The CARD Act: What It Is, New Rules & More

The credit card market once resembled the Wild West. Not only were banks basically allowed to advertise one thing and charge another, but a host of other predatory policies designed to maximize profits regardless of the negative impact on cardholders were all too common as well. Then came the CARD Act.

While controversial at the time of its passage in May 2009, the CARD Act quickly gained esteem after its February 2010 enactment.  In short, the law overhauled consumer rights in the credit card space and implemented a new code of conduct for issuers, particularly in terms of their account communications, fees, and rate changes. Credit cards weren’t the only plastic affected by the new law, however, as it also made gift cards more user-friendly by extending expiration dates and cracking down on fees.

But it’s impossible to do justice to such an important and complex law unless we analyze each component individually.

Credit Cards Before the CARD Act

As mentioned above, the CARD Act radically changed the credit card market by prohibiting a number of unfair industry practices and making credit cards altogether more consumer friendly.  Some of the most unfair policies that were all-too-common in the pre-CARD Act environment include:

• Double-Cycle Billing:  In order to maximize revenue, many credit card issuers would assess interest charges based on a cardholder’s average balance over the previous two months, rather than simply the most recent billing period.This practice made it more difficult for indebted consumers to pay off what they owed and therefore intensified much of the widespread overleveraging that was prevalent in the lead-up to the Great Recession.
• Irrational Payment Allocation:  It is common for credit card users to carry multiple balances on the same card, particularly when they have recently made a balance transfer or cash advance.  Given that each balance typically has its own interest rate, credit card companies were allowed to allocate payments as they saw fit.  That typically entailed applying payment amounts to the balance with the lowest interest rates in order to keep the most expensive debt on the books for as long as possible.Many consumers in turn failed to notice that such payment allocation practices were in use and therefore wound up drastically overpaying on their debt, which grew less and less sustainable over time.
• Overly-Burdensome Fees:  Not only did credit card companies routinely charge penalty fees that dwarfed the mistakes triggering them (e.g. paying a bill a day late or spending $2 over your limit), but a number of issuers also took advantage of the lack of options available to people with damaged credit to charge up-front fees that consumed more than 75% of their new credit lines.
• Universal Default:  This policy was like an evil version of “the cloud.” Much like the cloud enables connectivity and information sharing across electronic devices, universal default connected all of a consumer’s financial accounts.As a result, if you made a mistake on one credit card or loan account , the interest rates on that account as well as all of your other accounts would automatically increase to a very high Penalty/Default rate, even if those other accounts were in good standing.
• Widespread Repricing:  You’ve heard the term “bait and switch,” right?  Well, credit card companies loved employing that strategy because they could advertise attractive “teaser rates” – 0% for 21 months, for example – and then subsequently jack up their rates for little or no reason once they brought a new customer aboard.

Major Rule Changes

The CARD Act is a lengthy, detailed piece of legislation, but the major changes that it brought to the credit card market can be broken down into six general categories which will be discussed in detail below.

• Young People
• Income Requirements
• Pricing & Fees
• Billing & Payments
• Account Communications

Young People

Many people mistakenly believe the CARD Act prohibits the use of a credit card by anyone under the age of 21.  What the law really does, however, is require credit card companies to evaluate an applicant’s ability to pay prior to granting them a new line of credit.

In general, a credit card applicant must have reasonable access to the income or assets necessary to meet a credit card’s monthly minimum payment in light of their existing debt obligations and other monthly expenses.  The minimum payment on a student credit card is usually around $15.  The rule applies to people of all ages, although you still have to be at least 18 years of age to get your own credit card account.

Interestingly, credit card companies actually tend to offer above-average credit cards to college students, despite their unproven money management skills and impetuous nature.  While cynics believe that credit card companies are simply offering students a pot of gold in order to take advantage of them when they’re most vulnerable, creditors actually have an eye to the future.  Not only do they know that a college graduate will make more, on average, than someone with a high school degree, but they’re also aware that college students have a whole lifetime of earning, saving, spending and thus, banking ahead of them.  In other words, issuers more than anything else want to groom lifetime customers from the college crowd.

That’s not to say that creditors never have or never will take advantage of young people.  That would be untrue.  But the credit card landscape is a lot safer for college students these days.  In addition to enjoying the same CARD Act protections as the general population, students benefit from the fact that the law also bans credit card companies from advertising on college campuses, particularly when it comes to the once-common practice of offering giveaways in return for applications.

Marketers have taken their pitches to the Internet, using social media to interact with and attract young consumers, but at least college students are no longer being put into the position of having to make important financial decisions while on their way to a big football game anymore.

The best way for a young person to use a credit card is as a credit-building tool.  Credit cards report information to the major credit bureaus on a monthly basis.  As long as you keep credit utilization levels low and always pay your bill on time, this information will be positive and therefore beneficial to your credit standing.  You don’t even have to make any purchases to benefit, as information will be reported to the bureaus each month no matter what.  And since many student credit cards do not charge a monthly fee, students don’t have to invest any money into grooming their credit scores for the real world.

