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Virus Relief Bill Could Harm Lending, Collections Landscape

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By David Dormont, Gregory Donilon and Maura Russell

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Law360 (September 8, 2020, 5:31 PM EDT) —

David Dormont
David Dormont
Gregory Donilon
Gregory Donilon
Maura Russell
Maura Russell

As the COVID-19 pandemic continues to impact the U.S., Congress may potentially alter the legal landscape for creditors and debtors.

The U.S. House of Representatives recently passed H.R. 6800 — the Health and Economic Recovery Omnibus Emergency Solutions, or HEROES, Act. This $3 trillion, 1,852-page bill contains provisions that would significantly affect the extension of credit to and the collection of debts from individuals, small businesses and nonprofit organizations.

In short, most legal collection and enforcement efforts against covered entities and individuals would likely be stayed nationwide for the foreseeable future. 

Since the pandemic began, creditors attempting to collect debts and/or enforce judgments and security interests have faced a hodgepodge of state and local procedures restricting such measures. Under the HEROES Act, those collection actions that have been allowed to proceed may actually grind to an indefinite halt. 

Highlighted below are several important provisions of the act that, if passed, would abruptly shift the playing field for creditors and debtors. These provisions also raise a host of questions and potential pitfalls. As detailed further, this well-intended legislation may actually be fraught with unintended consequences for both creditors and debtors — unintended consequences that could exacerbate already-distressed economic conditions.

The Bill

As a proposed amendment to the Fair Debt Collection Practices Act, the HEROES Act would prohibit most collection actions against small businesses and nonprofits from the date of the law’s enactment until 120 days after the end of the president’s national emergency declaration. This covered period figures to be a long pause, which may continue well into 2021.

The upshot of this legislative moratorium is that creditors may be saddled with large receivables that they cannot legally attempt to collect for at least a year. Once the act’s moratorium ends, it is likely that creditors attempting to seek relief through the court system could still encounter an unprecedented backlog of cases.

Additionally, the act would expand the FDCPA’s definition of a “debt collector” to include essentially any person or entity that engages in the collection of a debt and may require such person or entity to follow the requirements that the FDCPA places on debt collectors.

There are two important exceptions to the foregoing. First, a mortgage loan is not covered in the definition of a debt. Second, the restrictions do not apply to “an obligation arising out of a credit agreement entered into after the effective date” of the act.

Thus, if after the act becomes effective, (1) the debtor signs a new credit agreement, and (2) the creditor lends new money or tenders new goods based on that new credit agreement, then the creditor will not be restricted by the provisions of the act in collecting that new accumulated debt. 

Prohibited Collection Activity

The HEROES Act would bar various collection measures, including:

  • Enforcing a security interest;
  • Collecting any debt;
  • Commencing or continuing an action to evict a small business or nonprofit organization for nonpayment; and
  • Threatening to take any of the foregoing actions.

As proposed, the act would effectively stop the enforcement of any judgment against a covered business, even if the judgment was obtained before the act’s effective date. Arguably under The HEROES Act, creditors may also be prevented from asserting mechanic’s liens against covered businesses and nonprofits. Further, creditors may be forbidden from renewing existing liens as they expire due to state time limits. 

The HEROES Act’s prohibition on threats to take certain action raises the important question of whether a creditor would be prohibited from even filing a lawsuit against a debtor. In many jurisdictions, the entry of a judgment results in an attachment of the debtor’s real property, which the act would explicitly prohibit.

A lawsuit may therefore be deemed a threat to attach or foreclose on real property. While the act is silent about whether obtaining a judgment would violate the law, it does explicitly prohibit commencing or continuing an action to evict a small business or nonprofit.

As such, there is a potential statutory counterargument that, if Congress had intended to bar a creditor from commencing or continuing a suit for a debt owed, it knew how to do so and determined not to impose such a prohibition.

Protected Businesses

The HEROES Act would protect a wide array of businesses from collections, including small businesses and almost all nonprofits organizations, including most universities, schools, hospitals, religious organizations and charities.

With respect to small businesses, the act defines the term as having the same definition as the term “small business concern” in Section 3 of the Small Business Act. In addition to certain criteria enumerated in the SBA, classification as a small business concern under the SBA is dependent upon the definition of “small” under industry size standards categorized using North American Industry Classification System codes.

The industry size standards are generally based on the average number of employees over the previous year or average annual receipts over the past three years. 

