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Credit card industry takes fire from Senate

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Is the credit card industry heading toward the same debacle as the subprime mortgage industry? If unfair and deceptive trade practices continue -- and more American families are buried under mountains of credit card debt -- it could happen, some U.S. senators believe.

Credit card industry takes heat

The precariousness of the credit card industry was one of the issues raised during a sometimes tearful, sometimes tense Dec. 4 U.S. Senate subcommittee hearing on credit card practices.

"The next subprime disaster is the debt that's out there within the credit card industry," U.S. Sen. Claire McCaskill, D-Mo., said, facing a table full of the industry's leaders on Capitol Hill.

McCaskill, a member of the Senate's Permanent Subcommittee on Investigations, heard testimony from credit cardholders and industry executives about "ambush" interest rate hikes and other questionable practices critics say are crippling American families. McCaskill and other senators say questionable and unfair trade practices that appear to be rampant in the credit card industry have left many Americans buried in credit card debt, unable to see their ways out of monthly payments. The hearing was the second held by the committee to shine a light on an industry that critics say has gone unchecked for far too long needs more transparency and openness.

Time for Congress to act?
"That is another economic disaster that is waiting to happen very similar to the subprime lending disaster," McCaskill added."It's time for Congress to act if these credit card companies can't."

Sen. Norm Coleman, R-Minn., agreed that the problem had far-reaching implications for the national economy. Thousands of people lost their homes in the subprime mortgage scandal and many people in the mortgage lending industry lost their jobs as a fallout from lenders approving mortgages for people who were clearly unable to repay their loans.

"This easy credit has gotten a lot of people in trouble," Coleman said. "While credit card debt may seem like a personal problem, it has broader implications."

Bank of America Card Services President Bruce Hammonds was one of three credit card executives testifying before the committee. He disagreed with McCaskill's predictions of doom for his industry: "I don't believe we're in that kind of shape. But I do believe that if we drop the ability to review credit scores we may get there."

He referred to criticism that credit card companies routinely raise interest rates on credit card accounts -- often with little advance notice or notice given in confusing legalese. Even though consumers may pay their bills on time and follow the credit card company rules, they still may be hit with huge interest rate hikes.

Increasing rates
Why? Credit card companies say they weigh a combination of factors when determining whether to increase customers' interest rates: their credit scores; whether they make only minimum payments; their total debt levels; and how much of their available credit they are using (called the utilization rate).  

Hammonds and the other bankers said they need to be able to adjust their interest rates based on the creditworthiness of customers. "These are loans that go on forever. They can go on for 10 or 20 years," Hammonds told the subcommittee.

We used credit cards to make ends meet when we needed to ...

-- Janet Hard, Freeland, Mich.    

Those who make only minimum payments each month, those who open new charge accounts or take on additional debt may be at risk for rate increases. That's what happened to Bonnie Rushing of Naples, Fla. She testified that her Bank of America card interest rate jumped from 8 percent to 23 percent in April 2007. It happened nearly two months after she opened two additional department store credit cards in order to take advantage of in-store discounts. Her monthly payments jumped from $400 in February 2007 to $700 in May 2007. Her balance in August 2007: $21,271.

Making ends meet with credit cards
Janet Hard of Freeland, Mich., testified that she and her husband Bill were in over their heads with credit card debt: "We used credit cards to make ends meet when we needed to ... We were paying our bills on time and keeping our heads above water."

She added: "We were never expecting to shirk our debt responsibility."

The debt became unbearable when her interest rate increased. Although she made more than $5,163 in payments in 2006, more than $3,700 of that were interest payments. As of October 2007, they still owed Discover nearly $8,000. "My husband and I feel as though we've been robbed," she said.

Roger C. Hochschild, president and CEO of Discover Financial Services, told senators his records show Hard was late three times in 2004 but they didn't increase her interest rate. The hike came after her credit score declined.

Hochschild said consumers should keep their total balance at less than 25 percent of their credit limits. Exceeding that level could trigger an interest rate increase because they will be deemed greater credit risks.

Consumers sometimes do have the right to opt-out of these hikes, close the credit card accounts and pay off the balance at the lower interest rate, but instructions on how to do this are buried in fine print. By the time many consumers realize that their interest rates have gone up, it's too late to opt out. They then face higher monthly payments that are largely interest payments. (Update: On Aug. 20, 2009, provisions of the Credit Card Act of 2009 went into effect that mandated consumers be given the right to opt out of increases in interest rates, fees, finance charges and certain other changes in credit card agreements. See story.)

What's next for credit cards?
Lawmakers want credit card companies to stop charging excessive fees, hiking interest rates for good-paying customers and changing terms of credit agreements with little notice. It's part of an increasing level of pressure on the industry that includes:
  • About a dozen bills in Congress aimed at curbing unfair industry practices.
  • The most sweeping changes in credit card disclosure rules, proposed by the Federal Reserve.
  • During the testimony, McCaskill pressed credit card company executives to explain why issuers continue to send credit card offers and convenience checks to people who are credit risks. When consumers use the checks it may put them in danger of going over their credit limits -- an action that prompts a barrage of over-the-limit fees and potentially triggers an interest rate hike.

    Over the limit
    Consumer advocates point to these over-the-limit fees as a prime example of unfair trade practices. Credit card issuers can simply reject purchases that exceed a customer's credit limit. Allowing buyers to go over the limit allows the credit card company to assess a fee -- and make money.

    "You're encouraging your customers to go close to their limit," McCaskill notes. "But yet those are exactly the things you're using to raise their interest rates. Do you tell a customer that when you take out a credit card it could lower their [credit score]? Do you feel no obligation to tell the consumer this could happen?"

    The senators commended those companies that have voluntarily stopped some of the practices. JP Morgan Chase, Citi, Bank of America and Capital One have all announced changes in their policies and operations to address consumer complaints.

    Ryan Schneider, president of card services for Capital One, announced during the hearing that his company would voluntarily extend notification periods on changes in credit card terms from the 15 days currently required by law to 45 days. "We believe that this longer period strikes the right balance for us and our customers," Schneider said. Capital One has 30 million credit card customers.

    After the testimony, subcommittee chairman Sen. Carl Levin, D-Mich., said it was "unconscionable" that people who pay their bills on time are still subject to interest rate increases. "I am deeply troubled by the kind of facts that we heard about today."

    He added: "Interest rates are imposed on people who have done nothing wrong with their own credit card company. I think that violates most people's sense of fairness." Levin closed with a warning to credit card issuers to make significant reforms and a plea to the Federal Reserve Board to use its powers to enact change. The Fed is currently reviewing proposed changes to the Truth in Lending Act, a federal law that requires lenders to clearly disclose terms and conditions of loans, including revolving credit card accounts.

    The Fed may approve final changes to the rules (called Regulation Z) in 2008.

    High-level concern
    At least two U.S. presidential candidates recently indicated that credit card practices and mounting consumer debt would be high priorities if they are elected president. On the campaign trail in Iowa, Sen. Barack Obama, D-Ill., and former Sen. John Edwards issued statements decrying "credit card rip-offs" (Edwards) that are "preying on middle-class families" (Obama).

    Obama would create a "Credit Card Bill of Rights" to ban interest rates hikes, allow consumers to opt-out when rates change and stop companies from retroactively applying interest rate increases to past purchases. Edwards says his plan would create a "Family Savings and Credit Commission" to help families save and get ahead by supporting alternatives to abusive lenders.

    To comment on this story, write to: editors@creditcards.com

    Published: December 5, 2007


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