A Just Fee or Just a Fee? An Examination of Credit Card Late Fees

The Federal Credit CARD Act of 2009 made important changes to the credit card market, including a requirement that penalty fees be reasonable and proportional to the borrower’s violation. In interpreting "reasonable and proportional" an understanding of the nature of penalty fees is essential. Why do issuers charge them and what determines the amount that they charge? The majority of penalty fees collected by issuers come in the form of late fees. This study takes a closer look at the dynamics of late fee charges by constructing a database of issuer practices, to help understand how issuers set fees and finds the following: Nine of the top ten best predictors of late fees were related to deceptive or aggressive pricing. Issuers that are aggressive in areas outside of pricing tended to charge higher late fees. For example, issuers that send out a lot of cash advance checks or are aggressive in recovering losses charge higher late fees. The volume of complaints to the Better Business Bureau relative to the size of the issuer was another factor that was also significantly related to late fees. The type of issuer is strongly associated with late fee charges. The single best predictor of the amount an institution charges as a late fee is whether the issuer is a credit union. Credit unions charged a median fee of $20 compared to banks’ $39 for late fees. The type of issuer was a better predictor of late fee levels than risk (as measured by an issuer’s net losses on their credit card portfolio). Credit losses are a very weak predictor of late fee amounts. When other variables were included in the statistical analysis, higher risk was not correlated with higher late fees. The results suggest that, rather than as a means to deter behavior, issuer practices reflect an underlying revenue and pricing philosophy; this philosophy along with issuer type (most notably whether an issuer is a credit union) drive any observed relationship between losses and penalty fee prices.