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Consumer Watchdog, Credit Cards, News

Holiday 2015 Store Credit Card & Deferred Interest Study

Editorial Note: The editorial content on this page is not provided or commissioned by any financial institution. Any opinions, analyses, reviews, statements or recommendations expressed in this article are those of the author’s alone, and may not have been reviewed, approved or otherwise endorsed by any of these entities prior to publication.

This holiday season, the offer of free 0% financing is once again being aggressively pushed by retailers and credit card companies across the country, with MagnifyMoney finding over 50% of store credit cards offering promotional financing this holiday season. According to the CFPB, deferred interest purchases increased 21% from 2010 until 2013.

MagnifyMoney conducted a study of the offers being promoted in December by store credit cards of the top 100 American retailers as defined by the National Retail Federation. The results show widespread use of these potentially confusing and expensive offers.

Study of Holiday 2015 store credit card offers finds predatory tactics

  • 38% of the top 100 American retailers offer store credit cards, with some offering several via multiple brands.
  • 52% of store credit cards this holiday are offering promotional financing to new customers. Others periodically offer financing to existing customers, hoping to snag those with balances in a payment hierarchy trap, making the prevalence even higher.
  • 87% of store cards with promotional offers use deferred interest. The average interest rate on these cards, 24.8%, is nearly 2x the average credit card interest rate.
  • 72% of retailers with cards charge all consumers a high interest rate, regardless of their credit score. The average interest rate for these credit cards is a shocking 25.07%.
  • Dell and Zales have the worst rates for customers hit by deferred interest – up to 29.99% for Dell’s personal credit line, and 28.99% for Zales’ credit card.

The deals remain common because:

  • They work well. Consumers respond to 0% marketing offers, regardless of the potential traps or the true cost.
  • They are highly profitable. It is hard to lose money with interest rates this high.
  • They remain perfectly legal. However, the Consumer Financial Protection Bureau has called deferred interest offers “the most glaring exception to the general post-CARD Act trend toward upfront credit card pricing.”

There is nothing more powerful than “free.” Behavioral economists and credit card executives agree that marketing a product as “free” or “0% interest” is the best way to get consumers to buy. But very few things in life are truly free, especially when they are given to you by a company whose objective is to make a profit.

While the 0% financing can be a good deal for many, it can turn out to be an incredibly expensive debt trap for people who use a deferred interest offer and do not pay their balance in full before the end of the promotional period. These consumers will be hit with a retroactive interest charge at some of the highest interest rates on the market. And with most traditional 0% credit cards avoiding deferred interest, consumers may incorrectly think store cards have the same favorable terms.

Behavioral Economics Insight:

  • Dan Ariely conducted a fascinating experiment demonstrating the power of “free.” He offered two chocolates to people: a Lindt Truffle and a Hershey Kiss. Lindt cost 26 cents, and Hershey cost 1 cent. 40 percent of the people bought the Hershey Kiss. Then he reduced the cost of both items by 1 cent. Lindt became 25 cents, and Hershey became free. 90 percent of people took Hershey, even though the relative price difference remained the same. People overwhelmingly gravitate towards “free” offers!

Credit Card Management Insight

  • Nick Clements marketed credit cards to consumers for nearly 15 years. He once conducted a direct mail test. One group of customers was offered 0% for 6 months. In the fine print, you would see that there was a 4% fee and a go-to interest rate of 18.99%. The other customers were offered a flat interest rate of 6% for the life of the balance. The vast majority of people took the 0% offer, even though it was more expensive than the 6% offer. As Nick commented, “if you put 0% in front of something, people take it. They think it is free and just grab it. But, unlike Ariely’s Hershey Kiss, credit card companies expect something in return. And they will get it.”

Deferred Interest Explained

It is common for credit card issuers to offer a promotional rate (usually 0%) to encourage people to apply for a credit card or transfer a balance to it. Customers who apply for these products will be charged the promotional rate during the promotional term. At the end of the promotional period, any remaining balance will be assessed interest at the standard rate. In other words, the credit card companies are waiving interest during the promotional period.

