On Tuesday, January 7, 2025, the Biden administration announced a new rule banning medical debt from all credit reports. This potentially affects qualification and rates for residential and commercial mortgages, car loans, small business loans, bankruptcy protections, estate planning, and other matters. The VMM team breaks down what this means in different areas of law.
BACKGROUND
The new rule, issued by the Consumer Financial Protection Bureau (CFPB), will remove $49 billion in medical debt from the credit reports of more than 15 million Americans, according to the bureau. This means that lenders will no longer be able to take that debt into consideration when deciding whether to issue a loan.
Medical debt is the leading cause of bankruptcy in the US, estimated to be the primary cause of as many as 66.5% of bankruptcies. Over 40% of Americans are estimated to have some form of medical debt.
According to federal data, bankruptcy filings in the US surged by 18% in 2023 and again by 16.2% in 2024.
The new rule will raise the credit scores of those with medical debt by an average of 20 points and could lead to 22,000 additional mortgages being approved every year, according to the CFPB.
It’s worth noting that this ban may be frozen or reversed by the incoming Trump administration. Republicans in Congress had demanded that Biden's financial regulators stop issuing new rules, and two groups representing the credit reporting and credit union industries have already filed a lawsuit in federal court challenging the new rule.
RESIDENTIAL REAL ESTATE
The new rule may make it easier for applicants to be approved for mortgage loans, as well as higher mortgages. However, the rule doesn’t erase medical debt—it just removes it from the credit reports. The debt still exists, as does the legal requirement to repay it.
Applicants should take into account all debts when determining what amount of mortgage they can afford. Qualifying for a mortgage and actually affording to pay it every month are two very different things—you don’t want to become “house rich but cash poor.”
All expected monthly expenses should be budgeted for before taking out a mortgage (with room for unexpected expenses, which can be expected), including any medical debts. Applicants should make sure they have enough left for basic necessities, and that they don’t find themselves with a foreclosed home.
Not unlike in 2008, some brokers and bankers may push for higher mortgages since now they can be approved, even if the applicants can’t really afford them. The responsibility, ultimately, is on the borrowers.
COMMERCIAL REAL ESTATE
By Thomas Weiss
When a business seeks to lease or buy a property, a personal guarantee is still almost always required.
Mortgagors and lessors review the credit of any individual guarantor, so a person with significant outstanding medical bills will have a better credit score, now that it will no longer be impacted by this type of debt. Thus, it will be easier for them to qualify for a mortgage or obtain a commercial lease.
However, as Phil explains above, having a greater chance also means taking a greater risk. As with any type of loan, lenders should make sure the borrower/guarantor can actually afford to pay it back, in a timely manner.
SMALL & PRIVATELY-OWNED BUSINESSES
Unless a business has been operating for a number of years and has its own credit history, it is very rare that a third party will rely solely on the business to ensure payment for the purchase of inventory, goods and supplies, term loans, lines of credit and, as Tom indicates above, leases and mortgages.
The owner(s) of the business will be called upon to provide personal guarantees. That being said, the financial standing of the business will be the source for approving credit, generally not the personal guarantor’s financial standing.
So, although a guarantor will need to include medical debt as a liability on a personal financial statement, creditors do not generally ask for financial statements; rather, credit scores are reviewed to determine creditworthiness of the guarantor. This will allow businesses to obtain credit without concern for an owner who may have medical debt.
The same process will apply to individuals who are seeking financing to purchase a business, as the ruling also applies to SBA loans.
As for businessowners creating an exit plan, key employees are often a likely source for succession. Often, those employees do not have the resources to pay for the business. This new rule could allow employees to arrange for more traditional funding sources, making the existing/retiring owner happy and providing the new owner with a source of income they would not have otherwise been able to obtain.
BANKRUPTCY
By Thomas Weiss
Having medical debt removed from your credit report does not mean you don’t owe the debt. Most bankruptcy practitioners review their clients’ credit reports. From a bankruptcy perspective, not seeing medical debt might actually be a detriment.
When filing for bankruptcy protection, the goal is to list everything in the bankruptcy petition. If you don’t list it, it can’t get discharged. The new rule may make it a little harder to figure out exactly what is owed, so if you are or are thinking of filing for bankruptcy, you need to make sure you independently obtain each and every invoice for any medical debt owed.
Estate Planning
Strategic estate planning can be used to protect assets from your creditors, as well as the creditors of your loved ones. So understanding how debt interacts with estate planning is crucial for protecting your future financial security and medical care, your legacy after death, and your beneficiaries’ interests.
A decedent’s estate is responsible for paying all debts and expenses of the decedent and their estate before any distributions can be made to their beneficiaries.
In New York, debts are paid in specific order of priority: funeral and burial expenses, estate administration costs, federal debts, state debts, property taxes, judgements, secured debts (mortgages, car loans, etc.), and unsecured debts (credit cards, personal loans, and medical bills).
Only after all these are paid can the balance of the estate assets be distributed to the beneficiaries or heirs.
The new law does not mean medical debts are forgiven or invisible to creditors, but there are several estate planning tools that can be used to protect assets from creditors (and heirs’ creditors) and to ensure family wealth is preserved across generations.
Estate plans should always be tailored to each person’s individual circumstances, so those with debt, medical or otherwise, should work with a qualified professional to implement a well-structured estate plan that will provide the strongest protection for their assets and protect them from unexpected liabilities.
For any questions or assistance, contact us.
