH (Oct. 24, 2009) at 14; NC AG Testimony,

supra

note 25, at 3-4 (“The whole premise of debt settlement is based on consumers not paying their debts and not communicating with creditors.”);

see also

e.g.

FTC v. Connelly

, No. SA CV 06-701 DOC (RNBx) (C.D. Cal. Am. Compl. filed Nov. 27, 2006);

FTC v. Jubilee Fin. Servs., Inc

., No. 02-6468 ABC (Ex) (C.D. Cal. filed Aug. 19, 2002).

AFSA at 5 (“Debt settlement providers frequently use such means to block communication between the creditor and the consumer. This prevents the creditor from being able to put together a workout plan that would be free for the consumer.”). However, ACA International (“ACA”), a trade organization representing third-party debt collectors, stated that the power of attorney documents prepared by debt settlement providers frequently are legally deficient under state law.

See

ACA Workshop Comment (Dec. 1, 2008) at 5-8. Further, unless presented by an attorney, a power of attorney may permit, but does not require, a creditor to contact the debt settlement provider. Accordingly, it appears that this strategy often does not stop collection calls, lawsuits, or garnishment proceedings, but instead may actually escalate the collection process.

See, e.g., FTC v. Debt-Set, Inc.,

No. 1:07-cv-00558-RPM (D. Colo. filed Mar. 19, 2007)(alleging defendants sent power of attorney documents to consumers);

FTC v. Better Budget Fin. Servs., Inc.,

No. 04-12326 (WG4) (D. Mass. filed Nov. 2, 2004) (alleging that consumers were instructed to sign power of attorney forms);

FTC v. Nat’l Credit Council

, Case No. SACV04-0474 CJC (JWJx) (C.D. Cal. 2004) (alleging that defendants used power of attorney documents).

AFSA at 6; RDRI at 5 (“The issuance of ‘cease and desist’ letters from debt settlement companies to creditors provides a false sense of security to consumers that their accounts are being successfully negotiated and that there is not any threat of impending legal action.”);

see also

ACA Workshop Comment (Dec. 1, 2008) at 4-7; Consumer Bankers Association Workshop Comment (Dec. 1, 2008) at 2-3. Creditors have expressed displeasure, however, that once debt settlement providers intercede on behalf of consumers, the providers are not responsive to creditor contacts.

See, e.g.,

AFSA at 2. One workshop panelist representing the American Bankers Association (“ABA”) noted that, even when successful, attempts to inhibit direct communication with consumers prevent creditors from informing consumers about available options for dealing with the debt and the ramifications of the failure to make payments.

See

ABA (O’Neill), Workshop Tr. at 96.

See, e.g., FTC v. Jubilee Fin. Servs., Inc.

, No. 02-6468 ABC (Ex) (C.D. Cal. filed Aug. 19, 2002) (alleging defendants instructed consumers, among other things, to submit change of address information to creditors so that mail would go directly to defendants);

FTC v. Debt-Set, Inc.,

No. 1:07-cv-00558-RPM, Exs. Supp. Mot. T.R.O., at Exh. 7 (D. Colo. Mar. 20, 2007) (same).

NACCA at 5; AFSA at 8;

FTC v. Connelly

, No. SA CV 06-701 DOC (RNBx) (C.D. Cal. Am. Compl. filed Nov. 27, 2006); Better Business Bureau,

BBB on Differences Between Debt Consolidation, Debt Negotiation and Debt Elimination Plans

(Mar. 2, 2009)

, available at

(

http://www.bbb.org/us/article/bbb-on-differences-between-debt-consolidation-debt-negotiation-debt-elimination-plans-9350

Debt Settlement Fee Models

Many debt settlement providers charge significant advance fees. Some require consumers to pay 40% or more of the total fee within the first three or four months of enrollment and the remainder over the ensuing 12 months or fewer.

These fees must be paid whether or not the provider has attempted or achieved any settlements. An increasing number of providers utilize a so-called “pay as you go” model, spreading the fees over the first fifteen months or more of the program, yet still requiring consumers to pay hundreds of dollars in fees before they receive a single settlement.

Even when providers spread the fee over the anticipated duration of the program (usually three years), consumers typically are required to pay a substantial percentage of the fee before any portion of their funds is paid to creditors.

USDR (Oct. 20, 2009) at 2; NAAG (Oct. 23, 2009) at 3; CFA at 4, 8-10; SBLS at 4; QLS at 2; SOLS at 2;

see also

Texas Attorney General, Press Release,

Attorney General Abbott Pursues Restitution for Texans from “Debt Settlement Company” in Bankruptcy Court

(Aug. 20, 2009),

available at

(

http://www.oag.state.tx.us/oagNews/release.php?id=3088

);

Florida v. Hacker

(Fl. Cir. Ct. - 4th filed Feb 21, 2008); GAO Testimony,

supra

note 50, at 9; NC AG Testimony,

supra

note 25, at 4 (“The theory is that the older and more delinquent the debt, the easier it will be to negotiate.”);

111

Cong. (2010) (Statement of Holly Haas) (“Haas Testimony”), at 2 (“We were instructed by [the debt settlement company] not to pay our credit card bills because the credit card companies would not negotiate settlements with current accounts.”); RDRI at 5.

In the context of the widespread deception in this industry, the advance fee model used by many debt settlement providers causes substantial consumer injury. Consumers often are not aware that their initial payments are taken by the provider as its fees and are not saved for settlement of their debt; in many instances, providers deceptively underestimate the time necessary to complete the program.

As a result, many consumers fall further behind on their debts, incur additional charges, harm their creditworthiness, including credit scores, and, in some cases, suffer legal action against them to collect the debt.

Moreover, in a large percentage of cases, consumers are unable to continue making payments while their debts remain undiminished and drop out of the program, usually forfeiting all the payments they made towards the provider’s fees.

See, e.g.,

Debt Settlement USA,

Growth of the Debt Settlement Industry

,at 10 (Oct. 17, 2008) (“Fraudulent firms also regularly fail to provide the services promised to consumers by claiming that they can help them become debt free in an unrealistically short amount of time and/or promise too low of a settlement.”);

see also

MN AG at 2.

II. Overview of the Proposed Rule and Comments Received

On August 19, 2009, the Commission published its Notice of Proposed Rulemaking (“NPRM”) proposing revisions to the TSR (“proposed rule”) to cover debt relief services. The Commission proposed amendments to:

• Define the term “debt relief service” to cover any service to renegotiate, settle, or in any way alter the terms of a debt between a consumer and any unsecured creditor or debt collector, including a reduction in the balance, interest rate, or fees owed;

• Prohibit providers from charging fees until they have provided the debt relief services;

• Require providers to make six specific disclosures about the debt relief services being offered;

• Prohibit misrepresentations about material aspects of debt relief services, including success rates and whether a provider is a nonprofit entity; and

• Extend the TSR to cover calls consumers make to debt relief service

providers in response to general media advertising.

During the course of this rulemaking, the Commission received comments from 321 stakeholders, including representatives of the debt relief industry, creditors, law enforcement, consumer groups, and individual consumers.

100

Most industry commenters supported parts of the proposal but opposed the advance fee ban.

101

One industry member opposed virtually the entire proposal,

102

while a few supported the proposal as a whole.

103

In contrast, state attorneys general and regulators, consumer advocates, legal aid attorneys, and creditors generally supported the proposed amendments, including the advance fee ban.

104

The comments and the basis for the Commission’s adoption or rejection of the commenters’ suggested modifications to the proposed rule are analyzed in detail in Section III below.

100

These 321 commenters consist of: 35 industry representatives, 10 industry trade associations and groups, 26 consumer groups and legal services offices, six law enforcement organizations, three academics, two labor unions, the Uniform Law Commission, the Responsible Debt Relief Institute, the Better Business Bureau, and 236 individual consumers. Of these commenters, three sought and obtained confidential treatment of data submitted as part of their comments pursuant to FTC Rule 4.9(c), 16 CFR 4.9(c).

101

See, e.g.,

TASC (Oct. 26, 2009) at 2; USOBA (Oct. 26, 2009) at 3. Two industry commenters supported a partial advance fee ban allowing debt relief providers to receive fees to cover administrative expenses before providing the promised services. CRN (Oct. 2, 2009) at 10-11; USDR (Oct. 20, 2009) at 2.

102

MD (Oct. 26, 2009) at 4.

103

ACCORD (Oct. 9, 2009) at 1; FCS (Oct. 27, 2009) at 1; CareOne at 1.

104

NAAG (Oct. 23, 2009) at 1; NACCA at 1; CFA at 2; SBLS at 1; QLS at 2; AFSA at 3; ABA at 2.

On November 4, 2009, the Commission held a public forum to discuss the issues raised by the commenters in this proceeding. Many of those who had filed comments on the proposed rule participated as panelists at the forum, and members of the public had the opportunity to make statements on the record. A transcript of the proceeding was placed on the public record.