Deferred interest offers are very different, and are very common with private label store cards. A typical deferred interest offer would be “0% interest for x months.” During the deferred interest period specified in the offer, the consumer is not required to make interest payments. If he or she pays off the balance in full during the promotional period, no interest will ever be charged. However, if the balance is not paid in full during the promotional period, interest will be retroactively charged at the standard purchase rate. It will be like the customer never had a promotional offer at all. What makes these offers even worse is that the interest rates charged on store credit cards are exceptionally high.

  • According to the Federal Reserve, the average interest rate on revolving credit in the United States is 13.93%.
  • According to MagnifyMoney’s analysis of the Top 100 American Retailers, the average Purchase Interest Rate on a store card with a deferred interest offer is 24.8%. That is 1.8 times the average interest rate.

Here is a simple mathematical example to show the impact of a deferred interest charge. Imagine a customer borrows $2,000 on a deferred interest offer. The standard purchase rate is 24.8%. He makes the minimum monthly payment during the promotional period. During the first 12 months, he will have “avoided” $469.61 of interest charges. In month 13, the full $469.61 would be added to his balance. At the end of his promotional period:

  • His balance will have increased from the original $2,000 borrowed to $2,174 – despite making payments of $227.
  • His monthly payment will increase from $17.91 in month 12 to $68.77 in month 13. This is a 2.8x increase in his payment, and has the risk of creating a payment shock.

Stores Offering Deferred Interest During the 2015 Holidays

According to a study of the top 100 American retailers conducted by MagnifyMoney, 42% of store credit cards are currently marketing deferred interest offers to new customers. Below are the details of these offers, ranked from the highest APR (worst) to the lowest:

Store

Promo APR

Purchase APR

Penalty APR

Late Fee

0% for 6 - 24 months

27.24%

None

$35

0% for 6 - 18 months

15.24% - 28.24%

None

$37

0% for 6 - 18 months

26.00%

None

$38

0% for 6 - 12 months

19.99% - 29.99%

None

$35

0% for 6 - 12 months

26.99%

None

$35

0% for 12 months

27.24%

None

$38

0% for 12 months

27.24%

None

$38

0% for 6 months

26.99%

None

$35

0% for 6 months

26.24%

29.24%

$35

0% for 6 months

27.24%-29.24%%

None

$38

0% for 12 months

28.24%

None

$35


0% for 24 months in categories

8.49%-26.49%

None

$38

0% for 6 - 18 months

14.99%-23.99%

None

$38

0% for 6 months

17.99% - 26.99%

None

$35

0% for 6 - 12 months

27.24%

None

$38


0% until January 2017

27.24%

None

$35

0% interest for 6 - 24 months

24.15%

None

$35

0% for 12 months

28.24%

None

$35

0% for 6 - 18 months

29.99%

None

$35

Note: Dell does not offer a store credit card, but does offer a revolving line of credit that functions like store credit cards.

Payment Hierarchy And Existing Customers

When you make a payment to your credit card company, the allocation of that payment is not straight-forward. Typically, the total customer balance is grouped into categories. For example, there is a purchase balance, which includes all purchases made. There is a cash advance balance, which includes all cash advance transactions made. And there would be a promotional balance, which would include any promotional offer. Each balance is subject to a different interest rate (the purchase rate, the cash advance rate, etc.)

The CARD Act required credit card companies to apply payments in excess of the minimum due to balances with the highest interest rate first. (There is an exemption: credit card companies can waive this requirement for deferred interest products. But they are not required to do so.) This rule is usually customer friendly, because it attacks high interest rate debt first and saves the borrower money. However, for a deferred interest offer, the payment hierarchy can become a debt trap.

Here is a simple example. A customer has:

  • A $2,000 balance
  • $1,500 of that balance is from purchases, at a 25% interest rate
  • $500 is on a deferred interest promotional offer at 0%
  • The minimum payment is $51.25, of which $31.25 is interest on the $1,500 purchase balance

When the customer makes a $51.25 payment:

  • $31.25 goes towards interest
  • The remaining $20 will go towards the balance with the highest interest rate. That is the purchase balance of $1,500.
  • If the borrower makes a bigger payment, the increased amount would continue to go towards the purchase balance. The 0% deferred interest balance will not decrease.

