1. Online credit card transactions continue to increase and third-party fraud is especially high for remote transactions using general-purpose credit cards. How might technology increase credit card security?
Most traditional credit cards store account information on a magnetic strip. A more-secure—and thus more fraud-resistant—card is the smart card. The smart card encrypts and stores data on an embedded microchip that generates a new code each time the card is used. Smart cards are already used in many countries, including limited use in the United States, but U.S. credit card companies are not required by law to make the switch. The cost of changing to the technology is high, so it may take a while to become commonplace in the United States. In 2012, there were about 13.4 million chip-initiated general-purpose credit card transactions in the United States, or 74 of every 100,000 such transactions.
2. Credit card disclosures can be lengthy, printed in small type, and difficult to understand. Does the CARD Act prove helpful to consumers regarding these issues?
The CARD Act did not explicitly mandate changes in the length and form of credit card agreements. However, perhaps because the CARD Act addressed fair and transparent practices, many card issuers voluntarily streamlined the presentation and content of their agreements between 2008 and 2012. For instance, they made agreements shorter on average and consolidated terms and conditions. They also used simpler language. For example, “finance charge” was change to “interest charge.”
3. Credit cards can be used for cash withdrawals, either at an ATM or by using one of the checks that come with the monthly statement. How do these transactions compare with credit card purchases? Were these transactions affected by the CARD Act?
Card issuers view cash advances and credit card purchases differently. First, the credit limit for each may be different—one limit for purchases and a separate, lower limit for cash advances. Second, purchases have an interest-free grace period: If you pay your bill on time, you will not pay interest. Interest charged on cash advances starts immediately, and there is no grace period. Issuers also charge a fee for each cash advance. This may be a flat fee but is usually a percentage of the cash advance. For example, if you make a $500 cash withdrawal, you could be charged a 5% transaction fee, so you will owe an additional $25 before any interest is charged. In addition, a higher APR is usually charged for cash advances. The Card Act did not specifically address cash advances. However, because payments must generally be applied to balances with the highest APR first—and cash advances tend to have higher APRs—customers can potentially pay off cash advances more quickly. Possibly in response to this change and to increased revenue from cash advances, card issuers increased cash advance fees from an average of 3.9% in late 2008 to an average of 4.9% in late 2012. As a result, cardholders are taking fewer and smaller cash advances.
4. How do credit cards, prepaid credit cards, and debit cards differ?
A credit card allows the cardholder to borrow money—through purchases or cash withdrawals—up to a certain credit limit. The cardholder must repay the card issuer. The balance may be paid all at once (to avoid interest charges) or over time, with interest accrued, through monthly payments. While there is no final date for repayment, the cardholder must make a minimum payment each month.
A prepaid credit card allows people to “load” a specific dollar amount up front onto the card. When a prepaid card is used, the transaction (dollar) amount is automatically withdrawn (paid for) from the value (balance) of the card. Total purchases are limited to the value of the card.
A debit card is tied to the cardholder’s bank account. When a debit card is used, the transaction (dollar) amount is withdrawn directly from the cardholder’s bank account. Total purchases are limited to the amount of money in the bank account.
Keep up with what’s new and noteworthy at the St. Louis Fed. Sign up now to have this free monthly e-newsletter emailed to you.