The Ugly Issuer

  Over the years, the card industry has spent millions of dollars promoting its products. Whether it be MasterCard International's heart-tugging "Priceless" campaign or Visa's patriotic mini-tributes to the Olympic Games, the goals were the same: to win the hearts and minds of American consumers.
  So it must be discouraging when critics paint the credit card industry as cold and heartless, a relentless force pushing unwary consumers into a bottomless pit of debt. And the industry has had a lot to be discouraged about lately:
  * The retailers' antitrust suit, led by Wal-Mart Stores Inc., that successfully challenged the bank card associations' "honor-all-card" rules and the Department of Justice challenge to MasterCard's and Visa USA's rules prohibiting members from issuing a competitor's cards cast the associations as monopolistic entities running roughshod over consumers and merchants alike.
  * Actions by state attorneys general against certain subprime issuers for alleged price-gouging and other illegal activities sullies the reputation of the entire industry even though only a handful of issuers were involved.
  * A series of computer hacking incidents in which fraudsters gained access to cardholders' account numbers and other personal information leaves consumers concerned about the security of their confidential data and fearful of becoming victims of identity theft.
  * Demos, a New York-based public policy group, in September 2003 releases a highly publicized report, "Borrowing to Make Ends Meet: The Growth of Credit Card Debt in the '90s," outlining what it terms "abusive practices" of the card industry and calling for reform.
  * A front-page story in the July 6 Wall Street Journal focusing on card issuers' growing use of penalty fees and ballooning interest rates for late payers portrays card issuers as money-grubbers in search of ever higher profits at the expense of hapless cardholders.
  * Consumer Action, a San Francisco-based consumer advocacy and education organization, in May releases a report on the "anti-consumer" practices of the card industry that receives wide play in the media.
  To be sure, bad publicity isn't anything new for the industry. In the late 1980s and early '90s, for example, a series of bank failures tied to independent sales organizations raised questions about how much control Visa and MasterCard exercised over their own systems. Hundreds of merchants and cardholders suffered major losses, and the industry ended up with a black eye.
  And in 1991, when then-U.S. Sen. Alfonse M. D'Amato, R-N.Y., proposed a 14% cap on interest rates, it brought the long-simmering rate debate to a boil. The furor eventually died down as issuers drastically cut annual percentage rates to remain competitive, but it left consumer activists and many lawmakers decrying what they still considered excessively high rates.
  What makes the most recent run of bad news different is that it's coming from so many directions. U.S. Comptroller of the Currency John D. Hawke Jr. last fall told the American Bankers Association that no area of retail banking generates more consumer complaints than credit cards. "Where there are persistent and serious complaints, there is a fertile seedbed for legislation," Hawke warned.
  Accruing Penalty Fees
  As an example, he described how some issuers handle overlimit fees. In the past, an issuer would reject the transaction at the point of sale. "Today, it is common for the card issuer to honor the charge and assess a penalty on the customer ...," he said. "It is also common for the issuer not to require prompt payment of the overline," allowing the penalty to accrue month after month.
  Indeed, overlimit fees were the subject of a class-action lawsuit against Household Credit Services Inc. and MBNA America Bank. In that suit, Sharon R. Pfennig contended that Household violated the Truth-in-Lending Act by letting her exceed her credit limit and then imposing a fee. MBNA is named in the suit because it later acquired her account.
  What Pfennig sought was a ruling on whether an authorized extension of credit for which she was charged a fee could be excluded from finance charges. But the U.S. Supreme Court in April overturned an appellate court ruling that credit card issuers must disclose as finance charges fees charged to cardholders for exceeding their credit limits.
  Secured card programs for people with poor or no credit histories are another source of frequent complaints, Hawke said. "A common feature of many such programs is that the available credit is virtually exhausted with front-end fees, charges and security deposits, leaving the cardholder with no real credit and a sizable balance," he said. "The absence of complete and meaningful disclosure often heightens the abusive nature of these programs."