In other words, the borrower would have to pay off the full $1,500 of purchase balances before he would even be able to begin paying down the $500 promotional balance. Credit card executives would call this a “shielded balance,” and it is highly likely the customer would get hit with a retroactive interest charge.

When Using Deferred Interest Makes Sense

A deferred interest offer can be a good deal when used properly. It only makes sense if you can afford to pay off the entire balance (including any previous purchases) during the promotional period. If you pay off the entire balance during the promotional period, you will have been able to borrow for free.

Just remember that applying for a new store credit card will hit your credit score. A single credit inquiry will not be particularly meaningful (usually about five points). However, if you plan on applying for a mortgage or car loan in the next few months, you should avoid applying for a store card.

Tips For Consumers: Alternatives To Deferred Interest Offers

If you need to borrow money to make a purchase, there are significantly cheaper alternatives.

  • Consider opening a new credit card with a 0% introductory purchase interest rate. In particular, you should ensure that the interest is waived, not deferred. You can find credit cards that waive interest for up to 21 months here.
  • If you have already made a purchase and are worried about the expiration of the deferred interest offer, consider a balance transfer. You can find the best balance transfer offers here.
  • Alternatively, you might want to consider a personal loan from a new marketplace lender. You can shop around for the best interest rate without harming your credit score here.  

Thoughts From Our Founder: “This Practice Needs To Stop.”

Nick Clements, the Co-Founder of MagnifyMoney, spent nearly 15 years in consumer banking and credit cards. Most recently, he ran the largest credit card issuer in the UK. Here are his thoughts on the practice:

Deferred interest represents one of the worst practices of the credit card industry today. I can’t believe I still see these offers in 2015. While savvy consumers are able to obtain an incredible deal, people who lack the knowledge are tricked into a complicated product that isn’t as “free” as it seems. The product advertises 0% interest. But a person can make the minimum payment and see their balance go up. Because of complicated minimum payment rules, a borrower can easily get trapped in debt without realizing how the trap has even been designed. These offers prey on people who understand them the least.

Any time you find a product or practice that makes all of its money from a very small percentage ill-informed customers, you know you have a problem. Negative amortization, balance shielding and retroactive interest charges at sky-high rates regardless of credit score are practices that belong in the 90s. Issuers who make these offers are racing against time. Either the CFPB will make rules to stop it, or the Silicon Valley marketplace lenders will create a transparent alternatives. In the short term, this deception will continue to generate big earnings. But in the long term, I expect deferred interest offers will eventually disappear. As they should.

Shame on big brands like Apple that continue to profit from this deceptive product.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

Nick Clements
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Nick Clements is a writer at MagnifyMoney. You can email Nick at [email protected]

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Consumer Watchdog

What to Expect When You Have Debt in Collections

Editorial Note: The editorial content on this page is not provided or commissioned by any financial institution. Any opinions, analyses, reviews, statements or recommendations expressed in this article are those of the author’s alone, and may not have been reviewed, approved or otherwise endorsed by any of these entities prior to publication.

debt collection
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Updated – November 15, 2018

If you’ve ever been sent to debt collections, you know it’s not fun. It can affect your credit score and negatively impact your financial health. Debt collectors don’t mess around, either: Few people have great experiences dealing with them.

Dealing with a debt collection agency can be painful. The phone never stops ringing, and they won’t stop asking for money. Agencies have a reputation for pushing the boundaries of the law, using aggressive (and sometimes illegal) tactics, and bending the law to pressure people into making payments.

In fact, at the Consumer Finance Protection Bureau (a government agency that gathers financial services complaints), collection agencies are the fastest growing complaint category. And the main reason people complain: they don’t recognize the debt that is being collected. That complaint is often valid. There is no central registrar of debt, and sometimes the only “proof” that a collection agency has of your debt is that your name is on a spreadsheet. The debt collection market has a high risk of fraud, abuse and simple human error.

If your debt has been sent to collections, there are some things you need to know to protect yourself. If you’re armed with information, you can turn things around. Keep reading to find out everything you need to know about your debt being in collections. Next, take the proper steps to rectify the situation.

