Truth in Lending, 12334-12375 [2010-4859]

Agencies

• FEDERAL RESERVE SYSTEM

[Federal Register Volume 75, Number 49 (Monday, March 15, 2010)]
[Proposed Rules]
[Pages 12334-12375]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2010-4859]



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Part II





Federal Reserve System





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12 CFR Part 226



Truth in Lending; Proposed Rule

Federal Register / Vol. 75 , No. 49 / Monday, March 15, 2010 / 
Proposed Rules

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FEDERAL RESERVE SYSTEM

12 CFR Part 226

[Regulation Z; Docket No. R-1384]


Truth in Lending

AGENCY: Board of Governors of the Federal Reserve System.

ACTION: Proposed rule; request for public comment.

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SUMMARY: The Board proposes to amend Regulation Z, which implements the 
Truth in Lending Act, and the staff commentary to the regulation in 
order to implement provisions of the Credit Card Accountability 
Responsibility and Disclosure Act of 2009 that go into effect on August 
22, 2010. In particular, the proposed rule would require that penalty 
fees imposed by card issuers be reasonable and proportional to the 
violation of the account terms. The proposed rule would also require 
credit card issuers to reevaluate at least every six months annual 
percentage rates increased on or after January 1, 2009.

DATES: Comments must be received on or before April 14, 2010. Comments 
on the Paperwork Reduction Act analysis set forth in Section VII of 
this Federal Register notice must be received on or before May 14, 
2010.

ADDRESSES: You may submit comments, identified by Docket No. R-1384, by 
any of the following methods:
     Agency Web Site: https://www.federalreserve.gov. Follow the 
instructions for submitting comments at https://www.federalreserve.gov/generalinfo/foia/ProposedRegs.cfm.
     Federal eRulemaking Portal: https://www.regulations.gov. 
Follow the instructions for submitting comments.
     E-mail: regs.comments@federalreserve.gov. Include the 
docket number in the subject line of the message.
     Facsimile: (202) 452-3819 or (202) 452-3102.
     Mail: Jennifer J. Johnson, Secretary, Board of Governors 
of the Federal Reserve System, 20th Street and Constitution Avenue, 
NW., Washington, DC 20551.
    All public comments are available from the Board's Web site at 
https://www.federalreserve.gov/generalinfo/foia/ProposedRegs.cfm as 
submitted, unless modified for technical reasons. Accordingly, your 
comments will not be edited to remove any identifying or contact 
information. Public comments may also be viewed electronically or in 
paper form in Room MP-500 of the Board's Martin Building (20th and C 
Streets, NW.) between 9 a.m. and 5 p.m. on weekdays.

FOR FURTHER INFORMATION CONTACT: Stephen Shin, Attorney, or Amy 
Henderson or Benjamin K. Olson, Senior Attorneys, Division of Consumer 
and Community Affairs, Board of Governors of the Federal Reserve 
System, at (202) 452-3667 or 452-2412; for users of Telecommunications 
Device for the Deaf (TDD) only, contact (202) 263-4869.

SUPPLEMENTARY INFORMATION: 

I. Background

The Credit Card Act

    This proposed rule represents the third stage of the Board's 
implementation of the Credit Card Accountability Responsibility and 
Disclosure Act of 2009 (Credit Card Act), which was signed into law on 
May 22, 2009. Public Law 111-24, 123 Stat. 1734 (2009). The Credit Card 
Act primarily amends the Truth in Lending Act (TILA) and establishes a 
number of new substantive and disclosure requirements to establish fair 
and transparent practices pertaining to open-end consumer credit plans.
    The requirements of the Credit Card Act that pertain to credit 
cards or other open-end credit for which the Board has rulemaking 
authority become effective in three stages. First, provisions generally 
requiring that consumers receive 45 days' advance notice of interest 
rate increases and significant changes in terms (new TILA Section 
127(i)) and provisions regarding the amount of time that consumers have 
to make payments (revised TILA Section 163) became effective on August 
20, 2009 (90 days after enactment of the Credit Card Act). A majority 
of the requirements under the Credit Card Act for which the Board has 
rulemaking authority, including, among other things, provisions 
regarding interest rate increases (revised TILA Section 171), over-the-
limit transactions (new TILA Section 127(k)), and student cards (new 
TILA Sections 127(c)(8), 127(p), and 140(f)) become effective on 
February 22, 2010 (9 months after enactment). Finally, two provisions 
of the Credit Card Act addressing the reasonableness and 
proportionality of penalty fees and charges (new TILA Section 149) and 
re-evaluation by creditors of rate increases (new TILA Section 148) 
become effective on August 22, 2010 (15 months after enactment). The 
Credit Card Act also requires the Board to conduct several studies and 
to make several reports to Congress, and sets forth differing time 
periods in which these studies and reports must be completed.

Implementation of Credit Card Act

    The Board is implementing the provisions of the Credit Card Act in 
stages, consistent with the statutory timeline established by Congress. 
On July 22, 2009, the Board published an interim final rule to 
implement the provisions of the Credit Card Act that became effective 
on August 20, 2009. See 74 FR 36077 (July 2009 Regulation Z Interim 
Final Rule). On January 12, 2010, the Board issued a final rule 
adopting in final form the requirements of the July 2009 Regulation Z 
Interim Final Rule and implementing the provisions of the Credit Card 
Act that become effective on February 22, 2010. See 75 FR 7658 
(February 2010 Regulation Z Rule). This proposed rule implements the 
provisions of the Credit Card Act that become effective on August 22, 
2010.

