Credit CARD Act - Section 102, Part 2; Global View

Posted by Steve Van Beek

Anthony discussed Part 1 of Section 102 here.  In addition to the sections Anthony mentioned, Section 102 of the Credit CARD Act adds:

• Limit on Fees Related to Method of Payment
• Requirements for Reasonable & Proportional Penalty Fees    

Limit on Fees Related to Method of Payment

Section 102 adds subsection (l) to Section 127 of the Truth in Lending Act (TILA).  The Federal Reserve will most likely issue regulations under Regulation Z to provide clarification and further guidance on this section, but it is not required to by the Credit CARD Act.  Let's take a look at this subsection in full:

"(l) LIMIT ON FEES RELATED TO METHOD OF PAYMENT. - With respect to a credit card account under an open end consumer credit plan, the creditor may not impose a separate fee to allow the obligor to repay an extension of credit or finance charge, whether such repayment is made by mail, electronic transfer, telephone authorization, or other means, unless such payment involves an expedited service by a service representative of the creditor."

Note that this only applies to credit card accounts.  However, the definition of "expedited service" is no where to be found.  Also, what if a credit union uses a shared call center - is the service representative considered "of the creditor?"  Because of the ambiguities, the Federal Reserve will most likely address this in amendments to Regulation Z.  

This section does mean that if your credit union uses an automated phone bill payment system, you would not be able to charge the member a separate fee for using that service.  A fee could only be charged if the payment was expedited by a live service representative.  The subsection seems to address charging a fee for a particular payment.  It does not provide clarity or information on charging a monthly fee for a product (i.e. online bill pay).  Hopefully, the Federal Reserve will clarify this when it issues regulations.

In short, the subsection prohibits card issuers from charging a $5 or $10 fee for consumers to submit a payment via an automated system.  

Reasonable & Proportional Penalty Fees

Section 102 also adds Section 149 to TILA.  This is a new section covers penalty fees and will only apply to credit card accounts.  Subsection (a) mentions late payment fees, over-the-limit fees, or any other penalty fees and requires that they be reasonable and proportional to the member's omission or violation [of the cardholder agreement].  

The $39 dollar question - what is reasonable and proportional?  

[Note: the $39 figure is a joke not a guess]

The Federal Reserve, after consulting the federal banking regulators - including NCUA, will issue regulations to establish standards for determining what level of fee is reasonably and proportional for each type of fee.  The Fed must finalize these regulations by February 22, 2010 with an effective date of no later than August 22, 2010.

The Fed is told, by Congress, to consider:

(1) the cost incurred by the creditor from such omission or violation;
(2) the deterrance of such omission or violation by the cardholder;
(3) the conduct of the cardholder; and
(4) such other factors as the Board may deem necessary or appropriate.

Wow, that should be easy to quantify.  In other words, the Fed is going to magically come up with a number that is reasonable and proportional and then tell institutions they can not charge a higher fee.

Safe Harbor.  The subsection does give the Fed the ability to give a "safe harbor" for amounts of certain penalty fees that will be deemed reasonable and proportional.  I'd bet the Fed uses this authority and comes up with a list of fees and the amounts that can be charge by institutions to receive the "safe harbor" (i.e. a late payment fee of $20 or lower will be considered reasonable and proportional).  Any penalty fee greater than the Fed's safe harbor amount would, most likely, require the credit union to justify why it needs to charge a higher fee (i.e. why the higher fee is reasonable and proportional to the member's omission or violation).  

***

We have been getting into the details of the Credit CARD Act, but I want to step back for a second and take a global look.  These new changes are going to limit credit unions' ability to manage risk using procedures that have been developed over years of risk management of credit card portfolios.  In effect, Congress reached into credit unions' toolbox and removed some of the risk management tools.  

However, credit unions were not the only institutions impacted by the Credit CARD Act.  Other institutions, including banks, may have relied more heavily on the now-defunct procedures to operate their credit card programs.  While dredging through the Credit CARD Act requirements is about as lovely as a root canal, other card issuers may need to completely rethink their business model.

If the Fed determines that $25 is a reasonable and proportional late fee, and your credit union currently charges $29 as a late fee - you would need to lower your fee and will lose some fee income.  Another institution that currently charges $39 as a late fee would need to reduce their fee to $25 as well and forgo even more fee income (which may require an even higher rate hike).  The end result may be credit union credit cards becoming more competitive and the rates becoming more attractive to consumers.       

 

One quick example.  If a card issuer grew its card program by offering low promotional rates or balance transfer options, that card issuer's business model will need to change.  The card issuer's ability to increase the APR on the account if the member did not make their payment on time is severely limited.  Additionally, many (most?) card issuers applied payments in excess of the minimum payment to the balance with the lowest APR.  Some card issuers pretty much banked on consumer's continuing to use their credit cards after utilizing a low APR balance transfer.  This allowed the card issuer to rack up interest charges on the new purchases at the high APR while applying payments to the low APR balance transfer.  The Credit CARD Act requires payments in excess of the minimum payment to be applied to the balance with the highest APR.  This pretty much kills that business model.

So, yes, the Credit CARD Act is going to significantly alter the credit union's operations.  However, the light at the end of the tunnel is that these restrictions are going to cripple card issuer's who made their money off of these practices.    

Congress wanted to place the true cost of credit cards before the consumers.  This meant reducing the ability of card issuers to hide the true cost using sneaky fees and deceptive practices.  The less credit unions participated in those activities, the better positioned they will be when other card issuers are required to reveal their true cost of their cards.