The Credit Card Accountability Responsibility and Disclosure Act, dubbed simply the “Credit Card Bill of Rights,” was backed by the President and was written to protect consumers from abuses that have come to define the credit card industry. The Act went into effect Monday. Unless you have a perfect credit score, however, the law might not do anything to help you borrow extra cash at a fair rate anytime soon.
In fact, because the law makes credit cards less profitable for banks, it may end up costing all but the best-behaved borrowers extra in the long run.
How did a law meant to protect consumers when signed into law last May end up potentially causing pain instead? There are a number of contributing factors, consumer advocacy groups say.
Diluting the good thing
First, while the Federal Reserve was busy clarifying the rules of the measure, banks had nine months to counter attack. They raised interest rates. They thinned and eliminated credit lines for “risky” customers (like those living in areas with high home foreclosure rates). They introduced a host of new fees, making sure to post them before the law took effect today.
The continuing economic slump also was a factor. In 2007 the top 12 card issuers earned a combined $19 billion from credit cards, according to the Nilson Report. A year later, amid the financial meltdown, profits for those same companies dropped more than 65 percent to just $6.32 billion, due largely to defaults that ballooned as unemployment soared. In 2009 banks wrote off about $45 billion in credit card debt as the unemployment rate topped 10 percent. And financial analysts predict the default rate will remain at least twice as high as normal through 2010.
AP reports that since the financial meltdown, lenders have been trying to recoup their losses and reduce risk. The number of Visa, MasterCard and American Express cards in circulation dropped 15 percent in 2009. Companies also cut limits for millions of accounts that remain open. About 40 percent of banks cut credit lines on existing accounts, according to the consultant TowerGroup, which estimates that such moves eliminated about $1 trillion in available credit.
The law is also expected to cut into future bank profits. FICO projects the average credit card will generate less than $100 a month in revenue within three years, down from $200 a month before the law went into effect. To make up for these expected losses, lenders pulled out all the stops while they still could. Last week the average interest rate offered for a new credit card was 13.6 percent; up from 10.7 percent during the same week last year, according to monitor Bankrate.com.
Still, consumer advocates argue the new law offers important protection for users of some 1.4 billion credit cards.
“We expected some rate increases; we expected some annual fees,” said Ed Mierzwinski of the U.S. Public Interest Research Group, an advocacy organization that lobbied for the law.
The new rules
According to the provisions of the Credit Card Accountability, Responsibility and Disclosure Act:
* Card issuers will not be able to raise your interest rate for 12 months unless you are 60 days past due. The old laws allowed companies to raise interest rates for being a day late on payment, w practice that will no longer be allowed. Many companies, however, yanked current customer’s interest rates up to nearly 30 percent in advance of Monday’s law taking effect, and lenders are not required to take back these interest rate hikes.
* They will be required to apply payments to the balance with highest interest rate first. In the old days, a favorite trick was to offer consumers zero percent interest on balance transfers. If they already had an existing balance that was higher than the one they were transferring in, however, it continued to rake up interest and the banks applied one’s payments first to paying off the zero percent balance transfer.
* Monthly bills must show how long it would take you to pay off a balance with only minimum payments. Now you’ll see exactly how much that card is costing!
* Statements must arrive at least 21 days before payment is due, up from 14 days, to help avoid late fees. No more mailing the statement at the last second to ensure a late fee is charged.
If you are one of the few Americans who still have good credit, you’ll likely benefit more now than last year. Carry a balance on your credit card from month to month for at least part of the year, pay your bills on time and do more business with the lender who issues your biggest charge card, and the banks will come a courting.
“What we want is a deeper relationship with our customers,” Andy Rowe, an executive vice president with Bank of America’s card business told the AP. Customers willing to stick with a single bank may even be able to get annual fees waived or get a better interest rate, he said. “That’s where the competition will be.”
Moving from plastic to payday
But for those no longer able to secure a loan from a traditional credit card company, Monday’s reforms aren’t enough.
