‘Ability to Pay’ Now the Rule in Credit Card Laws

Credit card purchasesWith reform comes major new challenges to credit card issuers who project significant revenue losses from compliance with the Credit CARD Act taking effect today, and one of the bigger hurdles may be a consumer’s “ability to pay.”
This rule may have the unwelcome effect of making it harder for some consumers to obtain cards at a time when credit availability remains tight. Previously, card applicants only disclosed their income, and most issuers didn’t ask for verification.
The Federal Reserve has given card issuers some leeway in allowing them to come up with their own “statistically sound model” to reasonably estimate an applicant’s income or assets.
The legislation’s “ability to pay” rule prohibits issuers from opening a new credit card account or increasing the credit limit for an existing account “unless the issuer considers the consumer’s ability to make the required payments under the terms of the account.”
This provision has also drawn an outcry from retailers who now must come up with a system for meeting the “ability to pay” requirements in-store, or at “point of sale,” and potentially convince customers to supply more detailed income information.
The credit card industry raised concerns to the Fed, the rulemaking authority on the credit card laws, that the new requirement raises privacy issues with customers. And that it would encourage many to abandon a sale requiring a protracted credit application.
“Therefore, card issuers and retailers may need to develop new procedures to obtain this information,” the Fed concluded in its final rule on the Credit CARD Act. “For point-of-sale credit line increases, card issuers and retailers believe this will negatively impact the consumer’s experience because a consumer may need to take extra steps to complete a sale, which may lead consumers to abandon the purchase.”
The Fed decided to allow card issuers to use third party sources to verify income and other information. And it left it up to the card issuer to use a “demonstrably and statistically sound model” that can reasonably estimate a consumer’s income or assets.
Card issuers, however, still have to tread carefully to be in compliance with the “ability to pay” provision.
A major hurdle for card issuers is figuring the exact amount of an applicant’s minimum payment at the time it is evaluating the consumer’s ability to pay.
The Fed came up with its own “reasonable” guidelines for estimating a consumer’s minimum payments and proposed a safe harbor – or legal protection – that issuers could use to satisfy this requirement.
The Safe Harbor makes it reasonable for card issuers to “estimate minimum payments based on a consumer’s utilization of the full credit line” for which the consumer is being considered.
The estimated minimum “must include mandatory fees and must include interest charges calculated using the annual percentage rate that will apply after any promotional or other temporary rate expires,” the Fed states.
Moreover, the Fed provides general guidance on factors that issuers must review, including the consumer’s income or assets “as well as current obligations, and a creditor must establish reasonable policies and procedures for considering that information.”
When evaluating a consumer’s ability to pay, the Fed requires issuers to consider:

  • the ratio of debt obligations to income;
  • the ratio of debt obligations to assets;
  • or the income the consumer will have after paying debt obligations (i.e., residual income)

Furthermore, the law’s “ability to pay” provision “provides that it would be unreasonable for an issuer not to review any information about a consumer’s income, assets, or current obligations, or to issue a credit card to a consumer who does not have any income or assets.”
For an overview of the new reform’s provisions: Fed Finalizes ‘Milestone’ Credit Card Reform Rules 
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