[Senate Hearing 110-769]
[From the U.S. Government Publishing Office]


                                                        S. Hrg. 110-769
 
         CREDIT CARDS AND BANKRUPTCY: OPPORTUNITIES FOR REFORM 

=======================================================================

                                HEARING

                               before the

                       COMMITTEE ON THE JUDICIARY
                          UNITED STATES SENATE

                       ONE HUNDRED TENTH CONGRESS

                             SECOND SESSION

                               __________

                            DECEMBER 4, 2008

                               __________

                          Serial No. J-110-125

                               __________

                        Providence, Rhode Island

                               __________

         Printed for the use of the Committee on the Judiciary

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                       COMMITTEE ON THE JUDICIARY

                  PATRICK J. LEAHY, Vermont, Chairman
EDWARD M. KENNEDY, Massachusetts     ARLEN SPECTER, Pennsylvania
JOSEPH R. BIDEN, Jr., Delaware       ORRIN G. HATCH, Utah
HERB KOHL, Wisconsin                 CHARLES E. GRASSLEY, Iowa
DIANNE FEINSTEIN, California         JON KYL, Arizona
RUSSELL D. FEINGOLD, Wisconsin       JEFF SESSIONS, Alabama
CHARLES E. SCHUMER, New York         LINDSEY GRAHAM, South Carolina
RICHARD J. DURBIN, Illinois          JOHN CORNYN, Texas
BENJAMIN L. CARDIN, Maryland         SAM BROWNBACK, Kansas
SHELDON WHITEHOUSE, Rhode Island     TOM COBURN, Oklahoma
            Bruce A. Cohen, Chief Counsel and Staff Director
           Stephanie A. Middleton, Republican Staff Director
              Nicholas A. Rossi, Republican Chief Counsel


































                            C O N T E N T S

                              ----------                              

                    STATEMENTS OF COMMITTEE MEMBERS

                                                                   Page

Whitehouse, Hon. Sheldon, a U.S. Senator from the State of Rhode 
  Island.........................................................     1

                               WITNESSES

Chung, John, Associate Professor of Law, Roger Williams 
  University, Bristol, Rhode Island..............................     9
Lawless, Robert M., Professor of Law, University of Illinois 
  College of Law, Champaign, Illinois............................     4
Rao, John, Attorney, National Consumer Law Center, Boston, 
  Massachusetts..................................................    12
Small, A. Thomas, U.S. Bankruptcy Judge, Eastern District of 
  North Carolina, on behalf of the National Bankruptcy 
  Conference, Wilson, North Carolina.............................     7

                       SUBMISSIONS FOR THE RECORD

Chung, John, Associate Professor of Law, Roger Williams 
  University, Bristol, Rhode Island, statement...................    21
Lawless, Robert M., Professor of Law, University of Illinois 
  College of Law, Champaign, Illinois, statement.................    25
Rao, John, Attorney, National Consumer Law Center, Boston, 
  Massachusets, statement........................................    39
Small, A. Thomas, U.S. Bankruptcy Judge, Eastern District of 
  North Carolina, on behalf of the National Bankruptcy 
  Conference, Wilson, North Carolina, statement..................    52


         CREDIT CARDS AND BANKRUPTCY: OPPORTUNITIES FOR REFORM

                              ----------                              


                       THURSDAY, DECEMBER 4, 2008

                               U.S. Senate,
                        Committee on the Judiciary,
                                           Washington, D.C.
    The Committee met, pursuant to notice, at 2:09 p.m., in the 
William C. Gaige Hall Auditorium, Rhode Island College, 
Providence, Rhode Island, Hon. Sheldon Whitehouse, presiding.
    Present: Senator Whitehouse.

