When fake debts end up on your credit report

Consider this unnerving situation: You apply for a loan only to learn that your credit report is marred by a delinquent debt — one that you have already paid or maybe don't recognize.

You could be a victim of unscrupulous debt collectors who have placed invalid or fake debts on your consumer credit reports to coerce you to pay them. The tactic is called illegal "debt parking" or sometimes "passive debt collection."

The Federal Trade Commission recently took action against a Missouri collection company and its owners, alleging that they collected more than $24 million from consumers, largely by placing "bogus or highly questionable" debts on their credit reports.

"The defendants used this illegal 'debt parking' to coerce people to pay debts they didn't owe or didn't recognize," Andrew Smith, director of the FTC's bureau of consumer protection, said in prepared remarks about the agency's settlement with the company, Midwest Recovery Systems.

The FTC said in a related blog post that the case was its first legal challenge to debt parking under the Fair Debt Collection Practices Act.

In debt-parking cases, collectors don't contact the consumer before reporting the debt to credit bureaus. That means people learn about the debt only when it is flagged as they are applying for a mortgage or a car loan or even a job.

Because they don't want to lose the loan or the job offer, consumers may feel pressured to pay off the "bad" debt quickly.

That's not surprising, according to the FTC, because many of the debts that Midwest Recovery was pursuing had been obtained from other companies, including payday lenders, that the agency has previously sued for illegal practices. (Debts are often sold, sometimes multiple times, to different collection agencies.)

The debts that Midwest Recovery sought to collect included payday loans, some of which were "fabricated from consumers' sensitive financial information," the complaint said.

The settlement with the FTC, filed in U.S. District Court for the Eastern District of Missouri, prohibits Midwest Recovery and its owners from debt parking and from pursuing consumers for debts without a "reasonable basis." Midwest Recovery must also contact the credit reporting bureaus, which maintain consumer credit reports, and ask that all debts reported by Midwest Recovery be deleted.

Midwest Recovery and its three owners, Brandon M. Tumber, Kenny W. Conway and Joseph H. Smith, "neither admit nor deny" the allegations in the complaint, according to the settlement. A lawyer representing the company and Tumber did not respond to a request for comment. Attempts to reach the co-owners at a phone number listed for Midwest Recovery were unsuccessful.

The settlement includes a financial judgment of $24.3 million, but the payment is partly suspended because of Midwest Recovery's "inability to pay," the FTC said, so the company must pay about $57,000. One of the owners must also sell his stake in another debt collection company and pay that amount to the FTC. If the defendants are found to have misrepresented their ability to pay, the full judgment is due.

The Consumer Financial Protection Bureau is expected to publish a second round of debt-collection rules this month to address debt parking, among other issues.

Here are some questions and answers about debt collection:

How can I protect myself against debt parking?

Check your credit report regularly, said Chi Chi Wu, a lawyer with the National Consumer Law Center. If you find items that appear incorrect, contact the lender or collection agency listed on your report, as well as the credit bureau that issued the report. You can get free credit reports from Equifax, Experian and TransUnion at annualcreditreport.com. How can I dispute a debt that I believe is incorrect?