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Bending the FDCPA to the Breaking Point: 3rd Cir. Broadens Scope in Ruling Creditor is a Debt Collector

An entity whose principal business is to purchase debt, but did not itself collect the debt it purchased, was found to be a debt collector subject to the federal Fair Debt Collection Practices Act (FDCPA), even though the collection activity was undertaken by other entities.

The Third Circuit Court of Appeals reached this decision by expanding the scope of the statute’s liability so far that it now falls into conflict with itself. Put another way, a creditor can be a debt collector of its own performing debt which it assigned to a third party to collect. But the third party that undertakes collection would not be a debt collector, even if its principal purpose was debt collection.

Sound confusing? It is, but the story on how the Court arrived there is worth the read.

Who is an FDCPA “Debt Collector”?

The FDCPA defines “debt collector” in two ways. The first is an entity whose principal purpose is the collection of debts. The second is an entity that “regularly” collects debts, “directly or indirectly” that are alleged “to be owed or due another.”

In Barbato v. Greystone Alliance, LLC  the question was whether a passive debt buyer fit the “principal purpose” definition. The issue was critical to the passive debt buyer because if it obtained a finding that it was not a debt collector, it would not face FDCPA liability.

The passive debt buyer argued its principal business is to purchase charged off receivables, but it did not see itself as a debt collector because it did not collect the debt it purchased. Instead it engaged third-party collection agencies and a law firm for that purpose. The passive debt buyer also relied on earlier decisions holding that the FDCPA defined a creditor and debt collector as mutually exclusive, so it could not be both.

The Third Circuit’s resolution of the issue did not end well for the passive debt buyer. The Court noted that its recent decision in Tepper v. Amos held that creditors can also be debt collectors for FDCPA purposes. But Tepper was a slightly different case.

Although the entity in Tepper also purchased charged off debt, it also collected that debt in-house.  But the passive debt buyer in Barbato did not engage in in-house collection (thus making it a “passive debt buyer”) and so it set up a plausible argument that it was a creditor unlike the Tepper entity. After all, the definition of the FDCPA includes all types of creditors – those who “offer[] or extend[] credit creating a debt” are creditors. But you don’t have to be a lender either, because the FDCPA includes within the creditor definition persons “to whom a debt is owed. . .” The passive debt buyer is such a creditor.

Creditors as Debt Collectors

The passive debt buyer was ultimately found to be a debt collector. But since it is also a creditor it was necessary for the Third Circuit to dispense with a prior ruling from its 2007 decision in FTC v. Check Investors, Inc. which supported its position. There, the Third Circuit concluded that “. . .as to a specific debt, one cannot be both a ‘creditor’ and a ‘debt collector,’ as defined in the FDCPA, because those terms are mutually exclusive.”

To determine a person’s status under the FDCPA, in FTC v. Check Investors, Inc., the Third Circuit introduced the “default” test that would exclude an entity from “debt collector” status if the debt it acquired was not in default at the time it was acquired. For 12 years, the default test served a clean way for courts to reconcile the debt collector/creditor distinction.

Both the Tepper and Barbato decisions concluded that the Supreme Court’s 2017 decision in Henson v. Santander Consumer USA Inc. abrogated the “default” status test and, as a result, so too the understanding that the definitions of creditor and debt collector were “mutually exclusive.”

A Messy End to the Default Status Test

But the death of the default status test does not support undoing the principle that one could not be both a creditor and debt collector with respect to the same debt, it only supports it. The test was created for the sole purpose of transforming a debt buyer creditor into a debt collector.

As the Third Circuit conceded in FTC v. Check Investors, Inc., the default test “overlooks the fact that the person engaging in the collection activity may actually be owed the debt and is, therefore, at least nominally a creditor.” It was necessary to create the test because the Court believed “Congress has unambiguously directed our focus to the time the debt was acquired in determining whether one is acting as a creditor or debt collector under the FDCPA.”

With the default test gone, the status of the passive debt buyer as a creditor would seem to be advanced. It was not the case.

Finding “New Ways” to Expand FDCPA Liability

Tepper and Barbato flavor their decisions with references to the development of the debt buying industry since the 1978 enactment of the FDCPA. This development, according to the Third Circuit in Tepper, necessitated that “courts have had to find new ways to distinguish ‘debt collectors’ from ‘creditors’ to determine whether the FDCPA applies to a particular entity.” Read another way, it was necessary to create a new way to keep debt buying subject to the FDCPA even though a debt buyer is “nominally a creditor.”