You can read more about choosing and maximizing the benefit of a student credit card in our New to Credit Guide.

Income Requirements

Consumers have long been able to list household income along with personal debt on credit card applications.  The CARD Act initially outlawed the practice, however, requiring applicants to list both income and debt on the personal level.  The rationale was that the new system would better enable credit card company underwriters to determine if an applicant has enough money to afford a new credit line.  That, in turn, would reduce default rates and lead to more attractive terms for qualified borrowers.

But the CARD Act’s so-called “ability to pay” requirement actually sparked a great deal of unrest among consumers following the law’s enactment.  The switch from household to personal income would unfairly prevent stay-at-home parents from taking out and building credit in their own names, critics said, potentially leading to serious problems in abusive relationships.

As a result, the Consumer Financial Protection Bureau essentially reverted back to the old “household income” system, despite its inability to accurately indicate risk.  Now, credit card applicants are free to list any household income to which they have a reasonable expectation of access, along with any debts and liabilities they personally owe.

Pricing & Fees

The CARD Act implemented a number of different rules regarding the fees and interest rates that credit card companies are allowed to charge and the procedures they must follow regarding changes to an account fee or interest rate structure.  They include:

• 25% Cap on First-Year Fees:  Credit card companies cannot charge fees totaling more than 25% of a credit card’s credit line during the first year an account is open.  This change applies mostly to people with limited or damaged credit, who were previously being taken advantage of.The rule does not, however, apply to fees that issuers may charge PRIOR to opening an account.  Certain issuers have used pre-account-opening processing or registration fees to circumvent the spirit of the law and overcharge consumers who have few available options.
• Limitations on Interest Rate Changes:  A credit card company can no longer increase a credit card’s interest rates during the first 12 months the account is open, unless you become 60 days delinquent on payment or a low-interest-rate introductory term concludes (though it must be in place for at least six months).  Thereafter, increased interest rates can only apply to new transactions, unless you become 60 days delinquent, in which case the higher rate can apply to existing balances as well.
• Proportional Penalty Fees:  The CARD Act significantly reduced the amount that consumers end up getting charged for over-limit transactions and late payments.  Starting with the former, card holders must now opt-in for the ability to spend above their approved credit limit, and issuers are only allowed to charge one over-limit fee (which cannot exceed the amount by which you go over your limit) per billing cycle.  So, if you’ve opted-in for the ability to go over limit and your coffee takes you $1 above your credit limit, the fee will only be $1 and not $35 as it would have been in the past.A similar change has been enacted for late fees as well.  Prior to the CARD Act’s passage, you could be charged up to $39 for paying late.  Now, late fees are capped at $25 and issuers cannot charge a fee larger than the minimum payment that was missed.  There are two important caveats to this, however.  Your late fee can be as much as $35 if you’ve missed one of your last six payments, or even higher if the issuer can prove that the costs it incurred as a result of the missed payment exceed the maximum allowable fee.
• No Inactivity Fees:  Credit card companies are no longer allowed to charge you fees for not making purchases or other transactions over a given time frame.

Billing & Payments

In an effort to make credit card use simpler and more transparent, the CARD Act implemented a number of rules dictating how the credit card billing process should work and the manner in which payments are applied to one’s account.  These rule changes include:

• Uniform Due Dates:  Payment due dates must now fall on the same date every month (on the 10^th, for example).  That doesn’t mean your due date will be the same as mine, for example, but rather that your own due dates will be consistent and therefore predictable.  This stands to promote planning and reduce the likelihood of missed payments.
• Clear Payment Timing Guidelines:  A payment received by 5pm on the due date must be considered on time.  If your due date falls on a holiday, you have until the next business day to submit a payment.
• Single-Cycle Billing:  Issuers must now calculate interest charges based on the average daily balance held over the most recent billing period.
• Logical Payment Allocation:  The amount of your payment that exceeds the required monthly minimum must be applied to your balance with the highest interest rate.

Account Communications

• 45-days’ Notice of Key Account Changes:  Fundamental changes to a credit card’s interest rate, fee, or rewards structure must be provided to the card holder at least 45 days prior to the change taking effect.  This gives consumers time to close their account and find a new one if they are not satisfied with the change.
• Instructive Monthly Statements:  Monthly credit card statements must now include a breakdown of how long it will take to pay off amounts owed when only making minimum payments as well as the monthly payments required to become debt free within three years’ time.
• Rationale for Changes:  Not only do credit card companies have to warn you about interest rate changes, they must also provide a rationale for raising rates whenever they decide to do so.

