Credit cards represent a wonderful tool to help you build good credit, but only when they are used properly. Improperly managed credit cards can actually lead to a lot of credit and financial problems including lower credit scores and out-of-control, stressful debt. For this reason our team of credit professionals recommends that you keep your credit card balances paid off in full each month.
As a follower of the Credit Pros you already know how dangerous outstanding credit card debt can be to both your credit scores and your wallet, even if you have never missed a credit card payment. However the danger which outstanding credit card debt can pose to your credit scores is not what this article is about. Instead, this article will cover another unpleasant risk you could be exposing yourself to if you do not break the habit of charging more on your credit cards than you can afford to pay off each month – universal default.
What Is Universal Default?
It probably seems unfair, but credit card issuers are allowed to change the interest rate on your accounts even after your initial terms have been set. They simply have to follow the rules in order to do so. In fact, under certain circumstances a credit card issuer may even be allowed to hike the rate on your existing balances or, in other words, raise your interest rate retroactively on purchases you made in the past.
This practice of retroactively increasing interest rates, generally to the “default” rate of around 30%, is known as universal default and until 2009 it occurred a lot more frequently and with a lot less provocation. Once upon a time a card issuer could actually increase your interest rate if your missed payments on any of your credit obligations, not just your account with a specific card issuer. These rate increases were routinely applied both retroactively and on future purchases alike.
How Universal Default Works
The universal default is used to increase the interest rates on the balance of credit card debt. The passage of the(Credit card, Accountability, Responsibility, and Disclosure) CARD Act in 2009, credit card companies are permitted to increase the credit rates only for new purchases made by the customer.
This means the customers who fail to make their minimum payments can at least continue paying off their purchases using their lower interest rates, making it easier to pay off their debt.
The CARD Act Restrictions
In 2009 the Credit Card Accountability, Responsibility, and Disclosure Act (aka the CARD Act) was signed into law by President Obama. The CARD Act imposed a lot of new regulations regarding how credit card issuers were allowed to treat their customers. Prior to 2009 credit card companies had a lot more freedom with regard to interest rate increases both on current balances and future purchase alike. However, with the passage of the aforementioned law there were many restrictions placed regarding how and when a credit card company was allowed to change your interest rate.
Restriction #1: Advance Notice
In many circumstances credit card issuers can still increase interest rates on future purchases for just about any reason, provided that your credit card account is over 1 year old. Thanks to the CARD Act, however, an interest rate hike cannot be imposed upon you unless the card issuer first provides a notice at least 45 days in advance. In fact, you can even opt of accepting an interest rate hike, but if you do so you should probably expect your card issuer to close your account and possibly accelerate the pay back of your outstanding debt.
Restriction #2: Universal Default
The CARD Act did not do away with retroactive rate increases, but it did at least limit them. Since the passage of the act a credit card issuer may only impose a retroactive rate increase if you become 60 or more days late on your payments on that specific account. Gone are the days of retroactive rate increases because of negative credit activity on unrelated accounts.
Additionally your card issuer must also allow you the chance to have your previous rate restored provided that you make no late payments for a 6 month period. Still, even with these limitations in place if you are revolving an outstanding balance on your credit card accounts from month to month you are exposing yourself to increased financial risk.
