Credit Cards can feel like “free money” until the bills come in. Then you wonder how you spent so much money in 30 days or less. Credit card issuers make it easy for you to spend and then have very strict guidelines that often result in high interest charges and high fees. These practices enable them to make billions of dollars off consumer inattentiveness or lack of knowledge about how the cards really work.
It can be mind boggling that credit card companies can literally write off millions of dollars in bad debt each year, while still making billions of dollars lending unsecured debt to consumers. The reason is simple: creating multiple income streams that virtually guarantee success, even when a small percent of consumers is unable to pay back the debt.
5 Ways Credit Card Companies Make Billion off Consumers:
- Interest Rates. Unsecured debt is a higher risk to the bank because the options for collection are limited when a consumer is unable to pay. Secured debt gives the lender collateral, which they can take if the debt defaults. Cars and homes are common loans that use collateral. In exchange for the lower risk, lower interest is charged. If you fail to make the car payment, the lender takes the car and resells it, paying off the debt. Credit cards do not offer anything the bank can take from you if you are unable to pay the bill. In exchange for the higher risk with credit cards, banks charge a much higher interest rate. Even those with good credit can wind up paying double digit rates when a balance is carried from month to month.
In 2015, the average interest rate charged on credit cards was 15.07 percent. The average household carries over $15,000 in debt, for a grand total of approximately $885 billion dollars in credit balances! It is not hard to see how these numbers can result in millions of dollars going towards paying interest, rather than reducing your balance.
For example: if you have a $15,000 balance on a credit card that charges 15%, your 3% minimum payment will be $450. Of the $450 payment $187.50 goes to interest. With close to half of each bill paying interest, you will be paying thousands of hard earned dollars just in interest each year for the privilege of carrying a balance each month.
- Merchant Fees. The act of using your credit or debit card provides revenue for credit card issuers. Every time you swipe the card, merchant fees are charged to the business which accepts your payment. These rates are typically between 1% and 4% of the transaction amount and are paid by the business. The fee is split between the company that offers the merchant services, the credit card provider (bank), and the maker (MasterCard, Visa, American Express or Discover).
The amount charged to the business will depend on a number of factors like the average transaction for the business and whether you are using a rewards card or not. The payment fee structure can be very complicated to understand, but even “paying cash” with a debit card, results in fees. As credit and debit cards become the preferred form of payment, businesses have built these fees into the price of the goods you purchase. For the lender or bank, even if the card is paid in full each month, they are still turning a profit. The more you use the card, the more money they make.
- Card Fees can include charges such as an annual fee, late fees, balance transfer fees, and cash advance fees. Balance transfer and cash advance fees are generally between 3% and 5% of the transaction. Retrieving cash from an ATM will result in cash advance fees. Transferring a balance from one card to another is considered a balance transfer. (It’s also important to note that cash advances also generally come with a higher interest rate).
With the passing of the CARD Act, more companies have begun charging annual fees, because other fees like over-the-limit fees have been eliminated. This is particularly true for those with marginal credit, because those with lower credit scores have less leverage and fewer options when it comes to credit card selection. Banks consider lower credit scores to be a higher risk, resulting in higher interest and fees as well as the presence of annual fees.
Annual fees are also common with high end cards because these consumers are less price sensitive. They may offer a strong rewards program or other intrinsic benefits like concierge services to justify the annual fee.
Getting behind on payments will also result in higher fees including collection fees and costs associated with the banks attempt to collect your debt. The CARD act has regulated fees, however, you can still be charged $35 or more for a making a payment 1 day late.
- Commissions by Selling Your Name. Another source of revenue includes selling your name to other “partners” who sell products and services you might be interested in. While the practice is often referred to as selling, the company typically will rent their list for a one-time use. If you respond to the offer of the partner company, then you get on the new companies list and they no longer need to rent your name for future promotions. The practice of renting lists provides ongoing revenue for the lender based on the size of the list. To remove your name from future “rentals” go online or call the company and request to opt out of “partner offers.”
- Joint Partnerships with other companies, also called co-branding. Retailers and Universities are big business when it comes to co-branding. The store card for Home Depot or Kohl’s is co-branded with a bank that provides the lending services for the retail store. Other rewards cards such as hotels and airlines are also partnerships that use an accompanying bank. Major universities also co-brand credit cards for both students and alumni. This helps the college promote the university and often creates a rewards program around school donations. The card issuer is able to penetrate university markets, while the university spreads its brand.
When you start to see how many revenue streams a credit card issuer has they begin to look more like a lender, rather than a benefactor, helping you live beyond your means. Banks offer you the convenience of being able to make purchases today and pay for them tomorrow. If you are not diligent about how you use this tool, you can end up adding to their bottom line, at the expense of your own.