II. Summary of Major Proposed Revisions

A. Reasonable and Proportional Penalty Fees

    Statutory requirements. The Credit Card Act provides that ``[t]he 
amount of any penalty fee or charge that a card issuer may impose with 
respect to a credit card account under an open end consumer credit plan 
in connection with any omission with respect to, or violation of, the 
cardholder agreement, including any late payment fee, over-the-limit 
fee, or any other penalty fee or charge, shall be reasonable and 
proportional to such omission or violation.'' The Credit Card Act 
further directs the Board to issue rules that ``establish standards for 
assessing whether the amount of any penalty fee or charge * * * is 
reasonable and proportional to the omission or violation to which the 
fee or charge relates.''
    In issuing these rules, the Credit Card Act requires the Board to 
consider: (1) The cost incurred by the creditor from an omission or 
violation; (2) the deterrence of omissions or violations by the 
cardholder; (3) the conduct of the cardholder; and (4) such other 
factors as the Board may deem necessary or appropriate. The Credit Card 
Act authorizes the Board to establish ``different standards for 
different types of fees and charges, as appropriate.'' Finally, the Act 
authorizes the Board to ``provide an amount for any penalty fee or 
charge * * * that is presumed to be reasonable and proportional to the 
omission or violation to which the fee or charge relates.''
    Cost incurred as a result of violations. The proposed rule permits 
an issuer to charge a penalty fee for a particular type

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of violation (such as a late payment) if it has determined that the 
amount of the fee represents a reasonable proportion of the costs 
incurred by the issuer as a result of that type of violation. Thus, the 
proposed rule permits issuers to use penalty fees to pass on the costs 
incurred as a result of violations while ensuring that those costs are 
spread evenly among consumers so that no individual consumer bears an 
unreasonable or disproportionate share.
    The proposed rule provides guidance regarding the types of costs 
incurred by card issuers as a result of violations. For example, with 
respect to late payments, the proposed rule states that the costs 
incurred by a card issuer include collection costs, such as the cost of 
notifying consumers of delinquencies and resolving those delinquencies 
(including the establishment of workout and temporary hardship 
arrangements). In order to ensure that penalty fees are based on 
relatively current cost information, the proposed rule would require 
card issuers to re-evaluate their costs at least annually.
    Notably, the proposed rule states that, although higher rates of 
loss may be associated with particular violations, those losses and 
related costs (such as the cost of holding reserves against losses) are 
excluded from the cost analysis.
    Deterrence of violations. The Credit Card Act requires the Board to 
consider the deterrence of violations by the cardholder. Accordingly, 
as an alternative to basing penalty fees on costs, the proposed rule 
permits a card issuer to charge a penalty fee for a particular type of 
violation if it has determined that the amount of the fee is reasonably 
necessary to deter that type of violation.
    Because it would not be feasible to determine the specific amount 
necessary to deter a particular consumer, the proposed rule requires 
issuers that base their penalty fees on deterrence to use an 
empirically derived, demonstrably and statistically sound model that 
reasonably estimates the effect of the amount of the fee on the 
frequency of violations. In order to support a determination that the 
dollar amount of a fee is reasonably necessary to deter a particular 
type of violation, a model must reasonably estimate that, independent 
of other variables, the imposition of a lower fee amount would result 
in a substantial increase in the frequency of that type of violation.
    Consumer conduct. The Credit Card Act requires the Board to 
consider the conduct of the cardholder. The proposed rule does not 
require that each penalty fee be based on an assessment of the 
individual consumer conduct associated with the violation. Instead, the 
proposed rule takes consumer conduct into account in other ways.
    The proposed rule contains provisions specifically based on 
consumer conduct. First, the proposed rule prohibits issuers from 
imposing penalty fees that exceed the dollar amount associated with the 
violation. Thus, for example, a consumer who exceeds the credit limit 
by $5 could not be charged an over-the-limit fee of more than $5. 
Second, the proposed rule prohibits issuers from imposing multiple 
penalty fees based on a single event or transaction.
    Safe harbor. Consistent with the authority granted by the Credit 
Card Act, the proposed rule contains a safe harbor that provides a 
single penalty fee amount that will generally be sufficient to cover an 
issuer's costs and to deter violations. Because the Board does not have 
sufficient information to determine the appropriate safe harbor amount 
at this time, the proposed rule does not provide a specific amount. 
Instead, the proposed rule requests that credit card issuers and other 
interested parties submit data regarding costs incurred as a result of 
violations and the deterrent effect of different fee amounts on 
violations.
    Because violations involving large dollar amounts may impose 
greater costs on the card issuer and require greater deterrence, the 
proposed safe harbor would also permit an issuer to impose a penalty 
fee that exceeds the specific safe harbor amount in certain 
circumstances. Specifically, the proposed safe harbor would permit an 
issuer to impose a penalty that does not exceed 5% of the dollar amount 
associated with the violation (up to a specific dollar limit). Thus, 
for example, if a $500 minimum payment was delinquent, the safe harbor 
would permit the card issuer to impose a $25 late payment fee.

B. Reevaluation of Rate Increases

    Statutory requirements. The Credit Card Act requires card issuers 
that increase an annual percentage rate applicable to a credit card 
account, based on the credit risk of the consumer, market conditions, 
or other factors, to periodically consider changes in such factors and 
determine whether to reduce the annual percentage rate. Creditors are 
required to perform this review no less frequently than once every six 
months, and must maintain reasonable methodologies for this evaluation. 
The statute requires card issuers to reduce the annual percentage rate 
that was previously increased if a reduction is ``indicated'' by the 
review. However, the statute expressly provides that no specific amount 
of reduction in the rate is required. This provision is effective 
August 22, 2010 but requires that creditors review accounts on which an 
annual percentage rate has been increased since January 1, 2009.
    General rule. Consistent with the Credit Card Act, the proposed 
rule applies to card issuers that increase an annual percentage rate 
applicable to a credit card account, based on the credit risk of the 
consumer, market conditions, or other factors. For any rate increase 
imposed on or after January 1, 2009, the proposed rule requires card 
issuers to review changes in such factors no less frequently than once 
each six months and, if appropriate based on their review, reduce the 
annual percentage rate applicable to the account. The requirement to 
reevaluate rate increases applies both to increases in annual 
percentage rates based on factors specific to a particular consumer, 
such as changes in the consumer's creditworthiness, and to increases in 
annual percentage rates imposed due to factors such as changes in 
market conditions or the issuer's cost of funds. If based on its review 
a card issuer is required to reduce the rate applicable to an account, 
the proposed rule requires that the rate be reduced within 30 days 
after completion of the evaluation.
    Factors relevant to reevaluation of rate increases. The proposed 
rule sets forth guidance on the factors that a credit card issuer must 
consider when performing the reevaluation of a rate increase. Credit 
card underwriting standards can change over time and for various 
reasons. In some cases, the proposed rule would require card issuers to 
review a consumer's account every six months for several years, and the 
issuer's underwriting standards for its new and existing cardholders 
may change significantly during that time. Accordingly, the proposed 
rule would permit a card issuer to review either the same factors on 
which the rate increase was originally based, or to review the factors 
that the card issuer currently considers when determining the annual 
percentage rates applicable to its credit card accounts.
    Termination of obligation to reevaluate rate increases. The 
proposed rule requires that a card issuer continue to review a 
consumer's account each six months unless the rate is reduced to the 
rate in effect prior to the increase. In some circumstances, the 
proposed rule may require card issuers to reevaluate rate increases 
each six months for an indefinite period. The proposal solicits comment 
on whether the obligation to