Creditors should take note that these standards vary from industry to industry and some businesses may still qualify as a small business concern and, thus, a small business under the HEROES Act, despite having as many as 1,500 employees or up to approximately $40 million in average annual receipts depending upon the applicable industry.

Indeed, the SBA definition of a “small business concern” encompasses more than just the typical mom-and-pop shop and includes a large segment of U.S. businesses. Given the complexities of identifying a small business under the HEROES Act, and before pursuing any collection activity against another business, creditors should seek assistance from legal counsel to determine whether a particular business is a small business protected by the act.

Tolling

The HEROES Act would toll “[a]ny applicable time limitations for exercising an action” against a small business or nonprofit for the duration of the covered period. Accordingly, the act attempts to protect creditors who are unable to timely pursue claims as a result of the act’s restrictions

This provision of the act, however, raises the constitutional question of whether this federal act can modify a state’s statute of limitations period. This question may need to be addressed by the courts in coming years. 

Penalties

Violations of the collection provisions of the proposed HEROES Act are subject to the penalties set forth in Section 813 of the FDCPA. Along with those potential damages specified under the FDCPA, in any successful action to enforce the foregoing liability, the costs of the action and reasonable attorney fees may be awarded.

While pursuing such claims may seem like a bonanza for plaintiff’s firms, under the unique Catch-22 of the HEROES Act, any judgment obtained against a small business could not be enforced and, arguably, may not even be commenced.

Protections for Consumer Debts

The HEROES Act also offers a variety of protections to individuals that parallel those offered to small businesses and nonprofits, including a proposed eviction moratorium, and prohibitions of the same broad array of collection efforts. The HEROES Act also clarifies that, after the covered period ends and debt-collection protections expire, individuals will not be forced to repay those debts at an accelerated rate. 

The HEROES Act creates a credit facility for creditors and debt collectors who suffer losses caused by loan forbearance to consumers.

But companies seeking these loans will be subject to extra restrictions, including (1) the companies must grant automatic forbearance “upon the request of a consumer,” and (2) they may not charge “fees, penalties, or interest (beyond the amounts scheduled or calculated as if the borrower made all contractual payments on time and in full under the terms of the loan contract) … to the borrower in connection with the forbearance.”

The exact requirements for obtaining these credit facilities and how such facilities will be rolled out are not spelled out in the act and will require significant regulatory input and clarification. 

Impact on Creditors

At first blush, the proposed restrictions on collection efforts under the HEROES Act appear to give struggling businesses and nonprofits the needed breathing room to stabilize their operations and cash flow, and get back on their feet.

In practice, due to the act’s expansive effect, imprecise definitions and indefinite duration, the act’s long-term impact on small businesses and nonprofits may have the opposite effect. In particular, other businesses large and small may hesitate doing business with such entities due to the increased credit risk posed by such transactions.

During the covered period, lenders, vendors and suppliers looking to do business with small businesses and/or nonprofits would no longer be able to rely on the ordinary business terms and relationships that existed prior to the effective date of the HEROES Act.

In order for post-effective date lending, extensions of credit, and delivery of goods to fall outside the restrictions of the act, new credit agreements would need to be entered into before the extension of credit or other business transaction with the small business or nonprofit.

Vendors and suppliers without a new credit agreement may consider providing goods or services to a small business or nonprofit on a cash in advance or a cash on delivery basis to protect themselves from being unable to collect from a small businesses or nonprofit that fails to timely perform or satisfy even post-HEROES Act debt obligations.

This will make an already bad credit situation even worse. As the term “credit agreement” is not defined under the HEROES Act, lenders, vendors and suppliers, even if unsure as to whether or not a business is considered a small business or nonprofit organization under the act, would be well served to memorialize further lending and extensions of credit in a new master credit agreement, evidencing the timing and the credit terms.

It is important to note that, under the act, pre-HEROES Act debt is not being forgiven. It is merely being postponed. As many lenders, vendors and suppliers will continue to do business with many small businesses and nonprofits, the act’s standstill could lead to financial difficulties for these creditors themselves. Moreover, these same creditor entities may or may not be protected from their own creditors by the HEROES Act.

If they are not protected, these lenders, vendors and suppliers could be faced with creditor workouts or bankruptcy scenarios of their own. Lenders, vendors and suppliers will be faced with important decisions of whether they want to continue to do business with business entities under these circumstances.

The HEROES Act will most certainly influence — and in many instances negatively — key components of the bankruptcy system. Indeed, without the need to file for bankruptcy protection, the act serves as a massive, unsupervised automatic stay for tens of millions of individuals and businesses.

