by Jeff Sovern
One of the many interesting provisions of the Credit CARD Act that has not received much attention is the limits it imposes on penalty fees. At present, such fees are set through contract, subject only to unconscionability limits. When the new 15 U.S.C. § 1665d takes effect next February, however, penalty fees, including late payment fees and over-the-limit fees will have to be "reasonable and proportional" to the violation. The statute directs the Fed to issue rules establishing standards for determining whether fees are reasonable and proportional, and identifies several factors for the Board to take into account in formulating those rules, including the costs incurred by the creditor, deterrence, and the conduct of the cardholder. The Board can also provide for a safe harbor; that is, a presumptively acceptable fee.
This provision represents a significant change from past credit regulation. It's rare for a governmental agency to specify fees in private transactions. Congress generally prefers to let the market set them. But in this case, such intervention seems justified. Considerable empirical evidence indicates that consumers are generally over-optimistic about the likelihood that something will go wrong in their transactions. Thus, consumers contemplating a particular credit card might ignore penalty fees, on the assumption (an assumption that will be mistaken for many) that they will not incur them. The result is that the market will not restrain credit card issuers from charging fees that greatly exceed the costs the underlying conduct imposes on issuers; i.e., lenders can use fees as a source of profits without any check unless Congress intervenes. This is an example of how the new law take account of actual, rather than theoretical, consumer behavior, as was more true of the original version of TILA.
No doubt the eventual proposal to issue those rules will generate lots of comments. It will be interesting to see what the Fed does.
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