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review the rate applicable to a consumer's account should terminate 
after some specific time period elapses following the initial increase, 
for example after five years, as well as on whether there is 
significant benefit to consumers from requiring card issuers to 
continue reevaluating rate increases even after an extended period of 
time.

III. Statutory Authority

    Section 2 of the Credit Card Act states that the Board ``may issue 
such rules and publish such model forms as it considers necessary to 
carry out this Act and the amendments made by this Act.'' In addition, 
the provisions of the Credit Card Act implemented by this proposal rule 
direct the Board to issue implementing regulations. See Credit Card Act 
Sec.  101(c) (new TILA Sec.  148) and Sec.  102(b) (new TILA Sec.  
149). Furthermore, these provisions of the Credit Card Act amend TILA, 
which mandates that the Board prescribe regulations to carry out its 
purposes and specifically authorizes the Board, among other things, to 
do the following:
     Issue regulations that contain such classifications, 
differentiations, or other provisions, or that provide for such 
adjustments and exceptions for any class of transactions, that in the 
Board's judgment are necessary or proper to effectuate the purposes of 
TILA, facilitate compliance with the act, or prevent circumvention or 
evasion. 15 U.S.C. 1604(a).
     Exempt from all or part of TILA any class of transactions 
if the Board determines that TILA coverage does not provide a 
meaningful benefit to consumers in the form of useful information or 
protection. The Board must consider factors identified in the act and 
publish its rationale at the time it proposes an exemption for comment. 
15 U.S.C. 1604(f).
     Add or modify information required to be disclosed with 
credit and charge card applications or solicitations if the Board 
determines the action is necessary to carry out the purposes of, or 
prevent evasions of, the application and solicitation disclosure rules. 
15 U.S.C. 1637(c)(5).
     Require disclosures in advertisements of open-end plans. 
15 U.S.C. 1663.
    For the reasons discussed in this notice, the Board is using its 
specific authority under TILA and the Credit Card Act, in concurrence 
with other TILA provisions, to effectuate the purposes of TILA, to 
prevent the circumvention or evasion of TILA, and to facilitate 
compliance with TILA.

IV. Section-by-Section Analysis

Section 226.5a Credit and Charge Card Applications and Solicitations

Section 226.6 Account-Opening Disclosures

    Sections 226.5a(a)(2)(iv) and 226.6(b)(1)(i) address the use of 
bold text in, respectively, the application and solicitation table and 
the account-opening table. Currently, these provisions require that any 
fee or percentage amounts for late payment, returned payment, and over-
the-limit fees be disclosed in bold text. However, these provisions 
also state that bold text shall not be used for any maximum limits on 
fee amounts unless the fee varies by state.
    As discussed in detail below with respect to the proposed 
amendments to Appendix G-18, disclosure of a maximum limit (or ``up 
to'' amount) will generally be necessary to accurately describe penalty 
fees that are consistent with the new substantive restrictions in 
proposed Sec.  226.52(b). While the Board previously restricted the use 
of bold text for maximum fee limits in order to focus consumers' 
attention on the fee or percentage amounts, the Board believes that--
because the maximum limit will generally be the only amount disclosed 
for penalty fees--it is important to highlight that amount.
    Accordingly, the Board is proposing to amend Sec. Sec.  
226.5a(a)(2)(iv) and 226.6(b)(1)(i) to require the use of bold text 
when disclosing maximum limits on fees. For consistency and to 
facilitate compliance, these amendments would apply to maximum limits 
for all fees required to be disclosed in the Sec. Sec.  226.5a and 
226.6 tables (including maximum limits for cash advance and balance 
transfer fees). The Board would also make conforming amendments to 
comment 5a(a)(2)-5.ii.

Section 226.7 Periodic Statement

    Section 226.7(b)(11)(i)(B) requires card issuers to disclose the 
amount of any late payment fee and any increased rate that may be 
imposed on the account as a result of a late payment. If a range of 
late payment fees may be assessed, the card issuer may state the range 
of fees, or the highest fee and at the issuer's option with the highest 
fee an indication that the fee imposed could be lower. Comment 
7(b)(11)-4 clarifies that disclosing a late payment fee as ``up to 
$29'' complies with this requirement. Model language is provided in 
Samples G-18(B), G-18(D), G-18(F), and G-18(G).
    As discussed in greater detail below with respect to the proposed 
amendments to Appendix G, an ``up to'' disclosure will generally be 
necessary to accurately describe a late payment fee that is consistent 
with the substantive restrictions in proposed Sec.  226.52(b). 
Accordingly, the Board is proposing to amend Sec.  226.7(b)(11)(i)(B) 
to clarify that it is no longer optional to disclose an indication that 
the late payment fee may be lower than the disclosed amount.
    However, the Board notes that, consistent with Sec.  226.52(b), a 
card issuer could disclose a range of late payment fees if, for 
example, the issuer chose not to impose a fee when a required minimum 
periodic payment below a certain amount is not received by the payment 
due date. As discussed in detail below, proposed Sec.  226.52(b)(2)(i) 
would prohibit a card issuer from imposing a late payment fee that 
exceeds the amount of the delinquent minimum payment. A card issuer 
could choose to comply with this prohibition by only charging a late 
payment fee when the delinquent payment is above a certain amount. In 
these circumstances, the card issuer could disclose the late payment 
fee as a range. For example, if a card issuer chose not to impose a 
late payment fee when a payment that is less than $5 is late, the 
issuer could disclose its fee as a range from $5 to the maximum fee 
amount under the safe harbor in proposed Sec.  226.52(b)(3).

