Credit reporting agencies in trouble ?

Millions of consumers who have filed for bankruptcy are about to get a second chance at a fresh start.

A recent court order requires the three major credit-reporting bureaus -- Experian Group Ltd., Equifax Inc. and TransUnion LLC -- to clean up the credit files of millions of consumers who have filed for Chapter 7 bankruptcy. The problem: Old debts, which are typically forgiven by the courts in a bankruptcy filing, are still being reported as active on many consumers' credit reports.

The judge for the case, David O. Carter of the U.S. District Court for the Central District of California, has given the bureaus until Oct. 1 to revamp their systems. Experian and TransUnion say they have already updated their credit files to be compliant with the court order, while Equifax declined to comment. TransUnion also sent notices to some customers saying they "may experience a slight change" to their credit scores if any of their accounts are updated because of a bankruptcy.

The changes could be particularly important to borrowers now, as consumer credit tightens across the board. It is perhaps more important than ever for people to make sure their credit scores are accurate and as high as possible. This ruling is expected to clean up the credit files -- and potentially boost the credit scores -- of an estimated six million to 10 million people who have filed for Chapter 7 bankruptcy but still had errors in their files, according to plaintiffs' attorneys. Consumers with so-called zombie debt -- old loans they may have paid off years ago that can resurface when an aggressive debt collector erroneously demands payment -- are also likely to get some relief, if those debts also were discharged under Chapter 7 protection.

In many cases, old debts linger on credit reports if lenders don't update their records, or if collection agencies ignore the fact that debts were discharged in bankruptcy. The credit bureaus' new procedures should ensure that anyone who files for bankruptcy in the future will have more-accurate credit reports.

For consumers, credit-report inaccuracies can result in lower credit scores, credit denials and higher interest rates. "There's no question that having a Chapter 7 bankruptcy has a negative impact on your creditworthiness," says Michael Sobol, one of the plaintiffs' attorneys on the class-action case. "But when you have a bankruptcy, and you also have debts showing up as overdue and not paid -- that is a double hit."

Consumers will have to request a new credit report to see if any errors have been fixed, which they can do free of charge at www.AnnualCreditReport.com. Any errors should be reported to the credit bureaus, which usually have 30 to 45 days to verify or correct the information. If they can't verify the data, the item typically will be removed from the file.

Among those who are likely to benefit from the ruling is Gloria Conyers, a New York social-services counselor, who had been unable to get a mortgage because old credit-card debts kept popping up on her credit reports. "I thought all of that debt was gone," says the 57-year-old, who filed for Chapter 7 bankruptcy in 2004 with Charles Juntikka, one of the plaintiffs' attorneys. But when she started shopping for a mortgage this past summer, she was "shocked" to find out that her credit report showed that she still owed close to $20,000 from loans that should have been erased by her bankruptcy. "I was getting credit cards, so I assumed everything was OK," says Ms. Conyers.

Most consumers filing for bankruptcy continue to do so under Chapter 7 of the U.S. Bankruptcy Code. The provision allows consumers to erase credit-card, medical and many other debts -- but not alimony, child support, student loans or most taxes -- after certain assets such as savings are liquidated to benefit creditors. Under a Chapter 13 bankruptcy, on the other hand, less debt is forgiven. Individuals must work out a plan to pay off mortgage debt and other obligations over time -- usually three to five years.

The court order stems from a class-action lawsuit alleging that each of the credit bureaus violated the Fair Credit Reporting Act by failing to maintain reasonable procedures to assure the accurate reporting of debts that have been discharged in bankruptcy. The lawsuit could now move to a trial to determine liability and damages if Judge Carter decides later next month to give the damages portion of the case a class-action status.

The court-mandated changes come at a time when more consumers are filing for bankruptcy amid rising loan defaults and tighter credit standards. U.S. consumer bankruptcy filings jumped 29.2% to 96,413 in August, according to the American Bankruptcy Institute. That was the highest monthly level since October 2005, when the new federal bankruptcy law made it more difficult and costly for consumers to file for Chapter 7 protection.

Total bankruptcy filings are expected to exceed 1.1 million this year, according to the American Bankruptcy Institute, compared with 850,912 last year. (Typically, consumer filings have represented about 96% or more of total bankruptcies over the past decade.) Chapter 7 filings rose to 67.6% of total personal bankruptcies in the second quarter of 2008 from 56.1% as of the first quarter of 2006.


Consumer advocates and plaintiffs' attorneys say the ruling is significant because the credit bureaus will have to make wholesale changes to the way they report key information in bankruptcy filings. It used to be that the credit bureaus would remove pre-bankruptcy debts from consumers' credit files only if the creditors updated their accounts, says Daniel Wolf, one of the plaintiffs' attorneys. "Now, any debt that preceded the bankruptcy will automatically be reported as discharged" -- unless there is information in their files that indicates that the debts are nondischargeable or the creditor tells the bureau otherwise.

For their part, the credit bureaus say that their existing reporting systems -- which rely on data that are voluntarily provided by the banks, lenders and others -- are fair and accurate. "The reporting format provides a uniform process for data furnishers to provide data to consumer reporting agencies," says Norm Magnuson, a spokesman for the Consumer Data Industry Association, a trade group for consumer-data companies.

But consumer-advocacy groups, including the U.S. Public Interest Research Group, the Consumer Federation of America and Consumers Union, say that current reporting systems aren't as accurate as they should be and that errors in credit reports are common. Mr. Juntikka, the bankruptcy attorney, says his firm reviewed close to 3,000 credit reports for his clients who declared bankruptcy and found an error rate ranging from 64% to 76%, with many of those mistakes mischaracterizing discharged debts as still due.

Erica Noe of Burke, Va., says an old debt on her husband's credit file cost them their home -- in part because it prevented them from being able to refinance their interest-only adjustable-rate mortgage last year. Her husband, Kenneth, had filed for Chapter 7 bankruptcy in 2002; in that proceeding, the court discharged his prior debts. Nevertheless, they were unaware that a previous $7,000 credit-union loan remained on his report, pulling down his credit score for several years.

"We thought that once we filed for bankruptcy, it would go away," says Ms. Noe. "But it didn't. It affected everything." The 31-year-old nurse says they didn't find out about the error until they tried -- but failed -- to refinance their mortgage. When the rate reset, the Noes' monthly mortgage payments shot up by about $1,000; they lost their home to foreclosure last November. "It was a snowball effect," she says. "Unfortunately, everything just kind of worked against us at the same time.

"I tried to fix the error on the report by calling the credit union and telling them to stop reporting," she says. Currently, their lawyer, Robert Weed, is filing a separate lawsuit against Equifax and the credit union. Equifax declined to comment on an ongoing suit."

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