There’s been a fair amount of discussion here on debt repayments. I’d like to provide another perspective on credit cards. But, please bear with me as I’m not nearly as good a debater nor as eloquent and
concise as all of you. You may already be aware of all this information, and if so, please ignore this post.
I work for a credit card issuing bank. Keep in mind that a bank is still a business & as such needs/wants to earn a reasonable rate of return on its financial investments comparable to other companies. This is a very complex business with so many inter-related factors.
Most credit card issuing institutions are banks and, as such, are regulated by the OCC {Office of the Comptroller of the Currency}. We have semi-annual OCC audits with which we have to comply with OCC mandated risk levels, legal compliance, and service levels. This ensures that we do not assume inappropriate risk {customers likely to default} as well as ensuring that we are not making a windfall profit at the expense of our customers {even if competition would allow it}.
Card companies need to make enough money from “good” customers to pay for the “bad” {or non-performing} customers, to cover the costs of business, and to still make a reasonable profit.
Card companies receive a small amount of money from each credit transaction. There are two sides of a transaction; the consumer & the merchant. In a transaction, for the convenience of obtaining their money immediately and not having to worry about bad checks, a merchant foregoes a certain percentage of the sale {usually about 2%}. This percentage is called interchange and is split between the card company issuing the card to the consumer and the merchant company that processes the transaction. So, for a $100 sale, the issuing company would receive $1. Ergo, for each $1000 that charges-off, we’d have to have $100,000 {or 100 times that amount} in sales just to break even with our losses.
Quantification of default risk is paramount at almost all credit card companies. Therefore, companies use credit scoring. The most commonly known score is the credit bureau score / FICO score/ Risk score. Every credit consumer has a score with potentially each of 3 credit bureaus based on statistical modeling of defaults. The higher the score, the less likely an account is to default. As more risky behaviors are identified, the score declines. As part of the FACT Act, each person can receive a free copy of their credit report from each of the three credit bureaus once every 12 months. The following link shows when the free reports are available, by region of the country, & provides a link to request one.
Free Credit Reports Besides the FICO score, our company has a whole department of statiticians who develop and validate internal scores to quantify & predict future default risks for different aspects of our business. We have Behavior scores, Attrition scores, Bankruptcy scores, Profit scores, Response scores, Repayment scores, etc.
Since competition for “Good” risk customers is fierce and the OCC determines in large part where the risk score cutoff is for new customers, interest rates for good revolving customers are fairly low {usually < 10% fixed with a bunch of 0% balance transfer promotions}. However, as a customer starts exhibiting more default risk behaviors {late payments, bad checks, significant amount of cash advances, and balances approaching credit limits}, scores change & risk compensating interest rates are often applied. Our penalty prices currently range from 14.86% to 24.86% APR with the highest rates applied to the highest default risk consumers. So, if one assumes good customers with a 10% interest rate, for each $1,000 in charge-offs, we would need revolving balances of $10,000 to break even just with the losses. So, the objective is to detemine appropriate interest rates for given levels of default risk so that the “Good” customers don’t have to subsidize all the losses from the “Bad” customers.
We are
NOT one of the top ten issuers and we still charge-off over
$15 MILLION PER MONTH with more than half of that amount due to Bankruptcies and the rest simply non-payment and a relatively minor fraud amount. So, you can see why so much effort is expended in our company to reduce charge-offs. Recovery of a significant portion of those charge-offs would lower the costs {think interest rates and purchase prices} for everyone. This holds true not only for credit cards, but for car loans, home loans, funiture/appliance/consumer goods purchases, and just about anything else we buy whether we charge it or pay cash.
Obviously, our ideal customer would be one with no negative items in their credit history, that carries a reasonable amount of revolving credit {at our lowest interest rates} compared with their limit, makes on-time monthly payments of some amount over the minimum due, and continues to charge the balance back up each month. However, some “Good” customers are only transactors {don’t carry a balance} so we only get the interchange fee. On the other hand, obviously a fairly large number of our customers don’t pay their debts and, since we lose money on them, those losses have to be offset with higher interest rates on all account balances {good customers & bad}.
Although I don’t agree with all the tactics of the credit card industry, I agree with Shapley. We are providing a financial service convenience for both the consumer and the merchant. We don’t force anyone to use the credit. Our organization attempts to reward “Good” customers and limit the losses and recoup as much of them as possible from the “Bad” customers. Our country was founded on personal responsibility and that should hold true with use of credit as well.
Also, one final note. Besides the normal financial transactions {i.e. credit cards, home loans, business loans, car loans, etc. from banks} that use credit scoring, other companies are using them as well such as home & auto insurance, businesses that allow credit, rent-to-own companies, etc. So, if you have financial trouble in one area, chances are likely that you will be paying more for services in many areas of your life. As Crosby, Stills, Nash, & Young sang {am I dating myself here?} “Teach Your Children Well”.
Nate
<small>[ 04-28-2005, 03:33 PM: Message edited by: NateBrei ]</small>
. If we lock you up in prison, we have to pay for your health care! 
!!!