 OPENING STATEMENT OF HON. SHELDON WHITEHOUSE, A U.S. SENATOR 
                 FROM THE STATE OF RHODE ISLAND

    Senator Whitehouse. The hearing will come to order.
    Before we begin, I would like to thank Rhode Island College 
for this official field hearing of the United States Senate 
Judiciary Committee. I would also like to welcome and thank the 
students who have joined us for today's events. Young people 
are most likely to start signing up for credit cards in their 
college years, so this topic has particular significance to 
them.
    As I have traveled around our State and talked with Rhode 
Islanders, I have so often heard concerns about outof-control 
credit card rates and fees. With each passing year, two things 
seem to happen: one, the credit card companies get cleverer; 
and, two, the consumer gets the result. What was a one-page 
credit agreement just two decades ago is now a 20-page, booby-
trap-filled, small-print legal document. Hidden behind the 
legalese in these documents are snares that lenders have set 
for consumers, including in some cases the right to raise 
interest rates for any reason, or in some cases no reason at 
all. With things economically as bad as they are today, those 
problems hit home harder. Rhode Island's unemployment rate is 
9.3 percent, tied with Michigan, as the Nation's highest.
    Times are tough in our Ocean State, and the people who are 
unemployed or who are underemployed still have living 
expenses--rent, mortgage, food, clothes, tuition, medicine. 
With winter approaching, you can add to that heating oil, 
higher electricity bills, and, of course, holiday gifts for 
friends and family. All too often, families make these ends 
meet with a credit card and watch the balance go up and up and 
up.
    About three-quarters of U.S. households have at least one 
credit card, and 58 percent of those carry a balance. As of 
2006, which is the last year that we have got information for, 
the average credit card balance was almost $8,500. Given what 
has happened to the economy between 2006 and now, you can bet 
that average balance is well above $8,500 now. And, 
unfortunately, the practice of the credit card industry is to 
kick consumers when they are down.
    An $8,500 balance at a fair rate paid on time each month 
might be a manageable debt load for an average family over 
time. But if that same family falls behind, a 10-percent 
interest rate can morph into 30 percent or 40 percent or more, 
making full repayment virtually impossible. A payment that is 
1-day late results in an average penalty fee of $28, even 
though the cost to the credit card company is negligible.
    And as the banks feel economic pressure, things gets worse. 
Citibank had promised that it wouldn't increase credit card 
rates without cause, but earlier this month it reversed its 
promise, citing the need to make up for revenues lost in the 
mortgage market and elsewhere. The practices of the credit card 
industry are unfair. I think they are also unsustainable, and I 
believe these practices could lead to further financial 
collapse unless Congress acts.
    There are several things we can could do in Congress. 
Senator Chris Dodd of Connecticut, our neighbor, has the Credit 
Card Accountability, Responsibility, and Disclosure Act, which 
I have cosponsored. This would outlaw some of the most 
egregious credit card practices, including so-called universal 
default, where if you default on a different obligation this 
credit card punishes you for that other default; and then, of 
course, those ``rate increases at any time for any reason'' 
provisions.
    I have also cosponsored Senator Dick Durbin of Illinois' 
Protecting Consumers from Unreasonable Credit Rates Act, which 
would set a national interest rate cap of, if you can believe 
it, 36 percent, inclusive of fees. Think for a minute about a 
world in which Congress has to consider capping interest rates 
at 36 percent.
    I would be remiss if I did not also mention Senator 
Durbin's Helping Families Save Their Homes in Bankruptcy Act, a 
critical bill that will help stop people losing their homes to 
foreclosure. This bill would correct an anomaly in the 
bankruptcy law whereby a first primary residential home 
mortgage is not allowed to be adjusted in bankruptcy to have 
the principal reduced, unlike essentially every other loan 
agreement that exists. It is unique that way. I hope the 111th 
Congress will pass this change in January and President-elect 
Obama will then sign it into law.
    In addition to the bills I have mentioned, I also plan to 
introduce legislation to restore to individual States the 
ability to protect their own citizens from out-of-State 
lenders. As Professor Lawless will explain in his testimony, a 
Supreme Court case a generation ago, in what appeared to be a 
technical matter, stripped States of their historic rights to 
enforce such protections.
    I am a member of the Judiciary Committee. This is a 
Judiciary Committee field hearing. The Judiciary Committee has 
jurisdiction over the bankruptcy system, so this hearing is 
focusing on using bankruptcy law to protect those who fall prey 
to abusive credit card interest rates, with particular 
reference to the Consumer Credit Fairness Act, which I am proud 
to say Senator Durbin, our Deputy Majority Leader in the 
Senate, joined me in introducing this past summer. It would 
amend the Bankruptcy Code to disfavor abusive lenders and 
thereby encourage reasonable interest rates.
    Under the Consumer Credit Fairness Act, claims stemming 
from credit card agreements with interest rates above a cap of 
15 percent above the Treasury yield, which is currently 4.4 
percent, would move to the tail end of a bankruptcy proceeding, 
would get paid last, do not get paid unless everybody else gets 
paid. In the vast majority of cases, as a result, these lenders 
would recover nothing at all if their customers entered 
bankruptcy.
    I hope that this will work on three levels: it will protect 
the consumer in bankruptcy by improving their status; it will 
protect the consumers short of bankruptcy by giving them 
additional negotiating leverage with the credit card companies; 
and it will send a message back up into the credit card 
industry that these abusive interest rates are no longer a 
successful business model.
    Additionally, my bill would waive the so-called means test 
from the banking industry-sponsored 2005 so-called bankruptcy 
reforms, which created a costly and burdensome process that 
bankruptcy filers must undergo to be eligible to discharge 
their debts, and it prevents some filers from receiving a 
discharge at all.
    I would now like to introduce our distinguished panel of 
witnesses. We are fortunate they are able to be with us this 
afternoon to share their expertise in these matters.
    First is Professor Robert Lawless of the University of 
Illinois College of Law. He is a nationally renowned expert on 
bankruptcy and consumer law issues. In addition to testifying 
before our Committee on recent Supreme Court cases this past 
June, Professor Lawless has published articles in numerous 
academic publications and has been featured on CNN and CNBC. He 
has the privilege of teaching at the University of Illinois 
College of Law, his alma mater.
    Professor John Chung, from our own Roger Williams 
University School of Law across the bay in Bristol, is an 
expert in bankruptcy law. Prior to beginning his teaching 
career, Professor Chung worked on the United Nations 
Compensation Commission, which was formed to process claims and 
award compensation for losses resulting from Iraq's invasion 
and occupation of Kuwait in 1990. Professor Chung is a graduate 
of Washington University and the Harvard Law School.
    The Honorable Judge A. Thomas Small has served on the 
Bankruptcy Court of the Eastern District of North Carolina 
since 1982 and has twice held the role of chief judge on that 
court. Judge Small is familiar with banks, having worked in the 
industry for 13 years prior to joining the bench. He is a 
graduate of Duke University and the Wake Forest University 
School of Law. Judge Small is here today in his capacity as a 
member of the National Bankruptcy Conference, the Nation's 
premier organization of bankruptcy experts. His written 
testimony today represents the official position of the 
National Bankruptcy Conference.
    Finally, John Rao of Newport, Rhode Island, is an attorney 
with the National Consumer Law Center, who focuses on consumer 
credit and bankruptcy issues. The National Consumer Law Center 
performs research and trains attorneys who serve low-income 
consumers. Mr. Rao was appointed by Chief Justice Roberts to 
serve on the Federal Judicial Conference Advisory Committee on 
Bankruptcy Rules. Mr. Rao earned his degree from Boston 
University and the University of California Hastings College of 
Law.
    I would also like to take a brief moment to thank Professor 
Elizabeth Warren of Harvard Law School for her tireless efforts 
in fighting for consumer protections and her help in drafting 
my legislation. Professor Warren was originally scheduled to be 
a witness here today, but she had to cancel because she was 
appointed to chair the Congressional Oversight Panel of the 
United States Treasury Bailout Program. You read of her work in 
Tuesday's New York Times, and I wish her the best as she 
oversees and audits the bailout program.
    I would also take a moment to recognize a State Senator who 
is present, Rhode Island State Senator Juan Pichardo, and the 
very distinguished bankruptcy judge of Rhode Island, Judge 
Votolato. Nice to have you with us, Your Honor. Haven't seen 
you in a while.
    Following the witnesses' opening statements, which I ask 
them to limit to 7 minutes, I will ask questions on their 
testimony; and after we have concluded the formal hearing, the 
witnesses have kindly agreed to join me in taking questions 
from the audience in a general panel. If any of you have a 
story or an experience you would like to share or a question 
that we can answer, I hope you will stay around after the 
hearing concludes to take part in this session.
    And now I turn the hearing over to Professor Lawless for 
his testimony.
    One final piece of business. Before everybody begins, may I 
please ask you to stand and be sworn. Do you affirm that the 
testimony you are about to give before the Committee will be 
the truth, the whole truth, and nothing but the truth, so help 
you God?
    Mr. Lawless. I do.
    Judge Small. I do.
    Mr. Chung. I do.
    Mr. Rao. I do.
    Senator Whitehouse. Thank you all very much. Professor 
Lawless, please proceed.