Section 226.9 Subsequent Disclosure Requirements

9(c) Change in Terms
9(c)(2) Rules Affecting Open-End (Not Home-Secured) Plans
9(g) Increases in Rates Due to Delinquency or Default or as a Penalty
    The Credit Card Act added new TILA Section 148, which requires 
creditors that increase an annual percentage rate applicable to a 
credit card account under an open-end consumer credit plan, based on 
factors including the credit risk of the consumer, market conditions, 
or other factors, to consider changes in such factors in subsequently 
determining whether to reduce the annual percentage rate. New TILA 
Section 148 requires creditors to maintain reasonable methodologies for 
assessing these factors. The statute also sets forth a timing 
requirement for this review. Specifically, creditors are required to 
review, no less frequently than once every six months, accounts for 
which the annual percentage rate has been increased to assess whether 
these factors have changed. New TILA Section 148 is effective August 
22, 2010 but requires that creditors review accounts

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on which the annual percentage rate has been increased since January 1, 
2009.\1\
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    \1\ As discussed in the supplementary information to Sec.  
226.59, the proposed rule would require that rate increases imposed 
between January 1, 2009 and August 21, 2010 first be reviewed prior 
to February 22, 2011 (six months after the effective date of new 
Sec.  226.59).
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    New TILA Section 148 requires creditors to reduce the annual 
percentage rate that was previously increased if a reduction is 
``indicated'' by the review. However, new TILA Section 148(c) expressly 
provides that no specific amount of reduction in the rate is required. 
The Board is proposing to implement the substantive requirements of new 
TILA Section 148 in a new Sec.  226.59, discussed elsewhere in this 
supplementary information.
    In addition to these substantive requirements, TILA Section 148 
also requires creditors to disclose the reasons for an annual 
percentage rate increase applicable to a credit card under an open-end 
consumer credit plan in the notice required to be provided 45 days in 
advance of that increase. The Board proposes to implement the notice 
requirements in Sec.  226.9(c) and (g), which are discussed in this 
section. As discussed in the February 2010 Regulation Z Rule, card 
issuers are required to provide 45 days' advance notice of rate 
increases due to a change in contractual terms pursuant to Sec.  
226.9(c)(2) and of rate increases due to delinquency, default, or as a 
penalty not due to a change in contractual terms of the consumer's 
account pursuant to Sec.  226.9(g). The additional notice requirements 
included in new TILA Section 148 are the same regardless of whether the 
rate increase is due to a change in the contractual terms or the 
exercise of a penalty pricing provision already in the contract; 
therefore for ease of reference the proposed notice requirements under 
Sec.  226.9(c)(2) and (g) are discussed in a single section of this 
supplementary information.
    Consistent with the approach that the Board has taken in 
implementing other provisions of the Credit Card Act that apply to 
credit card accounts under an open-end consumer credit plan, the 
proposed changes to Sec.  226.9(c)(2) and (g) would apply to ``credit 
card accounts under an open-end (not home-secured) consumer credit 
plan'' as defined in Sec.  226.2(a)(15). Therefore, home-equity lines 
of credit accessed by credit cards and overdraft lines of credit 
accessed by a debit card would not be subject to the new requirements 
to disclose the reasons for a rate increase implemented in Sec.  
226.9(c)(2) and (g).
    Section 226.9(c)(2)(iv) sets forth the content requirements for 
significant changes in account terms, including rate increases that are 
due to a change in the contractual terms of the consumer's account. The 
Board is proposing to add a new Sec.  226.9(c)(2)(iv)(A)(8) that 
requires a card issuer to disclose no more than four principal reasons 
for the rate increase for a credit card account under an open-end (not 
home-secured) credit plan, listed in their order of importance, in 
order to implement the notice requirements of new TILA Section 148. 
Comment 9(c)(2)(iv)-11 would provide additional guidance on the 
required disclosure. Specifically comment 9(c)(2)(iv)-11 states that 
there is no minimum number of reasons that are required to be disclosed 
under Sec.  226.9(c)(2)(iv)(A)(8), but that the reasons disclosed are 
required to relate to and accurately describe the principal factors 
actually considered by the credit card issuer. The Board does not 
believe that it is appropriate to mandate disclosure of a minimum 
number of reasons, because rate increases may occur in different 
circumstances and the number of principal factors considered by the 
issuer could vary. For example, the rate increase could be the result 
of the consumer's behavior on the account, such as making a late 
payment, and in that case there would be only one principal reason for 
the rate increase. In contrast, a card issuer could base a rate 
increase on several different reasons, for example, a decrease in the 
consumer's credit score and changes in market conditions. In those 
circumstances, the card issuer would be required to disclose both 
principal reasons. However, as noted above, in order to avoid 
information overload, the regulation would limit the number of 
principal reasons to a maximum of four.
    The comment further notes that a card issuer may describe the 
reasons for the increase in general terms, by disclosing for example 
that a rate increase is due to ``a decline in your creditworthiness'' 
or ``a decline in your credit score,'' if the rate increase is 
triggered by a decrease of 100 points in a consumer's credit score. 
Similarly, the comment notes that a notice of a rate increase triggered 
by a 10% increase in the card issuer's cost of funds may be disclosed 
as ``a change in market conditions.'' The Board believes that this is 
the appropriate level of detail for this disclosure, because it would 
inform the consumer whether the rate increase is due to changes in the 
consumer's creditworthiness or behavior on the account, which the 
consumer may be able to take actions to mitigate, or whether the 
increase is due to more general factors such as changes in market 
conditions. The Board believes that consumers may find more detailed 
information confusing, and that, accordingly, the benefit to consumers 
of such detailed information would not outweigh the operational burden 
associated with providing additional detail.
    The disclosure requirements of new Sec.  226.9(c)(2)(iv)(A)(8) are 
intended to be flexible, to reflect the Board's understanding that 
different card issuers may consider different reasons, or may weigh 
similar reasons differently, in determining whether to raise the rate 
applicable to a consumer's account. Proposed comment 9(c)(2)(iv)-11 
notes that in some circumstances, it may be appropriate for a card 
issuer to combine the disclosure of several reasons in one statement. 
For example, assume that the rate applicable to a consumer's account is 
being increased because a consumer made a late payment on the credit 
card account on which the rate increase is being imposed, made a late 
payment on a credit card account with another card issuer, and the 
consumer's credit score decreased, in part due to such late payments. 
The card issuer may disclose the reasons for the rate increase as a 
decline in the consumer's credit score and the consumer's late payment 
on the account subject to the increase. Because the late payment on the 
credit card account with the other issuer also likely contributed to 
the decline in the consumer's credit score, it is not required to be 
separately disclosed.
    Similarly, the Board proposes to add a new Sec.  
226.9(g)(3)(i)(A)(6) for rate increases due to delinquency, default, or 
as a penalty not due to a change in contractual terms of the consumer's 
account pursuant to Sec.  226.9(g). Proposed Sec.  226.9(g)(3)(i)(A)(6) 
would require a card issuer to disclose no more than four reasons for 
the rate increase, listed in their order of importance, for a credit 
card account under an open-end (not home-secured) credit plan. New 
comment 9(g)-7 would cross-reference comment 9(c)(2)(iv)-11 for 
guidance on disclosure of the reasons for a rate increase.
    The Board proposes to amend Samples G-18(F), G-18(G), G-20, and G-
22 to incorporate examples of disclosures of the reasons for a rate 
increase as required by proposed Sec.  226.9(c)(2)(iv)(A)(8) and 
(g)(3)(i)(A)(6).

