It used to be easy to guess how many Americans would have problems paying their credit card bills. Banks just looked at unemployment: Fewer jobs meant more trouble ahead.
The unemployment rate has long mirrored banks’ loss rates on card balances. But Eddie Ward, 32 and jobless, may be one reason that rule of thumb no longer holds. For many lenders, losses are now starting to outpace layoffs.
Experts predict that millions of Americans will not be able to pay off their debts, leaving a gaping hole at ailing banks still trying to recover from the housing bust.
The bank stress test results, released Thursday, suggested that the nation’s 19 biggest banks could expect nearly $82.4 billion in credit card losses by the end of 2010 under what federal regulators called an adverse economic situation.
But if unemployment breaches 10 percent, as many economists predict, the rate of uncollectible balances at some banks could far exceed that level. At American Express and Capital One Financial, around 20 percent of the credit card balances are expected to go bad over this year and next, according to stress test results. At Bank of America, Citigroup and JPMorgan Chase, about 23 percent of card loans are expected to sour.
What is more, the peak unemployment level that regulators used to drive their loss estimates is roughly what current rates are on track to reach. That suggests that if the unemployment rate gets much worse, credit card losses could be worse than what regulators projected.
Banks wrote off an average of 5.5 percent of their credit card balances in 2008, while the average unemployment rate was 5.8 percent. By the end of the year, the rate of credit-card write-offs was 6.3 percent.
For the banks, the economics of the credit card business are increasingly troubling. As the recession has dragged on, cardholders have sharply reduced spending. New customers with strong credit histories are increasingly hard to find.
Within the card industry, all eyes are now focused on the sharp increase in unemployment. At Citigroup, executives noted that the company’s 10.2 percent credit card charge-off rate for the first quarter had broken its “historic correlation with unemployment” and showed no sign of letting up.
Card executives say there will little improvement until the economy stabilizes and consumers are more optimistic.
The Center for Responsible Lending estimates that at least 10 million cardholders have seen their interest rates skyrocket in the last six months through no fault of their own. The center has also found that instead of changing their behavior in anticipation of tough new Federal Reserve rules that will take effect in July of next year, most big banks continue to engage in practices that provoked the public outcry and the Fed’s response in the first place.
Five of eight top credit card issuers in the country have added new fees on transactions like cash advances or for monthly maintenance. One major card company began charging a late fee of 3 percent on unpaid balances, which means that on a $5,000 balance, the cost of being just a day or so late jumped from $39 to $150.
Fortunately, however, Congress is moving to turn much of the Fed’s reform package into law. The House has already passed its version by a wide margin, giving Carolyn Maloney, a New York Democrat, the support she has been seeking for years for the Credit Cardholders’ Bill of Rights. Christopher Dodd, a Democrat now facing a tough re-election fight in Connecticut, is trying to steer a somewhat tougher version of Ms. Maloney’s bill through the Senate.
Both bills require adequate advance notice of rate increases or changes in terms. Both make it far harder for students to get credit cards and for banks to increase rates on existing balances. Both end the practice of charging interest on balances already paid. The House bill would give banks a year to deal with these new rules; the Senate would give them nine months. That is already too long for many customers.
Fed Chairman Ben Bernanke argues that banks need the extra year to adjust. Senator Charles Schumer, a Democrat from New York, says the Fed’s leisurely timetable is “unconscionable.” He should make this same point with his Senate colleagues in order to make the new law go into effect much sooner.
From the looks of it, the banks are ratcheting up fees and interest before the Fed’s rules kick in and it is too late. This makes an earlier deadline imperative.
DEBT is a huge problem, for some people a great deal more than for others. Yet despite reams of literature on the topic, some important guidance is missing.
Getting out of debt still is couched, typically, as a straightforward money issue. Most advice centers on the mechanics of interest rates and minimum payments, ways to cut expenses and so on.
But having recently climbed out of a deep hole of credit card debt myself, I’m convinced that focusing on mere dollars and cents gets you only so far.
Ditching debt requires dealing with the emotional underbelly of owing money, and coming to terms with a culture that has serious debt addiction issues. Getting out of debt can feel like a battle — because it is one, on many fronts.
Borrowing money to buy a home or a car, or to complete an education, might be necessary. But carrying credit card debt for months or years is a red flag signaling that you can’t afford your life. The cycle is a brutal one. You can’t afford your life, and thus fall into debt; so how can you afford to pay your way out of it while still living your life?
Clearly it’s important to address the numerical side of debt. The standard advice to first tally up what you owe and then plug the numbers into an online debt calculator is a sound step for developing a financial plan of attack .
But before you create the mother of all budgets, I recommend putting a lot of time and thought into examining the way you live, how you have mentally calculated what’s “affordable” or what you “deserve” to spend — and what it would require, financially and emotionally, to live a life based on the money you actually have.
Hard times are usually good times for debt collectors, who make their money morning and night with the incessant ring of a phone.
But in this recession, perhaps the deepest in decades, the unthinkable is happening: collectors, who usually do the squeezing, are getting squeezed a bit themselves.