STATEMENT OF ROBERT M. LAWLESS, PROFESSOR OF LAW, UNIVERSITY OF 
                    ILLINOIS COLLEGE OF LAW

    Mr. Lawless. Thank you, Senator Whitehouse. Thank you for 
inviting me to testify today to the Senate Committee on the 
Judiciary.
    It is no longer a lot of work to get people's attention 
about the explosion of consumer credit. The graph I have put up 
on the screen shows the growth in consumer credit over the last 
50 years. Even after controlling for inflation and population 
growth in the United States, we owe five times as much as we 
did 50 years ago on our household debt and almost twice as much 
as we did just one decade ago.
    There has been a huge run-up in the amount of consumer 
credit outstanding. Over the last 10 years, mortgage debt was 
substituted for credit card debt. Some of that mortgage debt 
came in the form of home equity lines of credit. But we now owe 
more than we do in our national personal income.
    One way to look at consumer credit is to compare it to the 
amount of our National personal income for 1 year. As you can 
see, from time to time they both rose together, but in the last 
decade, the amount of consumer credit rose much more 
dramatically than household income. We now owe more in 
household debt than our National personal income for one year.
    One way to think about that is if we took 1 year and we did 
not pay for housing, food, utilities, or any of the other 
necessities of life, it still would not be enough to retire 
just our National personal household debt.
    One of the key events, as you mentioned, Senator, was the 
1978 decision in Marquette National Bank. The 1978 Supreme 
Court decision in Marquette National Bank, while not alone 
responsible for the rise in consumer credit, was one of the 
necessary preconditions to the explosive growth we have seen 
over the last few decades.
    In Marquette National Bank, a Nebraska bank wanted to 
charge 18 percent interest to Minnesota customers, although the 
State of Minnesota judged that the legal rate should be no 
higher than 12 percent. The Supreme Court interpreted the 
National Bank Act of 1864, an act passed in the midst of the 
chaos of the Civil War to establish a stable national banking 
system. The Supreme Court interpreted this then 114-year-old 
statute to let the Nebraska bank export Nebraska law into the 
State of Minnesota. A law that had been passed as a shield to 
protect nationally chartered banks from burdensome State 
regulation, because of the Marquette National Bank, decision 
became a sword that national banks could use to export State 
law--unprotected State laws into other States whose legislature 
had made judgments to the contrary.
    What happened after Marquette National Bank was that banks 
rushed to States with lax usury regulation or, indeed, in some 
instances were able to prevail upon some States to repeal their 
usury statute altogether. The result was an effective national 
deregulation of interest rates. Banks could relocate in these 
States with no usury statutes, with no interest rate cap, and 
then export those rules across the entire country.
    Consumer credit took off. The chart that I just showed owes 
its origins in the 1978 decision of Marquette National Bank, 
and I think one thing that should not be lost on the Committee, 
Senator, is that this was a decision of the United States 
Supreme Court interpreting a 114-year-old statute. It was not a 
decision made by our elected legislative branch. It was not 
even a decision made by the executive branch. Rather, because 
of some arcane rules in a 114-year-old statute, we have ended 
up with a consumer credit system that is completely unregulated 
as to interest rates.
    I want to talk a little bit, though, about high-cost credit 
in bankruptcy, which is the topic of today's hearing.
    Consumer credit is about consumer bankruptcy. As I show in 
my paper called ``The Paradox of Consumer Credit,'' bankruptcy 
rates rise with increases in consumer credit. Bankruptcy rates 
have plummeted in the immediate wake of the 2005 law, but they 
are back on track to reach 1.1 million bankruptcy filings in 
the 2008 calendar year.
    There is a paradox here. Decreases in the amount of 
consumer credit lead to a short-term bump in the amount of 
bankruptcy filings. Just yesterday, I learned that we went over 
5,000 bankruptcies per day in the month of November, and that 
was the first time since 2005. And the reason for the short-
term rise we have seen in bankruptcy filings for the past 4 
months is likely because of the tightening of consumer credit 
that we read so much about today in the headlines. People are 
hurting, and it is beginning to show up in the bankruptcy 
courts. So let me talk a little bit about what some of our 
research shows about the people who are showing up in 
bankruptcy courts.
    I am part of a research project called the Consumer 
Bankruptcy Project, including Professor Elizabeth Warren, and 
what we do is we go out and we talk to people, we survey 
people, we interview people, we collect the court records of 
people who file bankruptcy. The 2007 cohort of the Consumer 
Bankruptcy Project shows that people of modest means show up in 
the bankruptcy courts. The myth of bankruptcy being a free ride 
for high spenders and high-income earners is just that--a myth. 
The typical person in bankruptcy court shows up with just 
$27,000 in income and only $53,000 in assets. Against these 
modest resources, the typical person is $69,800 in debt. Over 
time, we are also seeing people show up in bankruptcy courts in 
worse condition but with the same resources.
    The Consumer Bankruptcy Project has research cohorts in 
1981, 1991, 2001, and 2007, and as you can see from the slide, 
income levels have been relatively constant throughout this 
period, yet debt is continuing to increase. People are showing 
up in bankruptcy court in worse financial shape every time we 
go back into the field to do our research. The 2005 laws did 
not sort out the ``can pays.'' We were told in 2005 we were 
going to get a bankruptcy law that was going to get rid of the 
high-income people who were abusing the bankruptcy system. If 
that was true, we would have expected to see income drop after 
the 2005 bankruptcy law. Instead, it is virtually identical.
    The 2005 bankruptcy law did not work. The only thing that 
has happened is that we have forced people who need the 
bankruptcy courts out of the system, and the people who are 
showing up in bankruptcy court now are in worse shape, with 
higher ratios of debt to their personal household income.
    Another way this shows up is in the questions we ask people 
during the surveys. In both 2001 and 2007, we asked people the 
same question: How long have you been struggling before you 
filed bankruptcy? Forty-four percent now say that they 
financially struggled more than 2 years before they filed 
bankruptcy. That was the most common response of our survey 
respondents. More than 2 years before filing bankruptcy most 
people suffer before they end up in bankruptcy court. 
Bankruptcy is not a free ride. People do anything to avoid it.
    There are a number of fixes that we can have for the 
consumer bankruptcy system, Senator. The Consumer Credit 
Fairness Act that you are sponsoring is a very good step in the 
right direction. As you mentioned, it would subordinate high-
cost credit transactions; it would exempt from the means test 
bankruptcies that were caused by high-cost credit transactions; 
and the Act would serve as a statement that our Federal 
bankruptcy courts will not be used as a collection system for 
abusive and predatory loans.
    Another improvement that could be made to the bankruptcy 
laws is to take steps that would lower the cost of filing. Get 
the bankruptcy laws off the consumer bankruptcy attorneys' 
backs so that will lead to lower attorneys' fees and increase 
accessibility to the bankruptcy courts.
    The means test could be repealed in its entirety. The means 
test, which is meant to shuffle out the ``can pay'' debtors, we 
have seen is a failure. It should be repealed in its entirety.
    We should eliminate pre-bankruptcy credit counseling. The 
post-bankruptcy credit counseling is our best chance to change 
debtors' behavior after filing bankruptcy. The pre-bankruptcy 
credit counseling is nothing but a hassle and a little bit more 
cost before people can get to bankruptcy courts. It serves as 
another hurdle before people can get the relief they need.
    And, finally, I recommend that we give bankruptcy judges 
the power to write down mortgages in Chapter 13, as the Helping 
Families Save Their Homes in Bankruptcy Act would. This would 
restore to bankruptcy judges the power they had before the 1993 
Supreme Court decision called Nobelman. I encourage Congress to 
pass that law.
    Thank you, Senator. Thank you again.
    [The prepared statement of Mr. Lawless appears as a 
submission for the record.]
    Senator Whitehouse. Thanks, Professor Lawless. We very much 
appreciate your being here and having come all this distance.
    I would now turn to Hon. Judge Small.

