Credit card cost

Credit card issuers (banks) have several types of costs:

[edit] Interest expenses

Banks generally borrow the money they then lend to their customers. As they receive very low-interest loans from other firms, they may borrow as much as their customers require, while lending their capital to other borrowers at higher rates. If the card issuer charges 15% on money lent to users, and it costs 5% to borrow the money to lend, and the balance sits with the cardholder for a year, the issuer earns 10% on the loan. This 10% difference is the "net interest spread" and the 5% is the "interest expense".

[edit] Operating costs

This is the cost of running the credit card portfolio, including everything from paying the executives who run the company to printing the plastics, to mailing the statements, to running the computers that keep track of every cardholder's balance, to taking the many phone calls which cardholders place to their issuer, to protecting the customers from fraud rings. Depending on the issuer, marketing programs are also a significant portion of expenses.

[edit] Charge offs

When a consumer becomes severely delinquent on a debt (often at the point of six months without payment), the creditor may declare the debt to be a charge-off. It will then be listed as such on the debtor's credit bureau reports (Equifax, for instance, lists "R9" in the "status" column to denote a charge-off.)
A charge-off is considered to be "written off as uncollectable." To banks, bad debts and even fraud are simply part of the cost of doing business.
However, the debt is still legally valid, and the creditor can attempt to collect the full amount for the time periods permitted under state law, which is usually 3 to 7 years. This includes contacts from internal collections staff, or more likely, an outside collection agency. If the amount is large (generally over $1500–$2000), there is the possibility of a lawsuit or arbitration.

[edit] Rewards

Many credit card customers receive rewards, such as frequent flyer points, gift certificates, or cash back as an incentive to use the card. Rewards are generally tied to purchasing an item or service on the card, which may or may not include balance transfers, cash advances, or other special uses. Depending on the type of card, rewards will generally cost the issuer between 0.25% and 2.0% of the spread. Networks such as Visa or MasterCard have increased their fees to allow issuers to fund their rewards system. Some issuers discourage redemption by forcing the cardholder to call customer service for rewards. On their servicing website, redeeming awards is usually a feature that is very well hidden by the issuers. With a fractured and competitive environment, rewards points cut dramatically into an issuer's bottom line, and rewards points and related incentives must be carefully managed to ensure a profitable portfolio. Unlike unused gift cards, in whose case the breakage in certain US states goes to the state's treasury, unredeemed credit card points are retained by the issuer.

[edit] Fraud

In relative numbers the values lost in bank card fraud are minor, calculated in 2006 at 7 cents per 100 dollars worth of transactions (7 basis points).^[18] In 2004, in the UK, the cost of fraud was over £500 million.^[19] When a card is stolen, or an unauthorized duplicate made, most card issuers will refund some or all of the charges that the customer has received for things they did not buy. These refunds will, in some cases, be at the expense of the merchant, especially in mail order cases where the merchant cannot claim sight of the card. In several countries, merchants will lose the money if no ID card was asked for, therefore merchants usually require ID card in these countries. Credit card companies generally guarantee the merchant will be paid on legitimate transactions regardless of whether the consumer pays their credit card bill. Most banking services have their own credit card services that handle fraud cases and monitor for any possible attempt at fraud. Employees that are specialized in doing fraud monitoring and investigation are often placed in Risk Management, Fraud and Authorization, or Cards and Unsecured Business. Fraud monitoring emphasizes minimizing fraud losses while making an attempt to track down those responsible and contain the situation. Credit card fraud is a major white collar crime that has been around for many decades, even with the advent of the chip based card (EMV) that was put into practice in some countries to prevent cases such as these. Even with the implementation of such measures, credit card fraud continues to be a problem.

[edit] Promotion

Promotional purchase is any purchase on which separate terms and conditions are set on each individual transaction unlike a standard purchase where the terms are set on the cardholder’s account record and their pricing strategy. All promotional purchases that post to a particular account will be carrying its own balance called as Promotional Balance.

[edit] Revenues

Offsetting costs are the following revenues:

[edit] Interchange fee

Main article: Interchange fee

In addition to fees paid by the card holder, merchants must also pay interchange fees to the card-issuing bank and the card association.^[20][21] For a typical credit card issuer, interchange fee revenues may represent about a quarter of total revenues.^[22]
These fees are typically from 1 to 6 percent of each sale, but will vary not only from merchant to merchant (large merchants can negotiate lower rates^[22]), but also from card to card, with business cards and rewards cards generally costing the merchants more to process. The interchange fee that applies to a particular transaction is also affected by many other variables including: the type of merchant, the merchant's total card sales volume, the merchant's average transaction amount, whether the cards were physically present, how the information required for the transaction was received, the specific type of card, when the transaction was settled, and the authorized and settled transaction amounts. In some cases, merchants add a surcharge to the credit cards to cover the interchange fee, encouraging their customers to instead use cash, debit cards, or even cheques.

[edit] Interest on outstanding balances

Interest charges vary widely from card issuer to card issuer. Often, there are "teaser" rates in effect for initial periods of time (as low as zero percent for, say, six months), whereas regular rates can be as high as 40 percent. In the U.S. there is no federal limit on the interest or late fees credit card issuers can charge; the interest rates are set by the states, with some states such as South Dakota, having no ceiling on interest rates and fees, inviting some banks to establish their credit card operations there. Other states, for example Delaware, have very weak usury laws. The teaser rate no longer applies if the customer doesn't pay their bills on time, and is replaced by a penalty interest rate (for example, 23.99%) that applies retroactively.

[edit] Fees charged to customers

The major fees are for:

• Late payments or overdue payments
• Charges that result in exceeding the credit limit on the card (whether done deliberately or by mistake), called overlimit fees
• Returned cheque fees or payment processing fees (e.g. phone payment fee)
• Cash advances and convenience cheques (often 3% of the amount)
• Transactions in a foreign currency (as much as 3% of the amount). A few financial institutions do not charge a fee for this.
• Membership fees (annual or monthly), sometimes a percentage of the credit limit.
• Exchange rate loading fees (sometimes these might not be reported on the customer's statement, even when applied).^[23] The variation of exchange rates applied by different credit cards can be very substantial, as much as 10% according to a Lonely Planet report in 2009.^[24]