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Fees, Business Practices of Credit Counselors Under IRS Investigation

By Jennifer Bayot

The New York Times -- The Internal Revenue Service is investigating the business practices of nonprofit credit counseling services, which advise millions of people in debt.

The investigation could jeopardize the agencies’ nonprofit status and upend the industry just as a proposed change in federal bankruptcy law stands to steer many thousands more people to debt counseling. As nonprofits, the agencies are now exempt from dozens of state and federal regulations.

The IRS, the Federal Trade Commission and state regulators plan to issue an unusual joint advisory on Tuesday warning consumers to be wary about the total costs when seeking help from tax-exempt credit counseling organizations.

“Consumers need to know not to read too much into not-for-profit status -- that’s no guarantee that someone is legit,” said C. Steven Baker, director of the Federal Trade Commission’s Midwest operations. “A lot of these credit counseling companies are using tax-exempt status as a get-out-of-regulation-free card. That’s why we’re teaming up with the IRS on this issue.”

Consumer advocates say that the actions are long overdue, and many credit counselors say they welcome the scrutiny because they believe some new entrants are giving the entire industry a bad name.

An estimated 9 million people sought the help of credit counseling services last year, according to the National Consumer Law Center and the Consumer Federation of America. From these and earlier inquiries, at least 1 million people have consolidated their debts, and are now making a single payment each month to the agencies, which distribute the money in turn to creditors.

The IRS declined to identify the agencies it is investigating. In a rare disclosure about its enforcement efforts, though, the tax agency said it was auditing “a significant number” of the country’s credit counselors and is conducting a more rigorous review of new ones that apply for tax exemption. The agency is examining the fees charged to consumers, the salaries paid to officers and a host of transactions with for-profit companies.

Illinois and Missouri have sued AmeriDebt, one of the biggest agencies, saying it charges excessive fees and diverts money to companies that are affiliated.

A close look at tax records and other documents shows that some executives of Cambridge Credit Counseling and Consolidated Credit Counseling also have relationships with companies that they pay for various services. If any of these companies are found to be improperly benefiting for-profit companies, they risk losing their nonprofit status.

Cambridge and Consolidated say that there is nothing improper about their business relationships and that they have been examined by independent parties.

“We take a dim view of the use of the tax code by credit counseling groups to game the system, and are concerned by recent developments,” said Mark W. Everson, the IRS commissioner. “Those groups that are using the tax code to skirt consumer protection laws should think twice. We will work with other federal agencies and state regulators to combat abuse in this area.”

To be exempt from taxes, a credit counseling agency must limit its services to poor customers or must primarily provide education and counseling to the public, the IRS said. Simply enrolling people in payment plans is not enough.