Section 226.52 Limitations on Fees

52(b) Limitations on Penalty Fees
    Most credit card issuers will assess a penalty fee if a consumer 
engages in activity that violates the terms of the cardholder agreement 
or other requirements imposed by the issuer

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with respect to the account. For example, most agreements provide that 
a fee will be assessed if the required minimum periodic payment is not 
received on or before the payment due date or if a payment is returned 
for insufficient funds or for other reasons. Similarly, many agreements 
provide that a fee will be assessed if amounts are charged to the 
account that exceed the account's credit limit.\2\ These fees have 
increased significantly over the past fifteen years. A 2006 report by 
the Government Accountability Office (GAO) found that late-payment and 
over-the-limit fees increased from an average of approximately $13 in 
1995 to an average of approximately $30 in 2005.\3\ The GAO also found 
that, over the same period, the percentage of issuer revenue derived 
from penalty fees increased to approximately 10%.\4\
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    \2\ The Board notes that some card issuers have recently 
announced that they will cease imposing fees for exceeding the 
credit limit. In addition, Sec.  226.56 prohibits card issuers from 
imposing such fees unless the consumer has consented to the issuer's 
payment of transactions that exceed the credit limit.
    \3\ U.S. Gov't Accountability Office, Credit Cards: Increased 
Complexity in Rates and Fees Heightens Need for More Effective 
Disclosures to Consumers (Sept. 2006) (GAO Credit Card Report) at 5, 
18-22, 33, 72 (available at https://www.gao.gov/new.items/d06929.pdf).
    \4\ See GAO Credit Card Report at 72-73.
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    According to data obtained by the Board from Mintel Comperemedia, 
the average late payment fee has increased to approximately $37 as of 
May 2009, while the average over-the-limit fee has increased to 
approximately $36.\5\ In addition, a July 2009 review of credit card 
application disclosures by the Pew Charitable Trusts found that the 
median late-payment and over-the-limit fees charged by the twelve 
largest bank card issuers were $39.\6\
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    \5\ The Mintel data, which is derived from a representative 
sample of credit card solicitations, indicates that the average late 
payment fee was approximately $37 in January 2007 and remained at 
that level through May 2009. During the same period, the average 
over-the-limit fee increased from approximately $35 to approximately 
$36. In addition, the average returned-payment fee during this 
period increased from approximately $30 to approximately $32.
    \6\ See The Pew Charitable Trusts, Still Waiting: ``Unfair or 
Deceptive'' Credit Card Practices Continue as Americans Wait for New 
Reforms to Take Effect (Oct. 2009) (Pew Credit Card Report) at 3, 
12-13, 31-33 (available at https://www.pewtrusts.org/uploadedFiles/wwwpewtrustsorg/Reports/Credit_Cards/Pew_Credit_Cards_Oct09_Final.pdf). As noted in the Pew Credit Card Report, the largest bank 
card issuers generally tier late payment fees based on the account 
balance (with a median fee of $39 applying when the account balance 
is $250 or more). Similarly, some bank card issuers tier over-the-
limit fees (with the median fee of $39 applying when the account 
balance is $1,000 or more). In both cases, the balance necessary to 
trigger the highest penalty fee is significantly less than the 
average outstanding balance on active credit card accounts. See id. 
at 12-13, 31.
---------------------------------------------------------------------------

    However, it appears that many smaller credit card issuers charge 
significantly lower late-payment and over-the-limit fees. For example, 
the Board understands that some community bank issuers charge late-
payment and over-the-limit fees that average between $17 to $25. In 
addition, the Board understands that many credit unions charge late-
payment and over-the-limit fees of $20 on average. Similarly, the Pew 
Credit Card Report found that the median late-payment and over-the-
limit fees charged by the twelve largest credit union card issuers were 
$20.\7\
---------------------------------------------------------------------------

