Punishing Cutomers Who Don't Carry Balances

Credit Card Industry Aims to Profit From Sterling Payers

by Andrew Martin

Tuesday, May 19, 2009

The New York Times

Credit cards have long been a very good deal for people who pay their bills on time and in full. Even as card companies imposed punitive fees and penalties on those late with their payments, the best customers racked up cash-back rewards, frequent-flier miles and other perks in recent years.

Now Congress is moving to limit the penalties on riskier borrowers, who have become a prime source of billions of dollars in fee revenue for the industry. And to make up for lost income, the card companies are going after those people with sterling credit.

Banks are expected to look at reviving annual fees, curtailing cash-back and other rewards programs and charging interest immediately on a purchase instead of allowing a grace period of weeks, according to bank officials and trade groups.

"It will be a different business," said Edward L. Yingling, the chief ****utive of the American Bankers Association, which has been lobbying Congress for more lenient legislation on behalf of the nation's biggest banks. "Those that manage their credit well will in some degree subsidize those that have credit problems."

As they thin their ranks of risky cardholders to deal with an economic downturn, major banks including American Express, Citigroup, Bank of America and a long list of others have already begun to raise interest rates, and some have set their sights on consumers who pay their bills on time. The legislation scheduled for a Senate vote on Tuesday does not cap interest rates, so banks can continue to lift them, albeit at a slower pace and with greater disclosure.

"There will be one-size-fits-all pricing, and as a result, you'll see the industry will be more egalitarian in terms of its revenue base," said David Robertson, publisher of the Nilson Report, which tracks the credit card business.

People who routinely pay off their credit card balances have been enjoying the equivalent of a free ride, he said, because many have not had to pay an annual fee even as they collect points for air travel and other perks.

"Despite all the terrible things that have been said, you're making out like a bandit," he said. "That's a third of credit card customers, 50 million people who have gotten a great deal."

Robert Hammer, an industry consultant, said the legislation might have the broad effect of encouraging card issuers to become ever more reliant on fees from marginal customers as well as creditworthy cardholders -- "deadbeats" in industry parlance, because they generate scant fee revenue.

"They aren't charities. They have shareholders to report to," he said, referring to banks and credit card companies. "Whatever is left in the model to work from, they will start to maneuver."

Banks used to give credit cards only to the best consumers and charge them a flat interest rate of about 20 percent and an annual fee. But with the relaxing of usury laws in some states, and the ready availability of credit scores in the late 1980s, banks began offering cards with a variety of different interest rates and fees, tying the pricing to the credit risk of the cardholder. That helped push interest rates down for many consumers, but they soared for riskier cardholders, who became a significant source of revenue for the industry. The recent economic downturn challenged that formula, and banks started dumping the riskiest customers and lowering their credit limits in earnest as the recession accelerated. Now, consumers who pay their bills off every month are issuing a rising chorus of complaints about shortened grace periods, new hidden fees and higher interest rates.

The industry says that the proposals will force banks to issue fewer credit cards at greater cost to the current cardholders.

Citigroup and Capital One referred comments to the A.B.A. Discover and American Express declined to comment. Bank of America intends to "provide credit to the largest number of creditworthy customers possible, while also remaining prudent in our lending practices," said Betty Riess, a spokeswoman. Together with JPMorgan Chase, which has said the changes will force it to limit credit availability and raise fees, these banks account for 80 percent of the credit card industry.

Banks are not required to publicly reveal how much money they make from penalty interest rates and fees, though government officials and industry consultants estimate they constitute a growing portion of revenue.

For instance, Mr. Hammer said the amount of money generated by penalty fees like late charges and exceeding credit limits had increased by about $1 billion annually in recent years, and should top $20 billion this year.

Regulations passed by the Federal Reserve in December to curb unexpected interest charges would cost issuers about $12 billion a year in lost fees and income, according to industry calculations. The legislation before Congress would build on the Fed rules and would further squeeze banks' revenue when they are being hit with a high rate of credit card charge-offs. The government's stress tests showed that the nation's 19 biggest banks will take on $82 billion in credit card losses in the next two years.

A 2005 report by the Government Accountability Office estimated that 70 percent of card issuers' revenue came from interest charges, and the portion from penalty rates appeared to be growing. The remainder came from fees on cardholders as well as retailers for processing transactions. Many retailers are angry at the high fees and plan to pass them on to shoppers once the Congressional legislation takes effect.

Consumer advocates say they have little sympathy for credit card issuers, arguing that they have made billions in recent years with unfair and sometimes deceptive practices.

"The business model will change because the business model doesn't work for the public," said Gail Hille*****, a senior lawyer at Consumers Union.

"In order to do business under the new rules, they'll actually have to tell you how much it's going to cost," she said.

With many consumers mired in debt and angry at what they consider gouging by credit card companies, the issue of credit card reform has broad populist appeal. Members of Congress and the Obama administration have seized on the discontent to push reforms that the industry succeeded in tamping down when the economy was flying high.

Austan Goolsbee, an economic adviser to President Obama, said that while the credit card industry had the right to make a reasonable profit as long as its contracts were in plain language and rule-breakers were held accountable, its current practices were akin to "a series of carjackings."

"The card industry is giving the argument that if you didn't want to be carjacked, why weren't you locking your doors or taking a different road?" Mr. Goolsbee said.

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