Credit Card Research

Research on what credit cards are, their history, etc.

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Credit Card Research

Basics. 

A credit card is a card issued that allows you to pay for things based on the promise that you will pay back the bank/company that issued you the card, under whatever terms you agreed to with the credit card company (e.g. high interest on late payments). 

Essentially, a "line of credit" is like a micro-loan. You can hold a balance on the card for as long as you want, but it'll be subject to interest. 

Credit cards typically conform to a standard (as do debit and other payment cards). 

Fees to watch out for:
	•	Late payment fees
	•	Exceeding credit limit fees (over limit fees), now outlawed in U.S. unless you specifically opt-in
	•	Cash advance fees (usually 3%)
	⁃	Some cards charge interest on cash advances as soon as you take it out (e.g. my SECU card)
	⁃	Essentially, don't do cash advances with a credit card like ever. 
	•	Annual fees
	•	Getting charged interest on the entire bill even if most of it is paid (common)

Card number:
	•	First 6 indicate the bank (for MasterCard and Visa)
	•	Next 9 determine the individual account number
	•	The last digit is a check digit (this is determined by all the other digits). 
	⁃	Seems like this uses the Luhn Formula for calculating, you take the first 15, reverse the numbers, multiply the digits in odd positions by 2 and subtract 9 to any that are higher than 9 after the multiplication, then add them all together. The last digit is whatever it takes to get a multiple of 10. 

Computer chip in card: it appears to have some two way communication with the bank to generate a unique code for each purchase, rather than sending the credit card number etc. over the network (which would be vulnerable to snooping if a bad actor were on the store's network). 

Magnetic strip cards: this has encoded on it the credit card number (indicating the bank, individual account number), expiration date, cardholder's name, etc. 

In 2015, it seems like the liability of fraud purchases transferred from the credit card companies to the retailers, incentivizing them to start using the new POS systems that supported EMV since they were more secure. 

History. 

Essentially, in the early days the retailers would issue credit-card like things that could be used at a few other retailers. Bank of America was really the first bank to create a modern day credit card in 1958, by sending 60,000 residents of Fresno, CA (who were BofA customers already) a credit card, which was enough of user base to convince the merchants to accept the credit card. It was called "BankAmericard". BofA then let other banks use this (licensing), until all the licensees united under a common brand "Visa". MasterCard came later. 

The banks were mass producing the credit cards. They started mailing them unsolicited to customers who they thought they could make money off of, including unemployables, drunks, drug addicts, and compulsive debtors. It was referred to as "giving sugar to diabetics". This was outlawed in 1970 (because it was so predatory and caused chaos). After that, only credit card applications could be sent unsolicited. 

Originally, everything was done manually. When using your card, merchant would call your bank, who would call the credit card company who would lookup your name and credit balance before giving a go ahead or no. This was computerized in 1973. Merchants were mailed stolen credit card numbers that they would have to check against less they be liable for a fraudulent transaction, and they also were technically supposed to check the signature on the card and compare it to what the person signed (to verify they are the card owner). 

How it works

	•	You want a credit card. Typically, banks offer credit cards. If they give you one, they are known as the issuing bank. 
	•	The issuing bank is part of a group of banks, called a credit card association or credit card processor (VISA, MasterCard, etc.). 
	•	Stores that you go to (merchants) go to banks to setup a relationship so that they can accept credit cards. This is called the acquirer bank. They might even help setting up the point of sale systems, etc. 
	•	When you go to a merchant and swipe your Visa card, it'll go through the acquirer bank into the Visa network who will identify which issuing bank  the card belongs to, and will contact them to see if the payment should go through (e.g. the balance is not going to go higher than the credit limit). 
	•	Then you walk away with the say $100 item, but the merchant hasn't gotten the money yet into their acquirer bank but they know they can trust the other members of the network (the issuing bank) that they will get the $100. Now, what's interesting is the issuing bank is who is going to send the $100, and it's not going to come out of your account. 
	•	But before the issuing bank sends the money, per the terms of the agreement in the credit card association (e.g. VISA), they're going to take a pretty large cut (say $1.70) called the interchange fee, and then VISA is going to take a small cut, which appears fixed (~$0.10), and then the acquirer bank gets a small cut too .3% ($0.30). 
	•	Then, you will own your issuing bank the $100, which you will pay when due on your credit card bill. This amount owed comes with interest if you pay late, which could be 15-20% or higher. 

