New credit card reform law has downside for consumers

CHICAGO – The new credit card law is receiving widespread kudos as a victory for cardholders over the lenders that impose “gotcha” fees and penalties with scant justification and little notice.

Indeed, an industry that has been virtually unregulated will now be reined in in many ways, to customers’ benefit.

The new credit card rules, which go into effect in nine months, prohibit companies from giving cards to people under 21 unless they can prove they have the means to pay the debt or a parent or guardian co-signs. A customer also will have to be more than 60 days behind on a payment before seeing a rate increase on an existing balance. Even then, the lender will be required to restore the previous, lower rate if the cardholder pays the minimum balance on time for six months.

And consumers also will have to receive 45 days’ notice and an explanation before their interest rates increase.

Still, there are pitfalls to the legislation passed by both houses of Congress and signed into law by President Barack Obama on Friday, and some are likely to hurt consumers.

“People can start to feel a lot more comfortable about the rules of the game,” said Adam Levin, chairman and founder of Credit.com, a San Francisco-based company that provides education and information about credit products. “But there will be some fallout, and it might be a short-term negative.”

Here is a closer look at some unintended consequences of the new law that are likely to occur:

Higher rates: Issuers are considered certain to bump up annual percentage rates soon to compensate for the fact they can’t increase them on new customers for one year after the regulations take effect in late February. Not only are introductory rates likely to rise, APRs on existing accounts may well go up too – especially if you do anything to show that you are a greater credit risk.

If you are late on a payment, exceed your credit limit or even use too much of your limit, you could see an immediate increase in your rate, according to Bill Hardekopf, CEO of LowCards.com, which tracks credit card offers. He recommends consumers pay their bills early, send in more than the minimum and not use more than a third of their credit limit.

Even that may not save them. The law does not put a cap on the interest rate that can be charged. Issuers will still have the ability to raise rates at any time for any reason, although that won’t apply to existing balances unless a customer is 60 days overdue with a payment.

The banking industry itself hints at the possibility of across-the-board rate hikes. “The business model has changed,” said spokesman Peter Garuccio of the American Bankers Association. “With that there will be ramifications, some not so good for the consumer.”

Annual fees: The free ride is likely to end for many who use their credit cards as a convenience and pay off their balances in full every month. Squeezed by the economy and further by this law, banks will now target people who have avoided paying an interest charge or an annual fee – until now.

Unlike in many other countries where free cards are rare, only about 20 percent of U.S. credit cards carry annual fees, according to LowCards.com. But that figure is expected to climb as more follow the lead of American Express with its green, gold and platinum cards. Expect to pay at least $50 to $100 a year.

Lost grace periods: Trying to make up for lost revenue, banks are considering charging interest from the date of a purchase instead of allowing a grace period, now typically 20 to 25 days. The best that cardholders may be able to hope for is an option from their issuer, according to credit card expert Ben Woolsey: Either pay an annual fee or lose your grace period.

“They’ve got to change the pricing structure of these cards,” said Woolsey, director of marketing and consumer research for CreditCards.com, a privately held company that offers consumers comparisons on credit cards. “They can’t let such a huge portion of their portfolio not contribute any profit any more.”

Other fees and penalties: The new regulations put no restrictions on fees for balance transfers, cash advances or late payments. All are likely to rise, as foreshadowed by Bank of America’s and Discover’s plans to boost their balance transfer fees to 4 percent from 3 percent on June 1.

Being 60 days late could be especially costly for consumers. Currently, card companies impose penalty rates averaging about 28 percent, or double the average standard rate. But that could rise to 30 or 35 percent as the companies scramble to make money where they can, said Nick Bourke, manager of the Safe Credit Cards Project at the Pew Health Group.

Tighter credit: Consumers with lower credit scores will find it harder to persuade strapped card issuers to give them credit because of the new regulations. Even those with respectable credit histories may have difficulty getting approved for new cards or find their credit limits lower than in the past. That means more people may resort to payday lenders and pawn shops, said Greg McBride, senior analyst with Bankrate.com.

Cutback in rewards programs: Card companies have long used reward programs to retain customers’ loyalty, giving them cash-back rewards, frequent-flier miles and other perks. Now they won’t be able to subsidize those programs when they are not making as much from finance charges and penalty fees under the new regulations. Industry officials’ threats during the lobbying process to cut them back sharply could prove to have been a bluff, but analysts and consumer experts still expect them to be trimmed to some extent.

Smaller card issuers may vanish: Six mega-companies issue 80 percent of all credit cards: American Express Co., Bank of America Corp., Capital One Financial Corp., Citigroup Inc., JPMorgan Chase & Co. and Discover Financial Services. They are unlikely to pull back from the business because of the new law. But some of the smaller banks and issuers that make up the other 20 percent are likely to stop issuing cards. That’s because of both the administrative costs of implementing the required changes and the inability to raise rates in some cases, according to Mike Brauneis, managing director for Protiviti Inc., a business consulting and auditing firm.

The bottom line of the whole reform effort is that despite the big strides forward taken by the new law, it doesn’t abrogate consumers’ responsibility to handle credit card debt cautiously and read the fine print of their monthly statements. “Certainly it’s not a silver bullet,” Brauneis said, “to keep consumers from getting in over their heads with credit card debt.”