The End of Universal Default

The following guest post was submitted by Kevin, web content writer for Resqdebt.com. For more helpful tips on how to save money and stay out of debt, visit Resqdebt’s website at www.resqdebt.com.

There have been few more controversial credit card practices than the one known as Universal Default. With the arrival of the Credit Card Accountability, Responsibility, and Disclosure (CARD) Act of 2009, it is soon expected to be a thing of the past.

The elimination of universal default is one of the most important provisions of the sweeping federal legislation, signed in May and going into effect in stages through next August, that is expected to change the face of the credit industry, probably including ways that we do not yet expect.

What Is Universal Default?

Universal default provisions, often buried in credit card contract gobbledygook, have allowed the credit card companies to charge cardholders more interest for late payments that had nothing to do with that specific account. Simply put, this common provision has allowed the credit card companies to increase the interest rate when a consumer fails to make a payment on another unrelated account, be it another credit card account or some other type of credit account. Like a phone bill. Or a water bill.

The CARD Act would limit increases in interest rates to “a specific, material violation of the card agreement by the issuer,” according to a Senate Committee report on the bill. It also requires credit issuers to lower penalty rates after six months if the cardholder meets his obligations.

The dollar amounts involved in Universal Default can be significant. The finance website The Motley Fool calculated that an $8,000 balance could see an increase of $1,200 per year with an interest rate rise of 15 to 30 percent. If you are on the border of being able or not being able to pay your credit card bills, the default provision can make the difference, particularly when compounded over several cards.

Advocates of the universal default provisions would say that they are accepting the reality of a consumer’s overall credit profile. If a person fails to make a payment on another account, it could indicate that they will have a more difficult time making a payment on the subject credit card account when the time comes. Therefore the increase in interest rates can discourage further borrowing that cannot be met with payment. In addition, it keeps more reliable cardholders from having to pick up as much of the tab if in fact that person eventually defaults on the balance.

Critics of Universal Default, however, point out that having multiple creditors simultaneously raising the interest rates and charging the consumer more can create a credit card death spiral that would not have existed without the universal default provisions. In addition, they have questioned the fairness of altering a contract when the contract has not been violated. It is perfectly reasonable to think that a person can miss a payment on one card for a variety of reasons and still make the regular payments on another.

Is Universal Default really dead, or will credit card companies figure out other ways to accomplish the same goals? Only time will tell.

Comments

  1. I am glad that universal default will be better regulated. However, credit card companies will always find some way to nail you, whether you have good credit or bad. For instance, I can see them adding annual fees, or charging some sort of “inactivity” fee instead. They’ll come up with something.

  2. @Miranda: You’re right! In fact, last weekend I shared the USA Today story about a number of issuers considering a new fee to charge people who pay their balances in full each month. If they go through with that idea I suspect they will lose a lot of cardholders.

  3. Doesn’t really matter, most card companies have already raised rates to 20-> 30% , especially if their balance sheets are hurting (Looking @ you COF!)

    The era of cheep credit, Zero Percent financing is over (except if your a bail-out-bank)

  4. As consumers it’s up to us to keep credit card companies in line. When they start charging fees for services that don’t actually provide value to us, we need to opt out and possibly send up the snipped-up cards back to them with instructions as to exactly where they can put the sharp little plastic shards.

    If enough customers go away, they will eventually learn about cause and effect.

    Of course this is only viable if we’re not so severely in debt to them that we’re forced to use their services.

    We must therefore regulate ourselves as individuals before we’re going to be in a position to regulate credit card companies.

  5. As Squeaky says and to add to that, you must not bow down to the all mighty FICO god. Yes you may see a ding on you credit score, but think about it who runs FICO?

  6. Even with greater regulation, the big credit card issuers will still find ways to nickel and dime the consumer. The best strategy to protect yourself, in my opinion, besides awareness and budgeting is to become affiliated with a credit union. They often offer credit cards with (relatively) decent terms, and may be more willing to work with their customers. At http://www.creditunion.coop/, you can search for a local credit union near you. Many also are open to local residents or employees, so you should be able to find one that you meet the eligibility criteria to join. We know that the big banks are robbing us, and yet we still allow them to do it every day. As more and more people shy away from them, they’ll pay for their shady practices through lost business.

  7. I hate credit card companies or anyone, really, who charges fees for “bad behavior” as if we are little kids who need to be slapped on the wrist. It makes no sense. If I don’t have the money to pay my bill now, I surely won’t have the money to pay it if you tack on 35 dollars. It just makes the situation worse. The people who are least likely to pay are being charged the most money. That makes no sense.

    And things that are non-credit related should never end up on a credit report.

  8. Let’s play Flip The Script!

    If I owned a money-lending company…

    The customers I’d value the most would be the ones who had stable high outstanding balances, so that I got an ongoing stream of interest from them, provided they paid on time and didn’t go over their limit so as to increase my investment in them past my level of comfort. I’d try my best to keep those customers from leaving. It would be pretty tempting to hike up the rates so that they couldn’t afford to pay off the bill or exchange me with another provider.

    The customers I’d value the second most would be those who have an outstanding balance and who aren’t quite in control of their finances: the ones who go over their limits or who are just a little bit late. Although the late payments are inconvenient and the over-the-limit transactions might force me to invest more in this customer than I like, this is still a customer who needs what I can do for them and who isn’t likely to leave. I can also hedge my risk by charging fees for being late or over the limit. People who aren’t quite in control will also accept the kind of paternalistic “punishment” and slap on the wrist because at some level they need and want it psychologically.

