Court Enforced Collections are Widing the Poverty Gap

If we can quantify the harm, more people pay attention. However, I suggest we also consider the human indignities that cannot be quantified.

 By Melissa Weinstein, first published in the February 2022 issue of the Louisville Bar Briefs.

Despite the uncertainty, we have all experi­enced during the COIVD-19 pandemic, one burden that has remained consistent for many people is insurmountable consumer debt. While the U.S. government froze student-loan interest, eviction proceedings, and fore­closures, there was no relief for individuals with auto loans, medical debt, or credit card bills they could not afford to pay. Early on, the pandemic prompted compassion for the personal struggles and economic hardships of others. Eventually, however, our collective concern for those hit hardest by the pandemic has been diminished after fatigue, frustration, and burnout.

Although many factors contribute to pov­erty in the U.S., few are more obvious than the impact of consumer debt. Debt has an immediate and long-term effect on one’s economic stability. A person who is forced to expend what little income they receive to pay down older debts, in general, will be un­able to afford all of their needs in the present. Payments are missed, bills are sent to collec­tions, and legal action is taken. If the debtor loses in court—and most do—the judgment entered against them at the contractual rate with interest results in a collection amount that far surpass the amount of the principal debt. At that time, voluntary payment is not an option; wages are garnished and bank account funds are seized. This leads to more credit borrowing and debt, which in turn fuels the cycle of poverty. As attorneys, we should consider how our legal system contributes to and exacerbates this problem, and how we should safeguard against it.

How did we get here?

Debt collection lawsuits are filling the civil dockets. According to a May 2020 Pew Re­search Center report (How Debt Collectors Are Transforming the Business of State Courts), debt collection suits have grown to dominate state court civil dockets. A nation­wide survey estimated the number of debt col­lection suits more than doubled, from fewer than 1.7 million to about 4 million, rising from an estimated 1 in 9 civil cases to 1 in 4 over a 10-year period.

Since last year, when I wrote about this topic in this publication (“I am Afraid of the Future Because I Know I Can’t Afford It,” February 2021), the Kentucky Administrative Office of the Courts has begun collecting more comprehensive data about the type of civil cases filed. In 2021, debt collections claims outnumbered most other cases on our civil dockets. Over half of the civil lawsuits filed last year in Kentucky were consumer debt col­lection claims. According to data provided by the AOC Division of Statistics and Research, 86,023 civil lawsuits were filed in Kentucky state court in 2021 (this excludes small claims, probate, disability, foreclosure, administrative appeals or forcible detainer actions). Nearly 46,000 of those lawsuits were identified as consumer debt collection cases.

The same Pew Research Center Report found that more than 70% of debt collection lawsuits have ended with default judgments for the plaintiff. It is difficult to know the number for Kentucky since cases filed before 2021 were not identified specifically as debt collection cases. Looking at only the debt collection cases filed and disposed of in 2021, at least 62% of them ended in default judgments (the AOC has provided this information with the disclaimer that only a single case disposition code may be selected for a single case, but more than one outcome may apply simultane­ously). In Jefferson County, at least 64.5% of those cases ended in default judgments. About 57% of the debt collection cases filed statewide in 2021 are still pending.

The data is still limited but state agencies and advocacy groups are moving to change that. Numbers are important because they highlight the significance of a problem. If we can quantify the harm, more people pay atten­tion. However, I suggest we also consider the human indignities that cannot be quantified.

The inexorable truth sets in.

In a motion for a default judgment, the creditor can request the court to order the consumer pay all accrued pre-judgment and post-judgment interest, court fees, and attor­ney fees. Kentucky’s statutory pre-judgment interest rate is 8% and post-judgment interest rate is 6%, but the statute allows the contrac­tual interest rate to be used instead.

The creditor has multiple remedies it can use to execute the judgment, including wage garnishment, a levy on the consumer’s bank accounts, and placing a lien on the debtor’s property. Wage garnishment is an effective means of the collection because the creditor can seize the money directly from the debtor’s em­ployer without ever giving the debtor access to the funds. Unlike some states, Kentucky has no additional wage garnishment protections beyond those provided by federal law. That means that $217.50 per week (thirty times the federal minimum hourly wage) is exempt from garnishment. Any amount over that is subject to garnishment, so long as it does not exceed 25% of the debtor’s disposable earnings.