   STATEMENT OF HON. A. THOMAS SMALL, U.S. BANKRUPTCY JUDGE, 
 EASTERN DISTRICT OF NORTH CAROLINA, ON BEHALF OF THE NATIONAL 
                     BANKRUPTCY CONFERENCE

    Judge Small. Senator Whitehouse, thank you for giving us, 
the National Bankruptcy Conference, the opportunity to comment 
on the Consumer Credit Fairness Act. We strongly support your 
efforts to address the effects of high-cost consumer credit. 
Generally, it is not the Conference's policy to support 
amendments to the Bankruptcy Code that address non-bankruptcy 
problems such as the problem of high-cost consumer credit. And 
the Conference prefers and recommends a broader approach to 
this problem such as a national usury law. But, clearly, high-
cost credit does contribute directly to the filing of many 
bankruptcy cases and has an unfair and adverse effect on other 
creditors. The Conference, therefore, believes that bankruptcy 
legislation would be helpful if a broader solution to high-cost 
consumer credit is not possible.
    The bill is a strong start, but we would like to point out 
a few problems and suggest some ways the bill might be 
improved. The bill in its current form does not capture some of 
the more serious credit abuses. Also, the bill, while providing 
relief for creditors, does not provide relief for consumer 
debtors and in some circumstances could have detrimental, 
unintended consequences for some Chapter 13 debtors.
    Now, credit often becomes high-cost consumer credit not 
when the credit is first established but, rather, in the months 
preceding bankruptcy. As consumers fall behind on their credit 
cards, their payday loans, their rent-to-own contracts, and 
other consumer purchases, or exceed their credit limits, they 
are faced with an avalanche of default rates, late fees, and 
other additional charges that can cause their balances to 
skyrocket. Neither the Truth in Lending definition of annual 
percentage rate nor the bill's reference to the costs and fees 
incurred at the outset of the loan includes these damaging 
later-added costs.
    And we would suggest that the definition of ``high-cost 
consumer credit'' be expanded to cover charges such as late 
fees and default interest rates so that the definition reflects 
the actual cost of credit to the borrower. Specifically, we 
suggest that including the cost of credit imposed within the 6-
month period before filing would improve the bill.
    A second problem is that by subordinating high-interest 
claims but not disallowing those claims, the bill helps 
creditors but not debtors. Subordination solves the problem of 
high-cost creditors obtaining a disproportionate payment of 
their claims in bankruptcy, but it really does nothing to help 
debtors. Subordination reorders which creditors get paid first, 
but it does not reduce the overall amount that has to be paid.
    Instead of subordinating high-cost consumer claims, we 
recommend that they be disallowed. Non-high-cost creditors 
would actually receive the same distribution if the claims are 
disallowed or if they are subordinated. But debtors would be 
greatly benefitted by disallowance in large-asset Chapter 7 
cases, and in full-payout Chapter 13 cases, because the 
disallowed claims for high-cost consumer credit would be 
discharged without having to be paid. But I think it is 
important to keep in mind that in most consumer cases, it 
really will make no difference to the debtor whether the claims 
are subordinated or disallowed because most consumer cases, 
over 90 percent, are no-asset cases in which creditors, whether 
they are high-interest creditors, low-interest creditors, or 
no-interest creditors, really receive nothing. The same is true 
in Chapter 13 where, under means testing, there are more and 
more zero-payout Chapter 13 plans.
    A third problem is that the bill as currently drafted may 
leave Chapter 13 debtors who do not complete their plans, and 
consequently have their cases dismissed, with heavier debt 
loads than when they filed their bankruptcy petitions. This 
problem would exist whether the high-cost credit claims were 
subordinated or disallowed. And that is because the effect of 
subordination or disallowance in a Chapter 13 case is to permit 
payment of regular claims but not the payment of high-cost 
consumer credit claims. If the case is dismissed, no debts are 
discharged, and the high-cost consumer credit claims remain 
outstanding in greater amounts with the high-interest that 
accrued while the case was pending. The end result, of course, 
is that the debtor will owe substantially more than if the 
high-cost debt had not been subordinated or disallowed.
    The solution to that problem is to discharge all fees 
related to high-cost consumer claims that accrue or are 
incurred post-petition in a Chapter 13 case in which a plan has 
been confirmed. This change could be easily implemented by 
adding a new section to Section 1328.
    Finally, although the Conference believes that the current 
means test is a cumbersome, unnecessarily complex, and 
ineffective method of determining a debtor's ability to repay 
unsecured debt, we do not recommend an exclusion from means 
testing for debtors involved in high-cost consumer credit 
transactions, as contemplated in the bill. The definition of 
these transactions is likely to be complex, and the 
computations necessary to determine an exclusion from means 
testing based on high-cost consumer credit would turn the 
already complicated means test forms into an even higher hurdle 
for individual debtors. Excluding means testing for those 
debtors in our opinion simply is not worth the considerable 
trouble it would entail.
    In conclusion, the Conference believes that this bill 
offers a real opportunity to facilitate greater fairness to 
creditors and debtors and provides a real deterrent to abusive 
lending practices. The bill is coming along at precisely the 
right time, and the National Bankruptcy Conference would be 
happy to provide any other information and to assist in 
formulating a draft proposals if the Judiciary Committee would 
find that helpful.
    Thank you, Senator.
    [The prepared statement of Judge Small appears as a 
submission for the record.]
    Senator Whitehouse. Your Honor, thank you for your 
testimony, and let me just take this opportunity to thank both 
you and the National Conference for the clearly careful and 
thoughtful way that you have examined the bill and for the 
recommendations you have made. They are all very much in the 
spirit of what we are trying to accomplish. We look forward to 
working with you on the technical draftsmanship issues to get 
these technical aspects of it more clearly right than they were 
in the first draft, and it is very helpful that you have 
provided this input.
    Judge Small. We are glad to assist in any way.
    Senator Whitehouse. Professor Chung?