According to a first-of-its kind FDIC study about a quarter of U.S. households either don’t have a relationship with a bank or are relying on alternative financial services such as payday loans and subprime credit cards. Once considered options only for the poor or the financially ignorant and gullible, these services are now becoming the only available means of borrowing for millions of Americans.
In other words, the credit card reforms could result in a pay day for dread payday lenders.
Payday outfits in the USA now outnumber McDonald’s restaurants by nearly 2 to 1: there are about 22,000 payday lending branches versus 14,000 of the fast food chain’s restaurants. And in 2009, about 19 million people used payday services to secure funding, according to industry figures. Why? Because payday loans are easy to land. Consumers give the lender a postdated check for the loan amount plus a fee, which is usually around $15 for every $100 borrowed. The lender holds the check for around two weeks, at which point the money is repaid or the check is cashed.
That fee is no big deal if a consumer uses the service only once or twice, but studies show more Americans are using the service as a regular borrowing option, in the same way they used to use plastic. When the average fee on a $100 loan is translated into an annualized rate, as on a credit card, the interest rate is a staggering 391 percent.
Rep. Mark Ferrandino, D-Denver, introduced legislation Monday, however, that if passed would let Colorado voters decide whether to cap annual payday lending interest rates at 36 percent.
Opponents of the measure say if passed it would create more unemployment in the state by forcing the payday lending industry, which currently operates about 600 facilities employing 1600 people, to completely shut down.
The other plastics
Payday loans are just one of three non-traditional lending methods taking off in Colorado. Thousands of residents are also buying into the prepaid credit card industry. Sold at supermarkets and discount stores across the country, the cards can be used exactly like a credit card, and provide users, at least on a psychological level, with a sense of security. Although these cards look harmless enough on the rack in Target, the fact is they are riddled with hidden fees. It can cost as much as $29.95 just to buy one, and then there are monthly maintenance fees and charges for not using the card frequently enough.
Despite the fees, analysts estimate Americans will load a staggering $36.6 billion onto these cards in 2010, that’s double the $18.3 billion spent last year and more than four times the $8.7 billion total of 2008. And despite all the fees, if the prepaid card is stolen, the issuers aren’t required to provide the same levels of legal protection as for credit or debit cards. The Federal Reserve is studying whether to change this, but hasn’t set a deadline on a decision.
And then there are subprime credit cards, the sneakiest offenders of all. Marketed specifically to those with poor credit scores – nearly anyone can get one – they come pumped full of fees despite credit lines that are often only a couple hundred dollars. Monday’s new law caps fees on these cards at 25 percent of the card’s credit limit in the first year, but issuers have already devised a way around the new rules.
Because the “Credit Card Bill of Rights” includes no interest rate cap, an area historically left to state regulators, the caps on subprime cards have reached as high as 79.9 percent. So long as cardholders are given 45 days advance notice, those rates can climb higher still. One of the biggest subprime credit players, First Premier, now charges a $45 process fee before the card is even issued; if approved, cardholders are then charged a separate $75 annual fee, which is exactly 25 percent of the $300 credit line it issues. That fee is then deducted from the credit line, so when the card arrives, thanks to the $45 “processing fee” it has a $75 balance before it’s even used. If you fail to pay this, regardless of whether you use the card, the interest at nearly 60 percent compounds quickly.
“I had no idea,” Jessica Brown told the Colorado Independent. “All of the sudden I had a collection agency calling me for something I didn’t think I even owed.”
Brown applied for a subprime card after being laid off last year, but only used it once, and had thought she’d paid off the balance, when the collection calls began.
“Then I found out there were all sorts of fees for late payments and such,” Brown said. “I felt powerless and cheated. And there seemed like there was nothing I could do but pay up.”
Miles Beacom, president and CEO of the Premier Bankcard, defended the company’s fees, telling the AP the terms are necessary to cover the 25 percent default rate among its customers.