Seems like the merchant usually is paying a percent of the item plus a flat amount (interchange fee) for each transaction (could be like 10 cents it seems). 

The credit associations (VISA) used to bar merchants from charging surcharges (e.g. an extra x percent) for using credit cards, but that was ruled not allowed in 2013. However, some states still have it illegal (including California and New York and Massachusetts). Retailers are constantly battling to reduce the fees. 

Sometimes the merchants get the processing equipment (terminals) for free. 

U.S law limits the interchange fees on debit cards to much lower, like .05% plus 20 cents or something, which makes it easier for places to accept debit cards. 

The interchange (more technical view) 
	•	You insert card, merchant sends transaction to acquirer bank, asks the issuing bank to verify the transaction (card number, amount, etc) and reserves that portion of your credit limit for the merchant to have. An authorization code is sent back to the merchant who stores it in their local systems all day. 
	•	Typically at the end of the day, all of the transactions get sent to the acquirer bank (in a batch) and that will deduct the issuer's bank and give money to the acquirer bank. If a transaction is not sent, there is generally a certain amount of time before the authorization becomes invalid. This is called "settlement".
	•	Once the acquirer bank is paid, they pay the merchant (minus the "discount rate", which is how much it costs to run the network mentioned above, approx 2%). 
	•	Chargebacks are when you dispute a purchase, and then the issuer returns the transaction to the acquirer bank who sends it to the merchant, who must choose to accept the chargeback or contest it. 

You do have to get approved for credit cards, though, which seems to be based on many things, but primarily on your credit score (essentially a statistical measure of how likely you are to pay your bills, based on your payment history). 

When you make a payment: 
	⁃	In person
	⁃	Credit or debit card: run as credit, and you'll only have to sign via signature. 
	⁃	Debit card: run as debit, and you'll have to enter your PIN number (6 digits). 
	⁃	Online
	⁃	Credit or debit card: will have to enter in the CVV (code on the back), and expiration date, as well as billing address. 
	⁃	This higher level of security is required to better prove that you own the card, since they don't have a way of verifying your (the person using the credit card) signature with what's written on the card. 
	⁃	Essentially, you can prove your authorization for using a credit card via (a signature OR a PIN, for debit OR knowing the billing address, security code/CVV, expiration, etc.) 

There is a U.S. law that limits your liability on a credit card due to unauthorized use to $50. 

There appears to be a law limiting your liability on a debit card to unauthorized use to $50 if you notify the bank within two business days of the use. 

Paying off the balance of the credit card works like this: you have to pay a defined minimum amount of the balance each month, otherwise they'll impose penalty fees. However, in order to avoid the interest rate on the payment amount, you have to pay the balance off fully by the deadline. Some credit cards allow you to pay off the balance multiple times, allowing you to use the credit limit multiple times within a month. 

APR: annualized percentage rate. The interest you'd owe, probably piles on monthly but only compounds annually. So if you owed 7% on $100, then you'd pay (.07*100)/12 each month. APY is the same, except the interest compounds, probably monthly, so it's obviously worse. Specifically for at least one of my Citi cards, the APR starts at the U.S. prime rate, which is basically what banks loan at, and then they add like 3% and then they add more, like 18%. So interestingly, things are somewhat based on what banks loan at, including what the federal reserve loans at.

Note: you may have to pay different different APR depending on the type of charge. Normal purchases are most common, but if you charge going into a bank account then it might be higher (called a "cash-advance"). 