  STATEMENT OF JOHN CHUNG, ASSOCIATE PROFESSOR OF LAW, ROGER 
                      WILLIAMS UNIVERSITY

    Mr. Chung. Senator Whitehouse, thank you for inviting me to 
speak before the Judiciary Committee at this field hearing on 
this important subject.
    I would like to start by presenting a question about 
compound interest that I ask my students. I do so before this 
Committee not in the vein of presuming that I am teaching 
anyone anything new, but with the purpose of directing 
attention to one of the major problems of high-cost consumer 
credit. My question is this: At an annual rate of interest of 
36 percent, compounded daily--which is how my credit card 
works--how long does it take for a debt of $1,000 to double? 
When I ask my students, I usually use 25 percent as an example. 
I ask this question in every bankruptcy class. My experience 
has been many students do not know the answer. At the rate of 
36 percent, the answer is that the debt doubles in just under 2 
years. When I tell my students the answer--and the answer for 
25 percent is approximately 3 years--I hear audible gasps of 
surprise. I then ask, ``Where do you see interest rates like 25 
percent in the real world? '', and they quickly identify their 
credit cards.
    My point is that, from my experience, many law students do 
not know how quickly debt grows and compounds at rates like 25 
percent or 36 percent. I hold my students in the highest 
regard, and I want to remind the general audience that these 
are college graduates who had to achieve a certain grade point 
average and standardized test score to be in my classroom. If 
some law students are surprised by the answer, I wonder if the 
typical consumer debtor understands the destructive effect of 
these interest rates.
    And the problem is, of course, that compounded interest of 
36 percent does not stop after 2 years. The debt continues to 
grow. It grows from $1,000 to $2,000 in the first 2 years, then 
from $2,000 to $4,000 in the next 2 years, then from $4,000 to 
$8,000, and so on and so on. The growth rate in debt is 
exponential. Income and asset growth, however, is not--at least 
for most people.
    Once a debtor falls into the trap of exponential debt 
growth, can such a person ever climb his or her way out? I 
highly doubt it. Perhaps we are witnessing the 21st century 
equivalent of the company store where the debtor is just 
another day older and deeper in debt because he has sold his 
soul to his credit card issuer.
    Given the destructive impact of high-cost consumer credit 
on borrowers, I believe there is a strong need for the proposed 
Consumer Credit Fairness Act. The math tells us that once debt 
starts compounding at rates like 36 percent, the borrower will 
end up trapped in a vicious cycle of debt spiraling out of 
control. Laws against usury were designed centuries ago to 
address this problem, but modern lenders have managed to avoid 
the application of those laws. The Consumer Credit Fairness Act 
is needed to restore a more equitable balance between the 
rights of debtors and creditors. The reference to usury laws is 
also helpful because it points out that the Act is a measured, 
sober response to the problem of excessively high interest 
rates and is based on long-established debtor-creditor 
principles. The legal history of England and the United States 
recognized the need to prohibit excessively high interest 
rates. Blackstone's Commentaries on the Laws of England, 
printed in 1765, discussed usury laws. I make this point to 
rebut the anticipated, but weak, argument by lenders that the 
proposed Act would upset their expectations and constitute a 
drastic upheaval in the debtor-creditor relationship. The need 
to address the problem of excessively high interest rates is 
well established, and the fundamental purpose of the proposed 
Act stands on firm legal and historical ground.
    In addition to restoring more balance to the historical 
debtor-creditor relationship, I believe that the proposed Act 
deserves praise because it addresses more contemporary 
problems--problems created by the Bankruptcy Abuse Prevention 
and Consumer Protection Act of 2005. In particular, I am 
referring to the famous--or infamous--means test. The proposed 
Act's exemption of certain debtors from the means test is a 
welcome attempt to provide relief to borrowers in need of 
protection from crushing interest rates.
    I would like to make one general observation about the 
recent changes in consumer bankruptcy law. I think it is highly 
likely that the next generation of legal historians will see 
some significance in the fact that the Bankruptcy Code was 
amended in 2005. 2005 was at or near the peak of the subprime-
fueled housing bubble. I understand that the amendments were 
years in the making, but the fact that the reforms finally 
passed that year is probably not just coincidence. In the mania 
of that bubble, anyone could become a multi-millionaire just by 
buying a house, or two or three. The frenzied spirit of the 
times questioned the intelligence of anyone who was not making 
a fortune. It appears there was a sentiment that there was 
something wrong about someone if he or she was not getting 
rich. This led to and fed the conclusion that there was 
something really wrong if someone filed for bankruptcy 
protection. This line of thinking concluded that in an era of 
easy and instant riches, the people filing bankruptcy must be 
doing so to game the system. That meant drastic reform was 
necessary to stop all those abusers of the system. In 
hindsight, it appears that the people who needed to be reined 
in by legislative reform were those who were facilitating and 
gaming the bubble. It is my hope that the proposed Act 
represents just one attempt to roll back the 2005 amendments.
    The proposed Act deserves support, and this Committee 
should be applauded for considering this legislation. With 
regard to the text of the proposed Act, I raise two issues. I 
raise these issues in the spirit of seeking clarification.
    First, the proposed legislation seeks to amend Section 
707(b) by adding subparagraph (8), which states that 
``Paragraph (2) [the means test] shall not apply if the 
debtor's petition resulted from a high cost consumer credit 
transaction.'' The issue I raise is whether 707(b)(8) applies 
if a debtor files a petition because of high-cost consumer 
credit and other debt, like a large hospital bill. One could 
envision a situation where a debtor is injured, incurs hospital 
bills, and loses income due to an inability to work. Such a 
debtor would probably turn to his or her credit cards to pay 
living expenses. The combination of the medical bills and 
credit card debt would lead to bankruptcy. The creditors would 
likely raise the issue whether the proposed language applies if 
the petition results from other debt in addition to high-cost 
consumer debt.
    My second comment is based on my concern with certain 
language in another provision of the Bankruptcy Code which 
provides that certain types of consumer debts are 
nondischargeable. In Section 523(a)(2) there is language that 
states: ``cash advances aggregating more than $825 that are 
extensions of consumer credit under an open end credit plan 
obtained by an individual debtor on or within 70 days before 
the order for relief under this title, are presumed to be 
nondischargeable.''
    If a debtor has high-cost consumer debt that falls within 
this language, then subordination of such debt through the 
proposed amendment of Section 510 will provide little relief 
because the debt will not be discharged. If the Committee is of 
the view that there is a need to address the discharge issue, 
one way to address it would be by amending Section 523 so that 
debts resulting from high-cost consumer credit transactions are 
treated as nondischargeable.
    Again, I raise these issues as someone who believes in the 
need for legislation addressing high-cost consumer debt and as 
someone who supports the proposed Act.
    Thank you for the opportunity to present my remarks.
    [The prepared statement of Mr. Chung appears as a 
submission for the record.]
    Senator Whitehouse. Thank you, Professor Chung. I 
appreciate it. Once again, the thoroughness of your inquiry 
demonstrates the careful look you have taken at it, and I 
appreciate your advice, and we will work with you to 
incorporate it.
    Attorney Rao?