The Consumer Financial Protection Bureau

While the Consumer Financial Protection Bureau – the personal finance industry’s new central regulatory body – was created by the Dodd-Frank Wall Street Reform and Consumer Protection Act, and not the CARD Act, the CFPB took control over the enforcement the CARD Act in 2011.  The agency has since proven quite effective in monitoring and correcting problems in the personal finance space.

The CFPB’s initial focus was primarily on credit cards, but it has since moved on to address credit reporting errors, debt collection, discriminatory auto lending practices, and more.  The agency has also established a complaints database that enables consumers to air and address grievances and also provides interesting insights into the most pressing matters in the personal finance space.

The CARD Act & Gift Cards

Credit cards weren’t the only cards that got a face lift as a result of the CARD Act – gift cards did too.  More specifically, the CARD Act:

1. Prohibits gift card funds from expiring prior to five years from the date of issuance or the date on which funds were last loaded.
2. Requires all fees and limitations to be clearly disclosed on gift card packaging
3. Only allows one inactivity fee to be charged per month when a card has not been used in at least a year.

Loopholes & Shortcomings

While the Federal Reserve effectively closed a number of the CARD Act’s most serious initial loopholes, a couple of major ones still remain.

• No Coverage for Small Business Owners:  Despite the fact that small business owners are held personally liable for company credit card debt and have their company card usage activity reported to their personal credit reports, they are for some reason not entitled to protection under the CARD Act.  While a number of major issuers have proactively extended certain CARD Act protections to their business cards, a coverage gap still remains.“The lack of coverage for small business cards represents both a lack of understanding of the CARD Act and the law it amended, the Truth in Lending Act (TILA), as well as the ever-increasing difficulty of getting anything done in Congress,” Molly Brogan Day, vice president of public affairs for the National Small Business Association, told WalletHub in a recent interview.  “Despite there being a number of champions for amending the CARD Act as NSBA recommended (to cover small-business cards), namely Rep. Nita Lowey who continues to introduce language to correct this oversight, the final agreement on the Credit CARD Act was too fragile to garner support for any amendment. Certainly this was driven by opponents’ lobbing against extending the protections to small firms.
• Processing Fees:  Certain issuers, namely First Premier Bank, are using processing fees charged before an account is officially activated to skirt the CARD Act’s rule against charging fees that total more than 25% of a card’s credit line during the first year it is open.  While this practice is currently being challenged in the courts, it is considered permissible until a final ruling is levied.
• Deferred Interest:  Roughly half of the major retailers that offer financing options to their customers through co-branded credit cards use a feature known as deferred interest.  This is basically a clause that enables the issuer to revoke your low introductory interest rate and retroactively apply interest to your entire purchase amount if you miss a single payment or have any balance remaining by the time regular interest rates take effect.WalletHub’s Deferred Interest Study showed that such simple mistakes can increase your finances costs by more than 27 times.  While the CFPB appears ready to crack down on this predatory practice, it has not yet been outlawed officially.
• Unfair Allocation for Minimum Payments:  While issuers are required to allocate the portion of your monthly payment that exceeds the required minimum to your most expensive balance, studies have shown that 34% of consumers only pay the minimum each month.  That means 100% of such customers’ monthly payments is unfairly allocated if they are carrying more than one balance (e.g. as a result of doing a balance transfer or making a cash advance).If Congress were to institute a system where all payments were allocated to a consumer’s highest-interest balance, people would both understand the payment process better and find it easier to get out of debt.

Preliminary Reviews

While the CARD Act was initially met with mixed reviews, the more research that is conducted into the law’s impact, the more effective it seems to be.  Not only did WalletHub and the Center for Responsible Lending determine early on that the rise in interest rates witnessed in the aftermath of the law’s passage was a side-effect of economic circumstances, and not the fault of the CARD Act, but the CFPB also concluded that the CARD Act has lowered fees and interest rates without causing a reduction in the availability of credit.

More specifically, the CFPB report found that:

• The CARD Act has reduced the total cost of credit (which includes all fees, interest, and finance charges) by two percentage points from 2008 to 2012.
• Consumers are saving $2.5 billion in over-limit fees each year.
• The average late fee has fallen by $6, saving consumers $1.5 billion in 2012, relative to what they paid in 2008.

Consumer Bill of Rights

When you consider all of the CARD Act’s many provisions, it’s clear that consumers now have a completely new set of rights protecting them from predatory or simply unfair credit card company practices.  Having a firm grasp on these rights is the best way to avoid falling victim to unscrupulous financial institutions.  It’s therefore a good idea to take a look at WalletHub’s Credit Card Bill of Rights and to keep it handy for easy reference as you manage your finances moving forward.

Ask The Experts:  Evaluating the CARD Act

1. Is the CARD Act an overall success or failure?
2. Would the last few years have played out differently without the CARD Act?
3. How can you explain the lack of coverage for small business owners?
4. How does debt instability affect small businesses?
5. Did the CARD Act do enough to improve credit card disclosures?
6. Where else has the CARD Act fallen short?