Understanding the debt collection process

What does it mean when your debt is in collections?

Being late on your debt payments is one thing, but having your debt to go collections is quite another. According to the Consumer Financial Protection Bureau (CFPB), a debt collector collects debts that are past due. There are different kinds of debt collectors, including individuals, lawyers and companies that buy debts from other creditors to try to get them paid. When your debt goes into collections, it means that a third party is trying to retrieve what you owe.

A debt collector may take certain steps to get you to pay.

  1. You will receive a debt collection letter: Banks and credit card companies usually make the collection calls themselves during the first 180 days. However, after 180 days of collection activity, the bank “writes off” the debt. At this point, most major banks will hire a collection agency to collect the debt. And after a few more months, the banks will typically sell the debt to a collection agency. When banks sells the debt, they wipes their hands of the relationship. But the timeline varies. You might receive a letter telling you the debt went to collections and asking for payment to avoid legal action. It is crucial that the letter contains information about your rights.
  2. Debt collection calls and letters will continue: The debt collector will continue to send letters and call you to “remind” you about the debt and ask you to pay it. Although you can negotiate most debt collections, you must work out a payment plan or settlement figure to avoid the legal phase.
  3. The debt collector might sue you: If you don’t make a plan with the collector, the agency might have an attorney file a suit against you. The court will notify you of the suit and give you an appearance date. Do yourself a favor and show up. If you don’t, you’ll lose by default and be legally responsible to pay.
  4. The court will decide on your debt: The court will send out its judgment. If you lose, you may be held responsible for additional expenses, such as attorney fees, collection costs and interest. Further, the debt collector will have additional tools to get back the money you owe, including the ability to garnish your wages or funds in your bank account or place a lien on property you own.

When can your debt be sent to collections?

You might be wondering when your overdue debt will be sent to collections. It’s a bit complicated. Martin Lynch, compliance manager and director of education at Cambridge Credit Counseling Corp. — a nonprofit in Agawam, Mass., dedicated to helping people get out of debt and stay that way — explained it in layman’s terms.

As soon as a debt is past due, it can be sent to a collector, though there’s seldom that kind of urgency, Lynch said. It’s the creditor’s call on how long it will try to collect on the account internally or turn it over to a commission-based collector. Most credit card accounts will charge-off after six months, for example, but mortgage loan servicers often carry delinquent loan holders longer than that.

“It’s more important to avoid these scenarios altogether since there’s no way of predicting whether your particular creditor is going to place your account with a collector or give you some time to catch up,” Lynch said. And there’s no federal requirement to notify a consumer when their account is being placed in collections.

“Our counselors won’t give any guidance on this point, as we don’t want the consumer to feel there’s no threat of collection/lawsuit activity after their account slips into default,” Lynch said. “The best thing to do is communicate with the lender or loan servicer as soon as you realize you can’t make the monthly payment. Waiting until you’ve missed several payments is like playing Russian roulette.”

It’s also important to understand the difference between a debt collector and a debt buyer, according to Lynch. A debt collector gets assigned to an account but doesn’t own the debt — he is collecting on a commission basis for the original creditor, who still owns the debt. A debt buyer, however, actually purchases debts from an original creditor or another collector.

Impact on your credit bureau

A collection item has a big impact on your credit bureau. The higher your score, the more points your score can drop. For example, if you have a 770 credit score, you could see your score drop 40 to 70 points from a single collection item.

A collection items stays on your credit report for seven years. Even if you pay the collection item, it doesn’t disappear.

Fortunately, this is changing with FICO 9. If you pay off a collection item, the item will no longer be included in your FICO score. However, it will be awhile before banks start using FICO 9.

In the current model, the only way for a collection item to disappear is to wait seven years from the date it is first reported. So, that means seven years from the date that you become 180 days past due.

The only way to have a collection item removed is for the collection agency to remove the debt. You can ask an agency for a “pay for delete” deal. This means that you agree an amount to pay, and then the agency will remove the collection item from your account. Some collection agencies will offer this (even though they technically are not supposed to do so). The closer you are to seven years, the more likely they are to deal with the debt. You can also dispute the item with the credit bureaus (online). If the debt collection agency does not respond with proof of the debt in 30 days, then the item would be removed. Here are the links to dispute:

What are your rights?

