You're Being Forced To Make Higher Payments

Consumers already burdened by higher energy costs are being saddled with another drain on their finances : higher minimum credit card payments.

The higher minimum credit card payments are the result of January 2003 guidelines issued by the Federal Reserve, the Federal Deposit Insurance Corp., the Office of the Comptroller of the Currency and the Office of Thrift Supervision. The Office of the Comptroller of the Currency, or OCC, regulates national banks and is concerned that many cardholders have credit card debts that will take decades to pay back. To prevent this problem, these regulatory agencies proposed that, by the end of 2005, credit card issuers establish reasonable periods for paying back balances, such as a seven- to ten-year payback or amortization period

Card issuers were supposed to adopt the raised minimum payments by the end of 2003. The federal regulatory agencies acted after years of seeing credit card issuers lower minimum payments because of "competitive pressures and a desire to preserve outstanding balances." Credit card lending consistently yields greater profits for large bank issuers than other services, Federal Reserve data show. But these profits could decrease if consumers pay off debt faster or default on payments, leading to debt write-offs.

The agencies expressed alarm that some banks were setting minimum credit card payments at levels that did not even cover interest. These were seen as predatory lending practices targeting low-income and financially naive consumers. The result was predictable: consumer debt load surged. Consumers were being encouraged to accumulate debts they could not service, resulting in high levels of default and bankruptcy.

Before the new government guidelines were issued, many banks required only 2% of outstanding balance to be paid off each month. For example, take the case of a credit card with $10,000 of debt and an 18% interest rate. Almost 58 years would pass before this debt was completely paid off, assuming the cardholder stuck to the minimum payment each month, according to Bankrate.com's credit card calculator. Total interest paid during that time would be almost three times the original debt, or $28,931. Now, the same cardholder paying 4% of outstanding balance each month would pay back the debt in a more reasonable 15 years and would pay only $5,916 in interest.

In recent years, banks have also raised the charges for cash advances, late payments or spending over the credit limit, helping push more consumers further into debt. These latest changes target credit card holders who don't pay their bills in full at the end of each month. A 2005 survey by the American Bankers Association (ABA) showed that 43% of consumers carry a balance on their cards.

Nearly three years after regulators said minimum monthly payments should let cardholders pay off debt in a "reasonable period of time," most banks finally acted. The majority of the top 10 credit card issuers raised their minimum payments in 2005, in most cases, during the last quarter.

Regulators encouraged banks to adjust their minimum payments by the end of 2005. The banks' delayed response to the January 2003 guidelines caused consumers to be hit with higher credit card bills during the 2005 Christmas season. The increase was combined with a new bankruptcy law which has made it more difficult to erase debt with a Chapter 7 bankruptcy. More consumers are now allowed to declare only Chapter 13, which forces them to repay their debts on a fixed schedule.

Banks say the delay was caused by the time it took to update systems in accordance with the regulators' instructions. "These are not simple changes," stated Alan Elias, a spokesman for Washington Mutual. Still, most banks were in compliance at the end of 2005.

Contrary to some rumors, regulators did not require minimum payments to be raised by a fixed amount. However, they said payments should cover fees and finance charges, plus 1% of principal. Some card holders are seeing their minimum payment double, to 4% of the balance from 2%. On a $10,000 balance, payment could rise from $200 to $400.

In the long run, the change is healthy for consumers, since it forces them to pay off credit cards more quickly. Until now, some of the banks charged minimums which did not even cover the interest owed, so debt would just keep growing, resulting in more indebtedness by consumers. But initially, consumers not prepared for the higher payments can experience financial hardship, especially those with lower incomes.