Author Mark Richards

3.3m people in the UK have persistent credit card debt. Now the Financial Conduct Authority is suggesting that the credit card companies should help them…

You probably have not read a book called Looking Backward, by the 19th Century writer Edward Bellamy. It’s a Utopian novel about a young man who is put into a hypnotic sleep in 1887. He wakes up in the year 2000 to a world where war, crime and want no longer exist – and citizens receive a ‘dividend’ from the government. They spend this dividend by means of a credit card…

That was the first time the phrase ‘credit card’ appeared: Bellamy used it 11 times in the novel, but citizens – at least in the UK – had to wait another 79 years to see one for real. In 1966 (yes, the year England won the World Cup) Barclaycard was introduced to the UK, swiftly followed by Access, with its promise to ‘take the waiting out of wanting.’

Since then credit cards have become an integral part of most people’s lives. And for many people, they make life a lot easier. But – as we wrote recently – just as there are some people who are good at Maths and others who will never master the subject, so it is with money. Some are good with their money: others always seem to be struggling to manage it.

And for some people, credit cards, rather than being a short-term way of managing credit, turn into very expensive long term borrowing. We all know someone who has run up an excessive amount on credit cards: someone who never stops taking the ‘waiting out of wanting.’

The story is always the same: “They just kept extending my credit limit” or “Every card I applied for gave me a bigger limit.” Yes, excessive credit card debt can and is caused by someone’s inability to manage their money – but there are also reasonable suspicions that the credit card companies do not underwrite the ‘ability to pay’ properly and allow people to accumulate too much debt.

The FCA takes action on Credit Cards

Now the Financial Conduct Authority (FCA) has ordered the credit card companies to do more to help those people – it estimates there are 3.3m of them – who are in ‘persistent debt.’ With charges and long-term interest, customers in persistent debt can be very profitable for the credit card companies. The FCA proposals could ultimately see interest and/or charges cancelled in extreme cases.

How does the FCA define credit card debt?

Very simply. The regulator defines someone as being in credit card debt if they have paid more in interest and charges than they have repaid (from the original borrowing) over an 18 month period. The FCA says that these customers are highly profitable, and therefore the credit card companies do not routinely intervene to help them.

The FCA commented that

 “persistent debt can be very expensive, costing customers on average around £2.5 in interest and charges for every £1 repaid. Because these customers are profitable, firms have very little incentive to intervene and help them.”

The FCA wants to change this so that firms and their customers will deal with the situation more quickly, and avoid persistent debt building up in the first place.

Examples of credit card repayments

Let us take a look at some of the numbers, which illustrate the problem all too clearly:

  • A customer who borrows £3,000 on a card with an APR (annual percentage rate) of 19% and only makes the minimum payments – which would start at £74 per month – would take more than 27 years to pay off the debt: paying interest along the way of £4,192
  • If the customer fixed the payments at £74 per month and did not take out any more credit then the debt would be paid off in just over five years – with total interest payable of £1,576
  • But monthly repayments of £108 per month would see the debt paid in just three years, with total interest payable of £879

What are the FCA proposing?

The FCA has made three basic proposals:

  • Firms should prompt customers to make bigger repayments after 18 months of having a credit card
  • After three years, the providers must propose a repayment plan to clear the debt more quickly
  • If the customer still cannot to repay the main debt, then the firms should waive, cancel or reduce interest and charges.

The FCA said it expected the measures to lead to savings from lower interest payments, fewer charges and faster repayments – estimating that by 2030 the savings to customers could be between £3bn and £13bn. A sceptic might say that was a very long time frame and very wide estimate.

How has the industry responded?

plastic is toxic

The FCA has given the credit card industry until July to respond. Predictably the initial reaction has been warm: the industry has said that it “welcomes” the findings and “remains committed to helping the minority of customers who do not use a card in their best interests.”

But with Bank of England figures suggesting that levels of personal debt are accelerating in the UK and with the savings ratio at its lowest level since the 1960s, debt advice charity StepChange fears that the FCA proposals do not go far enough. Chief Executive Mike O’Connor said,

“Credit card debts remain the biggest single category of problem debt for our clients with average debts of over £8,000.”

He went on the say that he did not think the FCA’s proposals went far enough.

“Credit cards are supposed to be a short-term form of borrowing. For far too many people they become long term and very expensive debt.”

As we commented above: some people are good with money, some are not – and as we wrote in another recent article, you can regulate supply: you cannot regulate demand. There will always be people who mismanage their credit cards, who succumb to the temptation of the last minute deal, a week in Tenerife on the grounds that “we need a break and there is room on the plastic.”

For people like this, the credit card companies must reduce credit limits as debts are repaid. Whether they will do that, and cut off a very profitable income stream, remains to be seen…