After the original creditor places the debt with a third party, the Fair Debt Collections Practices Act (FDCPA) protects consumers, Lynch advised. The FDCPA imposes a host of requirements on collectors, but the most important is probably the consumer’s right to request the debt’s validation.

“You should invoke this right when the collector first contacts you in writing, and remember that if the first contact is by phone, the collector has to send you a letter within five days,” Lynch said. The letter will provide some basic account details, and it must advise the consumer of their right to seek confirmation of the debt. All consumers should exercise this right.

“The best way to seek validation of the debt is through a certified letter to the collector,” Lynch said. “If you know the debt is yours and that the statute of limitations hasn’t expired, at least you’ll buy a little bit of time to put your budget together to determine how much you could put toward a monthly payment plan.”

The FDCPA also has other protections, and some states have imposed even more stringent limitations on the collections process, according to Lynch. For example, there are limits on when calls can be placed to the debtor’s phone — generally not before 8 a.m. or after 9 p.m., unless the debtor has granted permission to go beyond those hours.

You can also send a cease-and-desist letter to the collector and a prohibition request on calls to your place of employment, according to Lynch. “Collectors can’t threaten to publish your name, nor can they impersonate law enforcement officers or officers of the court during the collections process,” Lynch said. “As outrageous as these clauses sound, bear in mind that they only made it into law because unscrupulous collectors were actually using these tactics.”

If your collector violates any of these rules, you could sue them for up to $1,000 in small claims court. If the violations are much more egregious, rising to the level of harassment, you could bring a suit for considerably more, Lynch advised. “Consumers dealing with collection accounts should review the FDCPA, as well as their own state’s rules governing the collections process,” Lynch said. “At any time they feel a collector is violating those rules, they should contact their state attorney general’s office or department of consumer affairs.”

If you feel that a debt collector has done any of the above, you need to file a formal complaint. If they have engaged in prohibited practices, you can file that complaint with the CFPB, Federal Trade Commission (FTC), your attorney general and the Better Business Bureau (BBB).

7 Things to Know if you have debt in collections

  1. If you don’t think the debt is yours, then take action right away. Within 30 days of the first collection activity, write a letter (certified, copied, with proof of delivery) to the collection agency. Tell them that you do not owe the debt and they must cease and desist all collection activity. Collection activity must stop until the agency provides concrete proof that you owe the debt.
  2. If you don’t think the debt is yours, and the collection agency provides proof that you don’t agree with, then complain to the CFPB. The more documentation you have, the better.
  3. Dispute the items with the credit bureaus. You can dispute the items online at Transunion, Equifax and Experian. It is fast and easy to make a dispute. The burden of proof is now with the collection agency, and they often will just decline to provide further information. If they don’t provide proof within 30 days, the information disappears from your bureau.
  4. The item disappears from your credit report seven years after it is with a collection agency. That usually means seven years after you become 180 days past due. This is not the same as the date you opened your account. Sometimes the best option is to just wait for the item to disappear.
  5. Be careful when you communicate with the agencies. There is a statute of limitations, which varies by state. After the statute of limitation expires, you are protected from further legal action (wage garnishment, etc.). In some states, admitting that the debt is yours on the phone is enough to reset the statute.
  6. Just because you are outside of the statute of limitations doesn’t mean that the collection agency won’t try to sue you. And, if they do, make sure you defend yourself in court. It will be easy: you just reaffirm the statute of limitations. But, if you don’t defend yourself, you could end up with wage garnishment or a new judgment. In addition, complain to the FTC, because it is against the law for a collector to sue you or threaten to sue you on a time-barred debt.
  7. When all else fails, use this line with the collection agency: “I do not recognize this debt. I have provided a written request for you to cease and desist all collection activity. In addition, I have complained to the CFPB. After this conversation is complete, I will reach out to the CFPB to update my complaint with this conversation. Given that you have not provided adequate proof that I owe this debt obligation, I believe you have further incriminated yourself by making this phone call. I will also provide a written complaint to the FTC, as I believe you are violating the FDCPA. At this point, I am going to terminate the conversation, and I hope that you will respect the law and promptly cease and desist from all collection activities, and ensure that negative information is removed from all 3 credit bureau. Goodbye.”

