Earlier this month the Senate Banking Committee began a process that will take a long, hard look at the way American banks handle the credit card industry. Some of the items on the agenda include annual fees, credit card expiration dates, universal default pricing, double-cycle billing and late payment policies (to name a few). Each of these banking practices plays a major role in the way issuers handle your account, and the changes may very well impact your favorite credit card program. For the next few days, we’ll take a look at what each of these industry terms mean and how they affect your everyday life.
Day Three: Universal Default Pricing
One of the more controversial processes used by credit card companies to compute an individual’s interest rates is called “Universal Default Pricing,†which maximizes a cardholder’s interest rate if the cardholder defaults on any of their other financial obligations. This practice has been met with significant protest from consumer advocate groups and other credit reform lobbyists, but businesses defend their actions by claiming self defense – that is, they are protecting themselves from credit consumers like you.
The concept of a “universal default†is not new, but it is a practice that is becoming more commonplace in the credit card industry. The idea behind a universal default is simple – if you default on a loan or financial obligation in one location, you are likely to start missing payments with other companies as well. A credit card company would then issue you default rates even though you may be in good standing with them as a means to offset the cost of a missed payment you haven’t yet made; with a universal default, you have the potential to pay the price for one mistake at many locations and with many accounts.
It’s easy to see why this practice has done far more than raise a few eyebrows, but should it be legal? Who benefits? How do you know if this even affects you?
Universal Default: Who Wins?
The credit card companies obviously win with increased APR and fee structures, especially since a universal default is by definition a preemptive process that anticipates a period of financial difficulty on the part of the consumer. If they collect additional money from an individual to whom they impose a universal default and that person never misses a payment, then the issuer has earned extra cash without any extra work (it’s basically free money); if the client were to miss payments, then they will have recouped more funds than they would have otherwise (industry standards have net loss on universal default accounts at close to 10% as compared to non-default losses of 45%.)
Surprisingly enough, some consumers benefit from the practice of universal defaulting as well. Most of the larger credit issuers say that the money collected from the process allows them to extend credit to people that would not otherwise be eligible, so universal defaults do actually benefit consumers to some degree.
Universal Defaulting: Who Loses?
People with financial worries tend to be the ones who are cheated by the universal defaulting process, and many would argue that these people are the last ones who need any sort of added financial consequence since one default will have already been punishment enough. Most consumer advocate groups argue that imposing additional fees on financially troubled clients for actions they haven’t yet taken is entirely unfair and violates privacy restrictions as imposed by the FTC.
How to Spot Universal Default on a Credit Card Application
About half of all the major credit card banks use universal default practices in some form of another, though they each have their own ways of describing the process. The best way to know if you’re at risk of a universal default pricing measure or provision is to call your issuer and ask – they’ll know what a universal default is. Additionally, be completely aware of the rates when you apply for a credit card!
Kimberly Carte
Team Your Credit Network