105

After the forum, Commission staff sent letters to trade associations and individual debt relief providers that had submitted public comments, soliciting additional information in connection with certain issues that arose at the public forum.

106

Sixteen organizations responded and provided data. Finally, Commission staff met with industry and consumer representatives to discuss the issues under consideration in the rulemaking proceeding.

105

The public record in this proceeding, including the transcript of the forum, is available at (

http://www.ftc.gov/bcp/rulemaking/tsr/tsr-debtrelief/index.shtm

) and in Room 130 at the FTC, 600 Pennsylvania Avenue, NW, Washington, D.C. 20580, telephone number: 202-326-2222.

106

The letters are posted at (

http://www.ftc.gov/os/comments/tsrdebtrelief/index.shtm

III. Summary of the Final Amended Rule and Comments Received

The Commission has carefully reviewed and analyzed the entire record developed in this proceeding. The record, as well as the Commission’s own law enforcement experience and that of its state counterparts, shows that amendments to the TSR are warranted and appropriate.

107

As discussed in detail in this SBP, the Final Rule addresses deceptive and abusive practices of debt relief service providers and includes the following elements:

107

The Commission’s decision to amend the Rule is made pursuant to the rulemaking authority granted by the Telemarketing Act to protect consumers from deceptive and abusive practices. 15 U.S.C. 6102(a)(1) and (a)(3).

• Defines the term “debt relief service” as proposed in the NPRM;

• Prohibits providers from charging or collecting fees until they have provided the debt relief services, but (1) permits such fees as individual debts are resolved on a proportional basis, or if the fee is a percentage of savings,

108

and (2) allows providers to require customers to place funds in a dedicated bank account that meets certain criteria;

108

See infra

Section III.C.5.b.

• Requires four disclosures in promoting debt relief services, in addition to the existing disclosures required by the TSR: (1) the amount of time it will take to obtain the promised debt relief; (2) with respect to debt settlement services, the amount of money or percentage of each outstanding debt that the customer must accumulate before the provider will make a bona fide settlement offer; (3) if the debt relief program entails not making timely payments to creditors, a warning of the specific consequences thereof; and (4) if the debt relief provider requests or requires the customer to place funds in a dedicated bank account, that the customer owns the funds held in the account and may withdraw from the debt relief service at any time without penalty, and receive all funds remitted to the account.

• Prohibits misrepresentations about material aspects of debt relief services, including success rates and a provider’s nonprofit status; and

• Extends the TSR to cover calls consumers make to debt relief services in response to advertisements disseminated through any medium, including direct mail or email.

The final amended Rule adopted here is substantially the same in most respects to the proposed rule, but includes certain important modifications. The Commission bases these modifications on the entire record in this proceeding, including the public comments, the forum and workshop records, consumer complaints, recent testimony on debt settlement before Congress, and the law enforcement experience of the Commission and state enforcers. The major differences between the proposed amendments and the final amendments are as follows:

• The advance fee ban provision now explicitly sets forth three conditions before a telemarketer or seller may charge a fee: (1) the consumer must execute a debt relief agreement with the creditor; (2) the consumer must make at least one payment pursuant to that agreement; and (3) the fee must be proportional either to the fee charged for the entire debt relief service (if the provider uses a flat fee structure) or a percentage of savings achieved (if the provider uses a contingency fee structure);

• Notwithstanding the advance fee ban, the Final Rule allows providers to require consumers to place funds for the provider’s fee and for payment to consumers’ creditors or debt collectors into a dedicated bank account if they satisfy five specified criteria; and

• The Final Rule eliminates three of the proposed disclosures that the Commission has determined are unnecessary, and it adds one new disclosure.

A. Section 310.1: Scope

Many commenters raised concerns regarding the TSR’s scope as applied to the debt relief industry, in particular its treatment of nonprofits, creditors, and debt collectors.

109

First, several commenters expressed concern that while nonprofit entities are a major part of the debt relief industry, the Rule does not apply to them, thus establishing a potential competitive imbalance. Some of these commenters requested that the FTC explicitly apply the Rule to nonprofits.

110

Others argued that the TSR is not an appropriate vehicle for regulating the debt relief industry because the FTC cannot regulate bona fide nonprofits through it.

111

109

The proposed rule did not modify the scope of the TSR.

110

SOLS at 3; Orion (Oct. 1, 2009) at 1; CareOne at 8; TASC (Oct. 26, 2009) at 29.

111

USOBA (Oct. 26, 2009) at 40; MD (Mar. 22, 2010) at 16 n.9; TASC (Young), Tr. at 229;

see also

USOBA (Ansbach), Tr. at 231-32; ULC at 6.

As stated above, the FTC Act exempts nonprofit entities, and, pursuant to the

Telemarketing Act, this jurisdictional limit applies to the TSR.

112

As a result, the Commission has no discretion to include nonprofits in the Final Rule.

113

Nonprofits, however, must comply with 49 state laws and stringent IRS regulations.

114

These regulations include strict limitations on fee income.

115

Additionally, based on examination of consumer complaints and other research, and in light of the IRS and EOUST programs, it appears many of the concerns about deceptive practices, including deceptive claims of nonprofit status, have been addressed.

116

Thus, the Commission does not believe that the TSR’s exclusion of nonprofits is likely to create an unfair competitive disadvantage for for-profit debt relief services.

117

112

15 U.S.C. 6105(b) (providing that the jurisdiction of the Commission in enforcing the Rule is coextensive with its jurisdiction under Section 5 of the FTC Act).

113

15 U.S.C. 44 and 45(a)(2) (setting forth certain limitations to the Commission’s jurisdiction with regard to its authority to prohibit unfair or deceptive acts or practices). Although nonprofit entities are exempt, telemarketers or sellers that solicit on their behalf are nonetheless covered by the TSR.

See TSR Amended Rule,

68 FR at 4631. Indeed, several commenters requested that the Commission carve out an explicit exemption for nonprofits.

See, e.g.,

CareOne (Croxson), Tr. at 243. The Commission, however, believes it is unnecessary to state in the Rule what is already clear in the Telemarketing Act, and it therefore declines to include an express statement in the Rule that nonprofits are exempt.

See TSR Amended Rule,

68 FR at 4586.

114

Supra

Section I.C.1; GP (McNamara), Tr. at 245-46. In addition, 158 nonprofit CCAs, including the largest entities, have been approved by the EOUST after rigorous screening.

115

Supra

note 33.

116

The Commission is continuing to monitor this industry, particularly for evidence of a resurgence of sham nonprofits.

See

CareOne at 4 (“A wave of tough state debt management laws and increased federal oversight over the past several years has helped clean up the debt management side of the debt relief industry.”).

117

In any event, the government need not “regulate all aspects of a problem before it can make progress on any front.”

FTC v. Mainstream Mktg. Servs., Inc.,

358 F.3d 1228, 1238 (10th Cir. 2004) (holding that the FTC’s Do Not Call Registry, which applies to commercial calls but not calls made by charities or politicians, was not unconstitutionally underinclusive under the First Amendment).

Some commenters raised concerns that the proposed rule could be read to apply to creditors and others collecting on unsecured debts to the extent that they offer concessions to individual debtors. For example, a financial services industry association expressed concern that the proposed rule would potentially cover an affiliate entity servicing an unsecured loan or credit card account on behalf of a creditor.

118

A banking trade group stated that the FTC should clarify that the Rule is not intended to apply to the legitimate outreach and loss mitigation activities of creditors and their agents or affiliates.

119

Similarly, an association of debt collectors sought to clarify that the Rule would exclude routine communications between consumers and credit grantors or debt collectors about settling debts, restructuring debt terms, waiving fees, reducing interest rates, or arranging for other account changes.

120

118

AFSA at 7;

see also

FSR at 1-2 (the rule should clarify that the proposal does not include “the legitimate activities of servicers seeking collection on loans they own or service for others pursuant to

bona fide

servicing relationships.”).

119

ABA at 3.

120

ACA at 6. NACCA also commented that it was not clear whether the Rule excludes holders of the debt or entities that are contracted to service the debt for the debt holder, and recommended that it exclude such entities. NACCA at 2.

The TSR only covers the practice of “telemarketing,” defined as “a plan, program, or campaign which is conducted to induce the purchase of goods or services . . . .”

121

The types of debt collection and debt servicing activities described by the commenters do not fall within this definition because they are not intended to induce purchases. Therefore, it is unnecessary to explicitly exempt creditors or debt collectors from compliance with this provision of the Final Rule.

122

121

16 CFR 310.2(dd).

122

See TSR Amended Rule,

68 FR at 4615. In the event that a creditor or debt collector is engaging in the sale of a service to assist in altering debts of the consumer that it does not itself own or service, the entity would be subject to the Rule. More generally, the Fair Debt Collection Practices Act (“FDCPA”), 15 U.S.C. 1692, governs the debt collection practices of third-party collectors; creditors collecting on their own debts are not covered by the FDCPA, but are subject to the general prohibition of unfair or deceptive acts or practices in Section 5 of the FTC Act.