After helping to foster the explosive growth of consumer debt in recent years, credit card companies are realizing that some hard-pressed Americans will not be able to pay their bills as the economy deteriorates.
So lenders and their collectors are rushing to round up what money they can before things get worse, even if that means forgiving part of some borrowers’ debts. Increasingly, they are stretching out payments and accepting dimes, if not pennies, on the dollar as payment in full.
Banks and card companies are bracing for a wave of defaults on credit card debt in early 2009, and they are vying with each other to get paid first. Besides, the sooner people get their financial houses in order, the sooner they can start borrowing again.
So even as many banks cut consumers’ credit lines, raise card fees and generally pull back on lending, some lenders are trying to give customers a little wiggle room. Bank of America, for instance, says it has waived late fees, lowered interest charges and, in some cases, reduced loan balances for more than 700,000 credit card holders in 2008.
American Express and Chase Card Services say they are taking similar actions as more customers fall behind on their bills. Every major credit card lender is giving its collection agents more leeway to make adjustments for consumers in financial distress.
Debt collectors, who are typically paid based on the amount of money they recover, report that the number of troubled borrowers getting payment extensions has at least doubled in the last six months. In other cases, borrowers who appear to be pushed to the brink are being offered deals that forgive 20 to 70 percent of credit card debt.
For the moment, it may be easier for troubled borrowers to start negotiating a modification by contacting the card company or collection agency directly. Credit counselors can help borrowers consolidate their debts and get card companies to lower their interest payments and other fees, but they currently cannot get the loan principal reduced.
Another option is for a borrower to sign up a debt settlement company to negotiate on her behalf. But regulation of this business is loose, and consumer advocacy groups warn that some firms prey on troubled borrowers with aggressive marketing tactics and exorbitant upfront fees.
Add this to the list of the country’s financial woes: Credit card companies are aggressively targeting college students, many of whom are naïve about money matters and vulnerable to predatory offers that can get them permanently mired in debt.
According to an eye-opening survey by the United States Public Interest Research Group, or U.S. PIRG, which is an advocacy organization, some students reported receiving hundreds of credit card offers in a year. The report also described how companies lure cash-starved students with gifts of clothing and free food. In one flagrant case in Ohio, students who showed up for the food were required to fill out credit card applications before they could eat.
A half-dozen states have placed restrictions on how credit cards can be marketed at public colleges. Congress is considering sensible bills that would restrict the amount of credit and the number of cards that students could be offered. Lawmakers should also focus on the lucrative and often secret deals that universities and their alumni associations regularly cut with credit card companies.
Those deals — which resemble the now outlawed student loan kickback deals — often grant companies the exclusive right to market to a college’s students. In some cases, the colleges get a cut of what the students spend, which makes the school a partner in the plundering of young peoples’ meager assets.
Congress must insist that these deals be made public and universities and alumni groups must insist that students be given fair deals from credit card companies.
With financing from the Ford Foundation, U.S. PIRG has begun a national campaign urging schools to adopt some common-sense principles that would help shield students from credit card marketers and financial ruin.
The group calls on universities to stop selling the names and contact information of currently enrolled students to credit card marketers. It also says that schools should ban marketers from using gifts to entice students to sign up for credit cards, and it urges schools to do more to educate students on managing debt responsibly.
Most importantly, the group calls on schools that still decide to cut deals to only do business with credit card companies that steer clear of commonly used but unscrupulous credit card terms that take advantage of students. That means an end to hidden fees or unreasonable penalties, including universal default, under which interest rates go up when the customer fails to pay a bill not related to the credit card account.
Schools need to reform their credit card practices. If they don’t move quickly, lawmakers must do it for them.
First came the mortgage crisis. Now comes the credit card crisis.
After years of flooding Americans with credit card offers and sky-high credit lines, lenders are sharply curtailing both, just as an eroding economy squeezes consumers.
The pullback is affecting even creditworthy consumers and threatens an already beleaguered banking industry with another wave of heavy losses after an era in which it reaped near record gains from the business of easy credit that it helped create.
Lenders wrote off an estimated $21 billion in bad credit card loans in the first half of 2008 as more borrowers defaulted on their payments. With companies laying off tens of thousands of workers, the industry stands to lose at least another $55 billion over the next year and a half, analysts say. Currently, the total losses amount to 5.5 percent of credit card debt outstanding, and could surpass the 7.9 percent level reached after the technology bubble burst in 2001.
“If unemployment continues to increase, credit card net charge-offs could exceed historical norms,” Gary L. Crittenden, Citigroup’s chief financial officer, said.
Faced with sobering conditions, companies that issue MasterCard, Visa and other cards are rushing to stanch the bleeding, even as options once easily tapped by borrowers to pay off credit card obligations, like home equity lines or the ability to transfer balances to a new card, dry up.
Big lenders — like American Express, Bank of America, Citigroup and even the retailer Target — have begun tightening standards for applicants and are culling their portfolios of the riskiest customers. Capital One, another big issuer, for example, has aggressively shut down inactive accounts and reduced customer credit lines by 4.5 percent in the second quarter from the previous period, according to regulatory filings.