 STATEMENT OF JOHN RAO, ATTORNEY, NATIONAL CONSUMER LAW CENTER

    Mr. Rao. Senator Whitehouse, thank you for the opportunity 
to testify here today and to consider ways to improve our 
bankruptcy laws to encourage reform of credit card practices. I 
testify here today on behalf of the low-income clients of the 
National Consumer Law Center and the National Association of 
Consumer Bankruptcy Attorneys.
    My testimony is based on over 25 years of experience 
representing consumers and consulting with other attorneys in 
debt collection, bankruptcy, and foreclosure defense matters, 
initially as an attorney with Rhode Island Legal Services. In 
fact, some of that time was before Judge Votolato, who I am so 
pleased to see here today.
    In my experience, I have found that many consumers use 
credit cards as a safety net, to make essential purchases that 
they are unable to pay in full on a cash basis. Living paycheck 
to paycheck for some of these consumers, they often lack 
savings to cover unexpected expenses. In a recent national 
survey of indebted low- and middle-income consumers, seven out 
of ten said that they use credit cards to pay for important 
things like car repairs, home repairs, medical expenses. Of 
course, in our current economic situation, even more consumers 
can be expected to rely on credit cards to get through the 
difficult times that we see now.
    It is also my experience that few consumers borrow money on 
credit without intending to repay. Their plans to repay, 
however, easily change, often due to unforeseen circumstances 
such as adverse events like illness or divorce. Other consumers 
fall into traps set by credit card companies. Even small 
setbacks, like using a credit card to pay for some prescription 
drugs or to repair a home furnace, can send consumers into a 
spiral of late fees, over-limit fees, and increased interest 
rates that become impossible to escape. And this is 
particularly true for some older consumers with diminished 
incomes after they retire.
    There is no question that credit cards provide a great 
convenience for many consumers. The dangers come from the 
borrowing features of these cards and can get consumers into 
deep financial trouble.
    Some of these practices of credit card companies such as 
deceptive marketing, confusing payment allocation rules, 
retroactive rate increases on existing balances, and universal 
default, such as you mentioned earlier, Senator Whitehouse, 
hopefully will be addressed by a pending rulemaking proceeding 
before Federal agencies and by bills pending in Congress. And 
while many of those practices alone or in combination can lead 
a consumer into financial trouble, my focus today will be on 
the punitive practices of credit card companies once they get 
into trouble and once they are trying to get out of financial 
trouble by repaying their debts and avoiding bankruptcy.
    Rather than try to help payment troubled consumers with an 
affordable monthly payment that would reduce the balance owed, 
card companies do the opposite and jack up interest rates to a 
penalty rate, usually as soon as the consumer makes a late 
payment or exceeds the credit limit. These penalty interest 
rates can be as high as 30 to 40 percent.
    Another real contributing factor to this snowballing effect 
is all of the additional punitive fees like wire transfer fees, 
cash balance over-limit fees. Rather than assist borrowers who 
honestly seek to repay their debts, card companies really 
prefer to extract as much as they can during this period of 
time just before filing bankruptcy. As Professor Lawless said, 
in this 2-year period where they are struggling to repay their 
debts, they are actually being imposed with more fees.
    The chief counsel of the Comptroller of the Currency 
described this business model as, ``The focus for lenders is 
not so much on consumer loans being repaid, but on the loan as 
a perpetual earning asset.'' I would like to give you some 
examples of these that demonstrate this.
    One example is a Rhode Island senior who recently passed 
away, who went to Rhode Island Legal Services for advice on 
credit card problems. He was concerned because although he was 
paying more than half of his income each month on several 
credit cards, he seemed to be getting nowhere in paying off the 
payments, the balances. A review of his card statements 
confirmed his concern. At some point after he had stopped using 
his cards, excessive interest rates and other fees absorbed all 
of his payments and actually were increasing his balance.
    For example, his credit card statement in December 2006 
showed that he had made a $200 payment in November of that 
year, 2006. However, an interest charge of $272.87 based on a 
32.24-percent APR had been assessed, as well as a $39 late fee. 
Not only did his $200 payment not cover the periodic interest 
charges for the month, but it left him further behind by 
$111.97. You may ask why would anyone pay $200 only to get more 
than $100 behind. He eventually stopped making payments on his 
credit cards after realizing that repayment was impossible. He 
spent the last years of his life responding to collection 
actions.
    One widely publicized case in Ohio was very similar, 
almost--really even worse. This consumer had a balance of 
$1,963. She decided that she was not going to use the card 
anymore, and over the next 6 years paid to her credit card 
company $3,492 in payments. One might assume that would have 
paid off her debt completely.
    During the 6-year period before her account was sent to 
collection, not one penny of the $3,492 in payments went to 
reduce her debt. She was charged during that time $9,056 in 
interest, late fees, and over-limit fees. Amazingly, after 
paying almost $3,500 on a $1,963 debt, her balance grew by 
another $5,564.
    There are many other examples of these, especially when 
claims are filed in bankruptcy, and we have examples of large 
portions, as much as 50 percent of the claims that are filed in 
Chapter 13 cases on credit cards, consist of interest, late 
fees, and over-limit fees.
    The current economic crisis has made it even more 
impossible for many consumers to repay debts. Declining 
property values and the home foreclosure crisis have eliminated 
the option many consumers previously used to repay credit by 
cashing in on their home equity. Now more than ever, Congress 
should enact laws which encourage credit card companies to work 
with payment troubled consumers and, most importantly, to limit 
excessive interest and fees. Therefore, we strongly support the 
Consumer Credit Fairness Act, and thank you, Senator 
Whitehouse, for introducing that bill. It is a strong step in 
the right direction.
    Thank you again.
    [The prepared statement of Mr. Rao appears as a submission 
for the record.]
    Senator Whitehouse. Thank you very much for your testimony, 
and thank you also for your work on behalf of consumers who are 
caught in this--the words that have been used include ``trap,'' 
``spiral,'' ``snowball.'' It implies a very dynamic process in 
which the credit card companies are working pretty actively to 
keep consumers in--you described it as sort of that 2-year 
period.
    Professor Lawless, before the hearing, you told me about a 
colleague of yours who used the phrase ``sweat box'' to 
describe this. Would you describe for the record that term and 
how it is used?
    Mr. Lawless. Sure. That term comes from a law review 
article in the University of Illinois Law Review, ironically 
enough, called ``The Sweat Box of Credit Card Debt,'' by 
Professor Ronald Mann, now at Columbia University. And his 
point is that the credit card companies, as John Rao has just 
pointed out, no longer use this model of lending and getting 
paid back. The old ``It's a Wonderful Life,'' of getting repaid 
and making a little bit of money off the interest, that is 
gone. That time is gone. That is not the way consumer lenders 
work anymore.
    What was the phrase that was used? We want a perpetual 
asset--
    Mr. Rao. Perpetual earning asset.
    Mr. Lawless. Asset producing perpetual revenue. And that is 
the idea, the sweat box idea, is that when the credit card 
companies make the most money off of borrowers is when people 
are not in good enough shape that they are paying on time, but 
they are not in bad enough shape that they can file bankruptcy 
or need to file bankruptcy. Credit card companies make the most 
money when consumers are in the sweat box, as Professor Mann 
put it, when they are piling up the huge interest rates, piling 
up the big penalty fees. The longer the credit card companies 
can keep people in that sweat box, the more money the credit 
card companies are going to make. And the effect of the 2005 
bankruptcy law--you know, we talk about the means test--but the 
