Times have been tough the past few years. The collapse of the housing market and widespread consumer overleveraging have combined to push unemployment into the 8-10% range, devastate consumer credit scores, and lead U.S. consumers to fall billions of dollars behind on their credit card bills. Yet even in such a precarious economic environment, credit card payment protection plans are still a rip off.
Payment protection plans are billed as a form of insurance against unforeseeable life events, such as job loss, disability or death. Consumers often assume that such plans will help significantly pay down their debt during times of need or even eliminate what they owe altogether, but the truth is they only keep you afloat. They’re also widely considered to be predatory given that credit card issuers often charge customers for this so-called service without clear consent, target low-income demographics, and make it exceedingly difficult to either file claims or cancel coverage.
Not only do reports have it that banks routinely signed up consumers who either believed they were simply requesting information or who didn’t meet the service’s eligibility criteria, but seven of the nine largest U.S. credit card issuers also refused to even provide customers with information about what they’d be getting from payment protection plans before actually signing up for them, according to a 2009 Government Accountability Office (GAO) Report. Apparently, banks were hoping that customers would sign up for these plans, which often have initial trial periods, and then forget to cancel them once in effect (and a lot of times their wishes were granted).
After all, the more you know about them, the less worthwhile these payment protection plans seem. Banks charge $0.87 - $1.67 per $100 of debt that you have, which is like adding anywhere from 10.4% to 20% to your APR. In light of the amount you can expect to recoup as a result of a covered event, that makes payment protection plans a decidedly negative value proposition. The general rule of thumb when it comes to insurance-type products is that the ratio of what you pay in premiums compared to what you stand to gain for a covered event, known as the loss ratio, should be at least 70%. Credit card payment protection plans are in the 10-20% range.
It’s therefore no wonder that big banks are facing a flurry of lawsuits over such offerings.
According to a lawsuit filed by the state of Hawaii against Bank of America, Barclays, Capital One, Chase, Citi and Discover, “Payment Protection is so confusing as to when coverage is triggered, so restricted in terms of the benefits it provides to subscribers, and processing claims is made so difficult by Defendants, that it is essentially worthless.”
Hawaii isn’t the only state to have come after the big banks for their payment protection plans. In January, West Virginia reached a $13.5 million settlement with Capital One over deceptive fees and is suing Discover for misleading marketing related to such plans. Minnesota settled a similar lawsuit with Discover for $2 million last year, and Missouri is in the midst of investigating the issuer. Perhaps even more worrisome for Discover is the fact that the Consumer Financial Protection Bureau (CFPB) and the Federal Deposit Insurance Corporation (FDIC) are investigating them. As a result, some new regulations may be in our future.
But what is a consumer who is worried about their job security or their ability to meet their monthly credit card obligations supposed to do in the meantime?
Be careful to avoid intentionally or unintentionally signing up for payment protection, for starters. Aside from that, the best defense against an inability to make payments during a period of little or no income is to add money to an emergency fund on a monthly basis. Include this in your budget and save until you’ve got at least six-month’s salary in reserve. Then if you run into trouble, you’ll have a nice nest egg to fall back on.
Ultimately, having money in the bank accruing interest is far better than paying your credit card company each month for a service that, in a practical sense, isn’t really a service at all.