U.S. Banks Discover Profits in Card Rules They Sought to Kill

Responding to an outcry from consumers, in 2009 Congress overhauled rules for credit-card issuers.

The bipartisan Credit Card Accountability Responsibility and Disclosure Act ended some questionable -- and lucrative -- bank practices, like charging hidden fees and offering low introductory interest rates only to jack them up suddenly. The industry hated the reforms and issued dire predictions that they’d mean the end of plastic.

Three years later, card issuers are sheepishly, if quietly, admitting that they’re seeing a surprising benefit from the conservative lending the law was designed to promote, Bloomberg Businessweek reports in its July 30 issue.

“If there is a silver lining to the CARD Act -- I’m not here to say the CARD Act was good for our business, so nobody misunderstand the comment -- but if there were a silver lining to it, it forced rationality,” Mark Graf, chief financial officer of Discover Financial Services, said at an industry conference in May.

Rationality means not giving credit cards to just anybody - - especially those who’ve shown they’re at high risk of falling behind on their payments or defaulting. That seems obvious enough, yet it wasn’t the case when, as Graf put it, the industry was engaged in a “silly race to the bottom.”

Before the law was passed, banks didn’t have to be as careful about picking customers. If a borrower missed payments, the lenders would raise his rates, cut his credit limit, and bury him in nuisance fees. That’s one way to manage risk and discourage bad behavior, but it’s hardly the most efficient, and it infuriated cardholders.

Teaser Rates

The CARD Act outlawed that practice, so now companies must account for a customer’s likelihood of default before they issue the card. They can still offer low teaser rates, but they can only raise the permanent rate in limited cases, such as when the account is 60 days delinquent.

That’s helped reduce late payments to the lowest level on record. And so-called charge-offs, the debts lenders deem uncollectible, are at their lowest since the end of 2006. In May, the industry identified $276 million in charges they assume won’t be paid, down from a peak of $821 million in August 2009.

Even stricter rules could be on the way.

Customer Grievances

The Consumer Financial Protection Bureau is using its new powers under the Dodd-Frank financial reform law to monitor the industry and track customer grievances. On July 18, the bureau brought its first enforcement case, against Capital One Financial Corp. The McLean, Virginia-based lender agreed to pay $210 million, including as much as $150 million in customer refunds, to settle complaints that telemarketing companies it hired tricked customers into paying for a service that monitored their credit rating and other unnecessary add-ons.

Capital One didn’t admit or deny wrongdoing. The CFPB is pressing for a standard, two-page credit-card contract in plain English, free from the microscopic lawyer language where fees can be buried.

No surprise that the banks are against it. Nessa Feddis, vice president at the American Bankers Association, has written to the bureau saying the simplified disclosure form leaves out important information such as details about penalties.

“It sounded like a good idea,” she said, “but it just doesn’t work as a matter of practice.’”

If the CARD Act is any indication, lenders may not always feel that way. Sanjay Sakhrani, a credit-card analyst at KBW Inc. who has outperform ratings on Capital One, Discover, and New York-based American Express Co., said pushing credit-card issuers to do something they didn’t want to do has helped the industry.

The law “forced their hand to assume the worst-case scenario,” he said. “And the best-case scenario is playing out.”

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