    \7\ See Pew Credit Card Report at 3, 31-33.
---------------------------------------------------------------------------

    The Credit Card Act creates a new TILA Section 149. Section 149(a) 
provides that ``[t]he amount of any penalty fee or charge that a card 
issuer may impose with respect to a credit card account under an open 
end consumer credit plan in connection with any omission with respect 
to, or violation of, the cardholder agreement, including any late 
payment fee, over-the-limit fee, or any other penalty fee or charge, 
shall be reasonable and proportional to such omission or violation.'' 
Section 149(b) further provides that the Board, in consultation with 
the other Federal banking agencies \8\ and the National Credit Union 
Administration (NCUA), shall issue rules that ``establish standards for 
assessing whether the amount of any penalty fee or charge * * * is 
reasonable and proportional to the omission or violation to which the 
fee or charge relates.''
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    \8\ The Office of the Comptroller of the Currency (OCC), the 
Federal Deposit Insurance Corporation (FDIC), and the Office of 
Thrift Supervision (OTS).
---------------------------------------------------------------------------

    In issuing these rules, new TILA Section 149(c) requires the Board 
to consider: (1) The cost incurred by the creditor from such omission 
or violation; (2) the deterrence of such omission or violation by the 
cardholder; (3) the conduct of the cardholder; and (4) such other 
factors as the Board may deem necessary or appropriate. Section 149(d) 
authorizes the Board to establish ``different standards for different 
types of fees and charges, as appropriate.'' Finally, Section 149(e) 
authorizes the Board--in consultation with the other Federal banking 
agencies and the NCUA--to ``provide an amount for any penalty fee or 
charge * * * that is presumed to be reasonable and proportional to the 
omission or violation to which the fee or charge relates.''
    As discussed below, the Board proposes to implement new TILA 
Section 149 in proposed Sec.  226.52(b). In developing this proposal, 
the Board consulted with the other Federal banking agencies and the 
NCUA.
Reasonable and Proportional Standard and Consideration of Statutory 
Factors
    As noted above, the Board is responsible for establishing standards 
for assessing whether a credit card penalty fee is reasonable and 
proportional to the violation for which it is imposed. New TILA Section 
149 does not define ``reasonable and proportional,'' nor is the Board 
aware of any generally accepted definition for those terms when used in 
conjunction with one another. As a separate legal term, ``reasonable'' 
has been defined as ``fair, proper, or moderate.'' \9\ Congress often 
uses a reasonableness standard to provide agencies or courts with broad 
discretion in implementing or interpreting a statutory requirement.\10\ 
The term ``proportional'' is seldom used by Congress and does not have 
a generally-accepted legal definition. However, it is commonly defined 
as meaning ``corresponding in size, degree, or intensity'' or as 
``having the same or a constant ratio.'' \11\ Thus, it appears that 
Congress intended the words ``reasonable and proportional'' in new TILA 
Section 149(a) to require that there be a reasonable and generally 
consistent relationship between the dollar amounts of credit card 
penalty fees and the violations for which those fees are imposed, 
providing the Board with substantial discretion in implementing that 
requirement.
---------------------------------------------------------------------------

    \9\ E.g., Black's Law Dictionary at 1272 (7th ed. 1999); see 
also id. (``It is extremely difficult to state what lawyers mean 
when they speak of `reasonableness.' '' (quoting John Salmond, 
Jurisprudence 183 n.(u) (Glanville L. Williams ed., 10th ed. 1947)).
    \10\ See, e.g., 42 U.S.C. 12112(b)(5) (defining the term 
``discriminate'' to include ``not making reasonable accommodations 
to the known physical or mental limitations of an otherwise 
qualified individual with a disability who is an applicant or 
employee''); 28 U.S.C. 2412(b) (``Unless expressly prohibited by 
statute, a court may award reasonable fees and expenses of attorneys 
* * * to the prevailing party in any civil action brought by or 
against the United States or any agency.''); 43 U.S.C. 1734(a) 
(``Notwithstanding any other provision of law, the Secretary may 
establish reasonable filing and service fees and reasonable charges, 
and commissions with respect to applications and other documents 
relating to the public lands and may change and abolish such fees, 
charges, and commissions.'').
    \11\ E.g., Merriam-Webster's Collegiate Dictionary at 936 (10th 
ed. 1995).
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    However, in Section 149(c), Congress also set forth certain factors 
that the Board is required to consider when establishing standards for 
determining whether penalty fees are reasonable and proportional. 
Although Section 149(c) only requires consideration of these

[[Page 12339]]