real big effect of the 2005 bankruptcy law was to raise the 
cost of filing in terms of money and time and hassle. When you 
raise the cost of something, people are going to use less of 
it. And what happened is that we pushed back the amount of time 
before someone is going to be desperate enough to file 
bankruptcy and keeping people in that sweat box longer. That 
has been the effect of the 2005 bankruptcy law. That is what I 
think the consumer credit industry wanted, and from our data, I 
think that is what they got.
    Senator Whitehouse. Judge Small, one of the points that you 
made in your testimony was that pre-bankruptcy credit 
counseling, which was something that the banks argued for in 
the 2005 so-called reform, has not been effective and has the 
effect of delaying the day when they can get into the court and 
seek your protection.
    In the context of this revenue-producing asset model, in 
the context of this sweat box model, would it be fair to look 
at the mandatory pre-bankruptcy, pre-filing credit counseling 
as a time period that extends this sweat box in which they work 
the consumer?
    Judge Small. I think so. I think credit counseling has 
proven not to work at all. It is just another obstacle that 
debtors face to getting into bankruptcy. And I think the more 
obstacles you can take away, the better.
    Senator Whitehouse. The card companies are not 
unsophisticated about this stuff. They must realize that credit 
counseling pre-filing does not work, so presumably there is 
another motive. Does it make sense to you that keeping 
consumers in this so-called sweat box is that motive?
    Judge Small. It could very well be. It certainly has that 
effect. You might ask, why would a debtor stay in this sweat 
box for a couple years when he has got all this debt that he 
really cannot pay, even at the regular interest rates? We see 
debtors all the time that have $30,000, $40,000, $50,000, 
$60,000 in credit card debt. Sometimes that is what their 
annual income is. At 18 percent, how are they ever going to pay 
that off? Well, probably they cannot.
    But people believe in paying their debts. There is a 
misperception that debtors are abusing the bankruptcy system. 
Well, I can tell you that the debtors that come into my court 
do not want to be there. That is the last place they want to 
be. They want to stay away from bankruptcy. They want to pay 
their debts. And most of them are walking the tightrope. They 
are making the minimum payments. They are doing the best they 
can to meet their obligations and not get into bankruptcy. Then 
they get behind on one payment, and under a universal default, 
then their interest rate goes from 18 percent up to 29 percent, 
and that can be on all their credit cards. Then at that point I 
think they realize that there really is no way I am going to be 
able to make it, and they go into bankruptcy.
    There is another factor here, too. These people are 
proceeding in good faith, trying to pay their debts, and once 
they get hit with all these late charges, the universal default 
fees, they feel like, well, gee, why am I doing this? Why am I 
killing myself trying to pay all this debt when they are not 
helping me at all, in fact, they are working against me?
    Senator Whitehouse. One of the explanations for some of 
this, Professor Chung, that I have heard--and I would love to 
hear your comment on this observation--is that different credit 
card companies are aggressive to different degrees, but that 
the worst of them, the ones who are most aggressive, the one 
who comes up with the most clever and diabolical traps, have 
the effect of increasing their revenues and, in effect, driving 
the market, and that other credit card companies that may not 
have wished to take that step now feel obliged to match the 
market and follow along, and that there is sort of a bad-actor, 
follow-the-leader phenomenon that is taking place. And the 
further observation that was made to me about that is that 
there is no logical end in sight to that unless somebody steps 
in and does something. I would like your observation on that.
    Mr. Chung. Well, I agree with that last observation 
completely. Until someone intervenes--and by ``someone,'' I 
mean the Federal Government--I do not see an end to these sorts 
of practices.
    I wish I knew how the inner mechanisms of the credit card 
industry worked, but I am sure it works along the line of 
viewing these loans as this perpetual revenue-generating asset. 
That is the only way it makes sense in terms of why they do 
these things. And as Professor Lawless mentioned, it has really 
gotten past the point of--the lenders do not even seem to care 
if the principal is ever paid back.
    I think what is motivating lenders is that as long as some 
sort of payment is being made on the loan, then it does not 
have to go into a special category as a delinquent asset or 
become some sort of special asset. As long as they can keep it 
on their books as a good asset, that is all they care about.
    My guess is that they do not care about the amount of the 
indebtedness. All they care is that there is some sort of 
partial debt service going on. And, in fact, in terms of the 
examples of Mr. Rao, you have this increasing debt load, but 
instead of it being a problem loan--I think a common-sense line 
of thinking would say, Well, isn't that a problem if the debt 
just keeps going up? Well, yes, if you ask the average person 
common sense-wise, yes, that seems like a problem. But from the 
credit card issuer's perspective, that is not a problem. That 
is exactly what they want because that is where the money is.
    And so I think the credit card issuers are following each 
other's business models, and really the maximization of profit 
lies in the people who are unable to pay down the debt but are 
able to service part of it. And they do not really care how 
long, or if ever, that principal is outstanding because they 
can always record these as being good assets on the books with 
income coming in every year, and to the extent that the 
principal grows, that means our assets are growing. So, 
actually, from their balance sheet perspective, it is actually 
a good thing if the credit card debt keeps going up.
    So if that is how the business model works, then, you have 
some really, I think, unwise incentives--I mean in terms of 
societal incentives--regarding debt growth. The government 
should step in to unwind or to undo these really unwise 
incentives because no private participant will do on its own.
    Senator Whitehouse. If you go back to Mrs. Owens, she is a 
good illustration of that. She owed $1,963. Over 6 years she 
paid back $3,492. In your testimony, you calculated that that 
would be payment of 100 percent of principal and an effective 
interest rate of 21 percent, which is a pretty good return to a 
lender. And yet at the end of that exchange, the effect was not 
that Mrs. Owens had paid off her debt and the lender had made 
21 percent and everybody was happy. It was that she still 
owed--what was it?--$5,564 that I suppose the credit card 
company, in addition to having made 21 percent, could then 
write off as a loss on that account.
    Mr. Rao. That is right. As Professor Mann has shown, that 
model works so well because they have essentially recovered all 
of--all of the charges that Ms. Owens made have been paid. So 
everything essentially after a certain point is just absolutely 
pure profit, especially when you look--and what he looks at in 
his work, which is very interesting, is that the cost of 
borrowing, especially over the past 5 years or so, has been 
really quite low. For the credit card companies, they are 
borrowing their own at 3 percent, and they are now charging 30 
percent to the borrower. So, clearly, this is a model that 
works very well for them in terms of the profit.
    Judge Small also mentioned that a lot of times when 
consumers file, they may have $30,000 or $40,000 in credit card 
debt. And when you look actually at how much--and to a lot of 
the individuals in the audience who may think, Well, how could 
it get that large? Why could someone have $30,000, $40,000 in 
unsecured credit card debt? In many of these cases, if you look 
at each card, it may be that there is only about $4,000 or 
$5,000 of actual charges on them. These debts grow quickly at 
these interest rates.
    In the case of the Rhode Islander that I mentioned, when he 
stopped paying his credit card, it then had increased to about 
$9,000. Within a year and a half, it had been transferred to 
several debt collection companies and had grown to $15,000. 
Just in a year and a half, it had grown that much. So, you 
know, when you look at a bill and you say, well, that is 
$14,000, it may only be $5,000 of actual card use.
    Senator Whitehouse. You are in this market in Rhode Island 
day to day. As the economic stress that we are experiencing 
