The Boston Globe’s excellent analysis into the actual workings of the debt collection world brings up at least two points worth policy reflection.

First, it should not be surprising that as consumer debt explodes, so too does consumer debt default.  That means ancillary markets, such as those for debt collection services, will also explode.  (If people start driving more cars, then there will be more mechanics, not to mention more lawyers bringing tort lawsuits.)  The question, therefore, is do we want to regulate this emerging market?  After reading the Globe’s series, how can anyone seriously interested in civil society not answer yes?  Indeed, we do have
federal regulation on debt collection, such as the fair debt collection practices act, so the real question is do we want to make enforcement meaningful and back it up with necessary funding?  The Massachusetts experiences shows what happens when, in the necessary and commendable effort to balance deficits, states cut back on court services and the Attorney General’s oversight capacity.  (One almost pities the assistant-magistrates’ crushing debtload and perhaps sees some explanation to their routinized treatment of grinding debtors through a legal mill.)  So the first call to order is to meaningfully police this debt collection market.  We need to revisit the constable oversight system, just as we need to enforce legal requirements on creditors using the courts to help collect their debts (such as seriously sanctioning those who ignore bankruptcy laws and holding plaintiffs to their required standards of proof in court).

The second point is even more troubling.  This is not just about the need to regulate a market as prospectively sound policy, but about the development of a market that is fundamentally dysfunctional.  The problem is that what should be, ideally, a way to deliver state services (the public execution of debt) competitively (by farming out to delegated constables) has turned into a profitable business for collectors that is utterly divorced from the amount of the underlying debts.  Making $600 on hooking a car (not the tow company, this is the constable, for his official oversight "time") is a quick way to make a buck by feeding off a legal system.  And, moreover, it is one that creates the sorts of incentives that result in the story of the lady whose car was re-hooked three times, or the constable who doublecharged for one tow on the theory that he was "entitled" to a separate fee for each creditor’s judgment he was enforcing (2 creditors warranted 2 oversight fees in his mind for the 1 tow).  This should give us broad, worrisome pause about what happens when well meaning local politicans see a quick fix to budget shortfalls by outsourcing public work to private entities (which is what the constables essentially are, their glorified appointment by public officials notwithstanding).  The Globe’s pieces serve as a sobering lesson of how privatizing sheriff’s levies has worked out so far in the Bay State: great for the private constables, not so great for the debtors in the system, and ambiguous for the initial creditors.

One point from the Boston Globe story that’s particularly interesting is the role of small claims courts.  These courts are supposed to be about small-time justice, about providing a informal forum for ordinary people who can’t usually afford lawyers, about ensuring some degree of law and order for plaintiffs whose claims are of less value than the lawyers’ fees it would otherwise cost to prosecute them.  In my personal experience, I’ve seen a freelance computer programmer sue for payment for completed work and tenants sue sub-letters for non-payment of rent.  But according to the Globe, “an estimated two-thirds of small claims lawsuits are now filed by debt collectors.”  Undoubtedly, part of the attraction for debt collectors is the low filing fees.  It costs just $40 to sue someone for up to $2,000 in Massachusetts small claims court.  These companies couldn’t afford to bring so many suits for $500 or $1,000 if they had to go to district court.  But that was supposed to be the beauty of small claims system in the first place; ordinary citizens couldn’t sue each other for $500 or $1,000 either if they had to use a more expensive forum.

This raises some questions about what we want our small claims system to look like. We tend to think of small claims cases as being ordinary citizens suing other ordinary citizens about mundane, ordinary matters, like minor property damage or fender-bender auto accidents.  And in the best case scenario, they can be a forum for ordinary citizens to take on more powerful interests, as when freelance workers sue for unpaid wages.

But the Globe story shows what happens when the system is turned inside out.  Now powerful repeat players have found a cheap way to sue on debts.  These big-time players–not ordinary citizens–are using two-thirds of this judicial resource in Massachusetts.  No longer are these courts a level playing field for the ordinary citizen to seek justice.  Perhaps it is time to limit institutional players’ access to this forum before our small claims system simply becomes an arm of the collection agencies.

The topic for this entry was generated by a recent conversation that I had with an individual who was unwavering in his assertion that folks should pay their debts in full, regardless of how long it would take or the costs to a family’s wealth and security. I would like to ponder on the implications of this perspective.