How to get debts out of collections

Lynch said there are several options to get debt out of collections: pay in full, negotiate a payment plan or settle the debt for less than the principal balance. After that, the options are based on what type of debt you’re talking about. Lynch outlined the different types below.

You can cure your mortgage problem by paying the full amount due, plus interest and fees, to stave off foreclosure. If it hasn’t come to that, the loan servicer might accept a workout plan, which means the past-due amount is divided into equal parts and added to the regular mortgage payment, typically over six to 10 months, Lynch said.

A consumer struggling with high-interest credit card accounts might be able to have their interest rates dropped to the single digits, Lynch said, by working with a nonprofit consumer credit counseling agency. You can find an agency in your state by visiting the Fair Counseling Association of America website.

If you’re behind on a federal student loan, you might be able to switch to an income-based repayment plan, rather than pursuing a deferment or forbearance, which doesn’t solve the problem. You also might be able to consolidate out of default, though you should discuss the pros and cons of that option with a counselor. Finally, federal student loan rehabilitation might also be an option, but, again, a conversation with a certified counselor would be in order first.

If the debt is older and the relevant statute of limitations has expired (or is about to), you must be careful not to revive the statute or waive its protections. Making a payment toward a time-barred debt restarts the statute of limitations, giving the creditor a fresh opportunity to sue, Lynch said.

“In a few states, simply acknowledging that the debt is yours will restart the statute, so be wary of collectors offering a sweetheart deal to pay off an old debt,” Lynch said. “They may simply be trying to get you to make a payment and revive the statute of limitations.” The statute runs from the date of the most recent payment, so check your bank records.

Be on the lookout for a collector who “re-aged” the account, or marked it on the credit report as current. Only a payment can cause an account to be re-aged. Doing so without a payment having been made is a fraudulent attempt by the collector to make you think that the statute of limitations has more time to run, according to Lynch.

Some good news: “If you can pay off the account in full, then, under FICO 9, the newest version of FICO’s scoring formula, the account won’t be included in the calculation of your score,” Lynch said.

But if you settle the account for less than the principal balance owed, you’ll probably do significant damage to your score, which will raise a red flag for future lenders, at least for a while.

Finally, you might consider declaring bankruptcy. If you can show that you have significant hardship paying your debt — and can prove that there’s no way you can repay the debt and still maintain a basic standard of living — a court might enable you to declare bankruptcy. Keep in mind that bankruptcy can have long-lasting effects on your financial life for years, so use it as a last resort.

Debt collection: FAQs

You likely still have some questions about debt collections. Review these seven FAQs and see if any match yours.

Having debt collections on your credit report will lower your FICO score — and continue to affect it for up to seven years.

Debt collectors can’t contact you before 8 a.m. or after 9 p.m., and they can’t call you at work if you’ve said you cannot get calls there.

A debt collector can contact you via mail, email, text or phone.

Send a snail-mail letter and ask the debt collector to stop contacting you. Consider sending certified mail and paying for a return receipt so that you have proof you sent it. Once the collector receives your request, they can contact you only to let you know action is being taken. For example, a lawyer might be filing suit against you. If you have an attorney, the debt collector must communicate only with that person, not you.

A debt collector can discuss your debt only with you, your spouse or your attorney. They can also contact other people to find out where you live or work and what your phone number is, but that contact is typically limited to once per person.

The debt collector must send you, in writing, the amount of money you owe, to whom you owe it and what action to take if you think there has been a mistake.

Debt collectors are not allowed to harass you. They can’t use obscene language when they talk to you, call you incessantly or threaten you with violence. Also, they are not allowed to make any false claims, such as saying they are government representatives or lawyers.

The bottom line

It’s a stressful, tedious process to pay a bill once it has gone to collections. That said, you must persevere and get it done to avoid further dinging your credit. If you’re dealing with a collections agency that’s proving particularly uncooperative, consider hiring an attorney with experience in credit issues to represent you. Sometimes, collection agencies “listen” better to an attorney than a consumer.

