September is shaping up to be a showdown month for reforming credit card terms and conditions. The Credit Cardholders’ Bill of Rights could be voted on by the full House of Representatives. And in the not-too-distant future, the Federal Reserve could finalize a proposed rule that would create a fairer marketplace for American consumers who want to use credit cards responsibly.
Credit card debt tends to carry substantially higher costs than other forms of credit due to a multitude of fees, high interest rates, and terms and conditions that can be difficult to understand. The result: Many borrowers unwittingly slide deeper and deeper into debt as they pay these high fees and interest rates.
Both the credit card bill and the Fed proposal contain many provisions that could help consumers. Both, for instance, would prohibit card issuers from applying rate hikes retroactively to prior balances borrowed at a lower rate unless the borrower pays more than 30 days late, has a promotional rate that ends, or receives a variable rate increase. Both would also more clearly define when a payment is considered “late” to give consumers reasonable time to make payments, and they would require that if a card has multiple balances at different rates, that a consumer’s payments be allocated among these rates in a way that is more beneficial to the consumer than is currently the practice.
As Congress and the Federal Reserve consider these proposals, they would do well to take a look at recent data, which illustrate why urged action is needed.
Banks are rapidly increasing the amount of credit card charge-offs, a warning that consumers are defaulting on their credit cards at an increasing rate. Charge-offs are the value of loans a lender removes from its books and charges against its loss reserves once these loans are deemed delinquent. In the second quarter of 2008—the most recent quarter for which data are available—all lenders charged off 5.5 percent of their credit card loans, an increase of 77.4 percent from the first quarter of 2006, when lenders charged off 3.1 percent of credit card loans in their portfolios. (Due to a change in the bankruptcy code, data from 2005 and earlier are not comparable to these figures).
The increase in charge-offs suggests that consumer defaults are increasing. This means that some families are so squeezed as to not be able to pay off their credit card bills every month. In the current economic environment, a credit card can serve as an all-too-convenient pressure valve for families’ budgets, which are feeling the squeeze from rising prices and flat wages. Costs for basics necessities have been accelerating: Gas is only now declining from a record high of over $4 per gallon. And since March 2001, food prices have risen by 24.2 percent, while fuel and utilities have risen by 48.1 percent.
Data show that Americans are relying on their credit cards more and more: They’ve racked up more credit card debt than ever before. Americans had $931.4 billion outstanding on their credit cards in June 2008 (in 2007 dollars), the most recent month for which data are available, according to the Federal Reserve. This is just below the record high of $933.4 billion, set in March of this year.
The situation stands to worsen, as more borrowers could end up defaulting on their credit card debt because of the lack of transparency of the costs of credit card borrowing. With the economic picture looking bleaker every day, it’s important that families who need to use credit cards for temporary income emergencies can do so on fair terms.