B. Section 310.2: Definitions

The Final Rule defines “debt relief service” as “any service or program represented, directly or by implication, to renegotiate, settle, or in any way alter the terms of payment or other terms of the debt between a person and one or more unsecured creditors or debt collectors, including, but not limited to, a reduction in the balance, interest rate, or fees owed by a person to an unsecured creditor or debt collector.” This definition is virtually unchanged from the proposed rule.

123

The only difference is the addition of the word “program” to the definition to clarify that the term “service” is not intended to be limiting in any way. Thus, regardless of its form, anything sold to consumers that consists of a specific group of procedures to renegotiate, settle, or in any way alter the terms of a consumer debt, is covered by the definition. The definition is not intended, however, to cover services or products that offer to refinance existing loans with a new loan as a way of eliminating the original debts, as such a process would result in a new extension of credit that replaces the existing debts rather than altering them.

The Commission received several comments about the definition of “debt relief service” with respect to its (1) breadth, (2) limitation to unsecured debts, (3) product coverage, and (4) application to attorneys.

1. Breadth of Definition of Debt Relief Service

Several commenters addressed the breadth of the debt relief service definition. For example, the National Association of Attorneys General (“NAAG”) supported the proposed definition, stating that because the debt relief industry is constantly evolving, the definition of “debt relief” should be broad enough to account for future developments in the industry.

124

NAAG noted that in recent years, the debt settlement industry has engaged in particularly abusive practices, but the same concerns exist with respect to all forms of debt relief.

125

The National Association of Consumer Credit Administrators (“NACCA”) emphasized that many providers of debt relief services purchase consumer contact information from so-called “lead generators” - intermediaries that produce and disseminate advertisements for debt relief services to generate “leads” that they then sell to actual providers.

126

NACCA recommended that lead generators be covered by the Rule.

127

A coalition of consumer groups commented that the definition should be broad and include debt management, debt settlement, and debt negotiation,

128

noting that some companies provide a range of debt relief options.

129

A consumer law professor also advocated a definition that covers credit counseling and debt settlement, asserting that many of the abuses are common to both types of services.

130

Moreover, some industry commenters

supported a broad definition that includes debt management plans and debt settlement arrangements.

131

On the other hand, a nonprofit credit counseling agency stated that CCAs and debt management plans should be excluded entirely from the debt relief services definition because they provide consumers with financial education.

132

124

NAAG (Oct. 23, 2009) at 4.

125

Id.

126

NACCA at 3 (representing 49 state government agencies that regulate non-depository consumer lending and debt relief companies);

see also

ULC at 7 (“The regulations go further than the UDMSA in reaching lead generation firms that solicit debtors for debt relief providers but provide no direct consumer services themselves. The ULC whole-heartedly supports this additional regulation.”);

FTC v. Dominant Leads, LLC,

No. 1:10-cv-00997 (D.D.C. filed June 15, 2010) (alleging that defendants misrepresented that they were the government, or were affiliated with the government, on multiple websites, then provided consumers toll-free numbers connecting them to third-party companies that marketed purported debt relief services for a fee).

127

NACCA at 3;

see also

GP (Oct. 22, 2009) at 2.

128

CFA at 7-8.

129

Id.

at 7.

130

Greenfield at 1.

131

CareOne at 3; USDR (Oct. 20, 2009) at 12.

132

CCCS CNY at 1.

After considering the comments, and other than the addition of the word “program,” as noted in footnote 123, the Commission has determined not to change the proposed rule’s definition of “debt relief service.” The Commission believes that this definition appropriately covers all current and reasonably foreseeable forms of debt relief services, including debt settlement, debt negotiation, and debt management, as well as lead generators for these services.

133

This definition is consistent with the goal of ensuring that consumers are protected regardless of how a debt relief service is structured or denominated. The Commission does not believe there is sufficient basis for excluding CCAs and debt management plans from the definition. Indeed, the record shows that some for-profit CCAs have engaged in the types of deceptive or abusive practices that the Rule is designed to curtail.

133

Depending on the facts, lead generators for debt relief services may be covered under the TSR’s primary provisions or its assisting and facilitating provision.

See

16 CFR 310.3(b).

2. Limitation to Unsecured Debts

Several comments related to the definition’s limitation to

unsecured

debt. A creditor trade association expressed concern that the Rule would not cover relationships with most installment lenders, title lenders, auto finance lenders, secured card issuers, or residential mortgage lenders, all of which typically provide secured credit.

134

By contrast, a representative of an association of state legislators agreed with the limitation to unsecured debts because secured debts are governed by the Uniform Commercial Code, which may conflict with some elements of the Rule.

135

134

AFSA at 7 (“There does not appear to be a reason in the Rule for limiting debt repair services to relationships only with unsecured creditors.”).

135

ULC (Kerr), Tr. at 252. In addition, the evidence in the record suggests that debt relief services generally do not seek to alter secured debts such as installment loans and title loans. NACCA (Keiser), Tr. at 250;

see also

USDR (Oct. 20, 2009) at 12 (supporting the definition’s limitation to unsecured debts).

The Commission has determined to keep the proposed rule’s limitation of debt relief services to unsecured debt. The definition in the Final Rule covers all types of unsecured debts, including credit card, medical, and tax debts. There is no evidence in the record of deceptive or abusive practices in the promotion of services for the relief of non-mortgage secured debt.

136

The Commission notes that it is addressing the practices of entities that purport to negotiate changes to the terms of mortgage loans or avert foreclosure in a separate rulemaking proceeding.

137

Commenters generally agreed that concerns regarding mortgage relief services are appropriately addressed in a separate rulemaking.

138

136

To the extent any entity markets debt relief related to automobile title loans or other secured debts, Section 5 of the FTC Act covers such marketing.

137

Mortgage Assistance Relief Services Notice of Proposed Rulemaking

, 75 FR 10707 (Mar. 9, 2010). This rulemaking addresses the industry of for-profit companies purporting to obtain mortgage loan modifications or other relief for consumers facing foreclosure. Under the proposed rule in that proceeding, companies could not receive payment until they have obtained for the consumer a documented offer from a mortgage lender or servicer that comports with the promises they have made.

138

FCS (Oct. 27, 2009) at 3; FDR (Linderman), Tr. at 115.

3. Coverage of Products

Some commenters recommended that the Commission add the term “products” to the term “debt relief services” to ensure that providers cannot evade the Rule by selling books, CDs, or other tangible materials promising debt relief, or by including such products as part of the service.

139

Another commenter disagreed, stating that products should be excluded from the definition. This commenter noted that a consumer who purchases a product (

e.g.,

a book) intended to help relieve debt is himself responsible for taking the steps stated therein; in contrast, an individual who purchases a service is paying the seller to provide that service.

140

139

CFA at 7; ULC (Kerr), Tr. at 258; AFSA (Sheeran), Tr. at 259-60; FDR (Linderman), Tr. at 256 (for products that are sold with a guarantee).

140

Centricity (Manganiello), Tr. at 239;

see also

MP at 3 (stating that expanding the definition to products is “completely unnecessary,” as “the FTC already has adequate authority to deal with deceptive marketing of such products.” The commenter also stated that “where the true intention of the product offering is to ‘up-sell’ consumers to a full-service debt program, then the proposed rule-change would already govern.”).

The Commission declines to modify the Rule to include products in the definition of debt relief services. The Rule is targeted at practices that take place in the provision of services, and the record does not indicate that deceptive or abusive practices in the sale of products, such as books or other goods containing information or advice, are common. This limitation, however, should not be used to circumvent the rule by calling a service - in which the provider undertakes certain actions to provide assistance to the purchaser - a “product.” Nor can a provider evade the rule by including a “product,” such as educational material on how to manage debt, as part of the service it offers. The Commission further notes that deceptive or abusive practices in the telemarketing of products already are prohibited by the TSR and/or the FTC Act. Therefore, the Final Rule does not add the term “product” to the definition of “debt relief services.”

4. Coverage of Attorneys

A number of commenters expressed views as to whether the Rule should cover attorneys who provide debt relief services. Several commenters argued that attorneys generally should be covered by the Rule when they are providing covered services.

141

One commenter stated that exempting attorneys would create a major loophole for providers engaged in deception or abuse.

142

A second commenter agreed that an exemption would make it easy for debt relief companies to ally themselves with lawyers to escape the Rule.

143

By contrast, two commenters argued that attorneys should be exempt from the Rule because state bars separately license them, and the bars’ ethics rules and complaint systems

govern their behavior.

144

A different commenter, however, questioned whether state bar rules are effective in deterring unfair and deceptive practices.

145

141

TASC (Oct. 26, 2009) at 13 (“Consumers should be entitled to the same protections whether or not their provider is an attorney.”); ACCORD (Noonan), Tr. at 236-37 (recommending an exception for attorneys who attempt to settle debts as a

de minimis

, incidental part of their primary businesses);

see also

CFA (Grant), Tr. at 240.

