Cap credit card interest rates, not just late fees
Bloomberg Opinion February 9, 2023
As part of a push to get rid of “junk” fees, President Joe Biden wants to limit how much consumers owe when they’re late with a credit card payment. Instead of hitting customers with a penalty as high as $41, card issuers would typically only be able to charge a maximum of $8.
For anyone who has had to pay one of those fees, the cap is welcome news. But if the plan goes through, it’s likely banks and other card issuers would look for ways to recoup the loss of an estimated $9 billion from lower late fees. A possible target: interest rates assessed on balances, which is where the industry makes the bulk of its revenue in the first place.
I’m not saying the late fee cap shouldn’t happen. But it should be accompanied by some effort to put a lid on interest rates.
After hovering around 16% for most of the past five years, interest rates for credit cards have jumped as the Federal Reserve has raised rates. As of the end of January, rates averaged an eye-popping 23.39% for a new card, according to LendingTree. Greg McBride, chief financial analyst at Bankrate, predicts credit card rates will reach a four-decade high by the end of this year.
And there’s effectively nothing stopping issuers from continuing to hike them as much as they want — even faster and further than the Fed does.
There is no federal rule on the books capping credit card interest rates. Many states have their own usury laws that limit the amount of interest charged, but tend to exempt banks and credit unions. In addition, banks can often get around state rules if they are headquartered in a state without a cap — then they can adhere to their home state’s rules, not the consumer’s.
Credit card regulations passed in 2009 protect consumers a bit by specifying that issuers must provide customers with 45 days’ notice before raising rates. But as long as the rate is disclosed to you — either when you sign up for the card, or 45 days before a rate hike — the sky is the limit.
For years, market forces have kept rates under 30%, but that’s starting to change. Store-branded cards from retailers like Macy’s, Gap, Dick’s Sporting Goods and Wayfair as well as gas companies Exxon and Shell now offer cards with rates above 30%.
Amid higher prices and a weakening economy, more cardholders are carrying a balance. As of the end of last year, about 46% of cardholders carried debt from month to month (meaning they were assessed interest) compared with 39% a year earlier, according to Bankrate. And balances are rising, with data from the New York Federal Reserve showing credit card balances jumped 15% in the third quarter of 2022 compared with the year prior — the largest increase in more than 20 years.
While the standard industry argument against pro-consumer changes is that they will be forced to stop serving low-income people with bad credit, that rarely happens. Instead, they usually just find ways to charge them more. The industry made the same complaint before the Dodd-Frank reforms of 2010, and credit didn’t dry up.
Sure, there are other fees lenders might come up with to compensate for the losses from smaller late fees, but the 2009 credit card legislation has been pretty effective at curbing most hidden back-end fees.
And it’s worth pointing out that how different card issuers respond to a late fee cap will depend on how much of their revenue actually comes from late fees. Issuers who have more subprime customers tend to collect more money in late fees, as do issuers of private-label cards, which can usually only be used at a single store or affiliated stores.
Setting an interest rate ceiling isn’t without precedent. Credit unions typically cap their interest rates at 18%. And members of the military generally can’t be charged more than 36% for many types of consumer loans. Adjustable-rate mortgages have caps, too (although they’re secured by the home as collateral, unlike credit cards).
The Biden administration and the Consumer Financial Protection Bureau said they’re focused on late fees because the costs card issuers are charging customers far exceed the costs they incur when someone makes a late payment. The federal government should use the same argument to go after lenders who charge sky-high levels of interest.
Alexis Leondis is a Bloomberg Opinion columnist covering personal finance. Previously, she oversaw tax coverage for Bloomberg News. This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.