Amid growing public discontent with credit card companies, federal regulators have published guidance intended to curb "inappropriate" account management, risk management and loss allowance practices.
Issued by the OCC, Federal Reserve, FDIC and Office of Thrift Supervision, the guidance is a critique of many practices in the credit card industry, including credit line management, overlimit fees, minimum payments and loss allowance. It was issued in draft form last year and finalized last month.
Regulators expect card issuers to overhaul their practices, if necessary, in order to comply with the guidelines. "The agencies expect institutions to fully test, analyze, and support their account management practices, including credit line management and pricing criteria, for prudence," according to the guidance.
When either assigning initial credit lines or increasing existing lines, lenders should carefully consider the repayment capacity of borrowers. "When inadequately analyzed and managed, practices such as multiple card strategies and liberal line increase programs can increase the risk profile of a borrower and result in rapid and significant portfolio deterioration," said the regulators.
Credit line decisions need to be based on factors like repayment history, risk scores, behavior scores and other relevant criteria.
Most lenders employ such criteria to some degree, noted Dan Murray, director of consumer credit research at TowerGroup. "Every institution has a different profitability formula, so it's hard to generalize. From a risk management perspective, they all use scoring systems to make decisions."
Regulators also criticized lenders for offering customers additional cards, including store-specific private label cards, without considering the entire relationship. U.S. households own an average of 8-10 credit cards with a combined balance of $8,000. "The agencies expect institutions that offer multiple credit lines to ... aggregate related exposures and analyze performance prior to offering additional credit lines."
The proliferation of credit card offers is attributable partly to CRM and data mining software, which lenders use to slice and dice data in order to identify profitable customers.
With the top 10 issuers already controlling 80 percent of the business, technology has raised the barriers to entry even higher. "The sophistication of database marketing is greater than it's ever been," said Murray. "The profitability of a card is based on marketing, keeping your expenses down, managing risk and having scale."
Providian Financial, a top 10 issuer, recently licensed Triad, a credit card system from San Rafael, Calif.-based Fair, Isaac. Providian will use Triad to streamline account management and to efficiently manage the risk exposure in its 12 million-card portfolio.
Designed to help lenders develop and implement different credit and marketing strategies, Triad employs predictive analytics to help improve decisions in credit line management, collections, authorizations, and performance pricing.
"Triad will help refine our account management strategies while strengthening our customer value and portfolio performance," according to Richard Lewis, chief credit officer at San Francisco-based Providian.
Still, regulators aren't convinced that lenders are exercising prudence in such lending practices as overlimit fees. Account management practices that don't adequately control authorization and provide for timely repayment of overlimit amounts may significantly increase the credit risk profile.
"Liberal overlimit tolerances and inadequate repayment requirements can magnify risk exposure," according to the guidance.
Overlimit practices should focus on reasonable control and timely repayment, the regulators said. The goal, "should be to enable management to identify, measure, manage and control the unique risks associated with overlimit accounts."
Regulators also criticized lenders for setting low minimum payments that maximize outstanding balances and finance charges. "Competitive pressures and a desire to preserve outstanding balances have led to a general easing of minimum payment requirements," said the guidance. "New formulas that have the effect of delaying principal repayment are gaining popularity."
A law that was passed in California in October 2001-and subsequently blocked by legal action from the banking industry-would require card issuers to print a "minimum payment warning" on billing statements, including examples of how long balances of various sizes would take to be paid off with only minimum payments, and the total cost of making only the minimum payment. Issuers also would be required to provide a toll-free hotline to allow customers to obtain the total cost and time needed to pay off outstanding balances if they make only minimum payments.
Consumers are beginning to vent their anger at what they perceive as punitive business practices.
About 70 percent of Americans believe that lenders are "too greedy," according to a survey by Wharton Strategic Services/Buzzback. Two-thirds feel that "the government lets credit card companies get away with murder," and over half feel that credit card companies attempt to manipulate customers.