142

MN LA (Elwood), Tr. at 233. Another commenter noted that the Commission has played an active role in policing unfair and deceptive practices by attorneys in other industries, such as credit repair and debt collection. ACCORD (Noonan), Tr. at 237.

143

FDR (Linderman), Tr. at 234;

see also

TASC (Young), Tr. at 238;

FTC v. Nat’l Consumer Council,

No. SACV04-0474 CJC(JWJX) (C.D. Cal. June 10, 2004) (Supplement to Report of Temporary Receiver’s Activities, First Report to the Court at 2) (defendant would assign certain debt settlement contracts with consumers to a law firm because of certain state qualification restrictions). The FTC has filed a number of lawsuits against mortgage assistance relief service providers, in an analogous context, that affiliated themselves with attorneys in order to come within attorney exemptions in state statutes. In those cases, the Commission has named both the providers and the attorneys themselves as defendants.

See, e.g., FTC v. US Foreclosure Relief Corp

., No. SACV09-768 JVS (MGX) (C.D. Cal. filed July 7, 2009)

; FTC v. LucasLawCenter “Inc.,”

No. 09-CV-770 (C.D. Cal. filed July 7, 2009);

FTC v. Fed. Loan Modification Law Ctr., LLP,

No. SACV09-401 CJC (MLGx) (C.D. Cal. filed Apr. 3, 2009).

144

USOBA (Ansbach), Tr. at 231; USOBA (Oct. 26, 2009) at 42; MD (Oct. 26, 2009) at 28, 38, 57-58.

145

MN LA (Elwood), Tr. at 232-33.

The existing TSR currently covers attorneys who engage in telemarketing.

146

Based on the record in this proceeding, the Commission has concluded that an exemption from the amended rule for attorneys engaged in the telemarketing of debt relief services is not warranted. The Commission believes that the final amended Rule strikes the appropriate balance between permitting attorneys to provide bona fide legal services and curbing deceptive and abusive practices engaged in by some attorneys in this industry. Several factors support this conclusion.

146

In fact, the only exemption for attorneys found in the TSR is a very limited one that permits attorneys who help consumers recover funds lost as a result of telemarketing fraud to collect an upfront fee.

See

16 CFR 310.4(a)(3);

TSR Final Rule

, 60 FR at 43854 (“[T]he Commission does not wish to hinder legitimate activities by licensed attorneys to recover funds lost by consumers through deceptive telemarketing.”).

First, as a threshold matter, the TSR applies only to persons, regardless of their professional affiliation, who engage in “telemarketing” - i.e., “a plan, program, or campaign which is conducted to induce the purchase of goods or services” and that involves interstate telephone calls.

147

In general, attorneys who provide bona fide legal services do not utilize a plan, program, or campaign of interstate telephonic communications in order to solicit potential clients to purchase debt relief services. Thus, an attorney who makes telephone calls to clients on an individual basis to provide assistance and legal advice generally would not be engaged in “telemarketing.”

147

16 CFR 310.2(cc).

Second, even if an attorney is engaged in telemarketing as defined in the TSR, it is common for the attorney to meet with prospective clients in person before agreeing to represent them. These attorneys would not be covered by the TSR under the Rule’s exemption for transactions where payment is not required until after a face-to-face meeting.

148

It should be noted, however, that even in transactions falling within the face-to-face exemption, telemarketers must abide by certain restrictions in the Rule.

149

148

See

16 CFR 310.6(b)(3). The Commission considered whether it should explicitly exempt attorneys representing clients in bankruptcy proceedings from the Rule’s coverage, as attorneys in such proceedings generally advise their clients about handling their debt. The Commission determined that such an exemption was unnecessary, because bankruptcy attorneys typically would not be involved in “telemarketing,” and, in any event, likely would meet with their clients face-to-face.

149

See

16 CFR 310.6(b)(3). Sellers engaged in telemarketing that qualify for the face-to-face exemption must not fail to comply with the National Do Not Call Registry provisions; call outside permissible calling hours; abandon calls; fail to transmit Caller ID information; threaten or intimidate a consumer or use obscene language; or cause any telephone to ring or engage a person in conversation with the intent to annoy, abuse, or harass the person called.

Id.

Third, the Commission believes that attorneys acting in compliance with state bar rules and providing bona fide legal services already fall outside of the TSR’s coverage in most instances. For example, state bar rules typically prohibit attorneys from making outbound telemarketing calls to prospective clients.

150

State bar rules also restrict another practice common to telemarketers - the provision of services to consumers in multiple states or nationwide.

151

State bar rules also require an attorney to provide basic, competent legal services and to charge a reasonable fee.

152

Accordingly, attorneys who limit their contact with clients to telemarketing calls and then charge hundreds or thousands of dollars for those services may also violate these rules. Finally, based on the Commission’s experience, telemarketers frequently split fees, pay for referrals, and engage in other activity that would run afoul of other state bar rules.

153

150

See, e.g.,

Model Rules of Prof. Conduct 7.3(a); Cal. Rules of Prof. Conduct 1-400; Florida Rules of Prof. Conduct 4-7.4(a).

151

See, e.g.,

Model Rules of Prof. Conduct 5.5 (prohibiting attorneys from providing legal services to consumers outside of the state in which he or she is licensed).

152

See, e.g.,

Model Rules of Prof. Conduct 1.1, 1.3, & 1.5. For example, some state bars recently suggested that attorneys who refuse to meet in person with prospective clients may be violating some of these basic requirements.

See

Press Release, CA Bar,

State Bar Takes Action to Aid Homeowners in Foreclosure Crisis

(Sept. 18, 2009) (“The State Bar suggests that consumers be wary of attorneys offering loan modification services . . . [who are] too busy or not willing to meet personally with prospective clients.”),

available at

(

http://www.calbar.ca.gov/state/calbar/calbar_generic.jsp?cid=10144&n=96395

); Helen Hierschbiels,

Working with Loan Modification Agencies

, Oregon State Bar Bulletin, Aug./Sept. 2009 (attorneys who join companies that “do not contemplate the lawyer ever meeting or speaking with the client . . . risk violating the duties of competence, diligence and communication”). Additionally, the Ohio Supreme Court has sanctioned attorneys hired by a foreclosure “rescue” company for,

inter alia

, failing to engage in adequate preparation and failing to properly pursue clients’ individual objectives. In so doing, it noted that the attorneys relegated responsibility for meeting with clients to non-attorneys at the company and “did not as a rule meet with [the company’s] clients.”

See Cincinnati Bar Ass’n v. Mullaney

, 894 N.E. 2d 1210 (Ohio 2008).

153

Id.

Model Rules of Prof. Conduct 5.4, 7.2(b)

. Cf.

Supreme Court of New Jersey Adv. Comm. Professional Ethics & Comm. on Unauthorized Practice of Law,

Lawyers Performing Loan or Mortgage Modification Services for Homeowners

, 197 N.J.L.J. 59 (June 26, 2009) (noting that attorneys are being approached by mortgage loan modification entities and asked to enter impermissible fee sharing agreements).

Fourth, it is important to retain Rule coverage for attorneys, and those partnering with attorneys, who principally rely on telemarketing to obtain debt relief service clients, because they have engaged in the same types of deceptive and abusive practices as those committed by non-attorneys and that are proscribed by the Rule. For example, attorneys have been sued in numerous law enforcement actions alleging deceptive practices in violation of the TSR.

154

In some cases, law enforcement authorities have alleged that a law firm served as a referral service for a non-attorney third party, and many consumers selected the company believing they would be represented by a law firm.

155

Some public comments also detailed deception and abuse by attorneys.

156

State bar rules, while important and

effective when enforced, have not eliminated these practices.

154

See, e.g., FTC v. Express Consolidation

, No. 06-cv-61851-WJZ (S.D. Fla. Am. Compl. filed Mar. 21, 2007) (a Florida attorney, his debt management services company, and a telemarketer charged with using abusive telemarketing and deception to sell debt management services to consumers nationwide);

Florida v. Hess

, No. 08007686 (17

Jud. Cir., Broward Cty. 2008)

; Alabama v. Allegro Law LLC,

No. 2:2009cv00729 (M.D. Ala. 2009)

; North Carolina v. Hess Kennedy Chartered, LLC

, No. 08CV002310, (N.C. Super. Ct., Wake Cty. 2008);

California Dep’t of Corps. v. Express Consolidation, Inc.

, No. 943-0122 (2008)

; In re The Consumer Protection Law Ctr.

(California Dep’t of Corps. Amended Desist and Refrain Order filed Jan. 9, 2009);

(WV) State ex rel. McGraw v. Hess Kennedy Chartered LLC,

No. 07-MISC-454 (Cir. Ct., Kanawha Cty. 2007);

see also

TASC (Young), Tr. at 229. A consumer advocate noted that public websites contain numerous complaints about law firms engaging in unfair or deceptive debt relief practices. CFA (Grant), Tr. at 241.

