Editor's Note: This is an updated version of a column published by Collections & Credit Risk last month.
With most key provisions of the Credit Card Accountability, Responsibility and Disclosure (CARD) Act taking effect today, the collection industry is bracing for some major changes.
The collection industry's focus is on finding ways to adapt to a much-changed environment – without experiencing a drop in revenue. It could be challenging. The CARD Act limits the amount of credit available to consumers at a time when they’ve exhausted other options. As a result, the credit crackdown is directly impacting collections.
Also, the CARD Act’s main focus – reining in credit card practices and limiting fees – has forced many card issuers and banks to alter their business models by actively reducing risk. They are tightening credit lines, dropping or restricting some borrowers and marketing less aggressively.
The credit-limit reductions by many of the banks will have two major impacts: reduce the average balance size of accounts placed for collection; and remove some liquidity from the market, making it more difficult to collect.
These changes are running headlong into the consumer behavior of the past several years, when many people typically spent their savings and maxed out home equity and personal loans. For many consumers, credit cards are the only short-term credit available.
But the CARD Act may lead to one far-reaching change for consumers: they can no longer pay off a credit card debt using another card. While that is not specifically part of the CARD Act, in response to it, credit lines are being reduced - removing liquidity and making it more difficult for consumers to be able to leverage credit cards to pay down outstanding debts.
With the sluggish economy and record unemployment, consumers are more strapped than ever.
To be sure, while overall consumer debt is dropping – the Federal Reserve reported in January 2010 that revolving credit decreased at an annual rate of 13%. Americans are still heavily indebted.
Many collection organizations are reporting no shortage of work and they expect credit card receivables, delinquencies and balances to continue rising - at least in the short term. In fact, as banks race to hike fees and interest rates in advance of the CARD Act taking effect, many consumers are taking a hit that could increase their long-term indebtedness.
Ultimately, the CARD Act and its tighter underwriting will lead to higher credit quality and will improve the liquidation rates of many credit card portfolios. It also will result in a reduction in delinquency and charge-off rates towards the end of 2010. This would be in marked contrast to current charge-off rates, which rose 151% from 2007 to 2009, according to data from TransUnion.
So what’s the best way to keep your collection efforts on track? Be flexible. The key to success is to work with customers to find a realistic payment arrangement, one that allows them to commit to a plan that works within their weekly and monthly cash flow. With large equity stakes now absent in the marketplace, most consumers are unable to come up with significant lump-sum payments.
While it’s already an established practice to utilize segmentation to spot customers who are most likely to pay based on their history, financial situation and other criteria, in 2010 segmentation will become even more important in light of the CARD Act. Collection agencies will need to devote more time and resources to increasing segmentation tactics.
They also are augmenting traditional collection methods, such as telephone calls and letters, with Internet sites and other alternative contact and payment channels. In addition to being effective, these alternative methods can be cost-effective for organizations and less intimidating for customers.
Many collectors also are stepping up training efforts, teaching agents about specific aspects of the CARD Act to help them respond to concerns from consumers. They also are working with agents to update their negotiating skills and improve their ability to develop strategic payment plans. There is a new emphasis on training agents to find other sources of income, as open lines available on other cards will no longer be an option.
While the collection industry is currently growing, the changes brought by the CARD Act and shifting consumer behavior may mean fewer accounts in the future. This could mean staff adjustments in anticipation of reduced placement volumes.
While the CARD Act wasn’t targeted at the collection industry, the impact is substantial. While it’s difficult to predict the long-term effect, one thing is clear: the debt collectors must stay ahead of the changes if they expect to stay profitable and competitive in this new environment.
Sidebar: Key Implications For Collectors
While its provisions are wide-ranging, specific aspects of the CARD Act that impact the collection industry include:
• Bans retroactive rate increases on existing balances unless the borrower is delinquent by 60 days or more;
• Mandates that excess payments go to pay off the highest-interest balances first;
• Sets guidelines for enacting late fees by giving consumers a minimum of 21 days from mailing to pay, eliminates due dates on weekends and in the middle of the day and prohibits due dates that change each month;
• Requires a consumer’s permission to process transactions that would place the account over the limit, effectively reducing over-the-limit fees;
• Enables customers to set their own credit limits, which can be lower than those set by the card companies;
• Limits marketing to college students and severely restricts access to credit to people under 21.