In re Evans, 04-12661.

• Decision Date: 21 March 2005
• Docket Number: No. 03-24162.,No. 04-12661.,04-12661.,03-24162.
• Citation: 322 B.R. 429
• Court: U.S. Bankruptcy Court — Western District of Washington
• Parties: In re Diane EVANS, Debtor. In re Rebecca I. Valdivia, Debtor.

322 B.R. 429

In re Diane EVANS, Debtor In re Rebecca I. Valdivia, Debtor.

No. 04-12661.

No. 03-24162.

United States Bankruptcy Court, W.D. Washington, at Seattle.

March 21, 2005.

COPYRIGHT MATERIAL OMITTED

Richard J. Wotipka, Seattle, WA, Douglas G. Anderson, Bothell, WA, for Debtors.

MEMORANDUM DECISION ON STUDENT LOANS AND COLLECTION CHARGES

KAREN A. OVERSTREET, Bankruptcy Judge.

In these cases, the debtors challenge proofs of claim filed by Educational Credit Management Corporation ("ECMC") for student loan debt. In particular, the debtors have challenged ECMC's inclusion of collection costs in the claims, contending that the collection costs are unreasonable and that they constitute postpetition claims not allowable in their bankruptcy cases. Rebecca Valdivia also contends that her loans are eligible for rehabilitation, and that on that basis, any collection costs that are allowable against her must be limited to 18.5%. For the following reasons, the Court will deny the debtors' objections to the collection charges, but the Court agrees that in the case of Ms. Valdivia, those charges may be limited to 18.5%.

I. PROCEDURAL BACKGROUND

The debtors' objections to ECMC's claims initially came before the Court for hearing on September 15, 2005. At that time, it became clear that both debtors were making the same challenge to the collection costs imposed by ECMC on their unpaid educational loan debts. For efficiency, the Court set an evidentiary hearing on both cases for the same date so that three remaining issues could be determined: (i) whether ECMC's imposition of collection charges constitutes an improper postpetition collection activity; (ii) whether the collection charges assessed violate the terms of the debtors' student loan notes; and (iii) whether the amounts sought are otherwise unenforceable against the debtors under Bankruptcy Code § 502(b)(1).¹ Separately, Ms. Valdivia claimed that she was entitled to reinstatement of her loans.

On December 16, 2004, the Court held an evidentiary hearing in both cases. The sole witness for ECMC was Daniel Fisher, a managing attorney for ECMC. Mr. Fisher testified concerning the background of the student loan program and the process by which ECMC and other student loan agencies assess collection charges on defaulted student loans. Counsel for Ms. Evans and Ms. Valdivia cross examined Mr. Fisher. Ms. Valdivia, the only other witness, testified concerning her student loan and payment history. At the conclusion of the hearing, the Court requested additional legislative history from ECMC. By letter dated December 21, 2004, counsel for ECMC provided the Court with additional references to the legislative history to the relevant federal statutes and regulations. In addition, counsel for ECMC advised the Court of a decision by a United States District Court in the Southern District of Indiana, addressing issues identical to those under consideration in these cases. That decision, Educational Credit Management Corporation v. Barnes, 318 B.R. 482 (S.D.Ind.2004), was issued on December 15, 2004. Counsel for ECMC also attached to his December 21, 2004 letter a copy of the deposition transcript of Pamela Moran, dated July 12, 2001, which was taken in the Barnes case. The Court has not considered that deposition, however, as it was not provided to the Court and the debtors prior to the evidentiary hearing on December 16, 2004. The Court then took the matter under advisement.

II. FACTUAL BACKGROUND

A. Diane Evans Case.

In the fall of 1993, Ms. Evans consolidated her existing student loans to create the single student loan at issue here (the "Evans Loan"). The total amount of the consolidated loan was $14,800.54 with interest at 9% per annum. The Evans Loan was initially held by the Student Loan Finance Association ("Sallie Fae") and was serviced by Academic Financial Services Association ("AFSA"). After the loans were consolidated, but before the consolidated loan went into default, Ms. Evans made payments totaling $455. All of these payments were applied to interest.

After a period of forbearance, Ms. Evans defaulted on the loan. On January 5, 1996, Northwest Educational Loan Association ("NELA") paid a claim to Sallie Fae/AFSA in the amount of $15,865.43, and that amount then became the starting principal balance of the defaulted loan. Accrued and unpaid interest was capitalized as a result of the default and subsequent payment by the student loan guarantor.