Not only would collection efforts be stayed under the act, but creditors — now all classified as debt collectors — are likely prohibited from, among other things, commencing an involuntary bankruptcy proceeding against a small business or nonprofit organization that is in default on its payment obligations to such creditor on account of a pre-HEROES Act covered debt.

Instead, the creditor must stand by and wait until the covered period expires, in the hopes that the small business or nonprofit organization has stabilized itself and has the necessary cash flow to resume payments under the payment plans imposed by the HEROES Act. 

Preferring Creditors

The HEROES Act expressly does not prohibit a small business or nonprofit “from voluntarily paying, in whole or in part, a debt,” thereby allowing small businesses and nonprofits to prefer one creditor over another during the covered period. In a bankruptcy proceeding, a trustee is vested with avoidance powers to recover such preferential payments and redistribute them among the debtor’s creditors.

Given the duration of the covered period, many payments made to preferred creditors during the covered period would no longer be avoidable in a subsequent bankruptcy case or state court insolvency proceeding because the applicable look back period (usually 90 days) under the U.S. Bankruptcy Code and certain state laws will have expired.

Thus, unless the lookback period is extended, preferential payments made by a small business or nonprofit to certain of their creditors during the covered period may ultimately be unrecoverable to the detriment of other creditors that were not paid and were faced with the restrictions of the HEROES Act.

Furthermore, given the broad definition of a “debt collector,” the act might even prevent a trustee in a pending bankruptcy case from commencing or continuing any preference avoidance action against a small business or nonprofit organization until such time as the covered period is over.

While affording small businesses and nonprofits with the necessary breathing room for the near future, the HEROES Act may do little more than delay the inevitable rush to the bankruptcy court that may still occur after the covered period.

Unsecured lenders, vendors and suppliers who continue to do business with these small businesses and nonprofits may find that, even with a new credit agreement as discussed above, once the covered period is over, they stand in a very long line for payment with all of the other creditors of such small business or nonprofit.

Absent a perfected lien or security interest, such unsecured lender, vendor or supplier will have no preferred status over other pre-HEROES Act creditors. 


David Dormont, Gregory Donilon, and Maura Russell are partners at Montgomery McCracken Walker & Rhoads LLP.

The opinions expressed are those of the author(s) and do not necessarily reflect the views of the firm, its clients, or Portfolio Media Inc., or any of its or their respective affiliates. This article is for general information purposes and is not intended to be and should not be taken as legal advice.

For a reprint of this article, please contact reprints@law360.com.

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How to Avoid a Prepayment Penalty When Paying Off a Loan | Pennyhoarder

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Look at you, so responsible. You received a financial windfall — stimulus check, tax refund, work bonus, inheritance, whatever — and you’re using it to pay off one of your debts years ahead of schedule.

Good for you! Except… make sure you don’t get charged a prepayment penalty.

Now wait just a minute, you say. I’m paying the money back early — early! — and my lender thanks me by charging me a fee?

Well, in some cases, yes.

A prepayment penalty is a fee lenders use to recoup the money they’ll lose when you’re no longer paying interest on the loan. That interest is how they make their money.

But you can avoid the trap — or at least a big payout if you’ve already signed the loan contract. We’ll explain.

What Is a Loan Prepayment Penalty?

A prepayment penalty is a fee lenders charge if you pay off all or part of your loan early.

Typically, a prepayment penalty only applies if you pay off the entire balance – for example, because you sold your car or are refinancing your mortgage – within a specific timeframe (usually within three years of when you accepted the loan).

In some cases, a prepayment penalty could apply if you pay off a large amount of your loan all at once.

Prepayment penalties do not normally apply if you pay extra principal in small chunks at a time, but it’s always a good idea to double check with the lender and your loan agreement.

What Loans Have Prepayment Penalties?

Most loans do not include a prepayment penalty. They are typically applied to larger loans, like mortgages and sometimes auto loans — although personal loans can also include this sneaky fee.

Credit unions and banks are your best options for avoiding loans that include prepayment penalties, according to Charles Gallagher, a consumer law attorney in St. Petersburg, Florida.

Unfortunately, if you have bad credit and can’t get a loan from traditional lenders, private loan alternatives are the most likely to include the prepayment penalty.

Pro Tip

If your loan includes a prepayment penalty, the contract should state the time period when it may be imposed, the maximum penalty and the lender’s contact information.

”The more opportunistic and less fair lenders would be the ones who would probably be assessing [prepayment penalties] as part of their loan terms,” he said, “I wouldn’t say loan sharking… but you have to search down the list for a less preferable lender.”

