COLUMN ONE : A Case of Phony Identity : Seeking to escape lousy credit records, ordinary people are buying fake names, addresses and Social Security numbers. The scam is fed by a surge in consumer bankruptcies.

Unable to pay thousands of dollars owed on student loans and credit cards, and facing bankruptcy, part-time carpet cleaner Kevin Arce took a desperate step. He became Arsay Richard.

The transformation took place at an obscure credit clinic, located next to an auto body shop in an industrial section of Glendale. For a staggering $1,500 fee, Arce got a new name, a new driver’s license (he wore glasses to disguise himself in the photo), and a new Social Security card.

Not everyone knew of his double identity. To his friends at his Irvine church group, and to his boss at the Chem-Dry franchise, he was still the same old Kevin. But to the huge computers that track payment records and spit out credit reports on millions of Americans, debt-ridden Kevin Arce was a new man.

The sale of phony credit IDs is the latest scam from the multimillion-dollar credit repair industry, a group dominated by crooks and fueled by financial hardship brought on by the recession, law enforcement authorities say.

But while credit repair frauds have been perpetuated for years, the phony ID scheme is the most dangerous of all such scams, drawing ordinary people into a web of deception and fraud that could ultimately lead to criminal charges.

As if playing roles in a spy novel, thousands of middle-class Americans like Arce are being swayed by credit repair operators to adopt secret identities to escape a debt-plagued past. Though authorities say it is illegal, people are buying aliases with clean credit records in a desperate attempt to obtain credit cards, auto loans and mortgages.

No one is certain how many thousands of people--hurt by economic hard times--have purchased fake IDs since the scam surfaced in California a little more than a year ago. There is evidence that the number may be significant, at least in the West.

The Internal Revenue Service, the first agency to spot the scam, says the fraud contributed to an abnormal rise in errors at its Fresno processing center this past tax season. The IRS said it was unable to process one of every 27 tax returns because names and Social Security numbers did not match; some of those mismatches were due to the credit scam.

The scam is emerging at a time when a sluggish economy is driving a record number of consumers into bankruptcy, denying them easy access to credit in a society that revolves around plastic. Although it is possible to get credit after bankruptcy, it is not always easy. According to Purdue University’s Credit Research Center, 16% of consumers have new credit one year after bankruptcy; about half get new credit within five years.

To Tammy Morrison, a 25-year-old bookkeeper from San Luis Obispo, a fake ID seemed to open the door to restaurants and other little pleasures not possible on a tight post-bankruptcy budget. Morrison and her husband, Michael, didn’t consider the consequences, at first.

“We were so excited and happy about the chance of doing something to help ourselves,” said Morrison, who backed away from the scheme after federal authorities shut down the clinic she used. “We were blinded.”

The targets of the phony ID scam are the nation’s credit bureaus, a network of 900 companies that keep score cards on everyone who has ever borrowed money. Led by the industry’s big three, TRW Information Services, Equifax and Trans Union, the bureaus are the gatekeepers to consumer credit. Car dealers, banks, savings and loans and department stores depend on credit bureau records to determine whether a consumer is credit-worthy.

Using a fake ID, debt-ridden consumers masquerade as first-time borrowers to fool the credit bureaus’ computers. According to law enforcement officials, the scam works this way:

For a fee, a credit clinic provides a consumer with a new credit identity or instructions for how to get one. The new credit identity consists of a new address (usually the address of a relative or friend) and new Social Security number. In some scams, the credit clinic makes up the Social Security number. In other scams, consumers are told to illegally substitute a nine-digit employer identification number for their Social Security number. Some, but not all scams, require a name change.

Later, a bank or department store runs a credit check on the alias. It turns up nothing, particularly if the name has been changed. That is because the credit bureaus have no way of linking a fake ID with the real debt-ridden person using it.

The credit bureaus believe that only a small number of phony credit identities have slipped onto their databases, which contain more than 200 million names. The bureaus have nonetheless taken undisclosed steps to further protect their systems from fraud.

Even with tightened security, Barry Connelly, vice president of an industry group that represents TRW, Equifax and the other credit bureaus, admits: “It’s not fail-safe.”

The largest operation uncovered so far is Credit One Services of Ft. Bragg, Calif., a mail-order outfit that sold detailed instructions on how to create a false identity, authorities say. Before it was shut down by the April arrest of its owner, veteran mail-order promoter John P. Ruggeri, Credit One had sold its $39 kits to 20,000 people, including the Morrisons. Ruggeri later pleaded no contest to charges of credit repair fraud.

Authorities say Credit One has spawned several imitators, including Credit America Services in Minnesota. The Minnesota attorney general’s office is suing Credit America for consumer fraud, but the company is fighting the charges. The ultimate copycat, Credit America simply photocopied Credit One’s direct-mail pitches, scratching out the name and address, according to Minnesota investigator Dan Donahue.

In stark contrast to the faceless pitches from mail order clinics is Glendale lawyer Michael L. Hsu. Relying on information provided by a former fraud expert at TRW, Hsu hawks an underground manual on false credit IDs imposingly titled, “An Investigative Research and Legal Opinion on the File Segregation Method.”

Making the rounds at Southern California hotels, he holds evening seminars to sell his line of credit repair manuals and cassettes. During his sales pitch, he berates, then cajoles his audience, waving his arms and working up a sweat. The performance gets results: As a recent one-hour seminar at the Doubletree Hotel in Pasadena ended, four people forked over $495 each for Hsu’s credit repair tips.

The 39-year-old native of Hong Kong, who calls himself Dr. Hsu even though he has earned no doctorate degree--”it impresses people,” he explained--boasts that the seminars have made him rich. He claims that 10,000 people have attended, and many--he calls them his students--have gone on to open their own credit clinics, including the one visited by Kevin Arce.

