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Variable rates replacing fixed for cardholders

As banks attempt to protect thinning margins and prepare for new regulations, cardholders are being notified that their fixed rate APRs are being switched to variable rates.
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Credit cards that carry so-called "fixed rates" are disappearing and being replaced by more risk-averse variable interest rate credit cards.

As banks attempt to protect thinning margins and prepare for new requirements under the Credit CARD Act of 2009 that will limit an issuer's ability to change card terms, more cardholders are being notified that their fixed rate APRs are being switched to variable rates.

Come February 2010, when major provisions of the Credit CARD Act of 2009 take effect, such moves won't be so easy. The law limits when credit card interest rates on existing balances can be increased — with a few key exceptions. Credit industry analysts predicted that one of the consequences of the new law would be vanishing fixed rates because the new rules hinder banks' ability to change terms of card agreements.

The two largest U.S. credit card issuing banks — Bank of America and JPMorgan Chase — are now switching some of their accounts from fixed to variable rates. Other issuers are likely to follow in the months leading up to the start of the new law. That's because under the new law, fixed rates must remain fixed for at least a year unless a consumer fails to pay bills.

Lawmakers wrote in a few exceptions to the "fixed means fixed" rule. One was for variable rate cards.

The move from fixed rate to variable APRs won't likely cause customers much angst now because the prime rate is at an historically low point: 3.25 percent as of July 15, 2009. However, when rates begin to spike upward again, credit card issuers will be able to legally pass through those increases and raise APRs on variable rate accounts — regardless of the card users' payment history.

Variable vs. fixed rates
Variable rate cards have APRs that fluctuate based on the prime rate (also called an index) and a fixed rate (called a margin). The prime rate goes up or down with changes in the federal funds rate, which is set every quarter by the Federal Reserve and is the rate banks pay to borrow money from the Fed. The prime rate is 3 percentage points above the federal funds rate. As the Fed raises or lowers the rate it charges banks to borrow money, credit card accounts that have variable interest rates will see APRs increase or decrease as the prime rate rises and falls.

Currently, when that prime rate remains low for an extended period of time, credit card issuers can change the terms of card agreements on variable accounts by increasing the margin rate (from 8.99 percent to 13.99 percent, for example) as a way to increase revenues from those accounts. The current rules require only a 15-day advance notice of such a change. According to the new law, one of the acceptable ways to jack up rates on existing credit card balances is when accounts have variable APRs. However, starting Feb. 22, 2010, only changes in the prime rate portion of the variable rate will be allowed for existing account balances, according to Chi Chi Wu, a consumer attorney for the National Consumer Law Center in Boston.

"Under both the Federal Reserve's rules and the Credit CARD Act, issuers generally cannot increase the margin used to determine a variable rate on an existing balance," according to a Fed spokeswoman.

Changing terms
Currently, banks can change terms on fixed rate accounts as long as cardholders are given written notice at least 15 days prior to the change. Thus, the term "fixed" has become loosely defined, according to Josh Frank, senior researcher at the Center for Responsible Lending, a nonprofit consumer advocacy group.

"Fixed rates were always an illusion," Frank says. "They always planned on changing the 'fixed' APR if the index rates changed a lot."

BofA customers who have been switched to variable accounts will see their interest rates change beginning in August, according to bank spokeswoman Betty Riess. She says the change was instituted to help the bank keep up with changing market conditions and remain "prudent in our lending practices in the face of new regulations."

Student accounts, accounts that are in debt assistance programs and newly opened accounts will keep their fixed interest rates, according to Riess.

Representatives at Chase also cited economic concerns as a key reason for shifting a portion of its card accounts to variable rates.

"Changing costs are requiring Chase to more closely examine the rates and terms we offer our customers," says Chase spokeswoman Stephanie Jacobson.