The seizure of money from a bank account can be even more devastating because it is mainly unrestricted, potentially leaving someone with an empty account. There are certain exemptions to protect Social Security and government benefits but they are very limited in Kentucky. Bank account garnish­ment can also circumvent wage garnishment caps, because once a paycheck is deposited into a bank account, it is no longer subject to the limits set by federal law, and all the money can be legally garnished. This often causes a debtor to forgo having a bank account altogether, which can be a whole other hurdle to achieving financial security.

A 2015 study conducted by ProPublica found that collection lawsuits, judgments, and wage garnishments are more common in com­munities of color (The Color of Debt: How Collection Suits Squeeze Black Neighbor­hoods). The study looked at three major U.S. cities over five years—St. Louis, Chicago, and Newark. The analysis showed that even ac­counting for income, the rate of judgments was twice as high in mostly black neighborhoods as it was in mostly white ones. Researchers discovered that these findings suggest more than just racial bias by lenders or collectors. There was another explanation: generations of discrimination left black families with grossly fewer resources to draw on when they come under financial pressure. This study reflects what we are seeing in Louisville. Un­fortunately, this topic has not been given the at­tention it deserves. This ProPublica study was one of a kind, and it does not appear to have been reexamined in recent years. Princeton University recently started a debt collection data tracking project to create a public-facing data tool on debt collection lawsuits that will highlight disparate racial impacts.

Why care about people who do not pay their bills?

We tend to judge people’s financial decisions very harshly, especially the poor. The reality is that most Americans carry some kind of debt. If stripped of the safety net provided by savings, equity and family, anyone could slip into the downward debt spiral. Most of the debt that goes into the collection is not from luxury purchases. Over 79% of the debt collection cases in Kentucky last year were filed in Dis­trict Court, which means the claims were for $5,000 or less. A consumer debt collection lawsuit typically refers to an action brought by original creditors or debt buyers claiming unpaid medical, credit card, auto, and other types of consumer debt exclusive of housing (e.g., mortgage or rent).

Over the last year, I saw a healthy share of each of these types of cases in my practice, but the most significant uptick was in auto loan deficiency collection lawsuits. In a city like Louisville, without an extensive public trans­portation system, most people rely on cars to get to work, take their children to school, get to appointments, etc. The type of auto loan cases that typically wind up in collection lawsuits originates with subprime lenders who price cars significantly higher than the fair market value. Subprime loans also carry exorbitant inter­est rates. A person financing an overvalued car with a subprime loan is unable to qualify for a market-rate loan. With no bargaining power and the urgent need for a car, they have little choice but to accept the lender’s terms.

Inevitably the car will have a myriad of hidden mechanical issues which begin to surface after the consumer has sunk too much money into the car and/or the payments become over­whelming. Consumers often default within a year on these loans and almost the entire original balance they borrowed is still owed. The car is repossessed and the lender is rarely at a loss. Inevitably the consumer does not want to, nor can they afford to, continue to pay for a car they no longer own. The entire remaining balance is sent to collections. Un­like most other debt, even after the debt is written off the contractual interest rate con­tinues to accrue. Usually, within a short time, the debt is either assigned to another creditor, who sues to collect the debt, or the original creditor brings the lawsuit itself.

The impact of a judgment from a high-interest debt may have on a person’s economic stabil­ity cannot be understated. Not only does the debtor typically owe more than the original debt; they could find themselves owing at­torney fees, collection costs, and pre-and post-judgment interest at the contractual rate. That high-interest rate is not the cost of credit any longer. The debtor is paying interest to finance the judgment now. Once a judgment is executed it can literally last forever. In Kentucky, the statute of limitations on a court-issued judgment is fifteen years, but it can be renewed indefinitely by any effort to enforce it. Often filing Chapter 7 bankruptcy is the only reprieve from this nightmare.

Debt collection in perpetual motion.