First, let’s crunch some numbers. Based on data from the Consumer Bankruptcy Project (2001), the average filer of Chapter 7 had a median annual income of right around $20,600 and a median unsecured debt of approximately $27,200. What are the implications of this debt-load? Best case scenario is that the interest on these debts will be around 18%. If the debtor pays the minimum of approximately 3 percent monthly, it will take right at 28 years to repay this debt, and will result in around $27,000 in interest paid to the lenders. At least initially, monthly payments will be just over $800. We know that the majority of filers are 35-44 years old (Sullivan, Thorne and Warren 2001), so the debtor will be approximately 68 years old, maybe 70, before the debt is repaid (assuming that no additional unsecured debt is accrued).

From these facts evolve two pretty important questions. First, how are families affected by a lifetime of servicing debts like this? For example, how in the world will they be able to put away money for their children’s college expenses when so much is going toward debt repayment? My guess is that they won’t be able to save for college. So, their children will leave college buried in student loan debt. Further, if they are like many American families, the house has probably been refinanced a couple times and will not be paid off before retirement, thus leaving them quite vulnerable to foreclosure. Rather than making larger mortgage payments, the family has spent hundreds of dollars each month bolstering the wealth of the lending industry. And what about saving for retirement? If there is a monthly outlay of $800 to service debts, will there be anything left for the 401K? Doubtful. And if not, then these folks will enter retirement with essentially nothing in savings. Which leaves them quite vulnerable and quite likely to end up dependent on social programs.

Second, what does this type of perpetual indebtedness mean for the distribution of wealth in our country? Rather than building their own wealth through homeownership, retirement accounts, and higher education, these families are financing the massive wealth accrual of the lending industry. If it were just a couple families who were experiencing this type of wealth transfer, then there would not be much cause for alarm, but millions of families are experiencing this wealth stripping. Their wealth is sifting through their fingers and falling directly into the laps of the credit card companies, who are accruing massive wealth. So, rather than a society of families who have invested in themselves, and as a result have modest wealth and are financially stable, we now have families that are much more likely to have negative wealth and are exceedingly vulnerable—and more likely to eventually need the help of social services.

So, to return to the comment that precipitated this entry. Does it make sense to chain indebted families to decades or lifetimes of debt repayment? I don’t think so. We would be better off encouraging them to grow their own wealth, rather than transfer it to the already gluttonously wealthy.

References

Sullivan, Teresa A., Deborah Thorne, Elizabeth Warren. 2001. "Young, Old and In Between: Who Files for Bankruptcy?" Norton Bankruptcy Law Advisor. 9A:1-10.

Several years ago, Lucette Lagnado wrote a series of Wall Street Journal articles on the use of formal debt collection techniques for debts owed to hospitals by patients.  That series probably helped set off a chain reaction of Congressional hearings, state legislative initiatives, lawsuits, and self-regulation measures by the hospital industry. As Bob Lawless has reported, the Boston Globe is nearly done with a set of investigative reports that broaden and deepen the inquiry regarding debt collection practices in Massachusetts, framing each article so far on a major institution or actor that shapes the debt collection process (e.g., debt collection companies, small claims court, and — perhaps the most intriguing — the constable).  Like the Wall Street Journal series, the Globe investigation apparently has been a wake-up call of sorts, this time to the Massachusetts court system.

The Globe investigation comes at a time of reawakened interest among debtor-creditor scholars in the use of formal collection procedures for consumer debts (including some important systematic in-the-trenches studies being conducted now by Rich Hynes at William and Mary and separately by Sidney Watson and colleagues at Saint Louis University).  In the past several decades, many scholars have assumed that the formal judgment collection process was too expensive and cumbersome for relatively small consumer debts, and largely have focused their research energies elsewhere (e.g., federal bankruptcy, or laws that regulate informal collection techniques such as phone calls or letters).  With technology that facilitates spreading default risk and encouraging debtor repayment through other means, one might have expected even less use of the arcane formal process by repeat player claim holders today than a decade or two ago.  The Globe investigation does not study changes over time, but it does invite the question of whether technological developments and innovation in the credit and collection industries actually have increased, rather than decreased, the use and cost-effectiveness of arcane state collection procedures.