Finally, the Commission’s determination not to extend a special exemption to attorneys is consistent with the existing scope of the TSR and several other statutes and FTC rules designed to curb deception, abuse, and fraud. For example, the Credit Repair Organizations Act (“CROA”) contains no exemption for attorneys.

157

The fact that the CROA and TSR cover attorneys reflects the reality that the number of attorneys who have engaged in unfair, deceptive, and abusive acts that fall within the Commission’s law enforcement authority is not

de minimis

158

157

15 U.S.C. 1679-1679j.

158

See, e.g., FTC v. Credit Restoration Brokers, LLC

, No. 2:10-cv-0030-CEH-SPC (M.D. Fla. filed Jan. 19, 2010) (alleging, inter alia, violations of CROA by attorney engaged in credit repair);

FTC v. US Foreclosure Relief Corp.

, No. SACV09-768 JVS (MGX) (C.D. Cal. filed July 7, 2009)(alleging violations of FTC Act and TSR against attorney purporting to provide mortgage assistance relief services);

FTC v. Rawlins & Rivera, Inc.

, No. 07-146 (M.D. Fla. filed Jan. 31, 2007) (alleging violations of the FDCPA against attorney);

U.S. v. Entrepreneurial Strategies, Ltd.,

No. 2:06-CV-15 (WCO)(N.D. Ga. filed Jan. 24, 2006) (alleging violations of TSR against attorney assisting debt relief entity);

FTC v. Express Consolidation

, No. 06-cv-61851-WJZ (S.D. Fla. Am. Compl. filed Mar. 21, 2007) (alleging violations of the FTC Act and TSR against attorney engaged in debt relief);

U.S. v. Schrold

, No. 98-6212-CIV-ZLOCH (S.D. Fla. filed Mar. 3, 1998) (alleging violations of the FTC Act and CROA against attorney credit repair provider);

FTC v. Capital City Mortgage Corp.

, No. 98-237 (JHG) (D.D.C. Sec. Am. Compl. filed Mar. 19, 2003) (alleging FDCPA violations against attorney);

FTC v. Watson

, No. 98-C-1218 (N.D. Ill. filed Feb. 26, 1998) (alleging violations of CROA and FTC Act against attorney);

FTC v. Gill

, No. 98-1436 LGB (Mcx) (C.D. Cal. filed Mar. 2, 1998) (same).

In light of the above factors, the Commission concludes that attorneys who choose to offer debt relief services using telemarketing should be treated no differently under the TSR than non-attorneys who do the same.

C. Section 310.4: Abusive Telemarketing Acts or Practices - Advance Fee Ban

As noted earlier, the existing TSR bans the abusive practice of collecting advance fees for three other services - credit repair services, recovery services, and offers of a loan or other extension of credit, the granting of which is represented as “guaranteed” or having a high likelihood of success.

159

Section 310.4(a)(5) of the proposed rule would have prohibited as “abusive” the request or receipt by a debt relief provider of payment of any fee from a consumer until the provider obtained a valid settlement contract or agreement showing that the particular debt had been renegotiated, settled, reduced, or otherwise altered. The Final Rule includes an advance fee ban, but in a form modified from the proposed rule. In short, the Final Rule sets forth three conditions before a debt relief provider may collect a fee for resolving a particular debt: (1) the consumer must execute a debt relief agreement with the creditor or debt collector; (2) the consumer must make at least one payment pursuant to that agreement; and (3) the fee must be proportional,

i.e.

, the same fraction of the total fee as the size of the debt resolved is of the total debt enrolled, or, alternatively, the fee collected must be based on a percentage of savings that the debt relief company achieves for the consumer. In addition, the Final Rule allows the provider to require consumers to place funds in a dedicated bank account for fees and payments to their creditor(s) or debt collector(s) in advance of securing the debt relief, provided certain conditions are met.

160

159

16 CFR 310.4(a)(4).

160

See infra

Section III.C.5.c.

The Commission concludes that the collection of advance fees in transactions that frequently are characterized by deception is an abusive practice. In reaching this conclusion, the Commission has applied the unfairness analysis set forth in Section 5(n) of the FTC Act,

161

finding that this practice: (1) causes or is likely to cause substantial injury to consumers that (2) is not outweighed by countervailing benefits to consumers or competition and (3) is not reasonably avoidable.

162

The Commission’s decision to adopt the advance fee ban is based on its review of the entire record in this proceeding, including the public comments, the forum and workshop records, consumer complaints, recent testimony on debt settlement before Congress, and the law enforcement experience of the Commission and state enforcers. In this section, the Commission: (1) reviews comments supporting the advance fee ban, (2) reviews comments opposing the advance fee ban, (3) sets forth its legal analysis, and (4) describes the operation of this provision of the Final Rule.

161

The Telemarketing Act authorizes the Commission to promulgate Rules “prohibiting deceptive telemarketing acts or practices and

other abusive telemarketing acts or practices

.” 15 U.S.C. 6102(a)(1) (emphasis added). In determining whether a practice is “abusive,” the Commission has used the Section 5(n) unfairness standard.

See TSR Amended Rule

, 68 FR at 4614.

162

See

15 U.S.C. 45(n) (codifying the Commission’s unfairness analysis, set forth in a letter from the FTC to Hon. Wendell Ford and Hon. John Danforth, Committee on Commerce, Science and Transportation, United States Senate, Commission Statement of Policy on the Scope of Consumer Unfairness Jurisdiction,

reprinted in In re Int’l Harvester Co.

, 104 F.T.C. 949, 1079, 1074 n.3 (1984)) (“Unfairness Policy Statement”).

1. Comments Supporting the Proposed Ban on Advance Fees

Numerous commenters supported the proposed ban on advance fees.

163

In supporting the advance fee ban, NAAG, representing over forty state attorneys general, cited its law enforcement experience in this area. Over the past decade, 29 states have brought at least 236 enforcement actions against debt relief companies, at least 127 of which targeted debt settlement providers.

164

Typical allegations in these cases targeted deceptive television and radio advertising, deceptive telemarketing pitches, and failure to provide promised services. In 2009, the New York and Florida Attorneys General announced investigations of 19 debt settlement companies, which are still pending.

165

163

As explained below, the advance fee ban in the Final Rule differs from that in the proposed rule in certain respects. The discussion of the commenters’ views refers to the proposed version.

164

NAAG (Oct. 23, 2009) at 1-2 & NAAG (July 6, 2010), supplemented by Commission staff research;

see

State Case List,

supra

note 27. Of the 127 state debt settlement cases, 84 were brought by state attorneys general and 43 by state regulatory agencies. In addition, state attorneys general have brought 21 cases against credit counseling companies and 14 cases against debt negotiation companies. States have also brought 64 actions against debt relief companies for failure to file requisite state registrations or obtain proper licenses.

165

See

State Case List,

supra

note 27, for names of companies under investigation by New York and Florida.

NAAG further stated that prohibiting the collection of advance fees would provide regulators and enforcement authorities a bright line method to identify entities that merit immediate investigation and prosecution.

166

NAAG further asserted that debt relief providers currently have minimal incentives to perform promised services because they collect substantial advance fees whether or not they negotiate debt reductions for the consumer.

167

NACCA also filed a comment supporting the advance fee ban.

168

166

NAAG (Oct. 23, 2009) at 10; NAAG (July 6, 2010) at 1 (“A prohibition on advance fees for debt settlement services is the most essential element of the proposed Rule.”).

167

NAAG (Oct. 23, 2009)at 9.

168

NACCA at 2 (providing general statement of support without elaboration).

The Colorado Attorney General filed a supplemental comment supporting the Commission’s advance fee ban. It cited data supplied by debt relief providers showing that only 7.81% of Colorado consumers who had entered a debt settlement program since the beginning of 2006 had completed their programs

by the end of 2008.

169

At the end of that period of less than three years, 39% of the consumers were still active, while 53% had dropped out of the program.

170

Thus, over half of enrolled consumers had dropped out in less than three years.

169

CO AG at 5. These consumers executed a total of 1,357 consumer agreements with about 13 companies.

170

Id.

at 5.

A coalition of 19 consumer advocacy groups filed a comment stating that an advance fee ban is “essential” to protect consumers who pay fees in advance but receive few, if any services.

171

According to this comment, debt settlement firms often mislead consumers about the likelihood of a settlement and the consequences of the settlement process on debt collection activities and the consumer’s creditworthiness. The coalition asserted that having to pay advance fees prevents consumers from saving enough money to fund settlement offers satisfactory to creditors or debt collectors.

172

171

CFA at 8;

see also

NC AG Testimony,

supra

note 25, at 5 (“the advance fee ban . . . is the key to preventing fraud and ensuring that debt settlement services will be performed.”).

172

CFA at 4-5.

Three legal services offices also submitted comments supporting the advance fee ban.

173

The comment by SBLS highlighted eight consumers whose financial situations had deteriorated as a result of entering debt settlement programs; each of them paid over $1,000 in fees to debt settlement companies while receiving virtually no benefits.

174

QLS commented that consumers who leave debt settlement programs after several months typically have accumulated little, if any, money to fund settlements because of the large upfront fees they were required to pay.

