Plans to cut credit card borrowing costs

The Government today set out a series of measures to reduce borrowing costs for credit cardholders.

It estimates the changes could save consumers £296 million a year, although the UK Cards Association thinks the move will cost the industry £533 million during the first two years.

Here are the main changes that are being introduced:

New repayment order

Consumers' repayments will be used to repay the most expensive debt first. For example, if someone is paying 0% interest on a balance transfer, 17.9% on purchases and 25% on cash advances, their monthly repayments will be used to pay down the debt on which interest is being charged at 25% first. The move reverses the current typical industry practice under which most credit card providers use repayments to pay down the cheapest debt first, which considerably increases the amount of interest people pay during the lifetime of their balance.

The UK Cards Association thinks around a quarter of all credit card users will benefit from the move and the Government thinks it will save people £265 million a year in interest.

Minimum repayments

Minimum repayments for people opening new credit card accounts will be set so that they cover interest, fees and charges and at least 1% of the outstanding balance. This is likely to be an increase from the current level repayments are set at of typically 3% of the outstanding debt, although it can be as low as 2%.

Four out of 10 consumers do not pay off their credit card bill in full each month, with 12% typically making only the minimum repayment. Around 3% of cardholders make only minimum repayments each month for a year.

It would take someone who owed £3,000 on a credit card, on which interest of 17.9% a year was being charged, 40 years and seven months to repay their debt if they made only the minimum repayment of 2% a month, and it would cost them £6,238 in interest.

Credit card companies will also contact consumers who repeatedly make only minimum repayments to make it clear that this is the most expensive way of repaying their debt.

Rate increases

Consumers will be given a 60-day notice period if the interest rate they are charged is going to increase. They will also be notified twice before the increase occurs. They will continue to have the right not to accept the rate increase if they do not use their card again, and gradually repay the outstanding balance. More than six million people had their credit card rates increased last year.

Credit limit increases

Cardholders will have the right to choose not to receive unsolicited credit limit increases in future, and they will be able to reduce their limit at any time. If they do not opt out of receiving the increases they will be given a 30-day notice period about any planned rise and the right to turn it down.

Measures will also be put in place to prevent consumers facing financial difficulties from being offered unsolicited credit limit increases.

Around 4.6 million people had their credit limit increased during 2009.

Greater transparency

To improve the transparency of credit card costs, consumers will be given an annual statement that will make it easier for them to compare the cost of their card with that of other providers.

Vulnerable consumers

Credit card companies will work with debt advice agencies to agree ways on how they can identify people who are at risk of getting into financial difficulties. Once identified these people will not have their credit limits or interest rates increased.