nationally has really focused hard in Rhode Island and made it 
so hard on families, what are you seeing in your practice? Are 
you seeing a change?
    Mr. Rao. Well, actually, my practice is more actually now 
based on where I work in Boston, but I do work with the 
attorneys at the Rhode Island Legal Services. Certainly the 
biggest problem right now is the home foreclosure problem. That 
is the thing especially what they are dealing with quite a bit. 
But there is a relationship between the credit card problem and 
the foreclosure. There are some very important reasons why we 
are in the foreclosure problem that we have. But for some 
consumers, they have gotten into this problem because they have 
used their house as a way to deal with credit card debt. They 
have gotten home equity. They have borrowed on their house to 
pay off credit card debt over the past 10 years. And, in fact, 
even after they get these mortgages, sometimes they will be 
paying--they will be diverting payments that should be going to 
the mortgage to pay credit card companies at these 30-percent 
interest rates and falling into default on mortgages.
    So all of this credit problem picture is very much tied 
together, and it is hard to look at one without the effect on 
the other.
    Senator Whitehouse. And it appears to be expanding.
    Mr. Rao. Absolutely.
    Senator Whitehouse. Walk me through the steps that take 
somebody up to one of these exorbitant interest rates. You get 
the solicitation in the mail. It says, I do not know, 10.9-
percent APR in great big print. It has got a 20-page contract 
behind it. You sign it, you send it off, and before you know 
it, you are paying an effective interest rate of 30, 40, 50 
percent once you put in late penalties and fees.
    How does that happen? Walk me through a sort of generic 
scenario of Joe Debtor getting clobbered.
    Mr. Rao. Well, sadly, Senator, I wish it were a long story 
in which there was a lot to really describe. But again, sadly, 
the scenario is something that can be described very quickly. 
In that situation--you know, for a lot of consumers who 
actually do not use a credit card for convenience purposes and 
pay off their balances, there is not a problem. But for the 
consumers who are struggling, a lot of the lower- and middle-
income families, they will get that credit card. It might be 
fine for 2 or 3 months, 6 months if they are lucky. But as soon 
as there is a late payment, that is it. All it can simply take 
is being late with a payment. And even there, there are so many 
tricks in terms of late payment.
    We were involved in a case where we were able to show that 
the credit card company had had a policy in which your--let's 
say your payment was due on the 17th of the month, and you 
posted it in a way so that it would be received on the 17th of 
the month. It would be late if it was received by the credit 
company at 11 a.m. that day because their cutoff time was 10 
a.m. that day. Now, most consumers would think I have until the 
end of the business day, 5 o'clock or 6 o'clock, to make that 
payment. Well, those are the kinds of practices that get 
consumers to get behind, and all it takes is that one late 
payment, and now they are being jacked up to a much higher 
interest rate.
    So I wish there was a much longer description of what it 
takes to get into trouble, but sometimes it really does not 
take much at all.
    Senator Whitehouse. Is there a list of these various tricks 
and traps that you have assembled? I mean, that is pretty 
inventive, to have a 10 o'clock in the morning cutoff. They 
have probably figured out when the mail is delivered, which is 
at 11:00.
    Mr. Rao. Actually, I have to say that the Federal Reserve 
Board and the other agencies are trying to crack down on those 
very policies. And, in fact, there is a proceeding pending 
right now which will try to prevent that kind of thing from 
happening. But, yes, there are many of those kinds of examples 
of different types of--
    Senator Whitehouse. Professor Lawless, you wanted to add 
something?
    Mr. Lawless. Yes. You started off with a 10-percent APR. 
That is not what the solicitation is going to say. It is going 
to say zero-percent APR. These traps and tricks are trade 
secrets in the consumer credit industry. Elizabeth Warren, a 
name we have invoked a few times here today, has estimated that 
the consumer credit industry does 400 to 500 experiments a year 
to try to figure out what makes people sign up for these credit 
solicitations. The consumer credit industry knows better than 
you or I do how we are going to use our credit cards. So the 
deck is already stacked before that envelope is opened.
    Senator Whitehouse. How much disclosure is there of all of 
that?
    Mr. Lawless. Well, there is the same disclosure we all see, 
which is a couple of pages of very fine print that you need a 
magnifying glass to read and that even a law professor often 
cannot understand. I have tried to read these credit agreements 
myself, and it takes me 45 minutes to try to decipher it. The 
idea that disclosure is going to solve the problem is a myth, 
is a fairy tale. It is not going to--
    Senator Whitehouse. But I mean in terms of their research 
and their product, that is all proprietary and they will not 
let any of that--
    Mr. Lawless. Oh, the disclosure of that, those are all 
trade secrets. We have no idea. One thing you mentioned 
earlier--it would be a great help to university researchers and 
people trying to study this. We had a conference at the 
University of Illinois last May. We assembled scholars from all 
over the world that work on consumer debt, and this was where 
this point was made about 400 to 500 experiments being run by 
the consumer credit companies. We were celebrating people that 
had run a couple experiments a year. We need more disclosure 
from the consumer credit industry about what they are charging 
to people, how much people are paying.
    We do not know, for example, right now what the average 
rate is that is being paid on credit cards. Data is reported to 
the Federal Reserve, but only in the aggregate. So we do not 
know these slices of the very high default rates. And one of 
the things I would encourage Congress to take a look at is 
forcing more disclosure on the consumer credit industry so 
people like myself, people at universities, people who are not 
paid by either side, can look at these data and try to make 
sound policy prescriptions.
    Senator Whitehouse. Let me ask one last question, and then 
open it to any public comment or question that we may have, and 
that is, there has been--we have kicked around in Washington a 
certain amount the idea of a Financial Product Safety 
Commission along the lines of the Consumer Product Safety 
Commission. If a toaster is defective, the Consumer Product 
Safety Commission will have something to say about it, and yet 
these highly complex, as you have described, financial 
instruments that even lawyers have trouble understanding are 
marketed across the country to people who have no real way to 
look into it themselves. And there really does not seem to be 
an institution that can attach a warning to it and say, look, 
here is the real deal, this is not approved, this is not 
legitimate, this is a dangerous product, you will face these 
consequences if you enter into it.
    Do you think that sort of an idea makes sense?
    Mr. Lawless. Well, I guess I have to respectfully disagree 
on that one. I see the same problems that have led the 
proponents of that sort of commission to propose it, but for 
the same reasons that disclosure is not working now, I think 
sticking a warning label on something is not going to work. 
Instead, I think ideas like your Consumer Credit Fairness Act 
that gets in and gets at the root of the problem, which is the 
price that is being put on the consumer credit, would be a 
better way to go. I think substantive regulation that cracks 
down on these practices in the long run will be more effective 
than another regulatory commission that is going to be battling 
the consumer credit industry. It is going to be a stacked deck 
if you are going to have a government agency against one of the 
Nation's largest industries that is one of the Nation's best 
industries at tricking consumers into signing up for their 
high-cost products.
    Senator Whitehouse. Well, with that, let me call the 
official part of the hearing to a conclusion. I thank the 
witnesses for their testimony and remind them that the hearing 
remains technically open for another week if anybody wishes to 
supplement their testimony in any way.
    We are now officially adjourned.
    [Whereupon, at 3:14 p.m., the Committee was adjourned.]
    [The submissions for the record follows.]

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