The Federal Reserve Board recently finalized a rule amending the open-end credit rules under Regulation Z. The new rule significantly impacts the disclosures credit card lenders have to give at all stages from solicitation through servicing, and it imposes certain substantive limitations in connection with credit card accounts. On the same date the Board published its changes to Regulation Z, the Board, along with the Office of Thrift Supervision and the National Credit Union Administration, exercised their authority under the Federal Trade Commission Act to enact new regulations that prohibit unfair or deceptive acts and practices in connection with consumer credit card accounts (“UDAP Rule”).
Both the Regulation Z amendments and the UDAP Rule will likely require creditors to implement extensive programming changes to address new disclosures (particularly, new format requirements), and, perhaps, to modify existing practices with respect to credit card accounts they offer and service. The good news is that there is some lead time – both new rules become effective on July 1, 2010. This article hits the highlights - but you can read the rules in their entirety beginning at 74 Fed. Reg. 5244, published on January 29, 2009.
Regulation Z Amendments
The Board’s stated goal in revising the open-end rules (referred to as the “Credit Card Rules” or the “Rule”) is to improve the effectiveness of the Regulation Z disclosures that lenders must provide to consumers in connection with open-end accounts. Some of the major changes to the Credit Card Rules include:
A. Solicitations and Applications
The Rule amends the format requirements for credit card application disclosures and changes the required content of those disclosures, particularly with respect to the disclosure table required under the current rules (often called the “Schumer Box”). The Rule includes requirements regarding type size, the use of boldface type for certain key terms, and the placement of information required to be disclosed. Creditors also will be required to disclose the duration for which penalty rates may be in effect. In addition, the Rule simplifies disclosures for variable rate card programs and amends the provisions regarding disclosure of grace periods.
B. Account Opening Disclosures
To avoid confusion over what is a finance charge, what is an “other charge,” and what is not subject to disclosure, the Regulation Z amendments specify precisely the charges that creditors must disclose in writing at account opening (interest, minimum charges, transaction fees, annual fees, and penalty fees such as fees for paying late). The Rule requires creditors to provide disclosures of these charges in a new table, which is similar to the Schumer Box required with solicitations of cards, discussed above (but there are a few differences). Additional information is required to be disclosed outside of the summary table.
C. Periodic Statements
The Rule requires the creditor to mail or deliver the periodic statement at least 14 days prior to any date or the end of any time period required to be disclosed for the consumer to avoid any additional finance or other charge (grace period). Creditors that fail to satisfy this obligation are precluded from collecting any finance or other charge imposed as a result of their failure.
There are also significant changes to how periodic statement disclosures are provided. Generally speaking, the Rule requires creditors to group all fees together and to separately itemize interest charges by transaction type, and to describe them in a manner consistent with consumers’ general understanding of costs (“interest charge” or “fee”), without regard to whether they are finance charges, “other charges,” or neither finance charges nor other charges. Interest charges must be identified by type (interest on purchases or interest on balance transfers, for instance), as must fees (for example, cash advance fee or late payment fee). Further, creditors must disclose (a) the total fees and (b) total interest for the cycle, as well as year-to-date totals for each.
Because the Board felt that the disclosures identified above are more useful in highlighting the true costs of credit during the cycle than the historical, or effective, APR disclosure currently required, the Rule eliminates the requirement to disclose the historical/effective APR.
The Rule includes requirements to disclose in the periodic statement information about late payments and the effect of making only minimum payments.
D. Change in Terms
The Rule requires creditors to provide a written notice of change in terms at least 45 days prior to a change in any term required to be disclosed at account opening or any increase in the required minimum periodic payment. The 45-day requirement does not apply if the consumer has agreed to a particular change, but the creditor must deliver notice before the effective date of the change.
Among other changes, the 45-day notice rule applies to an increase in rate due to delinquency or default, or as a penalty. The notice must be sent after the occurrence of the triggering event, but at least 45 days prior to the penalty rate taking effect. There are specific formatting requirements for the communication informing the consumer about the change. For example, when a notice of change in terms is given with the periodic statement, the creditor must provide a tabular disclosure showing the key terms being changed on the front side of that periodic statement.
E. Additional Protections
Among other protections, the new Credit Card Rules impose the following requirements:
(1) Advertisements of Periodic Payments: Ads stating a periodic payment amount for an open-end credit plan for the purchase of goods or services must state, in equal prominence to the periodic payment amount, the time period required to pay the balance and the total of payments if only minimum periodic payments are made.