  Such is the case with Cross Country Bank Inc., a Wilmington, Del.-based subprime card issuer that has been the target of legal actions nationwide. Cross Country, a high-profile issuer, advertises heavily on television, especially during the daytime and overnight hours. That's when the jobless, prime candidates for secured cards, are most likely to be watching.
  In July, a New York State Supreme Court judge ruled that Cross Country engaged in fraud, false advertising, deceptive business practices and abusive debt-collection practices and ordered it to pay restitution to tens of thousands of New York residents.
  A month earlier, Pennsylvania Attorney General Jerry Pappert sought an injunction against the issuer and its collections agency, Applied Card Systems Inc., on similar charges. That suit alleges that in ads, Cross Country claimed cards had credit lines as high as $2,500, when actual credit limits were much lower. The suit also charges the bank with improperly disclosing fees. The charges are similar to ones in lawsuits filed against Cross Country and Applied Card Systems by attorneys general in Texas, West Virginia, New Hampshire and Minnesota.
  In a statement released in response to the Pennsylvania action, Cross Country said the suit "appears to be full of factual errors," and that it has developed its business practices in cooperation with "some of the top consumer law firms in Pennsylvania and the country and we have in place extensive controls to ensure we are in compliance with all applicable laws." The issuer also said "attorneys general across the country appear to be working together ... to destroy our reputation without any regard for the facts."
  Cross Country may be the most recent secured card program to come under scrutiny, but it is hardly the only one. That's why the Office of the Comptroller of the Currency in April released an eight-page advisory letter outlining guidelines for banks issuing secured cards.
  Public Perception
  With all the negative press, it's hard to know just how the public perceives the card industry. Consumers' attitudes toward credit cards in general often differ from their attitude toward their individual issuers, says Robert D. Manning, professor at Rochester (N.Y.) Institute of Technology and author of the book Credit Card Nation.
  "It's kind of like the Congress-a lot of people see the institution as worthy, but individuals as unworthy," he says. "You need to differentiate between how people view their credit cards, which they view positively, and the actions of a specific bank, which they view very, very negatively."
  What is behind the ill will many consumers feel towards their card issuers? Some observers allege it's sharply higher penalty fees and interest rates at a time when customer service seems to be deteriorating.
  The American public recognizes that issuers are increasing fees and cutting costs in areas such as customer service to sustain record profits, Manning claims. "That has certainly riled consumers ... The industry has done a very good job of raising the costs of its credit cards and a very bad job of explaining why," he says.
  Card issuers posted a 2.53% after-tax return on assets in 2003, up from 1.99% in 2002, according to CCM estimates.
  Kenneth McEldowney, executive director of Consumer Action, characterizes as "outrageous" late fees that have reached as high as $39. Consumer Action publishes an annual credit card report based on a survey of 140 cards from 45 issuers.
  There are plenty of reasons for consumers to be unhappy. "With average monthly minimum payments at 2% of the balance, the late fee as a percentage of the payment can easily be more than 100%," McEldowney says. "When you look at the effect of late payments on cardholders with a $2,000 balance, we found that customers of the top 10 card issuers pay late fees that average 129% of the minimum payment."
  Changing the Rules
  What's more, issuers over the past few years have changed the basic rules of the game, catching cardholders off-guard. "In the past, the industry generally had a leniency period of three to 10 days past the due date (for getting the payment in) without triggering a late fee," McEldowney says. "The industry has very quietly eliminated that."
  In addition, consumers "just in general don't understand at all, and are angered by, interest rates going up on Card A because they may have paid late on Card B," he says. "The changes really have nothing to do with whether or not the individual is creditworthy and nothing to do with risk-based pricing. They are totally designed to sharply increase revenue."
  Meanwhile, cardholders are increasingly upset by poor customer service, Manning says. He notes that consumers trying to work their way through issuers' automated customer-service phone systems, and then forced to listen to sales pitches while waiting on hold for lengthy periods of time, are likely to feel hostile. "Consumers are getting more and more frustrated that they just can't get a simple answer like they used to," Manning says.