175

QLS recounted the experience of a husband and wife who paid $3,200 in fees to a debt settlement provider, only to be sued by a creditor within five months. The provider refused to refund the fees, even though it had not settled any of the couple’s debts.

176

173

QLS at 2-3; SBLS at 8; SOLS at 2. In addition, two additional legal services offices, Mid-Minnesota Legal Assistance and Jacksonville Area Legal Aid, were part of the coalition of consumer groups discussed above.

174

SBLS at 2-4.

175

QLS at 3.

176

Id.

A law professor commented in support of the advance fee ban, stating that debt settlement companies should not be allowed to collect and retain a fee before any beneficial service is provided.

177

Two creditor trade groups also supported the advance fee ban.

178

One group stated that its members often get one or two letters from a debt settlement service provider, but then stop hearing from the provider entirely, even when the creditor requests a response.

179

177

Greenfield at 1-2.

178

AFSA at 3; ABA at 2.

179

AFSA at 9. The second group claimed that an average of 63% of identified accounts enrolled in debt settlement programs are charged off, as compared to only 16% of accounts placed by a credit counseling agency into a debt management plan. ABA at 4. Charged off debt is the term used to describe debt that is written off as a nonperforming asset by a creditor because of severe delinquency, typically after 180 days. If a creditor charges off the debt or sends it to a collection agency, it “will likely have a severe negative impact” on a consumer’s credit score.

See

Fair Isaac Corp.,

Credit Q&A, What are the different categories of late payments and how does your FICO score consider late payments?

available at

(

http://www.myfico.com/CreditEducation/Questions/Late-Credit-Payments.aspx

Some debt relief industry commenters also supported the proposed rule’s advance fee ban. One debt settlement company (CRN) credits its success in obtaining settlements to its practice of not charging fees until the service is performed and the creditor is paid.

180

Another debt settlement company (FCS) stated that it has been implementing a debt settlement program that does not require any advance fees.

181

A small trade association, ACCORD, of which FCS is a member, also supported the advance fee ban.

182

It stated that a ban on advance fees and a requirement that fees be based on the savings achieved would protect consumers from debt settlement programs that leave them in worse financial shape than when they started.

183

180

CRN (Oct. 8, 2009) at 1. CRN recommended allowing a nominal monthly service fee.

Id.

at 10-11.

181

FCS (Oct. 27, 2009) at 2.

182

ACCORD (Oct. 9, 2009) at 1. Another debt settlement industry association asserted that ACCORD only has one member. USOBA (Oct. 26, 2009) at 48. As of July 2010, the ACCORD website lists six members.

See

(

http://www.accordusa.org/members-area.html

183

ACCORD (Oct. 9, 2009) at 2.

A third debt settlement company (USDR) commented that, if an advance fee ban were imposed, consumers would be able to evaluate debt relief companies more easily, and poorly performing companies would need to improve their service levels in order to get paid.

184

Moreover, consumers would be able to change providers if they were dissatisfied with a company’s services without forfeiting the large sums they had paid in fees, thus increasing competition in the debt relief market.

185

184

USDR (Oct. 20, 2009) at 2, 12. USDR encouraged the FTC to allow an initial set-up fee and monthly fees consistent with the Uniform Act.

185

Id.

at 2.

For-profit debt relief company CareOne Services also supported a form of an advance fee ban,

186

noting that the predominant business model of the debt settlement industry has been based on significant upfront fees that make it difficult for consumers to amass funds for a settlement, while forcing them to endure extensive creditor collection efforts.

187

CareOne posited that it would be economically feasible for it to provide effective debt settlement services even with an advance fee ban.

188

186

CareOne at 4-5. CareOne has traditionally provided consumers with credit counseling and DMP services. In 2009, CareOne began a pilot debt settlement program designed for consumers who do not qualify for a DMP and who are not candidates for bankruptcy.

Id.

at 2.

187

Id.

at 4.

188

Id.

at 5.

Two associations of nonprofit credit counselors, NFCC and AICCCA, supported the advance fee ban.

189

AICCCA stated that its member CCAs saw the victims of debt settlement scams on a regular basis,

190

and asserted that an advance fee ban would both protect consumers from paying for promised benefits that may prove entirely illusory, and force debt settlement providers to deliver on their promises if they wish to be compensated. Other commenters opined that an advance fee ban would motivate providers to engage in a more robust qualification process to ensure that the program is suitable for the consumer.

191

189

NFCC at 1, 12; AICCCA at 6. AICCCA supported the ban on the condition that the Final Rule explicitly exempt nonprofit debt relief providers. AICCCA at 6.

190

AICCCA at 2. Other CCAs stated that they, too, regularly counsel consumers who paid debt settlement companies but never received the promised services. FECA (Oct. 26, 2009) at 4; GP (Oct. 22, 2009) at 1.

191

CRN (Oct. 8, 2009) at 4; WV AG (Googel), Tr. at 222; ACCORD (Noonan), Tr. at 275-76.

2. Comments Opposing the Proposed Ban on Advance Fees for Debt Relief Services

Numerous commenters - in particular, members of the debt settlement industry - opposed the advance fee ban.

192

The overall theme of most of these comments can be summarized as follows: many enrollees in debt settlement programs (including some who drop out before completing the

program) obtain significant reductions in their debt. Therefore, debt settlement is a useful product for many people, the benefits of which would be lost if providers went out of business because they could not collect fees necessary to fund their operations until they settled the debts.

192

Twenty companies, five trade associations, two employees of debt settlement companies, three other entities, and over 190 consumers filed comments opposing the proposed advance fee ban. Of these commenters, two industry members supported a partial ban that would allow debt relief providers to receive fees to cover administrative expenses in advance of delivering settlements. CRN (Oct. 2, 2009) at 10-11; USDR (Oct. 20, 2009) at 2;

see also

CSA at 14 (“if the FTC chooses to regulate the fees charged for debt settlement services,” it should follow the UDMSA framework and allow specific set-up fees and monthly fees).

The commenters advanced a number of specific arguments in support of this position, including the following: (1) debt settlement and other forms of debt relief services provide significant benefits to consumers, which, according to industry’s comments, is demonstrated by survey data and the numerous consumers who are satisfied with their debt settlement programs; (2) consumers obtain better outcomes from debt settlement services than other debt relief options; (3) advance fees provide needed cash flow for debt settlement providers to fund their operations; (4) advance fees compensate debt settlement providers for services undertaken before settlement occurs; (5) advance fees ensure that debt settlement providers get paid; (6) the advance fee ban violates the First Amendment; (7) state regulation of debt relief services is preferable to federal regulation; (8) the TSR is not the appropriate mechanism for regulating debt relief services; (9) the problematic practices in the debt settlement industry are limited to a relatively few “bad actors,” and the services are not “fundamentally bogus;” and (10) an advance fee ban does not provide proper incentives for debt settlement companies. The following section addresses each point in turn.

a. Point 1: Debt Relief Services Provide Benefits to a Significant Number of Consumers

Several industry commenters sought to demonstrate that debt relief services provide benefits to a significant proportion of their customers.

193

Some debt settlement providers and their representatives submitted data about the number of debts that they or their members have settled in recent years.

194

Several credit counseling companies also submitted information about the number of DMPs they have arranged for their customers.

195

In contrast, no debt negotiation company provided any data or other information showing that it successfully achieved interest rate reductions or other debt alterations for consumers.

193

The FTC has sought data on this issue from the industry since July 2008.

See

(

http://www.ftc.gov/opa/2008/07/debtsettlement.shtm

) (Topics for Comment link). In response to the July 2008 request, only TASC provided some information about success and cancellation rates. It submitted a so-called “preliminary study” purporting to show “completion rates” ranging from 35% to 60% for consumers in TASC member debt settlement programs. TASC

, Study on the Debt Settlement Industry

, at 1 (2007). The study’s probative value, however, was limited due to methodological issues.

See TSR Proposed Rule,

74 FR at 41995 n.104;

see also

NAAG (Oct. 23, 2009) at 8-9.

194

E.g.,

TASC (Oct. 26, 2009) at 2 (respondents to a TASC survey settled in the aggregate almost 95,000 accounts in 2008); FCS (Oct. 27, 2009) at 1 (FCS and its family of companies have obtained over 70,000 settlements since 2003); FDR (Oct. 26, 2009) at 3 (FDR has obtained more than 100,000 settlements); Loeb at 1-2 (10 companies settled 23,586 accounts between 2003 and 2009); Confidential Comment at 2 (company has obtained 21,651 settlements for 24,323 active clients from March 2007 to Sept. 2009). Although the absolute number of debts that providers have settled over the years may be sizable, as discussed below, the record indicates that many consumers either receive no settlements or save less than the fees and other costs that they pay.