factors, the Board believes that they reflect Congressional intent with 
respect to the implementation of Section 149(a) and therefore provide 
useful measures for determining whether penalty fees are ``reasonable 
and proportional.'' Accordingly, when implementing the reasonable and 
proportional requirement, the Board has been guided by these factors. 
In addition, pursuant to its authority under Section 149(c)(4) to 
consider ``such other factors as the Board may deem necessary or 
appropriate,'' the Board has considered the need for general 
regulations that can be consistently applied by card issuers and 
enforced by the Federal banking agencies, the NCUA, and the Federal 
Trade Commission. The Board has also considered the need for 
regulations that result in fees that can be effectively disclosed to 
consumers in solicitations, account-opening disclosures, and elsewhere.
    As discussed below, when the statutory factors in Section 149(c) 
were in conflict, the Board found it necessary to give more weight to a 
particular factor or factors. In addition, while the Board has 
generally attempted to establish consistent relationships between the 
dollar amounts of penalty fees and the violations for which they are 
imposed, there are certain circumstances in which the Board believes 
that a particular factor or factors may warrant modifications to those 
relationships that could produce some degree of inconsistency. The 
Board is making these determinations pursuant to the authority granted 
by new TILA Section 149 and existing TILA Section 105(a). In 
particular, as noted above, new TILA Section 149(d) provides that ``the 
Board may establish different standards for different types of fees and 
charges, as appropriate.''
Cost Incurred as a Result of Violations
    New TILA Section 149(c)(1) requires the Board to consider the cost 
incurred by the creditor from the violation. The Board believes that, 
for purposes of new TILA Section 149(a), the dollar amount of a penalty 
fee is reasonable and proportional to a violation if it represents a 
reasonable proportion of the total costs incurred by the issuer as a 
result of that type of violation across all consumers. This 
interpretation appears to be consistent with Congress' intent insofar 
as it permits card issuers to use penalty fees to pass on the costs 
incurred as a result of violations while ensuring that those costs are 
spread evenly among consumers and that no individual consumer bears an 
unreasonable or disproportionate share. As discussed below, the Board 
also intends to adopt a safe harbor amount for penalty fees that the 
Board believes would be generally sufficient to cover issuers' costs.
    The Board notes that the proposed rule would not require that a 
penalty fee be reasonable and proportional to the costs incurred as a 
result of a specific violation on a specific account. Such a 
requirement would force card issuers to wait until after a violation 
has occurred to determine the associated costs. In addition to being 
inefficient and overly burdensome for card issuers, this type of 
requirement would be difficult for regulators to enforce and would 
result in fees that could not be disclosed to consumers in advance. The 
Board does not believe that Congress intended this result. Instead, as 
discussed in greater detail below, the proposed rule would require card 
issuers to determine that their penalty fees represent a reasonable 
proportion of the total costs incurred by the issuer as a result of the 
type of violation (for example, late payments).
Deterrence of Violations
    New TILA Section 149(c)(2) requires the Board to consider the 
deterrence of violations by the cardholder. The Board believes that a 
penalty fee is reasonable and proportional to a violation under new 
TILA Section 149(a) if the dollar amount of the fee is reasonably 
necessary to deter that type of violation. The Board believes that this 
interpretation is consistent with Congress' intent because it will 
prevent consumers from being charged fees that unreasonably exceed--or 
are out of proportion to--their deterrent effect. As discussed below, 
the Board would also adopt a safe harbor amount for penalty fees that 
the Board believes would be generally sufficient to deter violations.
    The proposed rule does not require that penalty fees be calibrated 
to deter individual consumers from engaging in specific violations. The 
Board believes that this type of requirement would be unworkable 
because the amount necessary to deter a particular consumer from, for 
example, paying late may depend on the individual characteristics of 
that consumer (such as the consumer's disposable income or other 
obligations) and other highly specific factors. Imposing such a 
requirement would create compliance, enforcement, and disclosure 
difficulties similar to those discussed above with respect to costs. 
Accordingly, as discussed in more detail below, the proposed rule would 
require that penalty fees be reasonably necessary to deter the type of 
violation, rather than a specific violation or an individual 
consumer.\12\
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    \12\ The Board acknowledges that a penalty fee is unlikely to 
have a deterrent effect in circumstances where consumers cannot 
avoid the violation of the account terms. However, deterrence is a 
required factor under new TILA Section 149(c), and there is evidence 
indicating that, as a general matter, penalty fees may deter future 
violations of the account terms. See Agarwal et al., Learning in the 
Credit Card Market (Feb. 8, 2008) (finding that, based on a study of 
four million credit card statements, a consumer who incurs a late 
payment fee is 40% less likely to incur a late payment fee during 
the next month, although this effect depreciates approximately 10% 
each month) (available at https://papers.ssrn.com/sol3/papers.cfm?abstract_id=1091623&download=yes).
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Consumer Conduct
    New TILA Section 149(c)(3) requires the Board to consider the 
conduct of the cardholder. As discussed above, the Board does not 
believe that Congress intended to require that each penalty fee be 
based on an assessment of the individual characteristics of the 
violation. Thus, the proposed rule would not require card issuers to 
examine the conduct of the individual consumer before imposing a 
penalty fee. The Board believes that--to the extent certain consumer 
conduct that violates the account terms or other requirements has the 
effect of increasing the costs incurred by the card issuer--fees 
imposed pursuant to the proposed rule would reflect that conduct 
because the issuer would be permitted to recover the increased cost. 
Similarly, the proposed rule takes consumer conduct into account by 
permitting issuers to charge penalty fees that are reasonably necessary 
to deter certain types of conduct that result in violations. Thus, 
because consideration of individual consumer conduct is not feasible 
and because general consumer conduct would be reflected in the cost and 
deterrence analyses, the Board's general rule would not permit penalty 
fees to be based exclusively on consumer conduct.
    However, the Board considered consumer conduct when developing 
other provisions of the proposed rule. These provisions reflect the 
Board's belief that Congress intended the amount of a penalty fee to 
bear a reasonable relationship to the magnitude of the violation. For 
example, a consumer who exceeds the credit limit by $5 should not be 
penalized to the same degree as a consumer who exceeds the limit by 
$500. Accordingly, the proposed rule would prohibit issuers from 
imposing penalty fees that exceed the dollar amount associated with the 
violation of the account terms or other requirements. Thus, a consumer 
who exceeds the

[[Page 12340]]

