The Court of Appeals for the Seventh Circuit has overturned a lower court’s dismissal of a lawsuit in which a defendant was accused of violating the Fair Debt Collection Practices Act because it included a disclosure about a the creditor possibly filing a debt cancellation notice with the Internal Revenue Service, even though the amount of principal being forgiven was less than the reporting threshold.
A copy of the ruling in the case of Heredia v. Capital Management Services can be accessed by clicking here.
The plaintiff received a collection letter that included the following offers:
In an effort to liquidate as many files as possible, we are making the following settlement offers:
A. 29% reduction of your present balance to the amount of $1343.63, if paid in full on or before 11/30/2016. (A savings of: $548.80)
B. 24% reduction of your present balance to the amount of $1438.25. The first payment of $719.13 or more is due on or before 11/30/2016. The second and final payment of $719.12 or more is due on or before 12/30/2016. (A savings of: $454.18)
C. 19% reduction of your present balance to the amount of $1532.87. The first payment of $510.96 or more is due on or before 11/30/2016.
The second payment of $510.96 or more is due on or before 12/30/2016. The third and final payment of $510.95 or more is due on or before 01/30/2017. (A savings of $359.56)
Settling a debt for less than the balance owed may have tax consequences and Discover may file a 1099C form. We cannot provide you with tax advice. If you have any questions, Discover encourages you to consult a tax advisor of your choosing.
The plaintiff alleged the defendant violated Sections 1692e and 1692f of the FDCPA by using false or deceptive means to attempt to collect on a debt or using unfair or unconscionable means to collect on a debt.
Because the defendant made a specific statement about the type of form and process that would be undertaken, the language in this letter is different from the language in other cases the Seventh Circuit has ruled on, it said.
“Only the debtor knows whether, given her financial situation as a whole, she will have to pay taxes on the forgiven debt,” the Appeals Court wrote. “The creditor, however, knows whether it will have to file a 1099C form or not. The Internal Revenue Service requires a creditor to file a 1099C form if it has forgiven at least $600 in principal. The creditor knows for certain whether it is offering to forgive more or less than $600 in principal. The debtor, on the other hand, may have a difficult time determining how much she owes in principal versus interest, as the dunning letter may not identify the amount of each. This was certainly the case in CMS’s letter.”
Had the defendant used a more generic statement, such as “Settling a debt for less than the balance owed may have tax consequences,” would have been ok, according to the Seventh Circuit.
The Appeals Court did note in a footnote that other letters sent by the defendant to the plaintiff did make offers that would have canceled more than $600 in principal and thus required the use of a 1099C form.
In looking at other Appeals cases, notably Schultz v. Midland Credit Mgmt., Inc. from the Third Circuit, the Seventh Circuit ruled that the inclusion of the disclosure may “instill angst” in the plaintiff.
“The reference to a report to the IRS may instill angst in the unsophisticated debtor,” the Appeals Court wrote. “The district court focused on whether the 1099C Clause might cajole a debtor into paying more of the debt to avoid the economic consequences of tax liability, without considering the psychological coercion that a threat to involve the IRS might have on such a consumer.”