    The customers I’d rank third would be the ones who spend heavily, even if they pay their balances off. I dip my beak a little bit on every card swipe and get a percentage of each transaction. There’s no interest or special fees coming my way, but sooner or later some of them may have a change in fortune and their spending may not dip to match their income. Or they may miss a payment and that’s when I get to capitalize, hopefully on a large outstanding balance.

    The customers I’d value the least would be the ones who use the card moderately, who never carry a balance, who can’t be dinged with late fees, and who use all the rebates or air miles I offer. These aren’t actually customers that need me: they use my services solely as a convenience and if someone took a giant eraser and made me disappear, they wouldn’t care.

    So the temptation to carry self-interest a bit to far and to become predatory has got to be there. The only way to correct this predatory behavior is for the customers to move out of the first and second group and into the third and fourth groups, so that lenders have no choice but to give value to the customers. The only way they can do *that* is by being in control of their finances.

  9. Squeaky’s analysis is spot on: to beat the credit card company you have to think like the credit card company. Or, in the words of Sun-Tzu, “Know thy enemy”.
    The government can regulate all day long. Bottom line: rich people/companies finance campaigns; therefore, politicians who want to be re-elected will not strangle them. Oh sure, they’ll pass a few regs here and there to make the masses happy that “someone is doing something”, but they’ll leave enough loop holes so that the companies (who by the way employ more high prices lawyers than even Washington) can figure out another scame.
    Best bet is to follow Dave Ramsey’s advice: “You play with snakes, you will be bitten.”
    Another fine piece of Dave’s wisdom: “I’ve never known ANYONE who has gotten rich from using credit card ‘perks’”.
    Cut up you cards, pay off your balances, close your account. It cannot be any simpler than that. Anyone who thinks they’re ‘beating the system’ with all the freebies and no-interest money…well, I’d love to stay here an convince you you’re totally mistaken, but you’ll figure it out one day when you’re still in debt. Or when you slip up once and miss your bill deadline and your no-interest loan goes to the default rate.
    If I were a credit card company, the kind of customer I’d value most are people who argue that I’m good. Heh, I’d be tempted to cut your rate to a generous 20% for some free advertizing like that! Now don’t you love me?
    Tongue and cheek here folks. Get rid of the plastic. It ain’t worth it.

  10. most of the things in the CARD act have nothing to do with people who are good with credit. meaning – most of us (US population). it’s like a bailout for people who are irresponsible and now their risk will be spread out to other less riskier people. i know i will get flak for this but..it’s the truth. if you had perfect credit score and your rate got jacked up, you only have to thank the folks defaulting on their cards for it. that is how credit risk works.

    the past year has been particularly bad for savers and people who are responsible with credit. however if you like to borrow and not pay back you have CARD act; if you bought a suv to begin with (fully knowing what kind of gas mileage it gets you), you got your CARS program; but if you like to save for a rainy day, you get your 0.1% apr interest rate…so all in all who is winning here?
    looks like irresponsibility (both in people/banks) has been rewarded.

  11. This seems immoral. Someone would go to jail for this in Australia. There is generally a clause in financial contract were if you’re in default on one account the bank can move funds from other accounts over to cover the short fall but that’s really the closet this?

  12. While we’ve narrowed down our family’s credit card use in the past few years, one thing never ceased to amaze me: that card issuers could use your behavior with other cards to impact THEIR card. What does this tell our kids? That yes, behavior has ramifications and consequences, but “trickle down economics” practiced by credit card companies are anything but scrupulous. My thoughts? We should put the credit card company CEOs in a room with all the health insurance company CEOs…I’m thinking they’d disgust each other.

  13. Seems to me that those of us who pay & have done NOTHING wrong are the very ones that are getting the shaft on this. It certainly wont help bail out the Credit Card Co’s, & it only makes me mad that I have done absolutely nothing to deserve this. But if my rates go up, my available credit goes down—VIOLA –my credit report takes a downward hit. Just for doing the same as I have always done to maintain an Excellent credit rating. Even if you have consistently paid WAY over the minimum payment –it does not help, except to lower your balance. You still look like you must have done SOMETHING wrong to get a lower Credit Score—when in fact you have NOT !! SO what is the answer ?? Simply put—there is NONE. You are “stuck” & if you close your account your credit reports takes an even worse hit & lowers your score–AGAIN . So I really think this new “Card Act” only hurts the “good, responsible” payers & gives the ones that didnt pay ALL the protection. SO where does that leave the rest of us–so called responsible people ??? We are then left w/ having to explain WHY we dont have as good a credit rating as we did before to any perpesctive creditor for what ever the reason we apply for credit, an Apartment, home loan & on & on. So if you are gonna look bad, maybe we should all just file bankruptcy & let the Credit Card Co’s take an even worse hit & go down the tubes w/ us. Either way, we get a less than stellar credit rating no matter which way we go. So we might as well be “guilty” of the offense as we are going to get the same punishment in the end anyway.

  14. I just got off the phone with a whole string of people from Macy’s customer service, card services, etc…they all gave Universal Default as the reason why they are lowering my credit limit. All of them claim to have never heard of the Credit Card Accountability, Responsibility, and Disclosure (CARD) Act of 2009. So no, Universal Default is not dead as they are ignoring the changes in the law, as they do not suit them. They didn’t seem to care about my filing a complaint with the Feds or never making another penny (either through cash purchases or credit purchases) from my family again. I guess they don’t think the feds are going to hold them to following the law.

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