CFPB Issues Credit Card Penalty Fees Final Rule
The Consumer Financial Protection Bureau ("CFPB") issued a final rule to restrict credit card late fees, which marks the latest expansion of the Biden Administration's "junk fee" initiative. The final rule amends Regulation Z, which implements the Truth in Lending Act ("TILA"), to address late fees charged by card issuers that, together with their affiliates (which likely include many private label and co-branded card issuers), have one million or more open credit card accounts (Larger Card Issuers). Large Card Issuers comprise over 95 percent of total outstanding credit card balances. Smaller banks and credit unions (those card issuers that together with their affiliates had fewer than one million open credit card accounts for the entire preceding calendar year) will not be affected (Smaller Card Issuers).
The Credit Card Accountability Responsibility and Disclosure Act of 2009 (CARD Act), among other things, prohibited credit card companies from charging excessive penalty fees, though they were allowed to charge "reasonable and proportional" fees to incentivize on-time payment and cover the costs associated with late payments. In 2010, the Federal Reserve issued a regulation implementing the CARD Act to provide that banks could only charge fees that recover the bank’s costs associated with late payment. However, the rule included an "immunity exception" that exempted credit card companies from the "reasonable and proportional" penalty fee requirement, as long as the card companies charged no more than $25 for the first late payment, and $35 for subsequent late payments, with both amounts to be adjusted for inflation each year.
According to the CFPB, those amounts have increased to $30 and $41, respectively, even as credit card companies have moved to cheaper, digital business processes. The Dodd-Frank Act transferred authority for administering CARD Act rules from the Federal Reserve to the CFPB, which is the issuing authority for the new rule.
The key provisions of the final rule:
- Lower the immunity exception for late fees to $8: The CFPB believes that a late fee of $8 would be sufficient for larger card issuers, on average, to cover collection costs incurred as a result of late payments. The final rule also eliminates, for late fees, a higher safe harbor dollar amount for subsequent violations of the same type that occur during the same billing cycle or in one of the next six billing cycles.
- Revise the Regulation Z safe harbor threshold amounts for fees imposed by card issuers for violating the terms or other requirements of an account to $32 for a first violation penalty fee and $43 for each subsequent violation of the same type that occurs during the same billing cycle or in one of the next six billing cycles: These revised thresholds, which reflect annual adjustments to reflect changes in inflation, apply to penalty fees other than late fees for all card issuers (i.e., Smaller Card Issuers and Larger Card Issuers), as well as late fees imposed by Smaller Card Issuers.
- End automatic annual inflation adjustments for the $8 late fee threshold for issuers that have 1 million or more open accounts: This adjustment was included in the prior Federal Reserve regulation and is not required by law, and the CFPB found that many credit card issuers increased their late fees in lockstep each year without evidence of increased costs. Instead, the CFPB will monitor market conditions and adjust the $8 late fee immunity threshold as necessary.
- Allow larger card issuers to charge fees above the threshold so long as they can prove the higher fee is necessary to cover their actual collection costs. For purposes of the cost analysis, issuers may not include any collection costs that are incurred after an account is charged off pursuant to loan loss provisions.
- Clarify that costs for purposes of determining penalty fee amounts may not include any collection costs that are incurred after an account is charged off pursuant to loan loss provisions: This clarification applies to all card issuers that use the cost analysis provisions in Regulation Z for determining penalty fee amounts, including late fees.
The effective date of the final rule will be 60 days after publication of the rule in the Federal Register.
Commentary
The CFPB made several changes from its proposed rule, including not subjecting Smaller Card Issuers to the same requirements as Large Card Issuers and not limiting late fee amounts to 25 percent of the required minimum payment. The final rule also does not implement any courtesy period for late fees or other penalty fees at this time. Accordingly, the CFPB asserted that the full impact of the final rule is more limited than the possible requirements in the proposed rule.
According to CFPB estimates, American families will save more than $10 billion in late fees annually once the final rule goes into effect by reducing the typical fee from $32 to $8 (which amounts to an average savings of $220 per year for the more than 45 million people who are charged credit card late fees). That said, the reduction of the safe harbor to $8 is a negative development both for the industry (as it is a significant reduction in late fee revenue for the Larger Card Issuers) and consumers. For consumers, the question is whether the reduction in late fees may lead to higher interest rates, the tightening or elimination of rewards programs, or decreased access to credit, even for cardholders that pay their bills on time. Larger Card Issuers could also increase minimum payment amounts or adjust credit limits to reduce credit risk associated with consumers who make late payments. The final rule does not change the credit card issuer’s ability to raise interest rates, reduce credit lines, and take other actions to deter consumers from paying late.
We expect the final rule to be the subject of litigation challenges from industry, as industry representatives are already labeling the rule as “misguided.”
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