  The public also is irritated by what they perceive as card issuers' devious strategies to keep them in the dark about the provisions of their cardholder agreements. For example, on many applications, disclosures are not only in fine print but also in a very light color that's difficult to read.
  "Consumers aren't stupid," Manning says. "They know that's designed specifically to make it even more cloudy" for them to understand key provisions of their cardholder agreements.
  Consumers also wonder why APRs on their cards don't drop as much as the rates on the money issuers use to fund their portfolios. Between January 2001 and June 2003, the Federal Reserve cut short-term rates by 5.5 percentage points, but this summer has raised them twice by 1/4 point. "The industry put a floor as their costs of borrowing continued to fall," Manning says. "They did not similarly reduce ... their interest rates."
  Not everyone thinks the card industry has an image problem. "Any industry that's experienced the kind of growth that electronic payments has over the last several years ... is going to be an industry where there's litigation, where there are different kinds of challenges," says Daniel Tarman, senior vice president at Visa USA.
  Indeed, "even in the face of the high-profile Wal-Mart litigation, we still had an incredibly successful year," with double-digit growth in 2003, Tarman says. "In our opinion, that's the most important indication of how Visa is doing."
  Others agree. Even though the Wal-Mart suit was "a big news event, the reality is that it hasn't really changed that much," says Scott Strumello, associate with Auriemma Consulting Group Inc., Westbury, N.Y. "As of last year, electronic payments surpassed cash for the first time. In terms of debit and credit payment, I don't think it has adversely affected consumer usage of these programs."
  And despite the bad press of recent months, the public perception of the card industry is no worse than in previous years, Strumello says. He notes that five years ago, a handful of issuers-Providian Financial Corp., Capital One Financial Corp., Metris Cos. Inc.-reaped a whirlwind of bad publicity over the way they handled subprime card programs. After several months, the press turned its attention elsewhere.
  "The media tend to go in cycles," he says. "If they're not complaining about gas prices, they talk about other things hitting consumers' wallets."
  If it's any comfort to the U.S. card industry, attitudes toward card issuers are far worse in many other countries, Strumello adds. "In Australia, there's just seems to be an utter (contempt) for banks among consumers and regulators," he says.
  Still, one thing is certain. An industry as wide reaching as credit cards will continue to attract its share of negative publicity. As such, industry players must take steps to minimize bad press, experts say.
  Advertising, obviously, plays a major role in promoting a positive image for the industry. MasterCard's "Priceless," Visa's "Everywhere You Want To Be," and other ad campaigns all are geared to win over consumers.
  But sometimes a 30-second television spot or a full-page ad in the print media isn't enough. That's where card industry-sponsored education campaigns come in. The major brands and some individual issuers for many years have relied on such programs to get their side of the story out to both consumers and lawmakers.
  "These programs are not as visible as ads but are really important in counteracting a lot of (bad publicity) because they educate people on how to use cards responsibly and appropriately," a MasterCard spokesperson says.
  Educating Students
  MasterCard, for instance, has had education programs that focus on college students for more than a decade, says Heidi Davidson, vice president of public policy. Consumer groups, universities and lawmakers all have been highly critical of issuers marketing credit cards to students who don't know how to handle credit.
  MasterCard believes it is important to educate college students on money management and the proper use of credit, Davidson says. "It's basically the first time they're getting exposed to ... managing money on their own and some of their first experience with credit," she says.
  One such program-Financial Survival-is an orientation targeting both college students and their parents. The students learn about the importance of such things as budgeting and paying off their credit cards at the end of every month and other basics, including discussions about interest rates.
  "Then we talk to the parents about how to talk to them about responsible card usage, budgeting and money-management skills," Davidson says.
  MasterCard developed the program in partnership with the Consumer Federation of America.
