A few widespread credit industry practices are preventing millions of credit card users from reaping the full benefit of the Federal Reserve's aggressive interest rate cuts this year.
Although the Fed has slashed rates by 2.5 percentage points since early January, some banks have stopped lowering rates on their variable-rate credit cards.
These rates are supposed to be tied directly to changes in the prime rate, which has fallen in tandem with the Fed cuts. Although the prime has fallen 26.3% since Jan. 1, the average rate on a variable-rate credit card has come down only 8.1%.
"The rate cuts have really benefited the banks more than the consumer," said Robert McKinley, chief executive of CardWeb.com, a credit card Web site.
McKinley expected credit card holders to save $1.2 billion to $2 billion on each of the Fed's five half-point rate cuts since January. Some of those savings were to come from lower interest charges on variable-rate credit cards--which account for about half of the roughly 350 million outstanding bank charge cards--and the rest from lenders lowering interest rates on fixed-rate cards as a competitive step.
Now, with credit card delinquencies rising, it's unlikely that issuers of fixed-rate cards are in the mood to voluntarily cut rates. Worse, millions of variable-rate card holders might have seen the last of the benefits from the Fed rate cuts because of the fine print in their credit card agreements.
In the case of variable-rate cards, the biggest culprit is something called an interest floor, which sets a minimum rate below which a particular credit card's interest charges will not go, said Greg McBride, financial analyst with Bankrate.com, a Florida-based rate-tracking firm.
No one knows precisely how many variable-rate cards have these floors, but estimates run as high as 30%.
"As we get down to some pretty attractive interest rates, more and more borrowers will find that they've hit the rate floor," said Frank B. Martien, senior consultant with First Annapolis Consulting in Linthicum, Md.
Here's an example of how an interest floor works, using a card issued by First USA, the credit card division of Bank One Corp. of Chicago, the nation's third-biggest credit card issuer.
"Smart Visa" cards advertised on First USA's Web site promise a variable rate based on the current prime rate, plus 6.9 percentage points. That should translate to a 13.9% interest rate now that the prime rate is at 7%. However, the cardholder agreement has a catch: a rate floor that says the interest charged on this card can never fall below 15.9%.
For a customer with a $5,000 revolving credit balance, that floor adds about $100 a year in interest charges.
First USA spokesman Jeff Unkle couldn't say how many of the company's cardholders are affected by this particular rate floor; the company has hundreds of different credit card agreements.
However, the vast majority of First USA's credit cards do have some rate floor, and many of them have been triggered by the Fed rate cuts, he said.
In fact, all the nationally available credit cards listed recently on the company's Web site had rate floors, most in the 14.9%-to-15.9% range. Those rates are 1 to 2 percentage points above what consumers would pay on those cards if the rate floors didn't exist.
Unkle said the Web listings are a bit out of date. The company offers new credit card customers lower interest rate floors, currently 13.49%. However, those new rate offers don't affect most of First USA's existing 50 million variable-rate card holders.
The same holds true for the roughly 4.2 million variable-rate credit card customers of San Francisco-based Wells Fargo & Co. The bank has three standard-rate cards: one priced at prime plus 4 percentage points, one at prime plus 7.4 percentage points and one at prime plus 9.4 percentage points.
If it weren't for rate floors, the current rates on these cards would be 11%, 14.4% and 16.4%, based on the current 7% prime rate. But the actual rates are stuck more than half a percentage point above those levels because of interest rate floors, said Susan Stanley, a Wells Fargo spokeswoman.
But it's not just rate floors that are bedeviling consumers. There's also a matter of timing.
"When [interest rates] go up, it seems as if the cost is passed on to the consumer instantaneously," CardWeb.com's McKinley said. "But there's a long lag before customers start to receive the benefits of rates coming down."
Here's why: Most credit card issuers adjust the interest rates on their variable-rate cards every three months. That means that millions of consumers had to wait until April to get the benefit of the Fed's cuts in January, February and March. And they'll have to wait until July to get the benefit of the April and May cuts.