Prepayment Penalties for Mortgages

Although you’ll find prepayment penalties in auto and personal loans, a more common place to find them is in home loans. Why? Because a lender who agrees to a 30-year mortgage term is banking on earning years worth of interest to make money off the amount it’s loaning you.

That prepayment penalty can apply if you want to pay off your loan early, sell your house or even refinance, depending on the terms of your mortgage.

However, if there is a prepayment penalty in the contract for a more recent mortgage, there are rules about how long it can be in effect and how much you can owe.

The Consumer Financial Protection Bureau ruled that for mortgages made after Jan. 10, 2014, the maximum prepayment penalty a lender can charge is 2% of the loan balance. And prepayment penalties are only allowed in mortgages if all of the following are true:

  1. The loan has a fixed interest rate.
  2. The loan is considered a “qualified mortgage” (meaning it can’t have features like negative amortization or interest-only payments).
  3. The loan’s annual percentage rate can’t be higher than the Average Prime Offer Rate (also known as a higher-priced mortgage).

So suppose you bought a house last year and then wanted to sell your home. If your mortgage meets all of the above criteria and has a prepayment penalty clause in the mortgage contract, you could end up paying a penalty of 2% on the remaining balance — for a loan you still owe $200,000 on, that comes out to an extra $4,000.

Prepayment penalties apply for only the first few years of a mortgage — the CFPB’s rule allows for a maximum of three years. But again, check your mortgage agreement for your exact terms.

The prepayment penalty won’t apply to FHA, VA or USDA loans but can apply to conventional mortgages — although the penalty is much less common than it was before the CFPB’s ruling.

“It’s more of private loans — loans for people who’ve maybe had some struggles and can’t qualify for a Fannie or Freddie loan,” Gallagher said. “That block of lending is the one going to be most hit by this.”

How to Find Out If a Loan Will Have a Prepayment Penalty

The best way to avoid a prepayment penalty is to read your contract — or better yet, have a professional (like an attorney or CPA) who understands the terminology, review it.

“You should read the entirety of the loan, as painful as that sounds, because lenders may try to hide it,” Gallagher said. “Generally, it would be under repayment terms or the language that deals with the payoff of the loan or selling your house.”

Gallagher rattled off a list of alternative terms a lender could use in the contract, including:

  • Sale before a certain timeframe.
  • Refinance before a term.
  • Prepayment prior to maturity.

“They avoid using the word ‘penalty,’ obviously, because that would give a reader of the note, mortgage or the loan some alarm,” he said.

If you’re negotiating the terms — as say, with an auto loan — don’t let a salesperson try to pressure you into signing a contract without agreeing to a simple interest contract with no prepayment penalty. Better yet, start by applying for a pre-approved auto loan so you can get a pro to review any contracts before you sign.

Pro Tip

Do you have less-than-sterling credit? Watch out for pre-computed loans, in which interest is front-loaded, ensuring the lender collects more in interest no matter how quickly you pay off the loan.

If your lender presents you with a contract that includes a prepayment penalty, request a loan that does not include a prepayment penalty. The new contract may have other terms that make that loan less advantageous (like a higher interest rate), but you’ll at least be able to compare your options.

How Can You Find Out if Your Current Loan Has a Prepayment Penalty?

If a loan has a prepayment penalty, the servicer must include information about the penalty on either your monthly statement or in your loan coupon book (the slips of paper you send with your payment every month).

You can also ask your lender about the terms regarding your penalty by calling the number on your monthly billing statement or read the documents you signed when you closed the loan — look for the same terms mentioned above.

What to Do if You’re Stuck in a Loan With Prepayment Penalty

If you do discover that your loan includes a prepayment penalty, you still have some options.

First, check your contract.

If you’ll incur a fee for paying off your loan early within the first few years, consider holding onto the money until the penalty period expires.

Pro Tip

If you don’t have a loan with a prepayment penalty, contact your lender before sending additional money to ensure your payment is going toward principal — not interest or fees.

Additionally, although you may get socked with a penalty for paying off the loan balance early, it’s likely you can still make extra payments toward the balance. Review your contract or ask your lender what amount will trigger the penalty, Gallagher said.

If you’re paying off multiple types of debt, consider paying off the accounts that do not trigger prepayment penalties — credit cards and federal student loans don’t charge prepayment penalties.