If Henson ended the default status test, can we still overlook the fact that a debt purchaser is a creditor? The Barbato decision says you can and pointed to its 2000 decision in Pollice v. National Tax Funding, L.P., where an entity like the passive debt buyer purchased defaulted property taxes and municipal sewer and water bills and then engaged others to collect the purchased debts.

While that decision too relied on the default status test, Barbato says that was only part of the reasoning. National Tax Funding was found to be a debt collector because “there [was] no question that the `principal purpose’ of [the] business is the `collection of any debts,’ namely, defaulted obligations which it purchases from municipalities.” That is not much of a distinction since the focus in Pollice’s rationale was still on the purchase of “defaulted obligations.”

Perhaps recognizing this weakness, Barbato takes another route. Examining the two categories of the “debt collector” definition, the decision noted that the “principal purpose” definition focuses on “what” a business is collecting. “As long as a business’s raison d’être is obtaining payment on the debts that it acquires, it is a debt collector.”

Expansion of FDCPA Liability to Traditional Creditors and Performing Loans

There is a troubling problem in Barbato that is difficult to reconcile. By doing away with the default status test, the mere acquisition of debt is now the trigger, even if the debt is a performing loan.

Here lies the conflict. Persons who are collecting debt not in default at the time it was obtained by the collector are excluded from the definition of debt collector under 15 U.S.C. § 1692a(6)(F)(iii), provided they are collecting a debt “owed or due another . . .” But, when one is collecting a debt for itself, after Barbato and Tepper, the default status test is now gone and an entity whose principal purpose is “obtaining payment on the debts that it acquires” is now a debt collector, even when the debt is “not in default.”

Some can now argue that an entity whose principal purpose is to acquire performing loans with the sole purpose of collecting on those loans is a debt collector under the FDCPA.  Suppose that same entity retains a third party to collect the performing debt. Under 15 U.S.C. § 1692a(6)(F)(iii), the third party is not a collector, even if their principal business is debt collection or they regularly engage in debt collection for another.

The internal conflict is created solely because entities like the passive debt buyer were intended to be treated as creditors. A creditor collecting its own debt does not need an exemption like that found in § 1692a(6)(F)(iii) because Congress did not contemplate courts would ever read the FDCPA as the Third Circuit did.

Perhaps the Third Circuit did not need to go as far as to kill off the default status test and could reason that the structure of the statute implies that the acquisition of defaulted debt as a principal purpose qualifies as the “collection of any debts.” But it is hard to imagine the Court going back now after twice concluding that Henson “rejected the ‘default’ test.”

The Cost of Barbato and Tepper

The debt buying industry has faced FDCPA risk for some time and has created its own standards through its trade organization RMAI, which not only requires FDCPA compliance, but self-imposes standards exceeding it. There is little if any impact on that sector.

The cost of Barbato and Tepper’s expansion will be paid by indirect lenders, special purpose entities created solely to hold performing debt and the like. The decisions’new way” of keeping debt buyers within the FDCPA do so by eviscerating the distinction between a creditor and debt collector and the cost for taking that route will be paid by disruption of the far larger consumer financial services industry.

In the eyes of the Third Circuit, if an entity’s “raison d’être is obtaining payment on the debts that it acquires, it is a debt collector,” even if the debt is a performing loan. While the suspect reasoning of Barbato and Tepper may limit their adoption outside the Third Circuit, their application to creditors will be tested often in the coming years.

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Donald Maurice provides counsel to the financial services industry, successfully litigating matters in the state and federal courts in individual and class actions. He has successfully argued before the Third, Fourth and Eighth Circuit U.S. Courts of Appeals, and has represented the financial services industry before several courts including as counsel for amicus curiae before the United States Supreme Court. He counsels clients in regulatory actions before the CFPB, and other federal and state regulators and in the development and testing of debt collection compliance systems. Don is peer-rated AV by Martindale-Hubbell, the worldwide guide to lawyers. In addition to being a frequent speaker and author on consumer financial services law, he serves as outside counsel to RMA International, on the governing Board of Regents of the American College of Consumer Financial Services Lawyers and on the Governing Committee of the Conference on Consumer Finance Law. From 2014 to 2017, he chaired the ABA's Bankruptcy and Debt Collection Subcommittee.

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