What’s in your wallet?
It’s estimated that 70% of American consumers have at least one credit card. A recent NerdWallet study reports that the average household has a credit card balance of $15,564. Collectively, consumer debt amounts to about $1 trillion.
The credit card industry is huge. According to Creditcards.com, of the 5,231 banks in existence in 2014, the top four issuers – Citigroup, JP Morgan, Bank of America and Capital One – provided more than 57% of all the cards issued. The top 10 issuers issued nearly 90% of the cards and captured 85% of outstanding loans, about $671 billion.
In the US, four companies dominate credit card networks. As you can guess, the companies are Visa, MasterCard, American Express and Discover. These companies are huge marketing machines. It’s important that you know how they operate and how they make their money so that you can avoid getting screwed.
There are four major ways credit card companies make their money.
1. Interchange Fees or Discount Revenue
Interchange fees are the amount a merchant pays to facilitate a credit card transaction. When you as a consumer use your credit card to make a purchase, the merchant pays the credit card company a percentage of the total transaction. The fee is generally deducted from the reimbursement the company sends the merchant i.e., if the total transaction was $100 and the fee is 2%, the merchant will only receive $98.
2. Interest Income
This is the money the company earns by extending credit to you, the consumer, and allowing you to make payments over time. When you don’t pay your balance off each month, the balance you consistently have is known as revolving credit and you are known as a revolver. Revolvers are dream customers. Credit card companies are able to charge revolvers double digit interest rates, ensuring that they pay a lot more for their purchases. Nerdwallet reports that the average person with a job working for someone else pays $843.40 in interest annually. Self-employed individuals pay $1193.50 and retirees pay $684 in annual interest on average.
3. Fees and Commissions
You’re probably very familiar with the multitude of fees associated with credit card transactions. Here are some popular ones:
Foreign currency conversion fees – Say you’re vacationing in Portugal and want to use your credit card to make purchases. When you agree to have a merchant show you the transaction amount in US dollars instead of the local currency, you incur a fee. You’re essentially being charged for the “convenience” of having the amount displayed to you in your currency. The only way to avoid this fee is to say no when the merchant asks if you’d like the option of seeing the total in dollars. If you know the exchange rate, you can always do the calculation yourself to get a generally idea of what the cost in dollars is.
Delinquency Fees – These fees are penalties for late or overdue payments. The easiest way to avoid these fees is to pay your bills on time.
Loyalty Coalition Related Fees – Coalition programs bring multiple retailers together. These retailers form a partnership to present you with a joint loyalty program. An example of this is the Plenti program by American Express, in which individuals can earn points at one retailer and use them at another. Credit card companies gain from the profitability of these programs, as well as the payments.
4. Card Fees
Most people are familiar with these fees. They are the annual fees you pay for the benefits that come with a certain card. The fees range in price, with the highest rate being a couple of hundred dollars. One could say that you’re essentially paying a credit card company for the “privilege” to use their card.
These are just a few sources of income credit card companies have. If you choose to you use a credit card, try not to incur unnecessary expenses. Don’t be afraid to call your credit card company to ask for a lower interest rate. I suggest that you do so annually. The first person you speak with will likely not give it to you, but always ask for the manager, and if he or she doesn’t help, ask for their manager. You may have to call a few times but, depending on how high your interest rate is, it could be worth it.
The same goes for the annual fee. You can call the company each year to have the fee waived. Again, you may have to talk to two or three people to get the waiver. Telling them that you’d like to close your account if they are unable to accommodate you will certainly do the trick. It’s much cheaper for them to waive the fee than it is to lose you.
Of course, the most efficient and effective way to avoid many of these costs is to always use cash or a debit card.
What unexpected fees have you ever been asked to pay?