Elusive Wealth

On May 22nd, President Obama signed the Credit Card Accountability, Responsibility, and Disclosure (CARD) Act.  What a cute acronym! Forgiving the acronym, I wanted to discuss what this Act does and what I like / dislike about it.  Below are some of the major provisions of this Act. The description of the Act are in italics, while my thoughts are below the description. Before I get into this, let me remind everyone that I am not a lawyer, and this is just my interpretation and opinion.

Credit Cards

Prior Notice of Rate Increases

Credit Card companies must provide 45 days prior notice before changing the interest rate or any other significant terms of the contract. Also, the consumer will have the option to cancel the credit card before the change is effective. This cancellation cannot be considered a default (which would make the entire loaned value due).

I feel this is necessary. Frankly I don’t think it should be possible to change the terms of any contract without being able to terminate the contract outright. This may be my naivete with contract law. Though I suspect, in this case, since the balance continues even after you cancel the account, you can’t just terminate the contract. So perhaps a better way to put it is that I feel the terms of the contract should be frozen until the contract can be legally terminated (the balances are paid off).

Limits on Fees, Interest Rate, and Finance Charge Increased

Interest rates, fees, and finance charges cannot be increased for any outstanding balances with a few exceptions. The card issuer can still create an introductory period where the rate can increase at the end of the introductory period to a rate that is clearly documented in the terms.  The introductory rate must be in place for at least 6 months. However, even with these changes the rate can be increased if a payment has not been made 60 days after it is due.  The rate will reset to the prior rate if the consumer pays at least the minimum payment for 6 consecutive months.

Variable rates must be linked to an index that is not controlled by the credit card issuer (such as the prime rate).

I have no issues with card companies changing the fixed interest rate for future purchases. But changing it on existing balances is bait and switch, and I am glad that this is eliminated.  Forcing the link between variable rates and an index will increase transparency of variable rate cards.

Prohibition on Double Cycle Billing

The act prohibits double cycle billing, the practice of using the average daily balance over two periods (months).  This practice often resulted in higher finance charges in situations where the consumer pays off the balance or significant portions of the balance in some months, but has higher balances in other months.

I do not have positive or negative thoughts on this change. I do think the double cycle billing is a more confusing method of determining a finance charge, so from that respect I think it is good that it is gone. However, it likely has less impact than many of these other changes.

Over the Limit Transaction Changes

Creditors may not charge a fee for over the limit transactions unless the consumer has opted in. The creditor, at their discretion may still allow the over the limit transaction however they cannot charge for it. The fee may only be charged once in a billing cycle.

This is another change that I think is very good. The credit limit is a limit for a reason, and a consumer should have the option of whether or not they exceed that limit.  This change does not quite eliminate going over the limit, but it does at least eliminate the fees from going over. If the point of sale system warned the consumer that they were about to go over, and the consumer could choose whether to proceed or not with the fee, then this would be different for me. But point of sale systems don’t do this, and as a result it is sometimes difficult for the consumer to know whether they are about to exceed the limit.

By the way, I think this should apply for any “limit.”  For example, the same problem exists in bandwidth metering. If you have a 5 gb “broadband” wireless plan from AT&T and go over the 5 gb limit, the company starts charging highly disproportionate fees instead of simply stopping access.

Other Highlights

Fees must be reasonable and proportional. What this means exactly is left out of the Act itself, and will be determined by an appointed Board that will determine the limits.

I am a little concerned about this change. Having an open ended definition to this leads to more complexity and difficulty in compliance. I would prefer that the Act define what proportional means and actually identify an amount.

Card agreements must be available on the Internet and are to be submitted to the Board.

I think this is a great requirement!  Specifically requiring the contract terms to be available on the Internet is good for all consumers. The transparency is necessary.

Application of Card Payments

The amount of payment beyond the minimum will be applied to the balances with highest interest rate first.  This could be problematic in introductory situations where there is deferred interest. So the Act also has a provision that the entire excess amount will be applied to the deferred interest amount if the payment is in the last two billing cycles before the deferred interest becomes effective.

Also the credit card issuer may not charge a late penalty for payments that are late due to changes in the address, office or procedures for handling the payment. Billing statements must be mailed no later than 21 days before the payment due date.

This is a complicated part of credit cards that has impacted a lot of borrowers who thought they were getting a deal with a 0% introductory rate. Often they were required to pay a balance transfer fee, or use the card a specificed amount that gets charged at the highest interest rate. But the payments get applied to the lower interest rate, and interest accumulates on the rest of the balance.  These changes help avoid this situation, and they provide a way for the consumer to pay off the introductory balance befere the deferred interest would start accumulating.

Aside from requiring clear disclosure, I don’t feel that these changes were really necessary to be made into law.  Even though you might not have guessed it from some of the other positive comments about this Act, I do believe that it is the consumer’s responsiblity to be aware of what they are getting into. And in this case, if the consumer reads and understands the terms, then this can’t have a negative impact on them that they were not aware of.

Protection of Young Consumers

Cards may not be issued to anyone under 21 unless there is a cosigner older than 21 or the consumer can demonstrate ability to pay. The standards for being able demonstrate ability to pay have not been determined yet.

Before increasing credit lines, if a parent is jointly liable on the card (a cosigner) they must also approve the credit limit increase.

College institutions must publicly disclose any contract or agreement with a credit card issuer.  Card issuers may no longer offer tangible items as an incentive to apply for the card (no more free hats!) if the offer is made on a college campus, “near” a campus, or at an event sponsored by a college campus.

I find it ridiculous that people would sign up to get a credit card just to get a “free” hat. I guess we need a law to make sure it doesn’t happen.  I am mixed on some of these changes.

First regarding changing the credit limit, I think all cosigners should always be notified and have right of approval before the limit or any other terms of the agreement are changed.  So I think this change should apply not just for young consumers and parents.

Regarding not issuing cards to someone under 21, this is coddling our youth.  I do not like the open ended “standards” for determining what constitutes demonstrating the ability to pay.  And if the consumer under 21 is unable to demonstrate that they could pay, they will have to get a cosigner. But I would never encourage any anyone to cosign a loan for anything, ever! I am with Dave Ramsey on this.

Finally regarding college institutions, I do find increased disclosure is good. But I still can’t believe that people fall for the free hats.

Changes to Gift Cards

Gift cards cannot have an inactivity fee until after 12 months of inactivity. Any inactivity fee can not be charged more than once per month, and the fee must be clearly disclosed by the issuer. Also gift cards may not expire earlier than 5 years from issuance.  There are some exceptions to this, such as gift cards that are given as an award or promotion as opposed to being sold.

These are reasonable changes, however a significant risk to gift cards, beyond expiration and inactivity, is simply bankruptcy of the gift card issuer.

Conclusion

Overall I wish that we could have “regulated” this by voting with our dollars instead of creating laws.  I do think many of these practices take advantage of consumers who are  least able to pay, and there is something wrong with that. But if we don’t get into credit card debt, if we only accept cards with reasonable terms, and if we see credit cards as a convenience instead of a necessity, then the negative practices would never have flourished.  But that is not the reality we are in.  I do like all of the changes that improve disclosure. I like the changes that eliminate change the rate on existing balances. And I like the changes that disallow charges after limits are exceeded.

With that said, these changes will no doubt modify the current market for credit cards. It will become more costly to borrow money. Even adding disclosures adds overhead and cost. And more complex laws make it difficult for smaller issuers to comply and compete.  I am anticipating that card issuers will find new ways to increase revenue. Whether that be by adding annual fees, charging higher rates overall, or by finding ways around some of the stated exceptions of this law.

Sources

The full text of this act is available at GovTrack.