If you feel you’ve been charged in error on a debt collection, report it immediately to the agency and ask that it validate the debt for you. Also, if you feel a debt collector has overstepped the line of acceptable behavior, make sure you report it to the CFPB, FTC, your attorney general and the BBB.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

Nick Clements
Nick Clements |

Nick Clements is a writer at MagnifyMoney. You can email Nick at [email protected]

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Barri Segal is a writer at MagnifyMoney. You can email Barri here

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Consumer Watchdog, News

Consumer Bureau Loses Fight to Allow Class-Action Suits Against Finance Giants

Editorial Note: The editorial content on this page is not provided or commissioned by any financial institution. Any opinions, analyses, reviews, statements or recommendations expressed in this article are those of the author’s alone, and may not have been reviewed, approved or otherwise endorsed by any of these entities prior to publication.

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Senate Republicans on Tuesday killed a new rule that would have made it easier for Americans to file class-action lawsuits against big Wall Street banks. 

Vice President Mike Pence cast a critical vote to break a 50-50 tie, giving the Street its first major victory since the Trump administration took office in January.  

Implications for consumers 

In the regulatory overhaul following the housing slump, Congress directed the Consumer Financial Protection Bureau (CFPB) to write the rule preventing financial firms from imposing arbitration when consumers wished to band together in class-action cases to resolve disputes. 

For years, financial companies have included class-action waivers in new contracts offering a consumer financial product or service. The arbitration clauses forced consumers to waive their rights to join class-action lawsuits. 

CFPB’s proposed rule, issued in July, would have banned financial institutions from inserting such clauses in standard contracts. Consequently, it would have restored individuals’ ability to pool resources and fight against banks and credit card companies in court.  

“Tonight’s vote is a giant setback for every consumer in this country,”  Richard Cordray, the director of the consumer bureau, said in an emailed statement to MagnifyMoney. “Wall Street won and ordinary people lost.” 

He added, “As a result, companies like Wells Fargo and Equifax remain free to break the law without fear of legal blowback from their customers.” 

What’s arbitration? 

When a company includes a mandatory arbitration clause in a contract, it generally means disputes will be handled as individual cases in small claims court or settled outside the court system, through arbitration. A neutral third party — an arbitrator or panel of arbitrators — listens to the arguments and decides on a resolution.  

Arbitration is said to be faster, simpler and cheaper than litigation. But opponents of arbitration say its downsides include questionable neutrality on the arbitrator’s part, a lack of transparency and a lack of recourse. For example, in a court case, a losing party could appeal — an option that doesn’t exist in arbitration.  

The CFPB argues that reducing consumers’ options to private arbitration or an individual lawsuit makes it easy for companies to avoid accountability for actions that can affect thousands or millions of people. 

Why now? 

The Trump administration and Republicans have pushed to curtail the CFPB as part of a broader effort to weaken the Obama administration’s tighter federal grip over financial institutions.  

The arbitration rule had sparked a political firestorm in Washington. Over the summer, members of the Senate Banking Committee pledged that they would take the unusual step of filing a Congressional Review Act Joint Resolution of Disapproval to overturn the CFPB rule.  

Rep. Jeb Hensarling, D-Texas,  introduced a companion measure in the House. 

Under the Congressional Review Act, Republicans had about 60 legislative days to overturn the rule. In ensuing months, financial institutions and their Republican allies in Congress joined forces, making serious efforts to block the arbitration rule.  

The Treasury Department on Monday released a report against the rule. “The Bureau failed to meaningfully evaluate whether prohibiting mandatory arbitration clauses in consumer financial contracts would serve either consumer protection or the public interest — its two statutory mandates,” according to the report. 

On Tuesday, the White House applauded the move by Senate Republicans. 

“The evidence is clear that the CFPB’s rule would neither protect consumers nor serve the public interest,” the White House said in a statement. “Rather, under the rule, consumers would have fewer options for quickly and efficiently resolving financial disputes.” 

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Shen Lu
Shen Lu |

Shen Lu is a writer at MagnifyMoney. You can email Shen Lu at [email protected]

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