  A second program for college students-Are You Credit Wise?-is a peer-to-peer education campaign. "There are college students selected through a rigorous interview program on campuses all across the country," Davidson says. The students are hired as interns for Ogilvy Public Relations Worldwide, where they are trained and receive ongoing support to develop and execute a comprehensive communications campaign tailored to their campus. The peer counselors are "educating about 1,500 to 3,000 students per campus each semester," Davidson says.
  MasterCard also sponsors two Web sites-www.financialsurvival.org and www.creditalk.com-that offer a variety of money-management information. Program materials, offered by members, are provided free of charge through the financialsurvival Web site.
  MasterCard also has developed a program targeting Hispanic-Americans called "The Art of Building a Financial Future." Materials are available in English and Spanish.
  "A lot of the programs we do in cooperation with state attorneys general and legislators," Davidson says.
  There was no single event that prompted MasterCard to develop the campaigns. Rather, they were a product of the association's decision to expand its legislative and regulatory affairs function, Davidson says.
  "We spend a lot of time talking to local, state and federal legislators and state attorneys general to understand what they're hearing and what they're seeing," she says. "A lot (of the programs) are in response to that."
  The programs have gone a long way in improving the association's image, Davidson says. "We've spent a lot of time educating (state legislators) about what MasterCard does or doesn't do, how the payment system works," she says. "We often find that they're surprised ... because what they thought was the case, usually isn't."
  In addition to its own advertising and educational initiatives, MasterCard has joined with Discover Card Services and four of the largest bank card issuers to set up Your Credit Card Companies, a venture that aims to explain the workings of the card industry to the public. The ad hoc group-which includes Citigroup, MBNA Corp., Capital One, and J.P. Morgan Chase-sponsors a Web site.
  A spokesperson for Your Credit Card Companies says the participating companies contribute an equal share of financial support to the organization but wouldn't go into detail.
  Mission
  The group's Web site-www.YourCreditCardCompanies.com-features information on various aspects of consumer credit, including credit education, credit reporting and scores, identity theft and fraud, and financial tools and resources for students and teachers. One recent posting on the Web site discussed the Fair and Accurate Credit Transactions Act of 2003, which affects credit reports and has provisions designed to curb identity theft.
  The group also distributes information though advertisements in national news and personal-finance magazines, and in national television advertisements.
  Part of the organization's mission is to counter bad press about the card industry, the spokesperson says. "The criticisms quite frankly have been out there for awhile," he says. "As with anything else, there's always going to be criticism, but there's also going to be another part of the story. That's another role we perform."
  But in some cases, an issuer must do more than tell its side of the story, particularly if it is under siege from consumer groups or regulators. In those circumstances, issuers must avoid any actions that could invite more bad publicity, Strumello says.
  He cites as an example First USA Bank, which several years ago was taken to task for massive customer-service problems. The issuer, now part of J.P. Morgan Chase & Co., delayed an increase in fees for foreign currency transactions until after the uproar over the customer-service issue died down.
  "This was probably a good decision on their part," Strumello says. "They knew they were under the microscope of the media and (increasing the fees) would just have made things worse."
  When First USA finally implemented the fees, "it was hardly noticed," he says. "By that time, the press had gone on to some other topic."
  Despite these efforts, some have doubts that the card industry's image will improve any time soon. That's because the major sources of consumer irritation-high penalty fees and interest rates-also are the sources of the industry's profitability.
  Annual fees once represented a major revenue source for issuers. But that ended in 1990, when the introduction of the no-annual-fee-for-life AT&T Universal card effectively delivered a deathblow to that lucrative source of income. And interest income softened as issuers introduced ultra-low teaser rates for balance transfers in their quest for market share.
  Issuers "really backed themselves into a corner," McEldowney says, noting that any issuers reinstating annual fees on other than rewards cards would be "dead." So the industry turned to late fees and penalty interest rates to maintain margins, he says.
  "In a sense, they've created a business model that in our mind is anti-consumer," McEldowney says. "But for the life of me, I don't see how they can get out of it."
  Others are not so glum. Says Strumello: "If history is any guide, in a few months we'll be looking back and saying, 'they've found something else to start reporting.'"