Seniors Lose Shield On Debts

(Dow Jones) A little-noticed law could soon result in smaller Social Security checks for hundreds of thousands of the elderly and disabled who owe the U.S. money from defaulted loans and other debts more than a decade old.

Social Security benefits are off-limits to such creditors as credit-card issuers and banks. But the U.S. can collect debts to federal agencies by "offsetting," or withholding Social Security and disability payments.

The Treasury withholds benefits of 3.1 million Social Security recipients to recover defaulted student, farm and small-business loans, unpaid income taxes, amounts veterans owe for health care, and other debts to the government. Previously, the U.S. wasn't able to withhold Social Security payments to recover most debts delinquent for more than 10 years.

But a provision in the 2008 Farm Bill lifted the 10-year statute of limitations on the government's ability to withhold Social Security benefits in collecting debts other than student loans-for which the statute of limitations was lifted in the 1990s-and income taxes, where the limit remains 10 years.

This means that a person who defaulted on a small-business loan in 1995 and who is receiving Social Security could be notified that benefits may be reduced each month until the debt, with interest, fees and penalties, is paid. The Treasury can withhold 15% of the benefit, though it can't be reduced to less than $750. Tax debts don't have that $750 floor.

The change will add more than $6 billion to the $75 billion in delinquent debt individuals owe the government, according to the Financial Management Service, the Treasury's debt-collection unit.

A Treasury spokesman says the change "allows Treasury's Financial Management Service to collect older debts and levels the playing field so that all eligible debts, regardless of age, are subject to debt collection."

Few argue that people shouldn't repay their debts. Still, the change comes as older Americans already are pinched by mortgage woes, pension cuts and rising medical costs.

The shift applies to debtors of all ages, but Social Security recipients will bear much of the brunt. A Wall Street Journal analysis of Treasury Department data shows that Social Security recipients comprise a large and rising percentage of people from whom Treasury recovers debts.

For years, most debt the Treasury collected through its "Offset Program," came from withholding income-tax refunds. But with an aging population and steep unemployment, roughly 10% of the $4.3 billion in debts collected by the Treasury came from Social Security benefits in 2008, the latest data available, up from 1.6% in 2001, according to Journal computations that the Treasury confirms.

Though the law has expanded the age of debts that can be recovered, it hasn't addressed the sometimes-Kafkaesque process debtors can face when challenging the validity of a claim.

Consider the predicament of Robert Steinberg, the founder of Scharffen Berger chocolates, who spent more than six years and thousands of dollars in legal fees appealing the Social Security Administration's claim that he owed it more than $28,000.

Dr. Steinberg received disability benefits in the early 1990s while undergoing chemotherapy for lymphoma, a condition that ultimately claimed his life. Dr. Steinberg returned to work sporadically at a free clinic in San Francisco before co-founding the chocolate company.

A year later, the Social Security Administration notified Dr. Steinberg he was overpaid in the 1990s. In May 2002, with the matter still unresolved, the agency turned the debt over to the Treasury for collection.

In October 2002, administrative law judge Gary Lee found that the Social Security Administration never established the amount of the overpayment; had dismissed an earlier appeal "for spurious reasons"; had misinformed Dr. Steinberg and mishandled his later appeals; and had lost his file. He noted that Dr. Steinberg was "without fault" and told the agency to stop its collections efforts.

Dr. Steinberg died in 2008, at age 61. His lawyer, Peter Young, a former staff attorney for the Social Security Administration, has handled more than 100 overpayment cases, "very few of which were accurate," he says. "Most people can't find or afford help, and give up very quickly and end up with painful offsets on a fixed budget."

An agency spokeswoman says mistakes can happen, but "overall, the process works."

A Treasury spokesman says the new regulations require agencies seeking to recover debts more than a decade old to give debtors the right to review and copy their files, make payment plans, and apply for disability and hardship waivers.

But a recent dispute about a student loan shows that even with these rights, a person challenging an old debt can face hurdles similar to homeowners in foreclosure trying to modify a loan that has been resold.

In 2003, the U.S. began withholding $173 a month in Social Security benefits from Annie Brown, a paralyzed 75-year-old widow of a civil-rights worker who is living in a nursing home, to repay a defaulted $8,823 student loan the Education Department says she took out in 1989.

Mrs. Brown said a granddaughter forged her signature on a loan application.

Her daughter, Clanzerria Brown, and Lynn Drysdale, a legal-aid lawyer in Jacksonville, Fla., spent the next five years disputing the debt with the owner of the loan, United Student Aid Funds, a student-loan guarantor that also was acting as one of the Education Department's 21 debt collectors.

Ms. Drysdale corresponded numerous times with USA Funds and two other debt-collection companies it hired. One letter from USA Funds warned that unless documents were received "within 30 days from the date this letter was generated . . . your case will be closed." The letter was undated.

Another required Annie Brown to refer to an attached document, when there was no attachment.

In 2007, USA Funds denied Annie Brown's claim, citing a recently passed federal rule requiring people claiming identity theft on student loans to obtain a criminal court verdict of the crime. But a statute of limitations for bringing a case had passed, and Annie Brown was alleging forgery, not identity theft.

Robert Murray, a spokesman for USA Funds, agrees Annie Brown's signature was forged. "It [the loan] should never have been made," he says. Still, USA Funds must rigorously defend claims. "There are borrowers who want to get out of a legitimate debt," he says. "By the same token, we want to work with individuals who have a legitimate issue."

Ms. Drysdale finally sought to obtain a disability waiver, which took more than a year and was achieved only with help from the Social Security's omsbudsman.

In August 2009, the Education Department agreed that Annie Brown is permanently disabled and discharged her obligation to repay the loan she never took out. The Treasury returned her withheld benefits in December.