Credit-Card Pact Could Bring in Fees

The government has forced credit-card issuers to agree to treat struggling cardholders more fairly. However, this could herald the return of annual fees...

Two weeks ago, my Foolish friend Szu Ping Chan wrote Credit Card Rip-Offs That Should Be Banned, in which she revealed these five credit card swindles:

• negative repayment hierarchy (when cheap debt is paid off before expensive debt);
• high interest rates;
• cash-withdrawal charges;
• unfair interest calculations; and
• lower minimum monthly repayments.

Clearly, the government is keen to win the approval of the UK's 30.8 million cardholders, as it has pushed card issuers into agreeing a new code of conduct. Lord Mandelson, the Secretary of State for Business, met the major card issuers on 26 November and again yesterday, when the new deal was hammered out. In effect, credit-card companies have agreed two concessions to cardholders who are struggling to pay on time:

1. A breathing space for those suffering financial hardship

This provides a little extra relief for cardholders who are unable to cope with their debt and have consulted a free debt-advice agency. Card firms have agreed to give these customers a breathing space of at least thirty days while they agree a debt-repayment plan. During this period, card issuers will suspend collection activity. If these debt-repayment discussions continue past thirty days, then the breathing space can be extended by a further thirty days.

2. Improved transparency on risk-based rate rises

Most credit-card companies use `risk-based pricing' to decide the interest rate a customer pays, based on his/her personal financial circumstances. In other words, the rate that you pay depends on your current financial situation, your past handling of credit, plus your credit rating. However, card firms also use risk-based re-pricing to increase APRs (annual percentage rates) for cardholders whose profiles have become riskier.

Until now, these risk-based rate rises often arrived with little or no notice, giving cardholders hardly any time to move their balance elsewhere or take steps to repay it more quickly. However, from 1 January, card issuers have agreed not to increase interest rates for customers who have:

• failed to pay at least two minimum monthly repayments in a row;
• agreed a formal repayment plan; and
• have had a not-for-profit debt-advice agency confirm that they are engaged in serious discussions regarding a debt-repayment plan.

Fewer rate rises for the sensible

For those customers who are managing their accounts properly, credit/store card firms will:

• not increase interest rates within the first year of an account being opened;
• not increase interest rates more frequently than at six-month intervals; and
• give cardholders at least thirty days' notice of any rate increase.

In addition, when card firms increase their interest rates, they will give cardholders the option to close their account and repay the remaining balance at the current interest rate. Of course, this must be done over a reasonable timescale and is subject to minimum monthly repayments. Also, they may allow cardholders to transfer their balance to cards from the same company which offer lower interest rates.

My view as an ex-banker

Frankly, I'm not terribly impressed by the outcome of these discussions. Having given the banks loans, guarantees and bailouts totalling £600 billion, the government was firmly in the driving seat. In my view, it should have pushed lenders much harder, threatening them with legislation unless they agreed to make credit more affordable. Instead, the above measures strike me as something of a cop-out, so the card issuers will continue to get away with murder.

Indeed, I expect card firms to use these changes to justify the reintroduction of annual fees, arguing that the above measures will reduce their profits. Although annual fees of £10 to £20 were fairly common in the past, they died out in the Nineties with the arrival of increased competition from the `American eagles' (Capital One, MBNA and so on). However, given the steep rise in bad debts and repayment problems predicted to arrive in 2009, I've no doubt that annual fees will be firmly on the agenda at many card issuers.

Finally, it's worth pointing out that the Bank of England's base rate now stands at an all-time low of 2% a year. Nevertheless, a typical credit card charges an average rate of 17.3% a year on purchases and far more for cash withdrawals. Thus, until these ridiculous rates start coming down, neither the lenders nor politicians will win any praise from me!

More: Find a cheaper credit card today | Labouring Under High Interest Rates? | 14 Places To Get Free, Personal Financial Advice