Last year I wrote about my former client “Rachel” to illustrate the intrinsic relationship between these types of cases and the cycle of poverty on a human level. Rachel had a $6,500 default judgment entered against her in 2004 for the auto loan debt, with the contractual post-judgment interest rate of 27%. She had paid al­most $11,000 through wage garnishments over 15 years, but still had an outstanding balance of over $10,000. Rachel’s story was not an outlier. In the past year, I have seen countless cases with very similar facts. Take, a recent former client, “Cathy.” Cathy had purchased a car in 2010, and financed $8,400 at an interest rate of 34.50% APR. After defaulting on the loan, Cathy was sued for the remaining loan balance of $4,500, plus attorney fees and 34.5% in post-judgment interest. The only unique part of Cathy’s story is that she was actually talked into entering into an agreed judgment for the full amount sought in the complaint.

After Cathy contracted COVID last year and became gravely ill, she started to put her affairs in order and discovered the judgment lien was still on her home. She contacted our office for assistance with having the lien removed. Cathy had paid almost $12,000 in wage gar­nishments over a 5-year period. She assumed the judgment had been paid off because the garnishments stopped. After speaking to the creditor’s attorney, I learned that she still owed about $10,500. Apparently, the garnishments stopped when her former employer switched payroll administrators. We are able to settle the matter for $500, which Cathy had to bor­row from her children.

These cases demonstrate two points: 1) legal representation on both sides is essential for an equitable outcome; and 2), these judgments are outright punitive, and our system allows them to profligate.

Debt claim defendants rarely have legal representation.

The earlier mentioned Pew Research Center report found that based on available national data from 2010 to 2019, less than 10 percent of defendants in these cases had counsel, com­pared with nearly all plaintiffs. I have no doubt that an informal survey of judges, creditor at­torneys, legal aid attorneys, and court officials would confirm that number is the same or in Kentucky. Until recently, the concern over lack of representation in the civil legal system had been largely confined to legal aid organizations and various policy advocates. This issue has gained some traction outside just public interest circles; the Louisville Metro Council voted to establish and fund a one-year right-to-counsel program. However, that program only extends to eviction cases and cannot be utilized in civil consumer debt collections claims.

I am certain that the outcome in Rachel’s and Cathy’s cases would have been different if they had attorneys representing them during the lawsuit. Consumers with legal representation in a debt claim will have more favorable out­comes. The main reason consumers are rarely represented in debt lawsuits is the prohibitive cost of a lawyer. Fear, shame, and intimidation are common feelings anyone would have if they are being sued, and also likely cause someone to want to avoid dealing with the lawsuit after being served. Prior to the pandemic, when we had in-person debt-collection defense clinics at our office, clients would explain that they had not responded to a summons because they cannot afford to take off work, find childcare, or secure transportation just to go to court to explain to a judge and the creditor that they could not afford to pay the debt.

This system is not making anyone whole.

One thing is clear: The people who fail to respond to lawsuits have no idea of the impact it will have on them in the future. Why would they? It seems like a fair and just system would protect a person from having to pay a portion of their wages towards an old small-dollar consumer debt for the rest of their working days. These collection lawsuits are civil cases, brought by a business against an individual seeking compensatory damages. They are essentially just breach of contract cases. The purpose of awarding damages should be to compensate the injured party. At best the injured party should be awarded an amount to place them in the same posi­tion as if the contract had not been breached. Pre- and post-judgment interest is designed to compensate plaintiffs for the lost time value of money owed to them. A judgment that is collectible at the interest rate of a subprime auto lender is at odds with the fundamental nature of the civil justice system, which should be to make the injured party whole—not en­able a windfall. A judgment that allows the plaintiff to generate egregious profits is not compensatory. It is punitive.

People who work in public interest law un­derstand that there is no one issue that needs more attention than the rest. Notwithstanding the same, the work of representing consumer debtors in debt collection cases is almost entirely unfunded by outside sources. There is very little volunteer interest in these cases. I hope that by focusing attention on this issue here, eventually there will be the same momentum to assist and help reform this problem as well.

Melissa Weinstein is a staff attorney at Legal Aid So­ciety in the Economic Stability Unit. She represents individuals in consumer debt collection claims, student loan collection liti­gation, and administrative discharge, bankruptcy, and criminal record ex­pungement. Weinstein is vice-chair of the LBA’s Public Interest Section.