Bait & Switch? Surprising Credit Counselling FAQs

The business of debt counselling (a.k.a. credit counselling) and debt consolidation is an extremely competitive one, particularly in Toronto. Unfortunately, there are certain financial professionals who employ questionable methods in marketing their services to get an edge over their competition.

There has been a trend of “credit counsellors”, “debt counsellers”, “debt experts” (and I use these terms loosely), referring work to trustees in bankruptcy in return for compensation.  From what I have seen in the Toronto area, here is how it usually works:

  • An individual who aspires to be a “debt consultant” or “credit counsellor” will approach a bankruptcy trustee about referring work to his practice in return for a percentage of the trustee’s fees.
  • The individual in question usually has no financial training or background at all. He’ll be largely self-taught and in some cases, fell into his profession because he was bankrupt himself at one time and learned how the process works during the course of his bankruptcy. However, he is usually a prominent member within his/her community and knows a lot of people. He can therefore prove to be a valuable source of referrals for the trustee.
  • Moreover, many individuals in financial difficulty can be understandably intimidated by the prospect of meeting with a trustee in bankruptcy. How the “credit counsellor” gets around this sentiment is to advertise himself as a credit counsellor, debt consultant, or some other euphemism, who can help people solve their debt issues “without going bankrupt”. This is far less intimidating for the debtor.
  • In fact, the credit counsellor himself may not be able to do anything at all if the situation is dire (e.g., wage garnishment, collection calls, etc.). He has no legal authority to stop such proceedings and moreover, may lack the training and knowledge to provide sound financial advice. So he refers his client to a bankruptcy trustee and is paid a percentage of the estimated fees from the pending bankruptcy engagement.

The professional conduct of trustees in bankruptcy are governed by a Code of Ethics in the Bankruptcy and Insolvency Act.  Specifically, Rule 49 of the Act states that:

Trustees shall not, directly or indirectly, pay to a third party a commission, compensation or other benefit in order to obtain a professional engagement, or accept, directly or indirectly from a third party, a commission, compensation or other benefit for referring work relating to a professional engagement.

So you’re probably wondering: how can the trustee pay a commission if he’s prohibited from doing so under the law? Certain trustees have been very creative in getting around this. Here are some examples:

  • Some trustees are also accountants, and will have accounting practices which is legally separate from their respective bankruptcy practices . The commission will be paid by the  accounting firm, not the trustee firm.
  • Some trustee’s will pay “rent” to the credit counsellor for meeting the debtor at the credit counsellor’s premises when signing the bankruptcy paperwork.
  • Another method is to have the debtor directly pay the credit counsellor a fee for the referral, and the trustee deducts the payment made by the debtor from his own fees.

Although these tactics may not directly violate the law, they clearly contravene the spirit of the law.

So why does this matter?

Generally speaking, there is nothing inherently unethical about paying someone for a referral – it is a normal business practice. However, because of the nature of bankruptcy proceedings, such arrangements have the potential to create major problems for the debtor, his creditors and the trustee. Here is an example I have seen far too often:

  • John has a lot of debt and no assets, other than an antique 1961 Ford Mustang he inherited from his father. It’s worth about $20,000.
  • John doesn’t want to file bankruptcy but sees a TV advertisement by “AOK Debt Management”. The TV ad says that AOK can “help you deal with your debts without going bankrupt”.
  • John meets with the AOK debt counsellor who convinces him that bankruptcy is the only solution for him. John is understandably disappointed, but agrees to proceed with a bankruptcy through a trustee referred to him by AOK. John is concerned about losing the car, but the debt counsellor reassures him that if he doesn’t mention the car to the trustee, he won’t lose it. If the car is somehow discovered, then John can simply state that it slipped his mind, without any serious consequences.
  • John files his bankruptcy and AOK receives its commission from the trustee. Some months after the bankruptcy is filed, the trustee discovers the existence of the car, which was sold by John right after he filed bankruptcy. The money is gone – John has spent it all. The trustee informs John that he’s committed a very serious offence under Canadian bankruptcy law and can even go to jail for bankruptcy fraud. John protests the he was only doing what he was told by the debt counsellor and was informed that the consequences wouldn’t be that serious.

As you can see in this example, because of its commission, it was in AOK’s interest to have John file for bankruptcy, even though it may not have been the best thing for John.

So be warned and follow this old adage: if you something is too good to be true, it usually is!

This post should not be interpreted as legal advice or a legal opinion. Please consult your Fong and Partners Inc. advisor to review your own particular circumstances.

© Copyright Fong and Partners Inc 2010.

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