CARD Act Compliance: The Final Stage

The third phase of the Fed's implementation of the CARD Act.

October 10, 2010

In mid-June the Federal Reserve Board adopted amendments to Regulation Z to implement provisions of the Credit Card Accountability, Responsibility, and Disclosure (CARD) Act of 2009. These changes represent the third and final stage of the Fed’s implementation of the CARD Act. The provisions in this final rule will generally become effective on Aug. 22, 2010.

These amendments will establish upper limits for penalty fees such as late payment fees and over-limit fees, require credit unions to establish written procedures to review every six months any rate increases on credit card accounts since Jan. 1, 2009, to determine whether such accounts warrant a decrease in the annual percentage rate (APR), and generally prohibit certain fees. Here’s a summary.

Reasonable penalty fees

The final rule provides that a card issuer may impose a penalty fee for violating the terms of a credit card account only if the fee amount represents a reasonable proportion of the total costs the card issuer incurs as a result of that type of violation.

A card issuer must re-evaluate this determination at least once every 12 months. If it indicates that a lower fee represents a reasonable proportion of the total costs incurred, then the card issuer must begin imposing the lower fee within 45 days after completing the re-evaluation. If it indicates that a higher fee represents a reasonable proportion of the total costs incurred, then the card issuer may begin imposing the higher fee only after providing a 45-day advance notice of change in terms.

As an alternative to the cost analysis described above, however, the final rule provides a safe harbor by permitting a card issuer to impose a penalty fee that doesn’t exceed $25 for the first violation and $35 for any additional violation of the same type during the next six billing cycles.

These amounts will be adjusted annually to the extent that changes in the consumer-price index (CPI) will result in an increase or decrease of $1. The right to reject does not apply to an increase in a fee as a result of a cost re-evaluation or an adjustment to the safe harbors to reflect CPI changes.

Notwithstanding these safe harbors, card issuers will be prohibited from imposing a fee that exceeds the dollar amount associated with the violation. For example, if a member is late in making a $20 minimum payment, a credit union won’t be permitted to charge a fee of $39 since that exceeds the late payment amount, which in this case is $20. Therefore, in this case the credit union may only charge a late payment fee of $20 or less. Similarly, a member who exceeds the credit limit by $5 cannot be charged an over-limit fee of more than $5.

Re-evaluation of rate increases

For any rate increase imposed on or after Jan. 1, 2009, that was based upon the credit risk of the member, market conditions, or other factors, card issuers are required to review the account no less frequently than once each six months. If appropriate, issuers must reduce the APR. Issuers must conduct the first review prior to Feb. 22, 2011. If an account is subject to a rate reduction, the final rule requires they reduce the rate within 45 days after completion of the evaluation. In addition, card issuers must have reasonable written policies and procedures in place concerning the review process.

Issuers must apply any reduction in the APR to the outstanding balances for which the original APR increase was applied. The rate reduction must not be applied only to new transactions.

Generally, the card issuer must review either:

  • The factors on which the increase in the APR was originally based; or
  • The factors the card issuer currently considers when determining APRs applicable to new credit card accounts.

For rate increases imposed between Jan. 1, 2009 and Feb. 21, 2010, an issuer must consider the factors the card issuer currently considers when conducting the first two reviews unless the original APR increase was based solely upon factors specific to the member, such as a decline in the member’s creditworthiness, the member’s delinquency or default, or a violation of the terms of the account.

The obligation to review accounts every six months terminates once the card issuer reduces the rate to the same or lower rate (or to a variable rate based on the same index and margin) that existed prior to the APR increase. Otherwise, the requirement to re-evaluate an account every six months will continue for an indefinite period of time.

Notice of reasons for rate increases

The final rule requires card issuers to state no more than four principal reasons, listed in order of importance, for rate increases on the notice of change in terms provided 45 days in advance of a rate change.

The notice must specifically disclose any violation of the account terms which resulted in the increase, such as a late payment or a returned payment, if such a violation is one of the four principal reasons for the rate increase.

The notice should inform members of any specific behavior that gave rise to the rate increase and also inform them if the increase resulted from a decline in their creditworthiness or a change in market conditions.

Prohibited fees

Card issuers may not charge “inactivity” fees, such as fees based on an idle account or the member’s failure to use the account to make new purchases.

In addition, card issuers may not impose a fee for violating the terms of a credit card account when there’s no dollar amount associated with the violation. There’s no dollar amount associated with the following violations:

  • Transactions the card issuer declines;
  • Account inactivity;
  • Closing or termination of an account.

Furthermore, card issuers may not charge multiple penalty fees based on a single event or transaction such as a late payment or other violation of the account terms. For example, card issuers may not charge a late payment fee and a returned payment fee based on a single payment. A card issuer would be in compliance if it charged no more than one fee for violating the account terms during a billing cycle. If two fees were possible, the card issuer could decide which fee to charge, but could not charge both.

Mandatory compliance dates

Penalty fee disclosures provided in the summary table in credit card applications and solicitations, the summary table in account opening disclosures and in certain boxes on periodic statements, and the use of Model Forms associated with penalty fees have a mandatory compliance date of Dec. 1, 2010.

These summary tables and model forms will permit a penalty fee to be disclosed as “up to $25” instead of a specific amount such as $25.

By now credit unions should be thoroughly familiar with the process for insuring compliance with these new Reg Z open-end changes by the effective date. This entails endless meetings between compliance and management, as well as meetings with your data processor and forms supplier.

MICHAEL McLAIN is assistant general counsel for the Credit Union National Association. Contact him at 608-231-4185.