Tiffany Wendeln Connors is a staff writer/editor at The Penny Hoarder. Read her bio and other work here, then catch her on Twitter @TiffanyWendeln.

This was originally published on The Penny Hoarder, a personal finance website that empowers millions of readers nationwide to make smart decisions with their money through actionable and inspirational advice, and resources about how to make, save and manage money.

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10 things you didn’t know will help you get a mortgage

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Anyone who wants to apply for a mortgage right now will know that it’s not easy. Coronavirus has made the process of applying longer, while lenders are now more careful than ever about who they will lend to. You probably already know that having a healthy credit score is essential to a successful mortgage application, but how can it be achieved? Personal finance experts from Ocean Finance  weigh in with the top tips for making sure your application is a success – that you may not have heard about. 

1. Make sure your name is on all household bills

If you share a rental, it can be tempting to let someone else put their name down on the utility bills and just pay them back. If you want a mortgage, avoid doing this: bills with your name and address on them are proof that you pay them on time. This especially applies to the rent itself – never move into a house share without your name being on the contract. Before applying for a mortgage, ask your landlord for a letter confirming that you pay on time. 

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How Can I Prequalify for a Personal Loan? A Guide

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When you are in need of money quickly, you very likely don’t want to sit around pondering a bunch of different options. You want to find the option that works best for you and utilise it. Unfortunately for so many people around the country, it can be difficult to get their hands on the money they need due to them having a bad credit score, or even no credit score at all.

How Can I Prequalify for a Personal Loan?

Photo, Varun Gaba.

Your credit score is thought of as being pretty important, as it shows your financial trustworthiness to financial institutions like banks, credit card companies, lenders, and more. Your credit score is one thing that will usually be considered by just about any company you apply for a loan through, so keeping a close eye on your credit score is imperative for your financial life.

No matter what your credit score looks like, knowing how you can prequalify for a personal loan can be a comforting feeling when you are in need of quick cash. After all, when you are eligible for personal loan prequalification, you feel a little better going into the loan process knowing you won’t have to wait around for a loan decision.

How is Pre-qualification Decided? Prequalifying for a personal loan can depend on several different factors that you will have to keep in mind, and it will vary greatly depending on the lender you are applying through. Here are two of the things you will need to keep in mind when it comes to your loan that could affect whether or not you prequalify for the loan.

— Your credit score; Yes, this is always going to be something you are going to need to think about. Depending on the financial institution or lender you are going through, you can bet that your credit history and score will play a huge part in whether or not you prequalify.

— The amount of your loan; How much money you plan on borrowing from the lender or bank is also going to play a part in deciding whether or not you prequalify.

To get the most out of your search for a lender that you could prequalify with, think about applying with more than just one lender. This way, you might get several pre-qualification offers, and this will allow you to sort through the lenders and decide which one works best for you.

How Can I Prequalify for a Personal Loan?

Photo, Christina @ wocintechchat.com.

The Pre-qualification Process: No matter where you are trying to prequalify for your loan through, you will find the process to be pretty simple and largely similar across most lending platforms. You will need to provide some information to the lender that will help them decide whether or not to prequalify you.

How Can I Prequalify for a Personal Loan?

Photo, Windows.

Some of the information you will need to provide includes:

— Your full name; You will want to make sure you provide your full legal name so you can make the process simple for yourself and the lender. Depending on the lender, you might also be asked to provide images of your government issued ID or driver’s license to validate your identity.

— Your income and information on your job; Your income and employment status are often considered over your credit score when it comes to pre-qualification for loans, especially if you are applying for a personal loan through a lender who deals with customers with bad credit or no credit.

— The loan amount you want; Of course, you will have to include the amount of money you would like to borrow. Make sure it is something reasonable, and something that you can realistically pay back on time.

What Will the Lender Do? If you are trying to prequalify through a lender who specialises in bad credit clients, then you won’t have to worry about your credit score being negatively affected by taking out your loan. However, if the lender reports to the credit bureaus, your payments could still make an impact on your credit score.

If not working with a specialised lender, you might find that the lender will do a soft inquiry on your credit when going through the pre-qualification process. No worries here, as this doesn’t put any dents in your score. If you prequalify for the loan you are looking for, you should get an alert via email from the lender of your choice.

The Money You Need: Hopefully, you will have prequalified for the loan you are looking for so you can ensure you have access to the money you need, when you need it. Whether you’re going through some unexpected circumstance in life or just need money to pay something off quickly, knowing you are prequalified for the loan you need is a comforting feeling, allowing you access to the cash you need for whatever you need it for.



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