OCTOBER 2006 :: BIG BUSINESS

Loss of Balance
Credit Card Issuers' Problem: People Are Paying Their Bills

By Robin Sidel
Staff Reporter of The Wall Street Journal

The credit-card industry has a problem: Although Americans are deeper in debt than ever, they are paying off bigger portions of their monthly credit-card bills.

For card issuers, which profit by collecting interest on unpaid balances, that's bad news. "Normally at this point in the economic cycle, you start to see payment rates decline. But that's not happening," says Richard Srednicki, who runs the credit-card business at J.P. Morgan Chase, the nation's No. 2 card issuer. "It is a tougher business if payment rates continue to stay up and consumers continue to pay off more."

Although consumers are using plastic for more of their daily purchases, they are giving card issuers fits by juggling their debts more shrewdly. When cardholders are hit with high interest rates on one card, they routinely transfer balances to new cards at lower rates. And in recent years, more consumers wiped out credit-card debts altogether by borrowing against their home equity.

Home-equity loans have a few big advantages over credit cards: they typically carry lower interest rates, because the loan is secured by the house; the interest rate is usually fixed, whereas credit-card rates can go up over time; and the interest can be tax-deductible.

To make matters worse for card issuers, federal bank regulators issued new guidelines in 2003 meant to encourage cardholders to pay off more each month than just the fees and interest charges that have accumulated. To comply, many banks have raised minimum-payment requirements, bumping up the payment rate further.

This past March, U.S. cardholders paid down 20.6% of total credit-card debt, up from 17.9% a year earlier, according to an analysis by Barclays Capital of one $400 billion segment of the market. That was the highest payoff rate in five years. According to the Federal Reserve, during the fourth quarter of 2005, consumer debt represented 5.71% of total homeowner debt, down from 6.4% in the fourth quarter of 2000. That was the lowest level in a decade.

Still Borrowing

American consumers have not curbed their appetites for borrowing. But an increasing portion of their total debt went to mortgages and home-equity loans, which ballooned in recent years as interest rates fell.

Last year, banks recorded pretax profits of $30.6 billion on credit-card operations, down 3% from 2004, the first such decline since 1998, according to CardWeb.com, a firm that tracks the industry.

Card issuers are trying to replace the lost interest revenue by increasing late-payment fees and raising interest rates for customers who are unable to pay their bills in full. In an effort to build customer loyalty and increase spending, issuers have launched a slew of new cards and have introduced new checkout-counter technologies to encourage more card use. They have spent billions of dollars to grow through acquisitions, buying rival card issuers and specialized credit-card portfolios from retailers.

Consumers such as Nadine Bode, a Minnesota factory worker, are contributing to the industry's woes. Ms. Bode, 51, had been shelling out more than $300 a month in payments to Citigroup, Capital One and GMAC for cards carrying interest rates as high as 25%, she says. When she inquired recently at a Wells Fargo branch about a car loan for her 18-year-old daughter, she discovered she could wipe out all her credit-card debt with an $18,000 home-equity loan, at a fixed rate of 12%, she says. She signed on the dotted line. For the next three years, she says, she will owe Wells Fargo just $210 a month. "I can breathe now," she says.

Jim Raley, a 34-year-old choreographer from Atlanta, says he puts nearly all his monthly expenses on a Delta SkyMiles credit card, issued by American Express. Each month, he pays off his entire bill, which runs between $3,000 and $4,000. He pays no interest, he says, and earns substantial frequent-flier rewards, which are funded by American Express. Mr. Raley, who used to work as a Delta flight attendant, says that after falling $14,000 into debt to three credit-card companies a decade ago, he vowed never again to carry a balance. "I am one of their nightmare customers because I don't let the balance revolve at all," he says.

'Chipping Away'

An American Express spokesman says customers such as Mr. Raley still generate revenue for the company in several ways. He pays an annual fee for his card, for example, and merchants pay American Express a fee on each transaction. "If you have someone who uses their card, is a high spender and pays their bills on time, they are an attractive customer for us," says American Express spokesman Michael O'Neill.

Tiffany Brown, 29, a graphic designer from Tucker, Ga., used to be one of the credit-card industry's best customers. She is determined to change that. By last July, Ms. Brown had amassed nearly $20,000 of debt on five credit cards, she says. She never missed a payment, she says, but couldn't afford to pay off much of the principal.

It dawned on her that the roughly $800 she was paying each month to card issuers and for rent could be going toward a home mortgage. She mapped out a plan to pay off her debt by slashing expenses ranging from telephone service to meals to rent. In February, she paid off her $534.91 debt to Bank of America's MBNA unit. She consolidated $17,000 of other debts on a MasterCard issued by Citigroup. An emergency root canal, however, raised her card debt by $2,000.

"It's going to take time," she says. "But I'll keep chipping away at it. My goal is to get out of debt-eventually."