Lenders are shunning consumers already in debt and cutting credit limits for existing cardholders, especially those who live in areas ravaged by the housing crisis or who work in troubled industries. In some cases, lenders are even reining in credit lines after monitoring cardholders who shop at the same stores as other risky borrowers or who have mortgages from certain companies.
While such changes protect lenders, some can come back to haunt consumers. The result can be a lower credit score, which forces a borrower to pay higher interest rates and makes it harder to obtain loans. A reduced line of credit can also make it harder for consumers to manage their budgets, because lenders have 30 days to notify their customers, and they often wait to do so after taking action.
The depth of the financial crisis has shocked a credit-hooked nation into rethinking its habits. Many families once content to buy now and pay later are eager to trim their reliance on credit cards. The Treasury Department, which is spending billions of dollars in taxpayer money to clean up an economic mess brought on in part by all sorts of easy credit, recently started an advertising campaign inviting consumers to check into the “Bad Credit Hotel,” an online game that teaches the basics of maintaining good credit.
At the same time, the fear factor among lenders has deepened just as the crisis makes it harder for some financially stretched consumers to wean themselves from credit cards for even basic needs, like gas and food.
Even those with good credit ratings are not excepted. American Express, which traditionally catered to more upscale cardholders, said it would be increasing effective interest rates by 2 or 3 percentage points for some of its credit card holders — a move that could, for example, push a 15 percent rate up to 18 percent.
Online credit card applications have fallen for the first time in five quarters, in part because customers are receiving fewer mail offers that drive them to the Web.
At the same time, credit card profit margins have been narrowing, largely because lenders’ own financing costs remain elevated as investors spurn credit card bonds, just as they did mortgages. Another factor is that the interest rates banks charge even creditworthy borrowers have come down after the emergency actions taken by the Federal Reserve to ease the credit crisis.
A generation ago, it wasn’t all that unusual to be out for dinner with friends or at the register with a cart full of groceries and realize you didn’t have enough cash to cover the bill. But today, you’re likely to pull out a debit or credit card and not think anything of it.
It’s hard now to imagine a time when those noncash options weren’t available — especially if you were born in the 1970s or later. Credit cards have been around since the 1950s, and debit cards were introduced in the mid-1970s. By 2006, there were 984 million bank-issued Visa and MasterCard credit and debit cards in the United States alone.
Though the two types of cards may be used interchangeably, there are notable differences between them. Let’s start with debit cards.
Debit cards are linked to your bank account so the money you spend is automatically deducted from your account. They provide a convenient alternative to cash, especially if you do a lot of shopping online. Debit cards can also help you budget. Use your card to pay your bills and day-to-day expenses and your monthly statement will provide a good snapshot of how much you spend per month and where it’s going. There’s another benefit as well: Unlike credit cards, your bank balance goes down with each debit card transaction, so you’re less likely to overspend. (Many banks offer “overdraft protection” that allows you to exceed your balance. But you’ll end up paying interest, and maybe extra fees, on the money you borrow from your overdraft account.)
With so many benefits to the debit card, why use a credit card at all? There are three main reasons: You can spend more than you have — or postpone paying, at least — and you typically get better rewards and better protection than you do with debit cards.
Credit cards basically allow you to use someone else’s money (the card issuer’s) to make a purchase while you pay the money back later. If you do so within the billing period — generally, 15 to 45 days — you can avoid paying any interest on it. The problem arises, of course, when you don’t pay the balance in full and are charged interest as well. That can quickly add up. If it takes you two years to pay off a $500 balance, for example, and you’re being charged 18 percent interest, you’ll end up paying nearly $100 more in interest.
If you use them responsibly though, credit cards can offer other advantages. They help build your credit, as long as you pay your bills on time. Some also offer rewards that you can use to get gifts, cash back or discounts for products, services and special events. They also provide more protection if someone steals your card or bank information. If you notice a fraudulent charge on your credit card account, you can call the card issuer, make a dispute claim, and the charge should be removed from your balance. But if thieves steal your debit card information and use it, it may take weeks for the bank to investigate your claim and replace the lost funds. In the meantime, you may have to deal with a dwindling bank balance or bounced checks.
Federal law also protects you if you need to dispute charges on a credit card, but not if you use a debit card or other forms of payment. If you paid cash or used a debit card, the retailer already has your money. So you have a lot less leverage, and there’s no guarantee you’ll get that money back. But if you pay for something with your credit card and aren’t happy with the purchase, your card issuer can legally withhold payment from the retailer until they resolve the dispute, and you won’t be charged.
Be aware that card issuers can raise your interest rate after you’ve gotten the card. So check your monthly statements. (You should be aware, though, that the Federal Reserve has just passed rules that will take effect in mid-2010 limiting the card issuers’ ability to raise your rate, unless you’re late with a payment.)
If you plan to pay your bill in full each month, seek out a card that provides rewards you actually want — whether that’s cash back, frequent flier miles or points redeemable for gifts. The interest rate shouldn’t matter, since you won’t be carrying a balance. But look for those with no annual fee.
For most people, using both a debit card and credit card makes sense. The key is not to spend more than you have with either. If you can do that, you’ll be able to enjoy the benefits that each provide.
