By Tom Drake on April 14, 2020
In recent years, Canadians have continued to pile on consumer debt at an alarming pace. In 2019, Statistics Canada revealed that Canadian families used almost 15% of their disposable income to cover consumer debt, with over 7% of income going to cover the interest costs on their debt. With this level of spending, any combination of unfortunate events, such as an illness or job loss, could result in thousands of Canadians defaulting on their debt.
In Canada, the laws governing debt collection and debt settlement are a matter of provincial jurisdiction, which means that the rules vary depending upon where you live. In this article, we’ll cover many of the policies concerning debt settlement, as well as the potential risks of arranging a repayment plan through a debt settlement company or credit counsellor. But first, let’s take a closer look at what debt settlement is all about.
How Does Debt Settlement Work?
Debt Settlement is an informal agreement reached between you, and some or all of your creditors, through a debt settlement company or credit counselling agency. While the goal of these companies is to help you repay your debts, the arrangement comes with a number of risks that should not be taken lightly. Debt settlement is often compared with other debt repayment options, such as consumer proposals and bankruptcy, although each one is quite different.
Risks of Debt Settlement
The Credit Counselling Society estimates that “the success rate of debt settlement arrangements is less than 10%”, and that for everyone who pays fees to a for-profit debt settlement company, 65% never reach a settlement. There are a few reasons for this.
Not All Creditors Will Participate
Unlike consumer proposals or bankruptcy, which are legally binding agreements, debt settlement is informal. This means that some of your creditors may not agree to a repayment arrangement. Depending on the debt settlement company, they may not even be notified of one.
Negative Impact on Your Credit Rating
With debt settlement, the debt repayment company usually tells you to stop paying your creditors, and instead funnel money that would normally have gone towards debt repayment, into a separate bank account. This process can take up to 3 years, meaning that your credit rating could be destroyed by the time you’re ready to make a settlement offer to your creditors.
Creditors May Decide to Sue
No one wants to wait for their money. With debt settlement, the idea is that you don’t make a settlement offer until you’ve saved up the funds required. Many creditors grow weary of not receiving payments over a long period and decide to take legal action well before any agreement can be reached.
For-Profit vs. Non-Profit Credit Counsellors – Know The Difference
In addition to regular, for-profit debt settlement companies and credit counsellors, there are also non-profit agencies that you can meet with to arrange a debt repayment plan. While they provide a similar service, it’s important to know the difference between the two, and the additional risks of dealing with the ‘for profit’ variety.
Conflict of Interest
In most jurisdictions, non-profit credit counselling agencies are bound to a code of ethics. Included in this code would be rules around what they can charge, and as well, would prevent them from acting with any conflict of interest. On the flip side, a for-profit debt settlement company often represents both you and your creditors. Because they are being compensated by two interested parties, the conflict of interest is fairly evident.
Bound by a code of ethics, most non-profit credit counsellors contact all of your creditors, applying payments to each of your bills in an attempt to maintain good standing with the various companies you owe money to. Debt settlement companies, on the other hand, will often deal with only one bill creditor at a time. This can result in your other creditors growing impatient, and deciding to take legal action to recover a potential loss. They also discourage you from contacting your creditors, which may exacerbate the problem.
A for-profit company makes money by arranging debt repayment plans. Therefore, they often disregard or downplay, one of the most important components of debt settlement, which is financial counselling. This educational component is key, as it can lead to positive changes that will make a difference for you down the road, financially speaking.
The Rules Debt Settlement Companies Must Follow
To ensure you do not become a victim of a debt settlement company, it’s important to understand the boundaries that they must operate within. To use an example, I’ll cover the policies as they are laid out in Canada’s most populated province, keeping in mind that each jurisdiction will have its own set of laws.
The following rules are found in the Collection and Debt Settlement Services Act, which is designed to protect consumers from predatory business practices. The Act states the following of debt settlement and credit counselling companies in Ontario:
- Cannot charge upfront fees for repayment plans, with the exception of a one time, $50 set up fee
- Maximum charge of 15% of any payments you make into a debt settlement plan
- Cannot collect fees before reaching an agreement with your creditors, and making payments to them
- Must agree to a cooling-off period of 10 days, wherein the client can cancel the contract for any reason
Debt Settlement – Filing A Complaint
In Ontario, if a debt settlement company violates any of the above rules, or you felt as though they were engaging in improper business practices, you could file a complaint with the Ministry of Government and Consumer Services. Of course, each province will have its own regulatory body that you can approach if you feel as though you’ve been treated unfairly.
Other Debt Settlement Policies By Province
In recent years, several provinces have updated their debt repayment laws, in order to crack down on predatory practices of debt settlement companies.
In 2016, British Columbia made moves that restricted the number of fees debt repayment companies could charge and imposed increased transparency through the use of mandatory disclosures surrounding the risks of debt settlement.
In Alberta, the Consumer Protection Act states that no debt repayment company “can make any arrangement with a debtor to accept a sum of money that is less than the amount of the balance due and owing to a creditor as final settlement without the prior express consent of the creditor”.
There’s a reason that every Canadian province has policies like these because they’re needed. Unfortunately, too many Canadians have become victims of the unscrupulous practices of debt repayment companies in the past. The hope is that updates made to laws like these will ensure the protection of Canadian borrowers well into the future.
Did You Know? Federal Laws Around Debt Collection
In addition to the rules governing debt settlement in Canada, it’s also important to understand the laws around debt collection, as the practices are closely linked. Indeed, there are rules that creditors and collection agencies must adhere to when attempting to recover monies owed to them.
While I mentioned earlier that debt collection is regulated by individual provinces, there are distinct federal laws that must be followed across Canada. Here is a sampling of what’s considered unacceptable debt collection practices:
Debt collectors may not:
- contact debtors on state holidays
- use threatening, intimidating or abusive language
- recommend legal action without first informing the debtor
- apply excessive pressure on a debtor to repay a debt
- disclose a debtor’s personal or financial information to friends or relatives of the debtor
In addition, debt collectors in each province must adhere to a statute of limitations. These range from as little as 2 years in Ontario, to 6 in 8 other provinces and territories. A statute of limitations dictates the length of time a party has to initiate legal action against another party. In the case of debt repayment, the time period begins at the moment of default. It’s important to note, however, that the statute of limitations can be reset anytime a debtor takes a step to repay the credit product, such as a monthly payment.
Before You Sign Up For Debt Settlement
There are undoubtedly people for whom a debt settlement arrangement may work out very well. If you have at least $10,000 of consumer debt and are finding it incredibly difficult to manage your payments, it’s certainly an option to consider. My advice, however, would be to start by exhausting all other options.
For example, have you considered the possibilities of reducing your monthly expenses, or increasing your income? Or, perhaps a debt consolidation loan can be arranged through your primary financial institution. These are all steps that can help you better manage your debt load while maintaining your credit in good standing.
Ultimately, if you do decide to meet with a debt settlement company or credit counselling agency, make sure that you know your rights before going in, and take the time to research the laws as they apply to the province in which you live.
By Tom Drake
Tom Drake is a Canadian personal finance expert. He is a financial analyst and has been writing about personal finance since 2009 at the award-winning MapleMoney. His work has appeared in Ratehub.ca, MintLife, and Canadian MoneySaver, and he has frequently been quoted in The Globe and Mail, Yahoo Finance, and Financial Post.