Statement of Mark Pearce, President, Center for Responsible Lending

The Plastic Safety Net: The Reality Behind Debt in America

October 12, 2005

Good morning. I am Mark Pearce, President of the Center for Responsible Lending. I want to start by thanking Tamara and Demos for spearheading this project and for allowing us the opportunity to work with them. We have learned a great deal.

The results from our survey show that, when it comes to managing credit cards, American families are upholding their end of the bargain. They are using credit cards judiciously and trying to pay them down responsibly. Seven out of ten low- and middle-income credit card customers use credit cards to pay for everyday expenses — car repairs, medical bills, groceries. Nine out of ten try to pay more than the monthly minimum, and most say they have cut back on discretionary expenses over the past six months to reduce their debt.

Unfortunately, the credit card industry has not upheld its end of the bargain. Instead of helping families manage debt and financial stress, credit card companies have made it harder for families to manage their finances. It is time we restore fairness to the credit card relationship. We have the following recommendations:

First, fairness requires that a deal is deal. Credit card companies not only dictate the terms of the bargain, but they also claim the right to change those terms at any time. Let me read a typical line from a credit card contract, “We reserve the right to change the terms at any time for any reason.” We recommend that any changes in credit card terms only apply to future activity and only after reasonable notice. So, if the credit card company wants to increase my rate to 30%, then it should only apply to new purchases, not to the charge I made for car repairs last month.

Second, fairness requires that when borrowers uphold their end of the deal, they will not be penalized. In today’s credit card world, a customer that pay the credit card bill on time can still face penalties by the card company in the event the customer sends a payment late to the phone company or another business. The card company uses this late payment to another partyas an excuse to raise the interest rate on your credit card. Called “universal default,” this provision penalizes customers for actions outside of the credit card relationship.

Third, fairness requires credit card pricing and underwriting to be related to risk. Responsible lending requires responsible pricing. Today, even if your credit card payment arrives in the mail on the due date, you can be charged a $35 fee if the company doesn’t have it by a set time – say 1:00 pm. For many Americans, sending in this “late payment” leads to an interest rate jump of 25% or more. That 25% penalty rate now applies to the entire outstanding balance, turning a minor misstep into a major problem. This year, credit card companies will rake in $16 billion in penalty fees alone. This penalty-pricing trap must be dismantled. Our report describes a few simple steps that would end this trap.

Responsible lending also requires responsible underwriting. Five billion credit card solicitations went out last year – an average of 16 solicitations for every man, woman, and child in this country. Credit card companies blanket college campuses with solicitations to unemployed students. Some of the people we contacted in our survey had credit card debt that exceeded their annual incomes. We believe that sound underwriting requires an individual determination of ability to repay on the front end, not a justification for penalty-pricing on the back end.

Fourth, fairness requires meaningful access to justice. Most credit card companies require that borrowers give up their right to pursue their claims in a court of law. Instead, borrowers must undergo a private system of arbitration, where fees can be substantial, the scales are tilted toward the card companies, and abuses can be hidden from view. We must end binding mandatory arbitration in credit card relationships.

The credit card industry bears responsibility for making it difficult for families to escape debt, but we also believe policymakers can do more to help American families as they face less economic security. Our report does not propose specific solutions, but we offer a few broad recommendations, driven from the data gathered in our survey.

First, we need to do more to promote savings. Most of our survey respondents using credit cards for basic needs had less than $1,000 in savings. Let’s make it easier for families to get on the path to wealth building, so that they can handle emergencies without relying on credit cards.

Second, we need to find ways to improve wages for working families. The cost of living in many parts of the country is going through the roof, but incomes have not kept up. Our survey found that most of the families using credit cards for basic expenses earned between $20,000 and $50,000 a year. We need to do more so that they don’t have to look to debt to supplement their income.

Third, we need to address insurance problems. Many families in our survey connected their credit card debt level to earlier medical expenses or to layoffs. Given the rising cost of health care and the reality of occasional layoffs, we need to do more to enable families to weather bad health and economic changes.

Next week, the new bankruptcy law will take effect, which will make it harder for families to get a fresh start from debt. Regardless of the wisdom of this legislation, we believe policymakers and card companies owe it to the over 144 million Americans with credit cards to make these relationships fairer and less necessary than they are today; otherwise, the plastic safety net will continue to stretch and working families will find themselves unable to build a better future.