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current as of Nov. 1992
If you are one of the millions of Americans who borrows money, buys
items on installment credit, or cosigns for another person's debt,
you may want to know about the Federal Trade Commission's Credit
Practices Rule. The Rule, which became effective March l, l985,
prohibits many creditors from including certain provisions in
consumer credit contracts. It also requires creditors to provide a
written notice to consumers before they cosign obligations for others
about their potential liability if the other person fails to pay.
Finally, it prohibits one method of assessing late charges.
WHAT CONTRACTS ARE COVERED?
The Rule applies to consumer credit contracts offered by finance
companies, retailers (such as auto dealers and furniture and
department stores), and credit unions for any personal purpose except
to buy real estate. It does not apply to banks or bank credit cards;
to savings and loan associations; or to some non-profit
organizations. (However, similar rules for banks -- under the Federal
Reserve Board -- and for savings and loans -- under the Office of
Thrift Supervision -- went into effect January 1, 1986.) The Rule
does not apply to business credit.
WHAT CONTRACT PROVISIONS ARE PROHIBITED?
The Rule prohibits creditors from including certain provisions in
their consumer credit contracts. Specifically, credit contracts no
longer can include provisions that:
* Require you to agree in advance, should the creditor sue you for
non-payment of a debt, to give up your right to be notified of a
court hearing to present your side of the case or to hire an attorney
to represent you. (These clauses were often called "confessions of
judgment" or "cognovits.")
* Require you to give up your state-law protections that allow you
to keep certain personal belongings even if you do not pay your debt
as agreed. (These clauses were called "waivers of exemption.") State
law generally allows you to keep your home, clothing, dishes, and
other belongings of a fixed minimum value. However, when the debt
incurred is to purchase an item and that item is used as security for
the debt, it is permissible under the Rule for a creditor to
repossess that item.
* Permit you to agree in advance to wage deductions that would pay
the creditor directly if you default on the debt, unless you can
cancel that permission at any time. (These clauses were called "wage
assignments.") However, a wage or payroll deduction plan, through
which you arrange to repay a loan, is a common payment method and is
permissible under the Rule.
* Require you to use as collateral certain household and uniquely
personal items that are of significant value to you but are of little
economic value to a creditor. Such items include appliances, linens,
china, crockery, kitchenware, wedding rings, family photographs,
personal papers, the family Bible, and household pets. (These were
called "household goods security" clauses.) However, if you borrowed
money to buy any of these household or personal items, and use the
items as collateral, the creditor can repossess the purchased item if
you do not repay the loan.
WHAT NOTICES MUST BE GIVEN TO COSIGNERS?
When you agree to be a cosigner for someone else's debt, you are
guaranteeing to pay if that person fails to pay the debt. The Rule
requires that you be given a notice that explains the responsibility
you are undertaking. Under the Rule, the cosigner notice must say:
You are being asked to guarantee this debt. Think carefully before
you do. If the borrower doesn't pay the debt, you will have to. Be
sure you can afford to pay if you have to, and that you want to
accept this responsibility.
You may have to pay up to the full amount of the debt if the borrower
does not pay. You may also have to pay late fees or collection costs,
which increase this amount.
The creditor can collect this debt from you without first trying to
collect from the borrower.* The creditor can use the same collection
methods against you that can be used against the borrower, such as
suing you, garnishing your wages, etc. If this debt is ever in
default, that fact may become a part of your credit record.
This notice is not the contract that makes you liable for the debt.
Depending on your state, this may not apply. If state law forbids a
creditor from collecting from a cosigner without first trying to
collect from the primary debtor, this sentence may be crossed out or
omitted on your cosigner notice.
This notice is not required when you receive benefits from the
contract, such as when you buy goods, take out a loan, or open a
joint credit-card account with another person. In these cases, you
would be a co-buyer, co-borrower, or co-applicant (co-cardholder)
rather than a cosigner. Therefore, the creditor would not be required
to provide the notice.
HOW CAN LATE CHARGES BE ASSESSED?
A creditor can charge a late fee if you do not make your loan payment
on time. However, it is illegal under the Rule for a creditor to
charge you late fees or payments simply because you have not yet paid
a late fee you owe. This practice is called "pyramiding late fees."
Under the Rule, this means that if you do not include the late fee
you owe with your next regular payment, it is illegal for a creditor
to subtract the late fee from your payment and then charge you a
second late fee because the current payment is insufficient. For
example, your loan contract may state that your monthly payments are
$100 and that you will be assessed a $10 late fee if you pay after
the grace period. If you make your $100 loan payment after that time
and you do not include the $10 late fee with your next $100 payment,
a creditor cannot first deduct the missing $10 late fee from the $100
payment, claim you have now paid $90, and then charge you an
additional late fee. But, if you skip one month's payment entirely,
the creditor can charge late fees on all subsequent payments until
you bring your account up to date.
modified from material by the Federal Trade Commission
For more information about the Credit Practices Rule,
write: Correspondence Branch, Federal Trade Commission,
Washington, D.C. 20580
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