195

Cambridge (Jan. 15, 2009) at 1 (171,089 accounts enrolled in DMPs between July 1, 2004 and December 31, 2009); GP (Jan. 15, 2010) at 1 (75,485 accounts enrolled in a total of 13,328 DMPs in 2009); CareOne at 1 (over 225,000 consumers enrolled in DMPs); AICCCA at 1 (member CCAs serve about 500,000 clients enrolled in DMPs).

Only two for-profit credit counseling companies, CCC and CareOne, commented in this proceeding. Only CareOne provided data, stating that (1) over 700,000 consumers have called the company for counseling assistance; (2) over 225,000 customers enrolled in a DMP; (3) nearly 700,000 customer service calls have been made; (4) over nine million creditor payments were processed; (5) nearly $650 million in payments have moved from consumers to their creditors; and (6) fewer than 35 Better Business Bureau complaints were filed in the previous year on approximately 70,000 new customers, and all had been successfully resolved. CareOne at 1-2.

Debt Settlement Data

With respect to debt settlement, some commenters submitted specific data purporting to show that they obtain substantial savings for a significant share of their customers. The industry association TASC submitted results from a 2009 survey covering 75% of customer debt enrolled in its members’ programs (“TASC survey”). In addition, 17 commenters provided individual debt settlement company data. Collectively, these data fall into five primary categories:

196

(1) completion and dropout rates, (2) outcomes for dropouts, (3) average percentage savings and savings-to-fee ratios, (4) settlement rates for all enrollees, and (5) testimonials from satisfied consumers. Each category is examined in turn in the following section.

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Most of these commenters did not submit data in all five categories.

(1) Completion and Dropout Rates

Completion and dropout rates are important measures of the effectiveness of a debt settlement program; only consumers who complete the program are able to eliminate their debts by using the service.

197

Only a small number of parties submitted company-specific completion rate data, however, even after FTC staff sent letters to commenters in late December 2009 asking detailed follow-up questions relating to completion rates.

198

197

See

USDR (Oct. 20, 2009) at 3 (citing retention rates and graduation rates as important indicators of debt relief service success); RDRI at 6 (the percent of customers that complete the program within 39 months is an “essential metric”).

A commenter stated that the Commission should not impose a “100% standard” on debt settlement companies. FDR (Oct. 26, 2009) at 8;

see also

Franklin at 17; MD (Mar. 22, 2010) at 13. Nothing in the Final Rule would require providers to achieve any particular completion rate; rather, they must deliver whatever they claim. For example, if a provider expressly or by implication represents that it will eliminate consumers’ debt, consumers have a right to expect that all of the debts they enroll in the program will be resolved.

198

The request was in connection with the November 2009 public forum. The letters are posted at (

http://www.ftc.gov/os/comments/tsrdebtrelief/index.shtm

The TASC member survey and seven individual commenters provided some information about debt settlement completion and dropout rates. The TASC survey estimated that 24.6% of consumers who remained in a debt settlement program for three years completed the program - defined as having settlements for at least 75% of their overall debt amount - with another 9.8% still active at the three-year point.

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TASC (Oct. 26, 2010) at 10.

The TASC survey methodology has several limitations. First, the survey is not representative of the entire industry’s performance. Only 12 debt settlement companies reported sufficient data to determine a three-year dropout rate, a very small number relative to the hundreds of operating debt settlement providers.

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These companies may not be representative of the industry as a whole and, in fact, may have been comparatively more successful.

201

Indeed, it is unlikely that providers that have low success rates would identify themselves by participating in a survey the results of which will be provided to a federal agency with enforcement authority over

them.

202

Second, many of the consumers counted as “completed” had significant debts left after exiting the program.

203

Third, TASC members themselves reported the data to an accountant hired by the organization; neither the accountant nor any other entity validated that the data were complete or accurate.

204

200

TASC (Mar. 15, 2010) at 4-5. TASC stated that the survey as a whole was based on 75% of customer debt enrolled in its members’ programs, as several very large members participated in the survey. TASC sent the survey questionnaires only to the 20 largest TASC members, representing approximately 80% of the debt settlement consumers served by TASC members. TASC (Mar. 15, 2010) at 4. The survey included data on over 43,000 consumers who had enrolled in a debt settlement plan offered by one of the 12 firms that responded to the survey. TASC (Oct. 26, 2009) at 9.

201

TASC stated that its membership represented about 25% of the industry. TASC (Housser), Tr. at 61.

202

In general, self-selection and self-reporting bias can result in an over-representation of successful respondents.

See, e.g.,

Alyse S. Adams, et al.,

Evidence of Self-report Bias in Assessing Adherence to Guidelines

International Journal for Quality in Health Care

11:187-192 (1999). In addition, providers that join trade associations may tend to conform to higher standards than nonmembers. USOBA (Ansbach), Tr. at 106; TASC (Oct. 26, 2009) at 4-5.

203

As noted above, “completion” was defined as settlement of at least 75% of the individual’s total debt amount enrolled. TASC (Oct. 26, 2009) at 9.

See

CU (Hillebrand), Tr. at 55 (“[c]onsumers are not getting what they expected to get, if only 25 percent are even getting close.”).

204

TASC (Housser), Tr. at 60.

See FTC v. SlimAmerica, Inc.

, 77 F. Supp. 2d 1263, 1274 (S.D. Fla. 1999) (holding that defendant’s weight loss claims were unsupported where, inter alia, defendant failed to obtain proper scientific validation of those claims);

FTC v. Cal. Pac. Research, Inc.

, 1991 WL 208470, at *5 (D. Nev. Aug. 27, 1991) (holding that defendants failed to properly substantiate hair loss claims because studies they cited did not meet basic scientific requirements demonstrating validity and reliability).

Law enforcement authorities’ experience has shown that self-reported data may not be reliable. For example, the New York Attorney General reported to the GAO that a consumer testified that she received a “congratulations” letter from the company for completing a debt settlement program, citing to settlements on four small accounts, even though the largest balance included in the program was not settled, and the creditor sued the consumer for the full amount of that debt, plus penalties and interest. GAO Testimony,

supra

note 50, at 26. In addition, the GAO reported that some consumers who finished a debt settlement program “complained of being deceived and harmed by the group. Nearly half of them actually paid more than they owed.”

Id.

at 25.

In any event, even assuming that (1) the survey accurately represents overall industry performance, (2) 75% of debts settled is an appropriate demarcation of “success,” and (3) the 9.8% “still active” consumers ultimately receive the promised results, nearly two-thirds of enrolled consumers dropped out of the programs within the first three years.

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The Commission analyzes industry data on outcomes for dropouts in the following subsection, Section III.C.2.a.(2).

In addition to the TASC survey, individual debt settlement providers reported a range of dropout rates. A paper by Dr. Richard Briesch reported on a sample of 4,500 consumers from one company, finding that the cancellation rate was 60% over two years.

206

Three other commenters reported dropout rates of 71.9%,

207

54.4%,

208

and 20%.

209

Some debt settlement providers reported that careful screening, strong customer service, and full disclosure greatly reduced the number of dropouts.

210

206

JH (Oct. 24, 2009) at 20 (

see

attached paper, Richard A. Briesch,

Economic Factors and the Debt Management Industry

2 (Aug. 2009) (“Briesch paper”)). The paper is based on data from Credit Solutions, identified on page 15 of the Briesch paper in a footnote.

207

SDS (Jan. 22, 2010) at 2. Of consumers enrolled in the program at least 36 months earlier, fewer than 17% had completed the program and 11.2% were still active.

208

DMB (Feb. 12, 2010) at 6. Of consumers who had enrolled in the program at least 36 months earlier, about 40% had completed the program and about 5% were still active.

Debt settlement provider FDR provided data about completion rates, but its data also comprised a very substantial part of the TASC data; accordingly, its data are not a separate reference point. Specifically, FDR stated that 32% of the enrollees who remained in its program for three years or more completed the program with 100% of debts settled, while 10.3% were still active. These numbers were based on 7,803 consumers who had enrolled in the FDR program at least 36 months before the analysis was performed. FDR (Oct. 26, 2009) at 10. Therefore, 57.7% of consumers dropped out within three years of entering the program.

See id.

Debt settlement company Orion also provided some completion data. It stated that out of 825 customers who had made at least one payment, approximately 29% had completed the program, and 12.7% were still active. Orion (Jan. 12, 2010) at 5. It noted that the numbers were based upon its former business model, in which customers saved funds to be used for settlements in their own bank accounts, rather than in special purpose accounts monitored by the company.

Id.

209

JH (Jan. 12, 2010) at 5. Of consumers who had enrolled in this debt settlement program at least two years and nine months earlier, about 41% had completed the program and about 39% were still active. The company considered fewer than 1,000 consumers in calculating the dropout rate, as it had only been providing services for two years and nine months at the time of the response. Summary of Communications with FTC Staff Placed on the Public Record (Apr. 13, 2010).

210

ACCORD (Oct. 9, 2009) at 3. In addition, debt settlement provider CRN reported that of all consumers that had enrolled in its program from April 2007 through September 2009, 39% had completed the program. CRN (Jan. 21, 2010) at 6. CRN has enrolled 1,218 consumers in total, and it stated that its practice of refraining from charging fees other than the initial membership fee of $495 allows its customers to achieve success sooner.