From 1996 to the petition date in this case, Ms. Evans made payments totaling $6,063.78. Of that amount, $5,432.36 was applied to interest and $631.42 was applied to collection costs. The payments, however, were never large enough or made frequently enough to result in any reduction to the principal balance of the loan. Exhibit 11 shows the payment history on the Evans Loan. NELA held the Evans Loan from January 5, 1996, the date of the default, through approximately August 22, 2003, when the Department of Education ("DOE") was subrogated to the rights of NELA. Ms. Evans' last payment on the loan was April 11, 2002, and that was a payment that resulted from a garnishment.

On March 1, 2004, Ms. Evans filed her Chapter 13 case. DOE held the Evans Loan as of the petition date, then assigned the loan to ECMC on April 14, 2004. ECMC timely filed a proof of claim for the amount owed on the Evans Loan as of the petition date. Ms. Evans filed a partial objection to the claim, asserting that the claim is overstated by the amount of the collection costs. The proof of claim states that the total balance as of the petition date was $27,592.09, consisting of $15,865.43 in principal, $6,209.02 in interest, and $5,517.84 in collection costs. The collection costs represent 34.77% of the principal balance and 25% of the amount of principal plus interest.

B. Rebecca Valdivia Case.

On June 15, 1996, Ms. Valdivia's student loans, which had a cumulative principal balance of approximately $21,501 (the "Valdivia Loans"), entered repayment. The actual interest rates charged on each of the individual loans varied from year to year, but averaged approximately 7.5% during the entire life of the loans. Between June 15, 1996 and October 28, 1996, Ms. Valdivia applied for, and obtained, a forbearance on her loans, temporarily allowing her to forbear repayment, but not terminating the accrual of interest. At the end of the forbearance period, accrued interest in the total amount of approximately $1,469 was capitalized, raising the principal amount of the loan to $22,970.

On November 29, 1996, Ms. Valdivia made her first payment on her student loans in the amount of $296. Only a small amount of this $296 payment was applied to principal. The vast majority of the payment was applied to interest. During the life of the loans, this was the only payment large enough to permit any paydown of principal. Between November 29, 1996 and July 1, 1997, Ms. Valdivia made no further payments on her loans, and the loans went into default.

On August 1, 1997, NELA (the guarantor on the Valdivia Loans) paid the claims to Sallie Mae. Because the loans were in default at the time, accrued interest was capitalized, resulting in a new principal balance of $23,836. In addition, collection costs were applied to the Valdivia Loans at the same time.

On or about October 18, 2000, NELA advised Ms. Valdivia of her right to rehabilitate the defaulted loans by making twelve consecutive monthly payments. Ex. 18. Ms. Valdivia agreed to make monthly payments of $250, commencing on October 28, 2000. The payments were set up to be automatically deducted from her checking account. The history of her payments is shown in Exhibit 7. At the conclusion of the twelve months of payments, Ms. Valdivia contacted NELA to determine what she needed to do next to rehabilitate her loans. She was told that she should have contacted NELA before the payments were completed, and that she would therefore have to make an additional twelve months of consecutive payments. Ms. Valdivia made another twelve consecutive monthly payments and in September of 2002, received an Acknowledgment of Debt for Rehabilitation of Defaulted Student Loans, Exhibit 19. Exhibit 19 informed Ms. Valdivia that if she signed the acknowledgment her loans would be sold by NELA to another lender and thereby removed from default status. The form further advised her that as a condition of the rehabilitation, she had to agree to the capitalization of all accrued interest and collection costs. The collection costs would be assessed at the rate of 18.5% of total principal and accrued interest. Interest at the note rates would then be charged going forward on the new principal balance. Because she objected to the collection costs that had been assessed, Ms. Valdivia never signed the acknowledgment required in Exhibit 19.

Between July 27, 1998 to October 31, 2003, Ms. Valdivia's payments totaled $9,215. Of that amount, approximately $7,635 was applied to interest and $1,573 was applied to collection costs. The payments were never high enough to result in any reduction to the principal balance of the loans.

On October 31, 2003, Ms. Valdivia filed her Chapter 13 petition. As a result of the bankruptcy, NELA assigned the Valdivia Loans to ECMC. Upon the transfer of the loans, ECMC applied its own collection charges. ECMC timely filed two proofs of claim for amounts due under the Valdivia Loans as of the petition date. The total amount of the two claims is $35,162.05, which includes principal of $23,835.01, accrued interest of $4,295.25, and collection charges of $7,031.79. The collection charges represent 29.2% of the outstanding principal and 25% of the amount of principal plus interest.

Ms. Valdivia objected to the claims on the grounds that they were not sufficiently supported, that certain payments had not been properly applied, and that the claims included improper collection charges.

C. Collection Costs in Both Ca...