(2) Advertising “Fixed” Rates: Ads may refer to a rate as “fixed” if the advertisement specifies a time period the rate will be fixed and the rate will not increase during that period. If a time period is not specified, the ad may refer to a rate as “fixed” only if the rate will not increase while the plan is open.
(3) Introductory & Promotional Rates: If any APR that may be applied to an account is an introductory rate, the term “introductory” or “intro” must be in immediate proximity to each listing of the rate in a written or electronic advertisement.
(4) Cut-Off Times and Due Dates for Mailing Payments: Creditors are obligated to credit a payment to the account on the date of receipt, unless the delay in crediting does not result in any charges to the consumer. The Rule allows the creditor to identify reasonable requirements for payments that enable consumers to make conforming payments. For example, the Rule identifies 5:00 p.m. as a reasonable time for cut-offs for crediting payments. If a creditor does not receive or accept mailed payments on the due date of the payment (for example, Sundays or holidays), then a payment received on the next business day must be considered timely.
UDAP Rule
Upon the effective date of the UDAP Rule, creditors will be subject to new substantive limitations and requirements in connection with the credit card accounts they offer and service. In particular, creditors are subject to the following limitations under the UDAP Rule:
A. Requirement of Reasonable Time to Make Payment
Creditors cannot treat a payment as late for any purpose unless the consumer has been given a reasonable amount of time to make the payment. The UDAP Rule gives institutions a safe harbor if they adopt reasonable procedures designed to ensure that periodic statements are mailed or delivered to the consumer at least 21 days before the payment due date.
B. Allocation of Payments
In response to concerns that institutions were applying consumers’ payments in a manner that inappropriately maximized interest charges when an account included balances at different annual percentage rates, the UDAP Rule requires creditors to allocate amounts paid in excess of the minimum payment either by applying the entire amount that exceeds the minimum payment first to the balance with the highest APR, or by splitting the amount pro rata among the balances. In other words, the UDAP Rule prohibits creditors from applying excess payments to the lowest rate balances first.
C. Increase in Rates
The UDAP Rule requires institutions to disclose at account opening the APR that will apply to each category of transactions on the account. A range of rates or “up to” disclosure of rates is not permitted. The UDAP Rule also prohibits creditors from increasing the APR for any category of transactions, except under limited circumstances, including increases pursuant to disclosures provided at account opening, variable rate formula outside of the creditor’s control, change in terms notices provided under Regulation Z, and due to delinquency or failure to comply with a workout plan.
Notably, the Supplementary Information published with the UDAP Rule makes it clear that the Agencies intended for this regulatory change to prohibit deferred interest arrangements, which typically are marketed as “interest free”’ for a specified period (such as a year) and are often offered to promote large purchases such as furniture or appliances on credit. Under these arrangements, although interest is not charged to the account during that period, interest accrues at a specified rate. If the consumer violates the account terms or fails to pay the purchase balance in full before expiration of the period, the institution retroactively charges the consumer all interest accrued from the date of purchase.
The Agencies note, however, that the final rule does not preclude institutions from offering consumers 0% promotional rates for specified periods so long as they disclose the rate that will apply thereafter, or plans where interest is assessed on purchases at a disclosed rate for a period of time but the interest charges are waived or refunded if the principal is paid in full by the end of the period.
D. Two-Cycle Billing
Creditors will be prohibited from imposing finance charges on balances for days in prior billing cycles when such charges are imposed as a result of the loss of a grace period, a practice sometimes referred to as “two-cycle billing” or “double-cycle billing.”
E. Financing of Security Deposit and Fees
Creditors will be prohibited from financing security deposits or fees for issuance or availability of credit during the first year after account opening, if those deposits and fees consume the majority of available credit for the account. Further, security deposits and fees that exceed 25% of the credit limit must be spread over no less than the first 6 months, rather than charged as a lump sum in the first billing cycle.
As you can see, the Regulation Z amendments and the UDAP Rule include large-scale changes to the credit card disclosure rules and impose new substantive limitations in connection with the marketing, opening and servicing of such accounts. Careful review of the nuances and implications of the Credit Card Rules will be required to implement program and system changes. Given the breadth of these changes, creditors should begin their efforts to comply with the new requirements early.
Dan Laudicina is a partner in the Maryland office of Hudson Cook, LLP. Basis Points readers can reach Dan at 410-865-5435 or by email at dlaudicina@hudco.com.