Seems like credit card advertising is often enabled by the credit bureaus (Experian, Equifax, etc). They do allow an opt out program. 

You should never leave an unpaid balance, essentially. If you had a $1000 transaction, and paid off almost all of if, even if $1 remained you'd be charged interest on the entire $1000. 

Interest rates can change all the time, especially if you're late on a payment. They can even just raise it if they want more revenue. 

Grace period is how long you have before having to pay a transaction before interest is applied. Usually between 20 and 55 days. Most cards, the grace period goes to 0 if there is any outstanding balance on the card. Basically, this is critical, it's how many days after the "closing date" you actually have to get them the money before incurring interest. So basically you have like a 1 month period during which all of the payments are added up, and say the last day of the month is the 2nd of the month, so the 30 days before the 2nd are all of the transactions of interest, and they're all added up and you have to pay that amount before the end of the grace period, which is usually 21 days after the closing date, so it'd be the 23rd. It's good to pay as early as possible, so paying 11 days or whatever before the due date is good. 

Affinity partner is someone who parters with the issuing bank and puts their name on the card to attract customers to the card, they get a cut. Some credit cards may even offer certain insurance as perks (like car rental insurance). Seems VISA and MasterCard have rental car insurance built in, a bit. 

The law says stores can set minimums for credit cards up to $10. 

Secured credit card: one where you essentially have put a deposit down which you will lose if you don't pay, usually only if you are really late on payment. Usually this is what people do when they have bad or no credit. Sometimes, you could put your home down as something they can take ownership (or partial ownership of, as in you'd take out more of a mortgage with them I guess), in the event you are delinquent on your card. 

Return extension: allows you to return items (usually 60-90 days) up to ~$250. MasterCard and VISA offer this. 

Extended warranty: extends the warranty it seems if the items breaks, usually limited to a year. AMEX and Discover actually extend 1 additional year whereas VISA/Mastercard aren't as good. 

Price protection: if the cost drops, will give you money it dropped by. 

Loss/Damage coverage: MasterCard has 90 days, VISA depends. 

It's been found that credit cards lead people to spend more, as they do not experience pain of payment. 

In some cases, merchants are not allowed to charge the consumers to offset the interchange fees. 

2008, US, credit card companies got about $427 per family. 

It's apparently common practice to only ship items to the billing address on file, to decrease fraud. 

The physical cards actually have "watermarks" (just reflections over the association's logo, like VISA). 

Issuing banks generally borrow the money that they loan via credit cards, which will likely come with some low interest. 

After 6 months without payment, then the credit card company will likely declare the debt as uncollectible and report it to the credit bureaus. 

Fraud estimation: 7 cents per 100 dollars. This is in 2006. 

Fraud: in cases where card is stolen, most of the time you get the money back. In some cases, it's the merchant who will be paying you the money back (especially in card not present transactions, like online). 

The interchange fees make issuing banks a lot of money. Apparently, potentially up to a quarter of their revenue. The fees could be between 1 and 6 percent of the sale, but vary on the merchant (large merchants can negotiate), but also even card to card. Rewards cards generally cost more to process. Moreover, it can vary by each transaction based on: type of merchant, sales volume, average transaction amount, etc. 

U.S. law forcing credit card issuers to send 45 day notices when changing fees. 

Merchants don't offer cash back on credit cards because they'd have to pay the interchange fee (e.g. 2%) on that money, thus taking a straight loss since you're not buying a product with that money giving them profit to offset it. 

Apparently, 47% of employers conduct credit checks (which is allowed if you give them permission). 

25% of people had errors in their credit reports. 5% had serious errors. 

Controversy: 

There has been a lot of controversy over credit card companies targeting college students to get them into credit card debt. 

"Universal default", which makes it so if you're late on one credit card, your rates may rise on other credit cards even if it's a different company. Citibank and Chase stopped doing this in 2007. 

It actually seems like Citibank in general cares more about protecting credit card owners than others.