Why you should care

Credit card rewards programs offer a shot at free airline tickets or cash back, and often deliver confusion. A new federal investigation could be good news for consumers. 

For millions of consumers, credit cards that offer cash back, free airline tickets and redeemable points have become a surrogate for cash. We use them to pay for virtually everything, from parking-meter fees and Cyber Monday gift purchases to medical bills and mortgage payments. And why not, since we know we’ll get those points or that plane ticket?

Celebrities such as Alec Baldwin and Samuel Jackson hawk these offers on TV like carnival barkers pitching a sideshow act. Seventy percent of direct-mail credit-card solicitations now promote such “reward” programs, as banks aim to make theirs your go-to card – you can even use rewards points to buy concert tickets. A whopping 80% of cardholder purchases are now made with rewards cards.

Whether it’s cash-back limits, ever-shifting eligible purchases categories, or triggers that wipe out a points balance, terms vary widely, governed by fine print.

But trying to choose between these programs can be as difficult as determining which of two eggs is fresh and which is rotten from their shells alone. Whether it’s cash-back limits, ever-shifting categories of purchases eligible for rebates, or triggers such as late payments that can wipe out a points balance, terms vary widely, governed by fine print.

That lack of standards and transparency prompted the U.S. Consumer Financial Protection Bureau (CFPB) on Nov. 14 to disclose that it is probing what Director Richard Cordray called the programs’ “detailed and confusing rules” and gauging whether “additional protections are needed.” As innocuous as that sounds, them’s serious fighting words.

If the nascent agency spawned by the financial collapse seeks to impose rules on a now unregulated practice of the credit card industry, the six megabanks that own nearly 80 percent of the market are all but certain to enlist allies in Congress to counter with charges of mission creep and government over-reaching.

“Rewards cards aren’t necessarily part of the credit terms but yet they’re so closely tied to credit cards,” says Lisa Hronek, a senior analyst for Chicago-based research firm Mintel. “In the eye of the consumer, more transparency is always a good thing.”

Nessa Feddis, a senior vice president at the American Bankers Association in Washington, says the reward-card market is highly competitive and sees no need for regulation. They’re merely customer loyalty programs and cardholders are free to jump to a different issuer if they find more attractive terms.

“Do you need to know every detail of a computer or insurance purchase?” asks Feddis. “At some point you just look at recommendations.”

Yet it is arguably the banking industry’s overreaching that regulations aim to curtail; namely, exacting a toll on every cent of an individual’s financial outlays amid the unfolding evolution to a cashless economy.

Back of African American couple looking at their paperwork on a table.

Source Corbis

For the majority of reward-card holders who pay off their balance monthly, that piece of plastic is really a transaction card rather than a lending instrument. For merchants, the 1.5% to 2.5% fees exacted seems a modest levy, but consider that translates to 18% to 30% annualized for fronting a purchase cost for about 30 days until interest kicks in on an unpaid balance. The banks assume the risk of non-payment, but that loss factor is built into higher interest rates charged for reward-card balances.

Banks exact a toll on every cent of an individual’s financial outlays amid the unfolding evolution to a cashless economy.

The consequence: Where banks once generated profits from passbook savings accounts and awarded free toasters for opening a checking account, they now thrive on “fee-based income” and the enticement of a free airline ticket for anyone racking up $40,000 in charges. In essence, the banking industry has morphed from an industry that promotes savings and thrift to one that profits from credit and debt.

The banking industry has morphed from an industry that promotes savings and thrift to one that profits from credit and debt.

The recent surge in reward-card promotions is due in part to the Federal Reserve Bank, which slaughtered the cash cow birthed by a technological advancement – debit-card transaction fees. When the Fed limited the amount banks could charge to a maximum of 21 cents in 2011, the industry abandoned modest debit-card reward programs and shifted the concept to credit cards.

Banks like reward programs because they make money on both ends of the transaction via swipe-fee income on the front end and interest income on back end. Rewards cards have also been shown to fuel less disciplined spending, which leads to greater profit.

The easy fix would be for the CFPB to require a “Schumer Box” for rewards programs as is now mandated for credit-card solicitations, says Ben Woolsey, director of marketing and consumer research for CreditCards.com, an online marketplace. Pushed by Sen. Charles Schumer, D-NY, in 1988, the black-outlined box in solicitation letters allows consumers to readily compare the costs of a card – including annualized percentage rates, annual card fees and grace periods – in a standard format.

Banks and credit-card networking giants Visa and MasterCard have yet to agree upon and perfect a system for mobile-payment apps, which means for now regulators’ attention is focused on the industry’s current push for rewards programs. A looming question is, how will the financial industry make money off the next development in cashless spending – perhaps requiring cardholders to view a 15-second video ad before a payment app loads on our cell phones and tablets?

“The banking industry will argue all this reward stuff is extra, and government is trying to come in and regulate something that’s never been under its purview,” Woolsey says. “What (the CFPB) is trying to achieve is a maximum level of uniformity and transparency so the consumer understands all the caveats involved in earning and redeeming rewards.”

CFPB Director Cordray gave no indication of when the agency would conclude its examination of rewards programs or what may result. Rest assured, in the interim, banking lobbyists will be striving to persuade the agency there’s no need to impose regulations. That you can bank on.

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