Though he claims success, Hsu is an unlikely guru of credit repair. Like others in the credit repair business, Hsu has credit problems. Public records show he owes the state of California $10,000 in unpaid taxes. In addition, several newspapers are trying to collect thousands in advertising bills; the attorney for the Cleveland Plain Dealer last year even sent a sheriff’s officer in an attempt to seize Hsu’s cash box.

Federal, state and local law enforcement officials said they are aware of Hsu’s activities, but would not comment further. Hsu didn’t return telephone calls to his Glendale office seeking comment.

Arce’s experience offers a glimpse into the seldom seen world of credit repair. Arce said his path to a phony credit ID started at a Hsu seminar, which he attended hoping to clear his credit so he could get a car loan. Though he didn’t buy Hsu’s books--the price was too steep, he said--Arce left his name and phone number with a receptionist to get a free cassette tape.

Over the next two weeks, Arce said, representatives of a Glendale clinic called Consumer Credit Checks courted him as if he was a debutante with a rich dad. He was taken to lunch, then dinner. Finally, over dinner at a Mexican restaurant in Irvine, Arce said, he signed a contract agreeing to pay $1,500 in four installments for a new identity and a clean credit slate.

Six weeks after signing the contract, Arce received a package from Consumer Credit Checks. It contained an odd mixture: a Hsu book on how to build credit, a Federal Trade Commission publication on credit repair, and his new identity. There were three clean credit reports under his new name, one from each of the big credit bureaus, Equifax, TRW and Trans Union. To his horror, the name he had so carefully selected--Richard Arsay--had been reversed. He said he hasn’t used it to obtain credit; an oddball name like Arsay Richard could arouse suspicion. But his alias exists in the credit bureaus’ databases.

Without fully realizing it, Arce made a good decision. Authorities say the phony ID scheme is the most dangerous to emerge from an industry notorious for fraud. In conventional credit repair rip-offs, the most a consumer can lose is money. The credit file segregation scam is much worse; it threatens to transform an unfortunate deadbeat into a criminal guilty of defrauding a bank, oil company, or any firm that issues credit.

What’s more, people who use fake Social Security numbers stand to miss out on retirement benefits, as they won’t get credit for contributions made under a phony ID. And if they use the fake number on their income tax returns, they face possible prosecution for tax fraud.

The scheme vexes law enforcement officials, who have been trying to crack down on fraudulent credit clinics since the 1970s. Despite several successful prosecutions, credit clinic scams are flourishing. In the most common scam, clinics falsely promise they can clear bad credit. In fact, no one really can.

“It is like trying to handle mercury,” said veteran Federal Trade Commission attorney John Lefever. “Every time you open an investigation, you grab one of them, it runs through your hands and you discover more clinics pop up somewhere else.”

In the meantime, credit grantors are taking precautions. Kenneth R. Krone, vice president of Visa’s bankruptcy recovery program, said the card company is collecting information on the scheme to pass on to Visa card issuers so they can protect themselves. Although the scam could lead to problems for Visa and other credit card companies, he said the magnitude of the potential problem is impossible to assess. Consumer bankruptcies cost bank card issuers more than $2 billion last year, a loss that could swell if large numbers of bankrupt people failed to repay debts assumed under an alias.

The credit bureaus won’t discuss in detail what they have done to foil the scheme. In general, they say that new files assigned to middle-age people arouse suspicion.

Associated Credit Bureaus, the industry trade group, maintains that anyone who takes on a second identity will eventually get caught because it is not easy to live a double life. A tiny slip--an accidental mention of an old address on a credit application--might cause the fake credit file to merge with the real one.

For a while, Tammy Morrison was tempted to take a chance.

Morrison received her pitch from Credit One shortly after she and her husband filed for bankruptcy liquidation. The solicitation seemed to offer a couple in over their heads on credit card debt a second chance: “Get what you want from life without bankruptcy getting in the way.”

The letter struck Morrison as “very professional . . . neatly typed and the way it read.” She recalled: “It looked like the answer to our prayers.”

For their $39, the Morrisons received a complex set of instructions that told them to replace their Social Security numbers with employer identification numbers from the IRS. Next they would have to change their address.

The Morrisons never completed their credit transformation. In March, the IRS put out an alert on Credit One, warning that anyone who got involved in the scheme could face tax fraud charges. The agency had noticed a rise in mismatched Social Security numbers that it could not explain, said spokesman Larry Wright. At the same time, the Better Business Bureau of the Southland, based in Cypress, alerted the IRS to complaints about Credit One.

Faced with the prospect of criminal charges, the Morrisons abandoned the idea.

The apprehension of Credit One operators Ruggeri and his wife, Nancy, was the legal equivalent of a gang tackle. The Los Angeles city attorney’s office filed criminal charges, while the FTC, the state Department of Consumer Affairs and the Minnesota attorney general’s office filed civil lawsuits seeking fines. The U.S. Postal Service seized their mail, and the FTC froze their bank accounts.

The couple pleaded no contest to criminal violations of the state’s credit repair laws and business code. Nancy Ruggeri, 33, was sentenced to 30 days in jail and 30 days under house arrest. John Ruggeri, 35, was sentenced to five months in the Los Angeles County Jail. The couple now maintain that they are innocent--John Ruggeri contends that the 1st Amendment protects dissemination of the repair kits--and are seeking to set aside their criminal records.

With just $20,000 in its bank accounts, Credit One isn’t likely to refund much money to its victims, according to the FTC. Investigators now doubt that the Ruggeris made any money on the expensive mail order scheme, which required rental of expensive mailing lists and sizable postal costs. They may have even lost money. Tammy Morrison certainly hopes so.