The world of credit: Universal defaultJohn J. Hudockinterest rate, credit score, credit card
The "universal default" clause is the practice that allows
credit card banks to raise your interest rate automatically, even
if you have made your credit card payments on time but have made
late payments on other accounts such as a credit card, mortgage,
utility or car. Or, the bank can raise your rate simply because
they feel you reflect too much debt. Many times, the decision is
based on your credit score. Universal default is increasingly
becoming a standard clause in all credit card agreements. According
to many credit card executives, the logic behind universal default
is that the bank is not being unreasonable in raising rates when it
has reason to believe that the risk of being repaid by the customer
has increased. Using FICO, credit card banks can now easily track
your everyday financial activities and monitor your credit score.
Your credit score, or FICO score, has become a vital statistic for
many Americans and can be widely shared. It is used to determine
how much you can borrow, how much you pay for your mortgage or life
insurance, if you can rent a home and, as already noted, it is a
factor in determining the interest rate you pay on a credit
card.
The three credit reporting companies and FICO work for the
lending institutions. They collect information on you and your
spending habits, and you receive a credit score from FICO ranging
from 300 to 850. Having a FICO score of less than 640 can make it
very difficult for you to get more credit at any decent interest
rate. Deadbeats, according to this industry, are those who pay off
their credit card debt every month; their FICO score is likely to
be near 800. As far as the industry is concerned, these are
deadbeats because the only profit that can be made on them is from
the transaction fee charged by the creditor on any purchase.
Unfortunately, most consumers do not know what their credit score
is, how it's computed and what it's used for. FICO states that your
credit score is usually determined by five factors, with the most
important being the amount you currently owe and your payment
history on large debts. This is together with the number of
revolving accounts, how long since you last used these accounts and
the number of credit inquiries.
In 1996, the U.S. Supreme Court removed the existing
restrictions on late penalty fees in Smiley vs. Citibank.
Then, the fees ran to $5 or $10, and usually did not exceed $15.
After this decision, all credit card banks took immediate advantage
and fees soared, reaching upwards of $40. Since then, the amount of
revenue the companies generate from fees (including late charges,
over-the-limit fees, and charges for returned checks) has doubled.
One of the lawyers who worked on the Smiley case predicted
that penalty fees could rise to $50. Credit cards banks also have a
specific time of day cutoff on your account. There is no limit on
the amount a credit card company can charge a cardholder for being
even an hour late with a payment. Usually the card company will
allow you a reversal if you notify them immediately.
Most people do not read the fine print on contracts, especially
on credit card agreements. Even consumer advocates admit that they
fail to read their own contracts, and credit card agreements are
difficult to understand. In the fine print is a clause that allows
the company to change your interest rate at any time, for any
reason, as long as they give you 15 days notice. I believe that
most consumers do not pay the necessary attention to their credit
card accounts. About 37 million Americans pay only the minimum
required--about two percent of their balance each month. By paying
the minimum, it could take years to clear your debt and you will
end up paying far more than your initial charges. Many of these 37
million cardholders could pay much more than the minimum and could
even pay off their full balance within months, which would increase
their credit score. Consumers are not educated about this practice,
which keeps the credit card business very profitable.
Today there is no federal limit on the interest rate a credit
card company can charge. I have seen fees as high as 87 percent.
The return address on your statement will probably indicate your
credit card issuer is located in a state such as Delaware or South
Dakota. That's because these are the states that have either poor
or no "usury laws," meaning there is no cap on the interest rate
that is charged. The federal government once had national usury
laws that set a cap on the amount of interest that could be charged
on a loan. But after the Great Depression, it repealed them and
some states did not put new usury laws in place. That's why
Citibank, the issuer of MasterCard, moved to South Dakota where
there is no limit on interest rates. Misuse of credit cards is one
of the major reasons why credit scores are low. This factor can
cause your mortgage interest rates to be high or it may be the
reason why your credit score is too low to get a mortgage. Be
sensible; educate your clients not to use credit cards for credit.
Credit cards should be used only for convenience. You must have
discipline; when you charge an item, you must have the resources to
pay off the balance within 30-60 days or realize that the item will
cost many time the original cost. If you only make the minimum
requested payment, usually two percent with card rates near 20
percent, the balance will never be paid off.
John Hudock is president of The International Credit Club
and The World of Credit, two companies specializing in credit
report problems and scores. He can be reached at (570) 829-5696 or
e-mail
[email protected]. John invites e-mails on any credit topic. He
will answer each one and publish any that will benefit his readers.
Please be specific with your questions.
