COLLECTION: Bankruptcy Rule Fells Nonbanks

If credit card issuers fail to obey a bankruptcy rule that requires them to notify the court when they negotiate payments with debtor cardholders, they could end up with a mountain of debt of their own.

The rule involves the reaffirmation agreements negotiated between debtors and creditors that must be filed with the court in any bankruptcy case. Two major card issuers have faced class actions for failing to follow the letter of the law: Sears, Roebuck & Co. and GE Capital Services.

Sears officials, who have acknowledged in a recent settlement that the company failed to file debt-collection agreements with the bankruptcy court for an undetermined number of credit card holders, said the problem could materially affect its 1997 earnings. No bank or retailer has more credit cards in circulation. And Sears views its card account base of 50 million cardholders as a significant contributor to its profits.

Since then, GE Capital, owner of Montgomery Ward Holding Corp.'s credit card operations and the second largest store card issuer, has been charged with the same bad practice as Sears, Roebuck. Though GE Capital would not comment after repeated calls, the company reportedly is trying to rectify the problem.

Considering that a judge relies on reaffirmation agreements in determining how to distribute a debtor's assets among his creditors, by not filing the documents, both Sears and GE Capital apparently collected payments without the bankruptcy judge's approval, according to Dan Edelman of the Chicago law firm of Edelman & Coombs, a law firm involved in the Sears and GE Capital litigation. When asked if the two card issuers could have unknowingly failed to comply with the law, Edelman says, "It strikes me as incredible that they wouldn't get legal advice in the midst of a bankruptcy proceeding." FB