Wednesday, January 7, 2009

Colleges and Credit Cards

In the present recession we are enduring, one of the problems is said to be how difficult it is for both businesses and consumers to obtain credit. Despite the best efforts of the US government to lower interest rates and pump bailout money into the financial markets, banks are still very reluctant to loan money for mortgages, car loans and the like.

But then you see this NYT article
Colleges Profit as Banks Market Credit Cards to Students and you then have to wonder what is really going on.

Bank of America’s relationship with the university (Michigan State) extends well beyond marketing at sports events. The bank has an $8.4 million, seven-year contract with Michigan State giving it access to students’ names and addresses and use of the university’s logo. The more students who take the banks’ credit cards, the more money the university gets. Under certain circumstances, Michigan State even stands to receive more money if students carry a balance on these cards.

In addition to colleges giving access to student names and addresses, many colleges now offer what is called an “affinity” credit card as described in this Business Week article The Dirty Secret of Campus Credit Cards.

"Students assume that if the university has an affinity contract with a bank to offer a credit card, the university will surely look after them. But these contracts are really money-makers for the school, and not about services to the students."

Nearly every major university in the country has a multi-million-dollar affinity relationship with a credit card company. The deals can be worth nearly $20 million to a single university. Schools, especially public universities supported by state revenues, are coming under increasing financial pressure to generate new revenue these days, and deals with credit card companies can provide a steady stream of income. And in most cases the worse the card terms are for students and alumni, the more profitable they are for the schools.

Isn’t it curious that the same financial institutions that are cautious about lending money to other relatively good credit risks are lined up to aggressively offer credit cards to students who often have no income and other than perhaps student loans often have no credit history whatsoever? What’s behind this? Could it be greed?

On one hand, giving students a chance to establish a credit history is a good thing. But all too often, the fine print in a credit card agreement can be a trap that is difficult to escape from. Although many cards have what looks to be attractive rates, sometimes these are just teaser rates that later go up. And while interest rates on credit cards are usually already higher than those on other types of loans, being late just one time with a payment by even a day can unleash punishing late charges and interest rates. Sometimes being late on paying one card will result in other cards also raising their interest rates to the borrower.

So how do stores offer deals like zero percent financing for two years on what they sell? The simple answer is that they hope you will slip up in getting in one of your payments on time. While the deal says you owe no interest, a small minimum payment on the principal is due each month. Miss a payment and a large interest rate on the complete balance is assessed. And for those who only pay the small minimum payment each month, a sizable balance awaits at the end of the loan period. Not paying that off by the due date results in those same large interest charges over the life of the loan being tacked on.

While sometimes people are late with payments because of money problems, many others who have busy lives (like college students) can simply forget to get a payment in on time. And lenders all too often take advantage of this situation to turn the screws on borrowers.

Today’s college students are facing a double whammy. Loan amounts needed to pay for rising tuitions keep going up while an economy in recession often means lower paying and harder to find jobs at graduation. Especially in these difficult times, for colleges to financially benefit from promoting more student debt is a clear conflict of interest.

Our recent Wall Street crisis shows that all too many lenders when given the choice between offering safer loans with lower interest rates and more risky loans with higher rates choose the latter. That explains why so many lenders got involved with sub-prime mortgages which generate higher interest rates and fees than conventional mortgages. And it also explains why lenders are still aggressively promoting credit cards which in addition to their higher interest rates, bring in lots more income in the way of fees and penalties.

In fairness, much of the problem comes from people who get into trouble because they cannot or will not live within their means. But the aggressive marketing of credit cards, especially to students is one where both the lenders and the colleges are financially benefiting from lending practices that are setting a trap that may take many years to escape or result in bankruptcy.

While we are considering more regulation for other lenders as a result of the recent Wall Street crisis, the Business Week article Fixing the College Credit Card Mess offers the following proposed fixes which you can check out in more detail in the article link:

A few key legislative and regulatory steps could help... Here are a few practical steps that would curb abuses and help college students and other consumers.

  • Protect students by limiting the amount of credit extended.
  • Bring more clarity to credit-card contracts.
  • Require schools to disclose lucrative contracts.
  • Eliminate the most egregious practices.

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