Id.

at 2, 4; CRN (Oct. 8, 2009) at 1. CRN’s business model is unique; after receipt of the initial membership fee, it provides instructions to consumers on how to achieve debt settlements by calling creditors themselves. Subsequently, if the consumer specifically requests help, the company negotiates on the customer’s behalf and charges additional fees if it obtains successful settlements. CRN (Oct. 8, 2009) at 1. CRN did not provide data separately for consumers using its do-it-yourself model and those using its negotiation services.

See

CRN (Jan. 21, 2010) at 2, 6.

As several commenters noted, not all dropouts are attributable to the failure of the provider.

211

Several commenters, on the other hand, asserted that providers are primarily responsible for the dropouts, because they enroll consumers who are not financially suitable for the program, collect large fees in advance that are not adequately disclosed, and ultimately fail to settle the debts.

212

Several commenters provided survey information about the reasons consumers drop out, finding that consumers drop out for various reasons,

e.g.

, because they paid off the debts themselves, settled the debts themselves, failed to save enough money for settlements, filed for bankruptcy, or experienced “buyer’s remorse.”

213

211

JH (Oct. 24, 2009) at 34 (

see

attached Briesch paper at 16); Loeb at 4 (citing Briesch paper); Arnold & Porter (Mar. 17, 2010) at Exhs. 4 & 5; MD (Mar. 22, 2010) at Exhs. E-8 & E-9;

see also

FDR (Oct. 26, 2009) at 10. Thus, on average, each of the 4,496 terminated customers during this period saved $89.

Dr. Briesch also analyzed a second company’s data regarding dropouts. In that analysis, 43% of the dropouts settled at least one account.

219

The 57% of dropouts who did not settle any accounts clearly did not obtain a net benefit from the program, having paid and forfeited at least some amount of fees. Even as to those consumers who did obtain one or more settlements before dropping out, Dr. Briesch did not report how much consumers paid in fees, nor did he report how many accounts were settled out of the total number of accounts enrolled in the program.

219

According to Dr. Briesch, dropouts received settlements at a similar rate to consumers who stayed active in the program.

See

Briesch (dated Oct. 27, 2009, and filed with the FTC on Nov. 5, 2009) at 1-2 (stating that these dropouts settled at least one account, and the average settlement percentage on the settled accounts was 58%, meaning that the average savings percentage was 42%).

Another debt settlement provider reported that it had settled at least one account for 30% of its dropouts.

220

In that company’s case, 70% of dropouts did not receive any benefit from the program, and even as to the remaining 30%, there is no evidence that the consumers received savings significantly greater than the fees and costs they paid.

220

SDS (Jan. 22, 2010) at 3.

(3) Average Percentage Savings and Savings-to-Fee Ratios

Many debt settlement providers advertise that consumers using their services achieve debt reductions within a range of percentages, often 40% to 60%.

221

In their public comments, debt settlement providers reported that they achieved average savings ranging from 39% to 72%.

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The Commission

believes, however, that the methodology used to calculate these percentages is fundamentally flawed. Specifically, the calculations do not account for (1) interest, late fees, and other creditor charges that accrued during the life of the program; (2) the provider’s fees; (3) consumers who dropped out or otherwise failed to complete the program; and (4) debts that were not settled successfully. By failing to account for these factors, the providers substantially inflate the amount of savings that consumers generally can expect. The following paragraphs discuss each of these points in turn.

221

In its review of 100 debt settlement websites,

supra

note 50, FTC staff found that 86% of websites made specific savings claims. The most frequently used percentage claims were 40% to 60%, 50%, and up to 70%;

see also

GAO Testimony,

supra

note 50, at 19.

222

TASC (Oct. 26, 2009) at 11 (average debt reductions were 55% of outstanding balances in 2008 and 58% in the first six months of 2009 for 14 respondents in TASC survey); USOBA (Jan. 29, 2010) at 3 (51 respondents provided information to the trade association; the average percentage reduction from the amount owed at enrollment ranged from 27.9% to 72%, and the mean percentage reduction for all respondents was 53.23%); FDR (Oct. 26, 2009) at 3 (55.3% in 2008); JH (Oct. 24, 2009) at 35 (

see

attached Briesch paper at 17) (among consumers who received settlement of at least one account, savings were over 50% of the original amount owed); FCS (Oct. 27, 2009) at 1 (49% reduction of the debt calculated from the time of enrollment); CRN (Jan. 12, 2010) at 3 (savings of 67% of the debt at the time of enrollment); SDS (Jan. 22, 2009) at 1 (savings of 51.19% of the debt at the time of enrollment); Orion (Jan. 12, 2010) at 4 (“For those consumers who have completed the program, the settlements have typically been between 50-75% of their incoming debt.”); Loeb at 9 (providing raw numbers for ten unnamed companies without any description of the methodology; percentage saved ranged from 38.73% to 71.66% and averaged 45.15%); DRS (Jan. 21, 2010) at 1 (savings of 44% of the debt at the time of enrollment; 53% at the time of settlement).

In addition, QSS conducted surveys on behalf of TASC and NWS. The QSS-TASC survey consisted of 691 exit interviews of former customers of “certain TASC members,” including both dropouts and successful graduates, and reported that 69% of settled accounts experienced a balance reduction of at least 40%. QSS (Oct. 22, 2009) at 7. The QSS-NWS survey consisted of 329 exit interviews and reported that 79% of consumers settled their credit card debts at a discount of at least 40% or more of the outstanding balance.

Id.

at 18. In reporting on these surveys, QSS provided limited information about the sample surveyed, such as the proportion of the relevant consumer population the interviewees represented or whether the TASC members involved were representative of the industry generally. NWS (Feb. 17, 2010) at 2-3. Moreover, the labels on the electronic files submitted by QSS indicate that the interviews were conducted with consumers from no more than five companies. QSS requested and received confidential treatment pursuant to FTC Rule 4.9(c), 16 CFR 4.9(c), for the recorded interviews contained on the electronic files.

The USOBA comment provided selected data about one of its member companies, which it claimed to have verified. The comment asserted that this member had settled significant numbers of consumer debts for 53 cents on the dollar, based on

the amount of the debt at the time of enrollment, which would equate to savings of 47%. USOBA reported that this company had settled 32,450 accounts totaling $174 million in debt settled. USOBA provided no other information about the methodology used to arrive at these figures, making it difficult to evaluate its reliability. USOBA (Oct. 26, 2009) at 28-29.

Another debt settlement company stated that it had settled between 257 and 992 accounts with each of ten creditors and that debt reductions ranged from 58.07% to 61.57%. MD (Mar. 22, 2010) at Exh. E-8. The company provided information only for the “top ten” largest creditors; it did not explain whether these creditors were representative or why it chose to highlight results from these creditors. The comment provided virtually no information about the total population of accounts, nor any information about the amount of fees that consumers paid to the provider.

First, some commenters calculated “savings” without accounting for the additional debt and losses consumers incur as a result of interest, late fees, and other charges imposed by the creditor(s) or debt collector(s) during the course of the program. For example, if a consumer enrolls $10,000 in debt, and the provider represents that it can achieve a 40% reduction, the consumer reasonably expects to have to pay $6,000 to completely resolve his debts. If, however, the size of the debt increases over the course of the program due to interest and creditor fees of $2,000, the consumer will have to pay $6,000

plus

an additional $1,200 to cover the additional creditor charges (the 40% reduction would apply to the $2,000 in creditor charges as well as the original balance). Accordingly, the consumer must actually pay a total of $7,200 to settle the $10,000 in debt he enrolled, and he saves $2,800. Thus, the percentage of actual savings is lower than the 40% represented by the provider. In this example, putting aside the other issues, the percentage of savings would be 28%.

Second, the industry data generally exclude provider fees in calculating percentage savings and thereby inflate the actual amount consumers saved. For example, if the provider charges $3,000 in fees to consumers with $10,000 in debt and represents that the consumers will obtain a 40% reduction, consumers who expected to be debt-free with the payment of $6,000 actually must pay $9,000, not counting possible penalties and interest. The actual percentage savings would be 10%, putting aside the other issues. Although consumers likely presume the provider charges some fees, it is unlikely they would realize that the fees are so substantial that they exceed savings for many consumers, especially because debt settlement advertisements and websites generally do not disclose the fees.

223

Even an industry representative has stated that the various debt settlement fee models are confusing.

224

223

Of the 100 websites FTC staff reviewed,

supra

note 50, staff found that only 14% of debt settlement websites disclosed the specific fees that a consumer will have to pay upon enrollment in the service. An additional 34 out of the 100 websites mentioned fees but did not provide specific fee amounts. The Commission’s law enforcement experience bears this out as well.

See, e.g.

FTC v. Debt-Set, Inc.,

No. 1:07-cv-00558-RPM (D. Colo. filed Mar. 19, 2007);