credit limit by $5 could not be charged an over-the-limit fee of more 
than $5.
    The proposed rule would also establish a safe harbor permitting 
higher penalty fees when a large dollar amount is associated with the 
violation. Specifically, issuers would be permitted to impose penalty 
fees that do not exceed 5% of the dollar amount associated with the 
violation (up to a maximum amount). Thus, a consumer who exceeds the 
credit limit by $500 could be charged an over-the-limit fee of $25.
    Furthermore, the proposed rule would prohibit issuers from imposing 
multiple penalty fees based on a single event or transaction. The Board 
believes that imposing multiple fees in these circumstances could be 
unreasonable and disproportionate to the conduct of the consumer 
because the same conduct may result in a single or multiple violations, 
depending on circumstances that may not be in the control of the 
consumer. For example, the proposed rule would prohibit issuers from 
charging a late payment fee and a returned payment fee based on a 
single payment.
    Finally, the Board solicits comment on whether there are additional 
methods for regulating the amount of credit card penalty fees based on 
the conduct of the consumer. In particular, the Board solicits comment 
on whether the safe harbor in Sec.  226.52(b)(3) should permit issuers 
to base penalty fees on consumer conduct by:
     Tiering the dollar amount of penalty fees based on the 
number of times a consumer engages in particular conduct during a 
specified period. For example, card issuers could be permitted to 
charge a fee for the second late payment during a 12-month period that 
is higher than the fee charged for the first late payment.
     Imposing penalty fees in increments based on the 
consumer's conduct. For example, card issuers could be permitted to 
charge a late payment fee of $5 each day after the payment due date 
until the required minimum periodic payment is received. Thus, a 
consumer who is only a day late would be charged $5 in late payment 
fees, while a consumer who is five days late would be charged $25.
52(b)(1) General Rule
    Proposed Sec.  226.52(b)(1) implements the general rule in new TILA 
Section 149(a) by providing that a card issuer must not impose a fee 
for violating the terms or other requirements of a credit card account 
under an open-end (not home-secured) consumer credit plan unless the 
card issuer has determined that either: (1) The dollar amount of the 
fee represents a reasonable proportion of the total costs incurred by 
the card issuer as a result of that type of violation; or (2) the 
dollar amount of the fee is reasonably necessary to deter that type of 
violation.
    Because a card issuer is in the best position to determine the 
costs it incurs as a result of violations and the deterrent effect of 
its penalty fees, the Board believes that, as a general matter, it is 
appropriate to make card issuers responsible for determining that their 
fees comply with new TILA Section 149(a) and Sec.  226.52(b)(1). As 
discussed below, proposed Sec.  226.52(b)(3) contains a safe harbor 
that is intended to reduce the burden of making these determinations. 
The Board notes that a card issuer that chooses to base its penalty 
fees on its own determinations (rather than on the safe harbor) must be 
able to demonstrate to the regulator responsible for enforcing 
compliance with TILA and Regulation Z that its determinations are 
consistent with Sec.  226.52(b)(1).
    As discussed above, it would be inefficient and overly burdensome 
to require card issuers to make individualized determinations with 
respect to the costs incurred as a result of each violation or the 
amount necessary to deter each violation. Instead, card issuers would 
be required to make these determinations with respect to the type of 
violation (for example, late payments), rather than a specific 
violation or an individual consumer. Although ``the conduct of the 
cardholder'' is a relevant consideration under new TILA Section 
149(c)(3), proposed Sec.  226.52(b)(1) would not require a card issuer 
to examine the conduct of the individual consumer with respect to a 
particular violation before imposing a penalty fee, nor would it permit 
an issuer to base the amount of a penalty fee solely on a consumer's 
conduct. Instead, the Board believes that this factor supports the 
prohibitions in proposed Sec.  226.52(b)(2) on penalty fees that exceed 
the dollar amount associated with the violation and the imposition of 
multiple penalty fees based on a single event or transaction.
    Proposed comment 52(b)-1 would clarify that, for purposes of Sec.  
226.52(b), a fee is any charge imposed by a card issuer based on an act 
or omission that violates the terms of the account or any other 
requirements imposed by the card issuer with respect to the account, 
other than charges attributable to periodic interest rates. This 
comment provides the following examples of fees that are subject to the 
limitations in--or prohibited by--Sec.  226.52(b): (1) Late payment 
fees and any other fees imposed by a card issuer if an account becomes 
delinquent or if a payment is not received by a particular date; (2) 
returned-payment fees and any other fees imposed by a card issuer if a 
payment received via check, automated clearing house, or other payment 
method is returned; (3) any fee or charge for an over-the-limit 
transaction as defined in Sec.  226.56(a), to the extent the imposition 
of such a fee or charge is permitted by Sec.  226.56; \13\ (4) any fee 
or charge for a transaction that the card issuer declines to authorize; 
and (5) any fee imposed by a card issuer based on account inactivity 
(including the consumer's failure to use the account for a particular 
number or amount of transactions or a particular type of transaction) 
or the closure or termination of an account.\14\
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    \13\ It appears that Congress intended new TILA Section 149 to 
apply to all over-the-limit fees, even if the consumer has 
affirmatively consented to the payment of over-the-limit 
transactions pursuant to new TILA Section 127(k) and Sec.  226.56. 
See new TILA Sec.  149(a) (listing over-the-limit fees as an example 
of a penalty fee or charge). Furthermore, the Board has determined 
that the Credit Card Act's restrictions on fees for over-the-limit 
transactions apply regardless of whether the card issuer 
characterizes the fee as a fee for a service or a fee for a 
violation of the account terms. See comment 56(j)-1.
    \14\ As discussed below, Sec.  226.52(b)(2)(i)(B) would prohibit 
the imposition of fees for declined transactions, fees based on 
account inactivity, and fees based on the closure or termination of 
an account.
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    Proposed comment 52(b)-1 would also provide the following examples 
of fees to which Sec.  226.52(b) does not apply: (1) Balance transfer 
fees; (2) cash advance fees; (3) foreign transaction fees; (4) annual 
fees and other fees for the issuance or availability of credit 
described in Sec.  226.5a(b)(2), except to the extent that such fees 
are based on account inactivity; (4) fees for insurance described in 
Sec.  226.4(b)(7) or debt cancellation or debt suspension coverage 
described in Sec.  226.4(b)(10) written in connection with a credit 
transaction, provided that such fees are not imposed as a result of a 
violation of the account terms or other requirements; (5) fees for 
making an expedited payment (to the extent permitted by Sec.  
226.10(e)); (6) fees for optional services (such as travel insurance); 
and (7) fees for reissuing a lost or stolen card.
    In addition, proposed comment 52(b)-1 would clarify that Sec.  
226.52(b) does not apply to charges attributable to an increase in an 
annual percentage rate based on an act or omission that violates the 
account terms. Currently, many credit card issuers apply an increased

[[Page 12341]]

annual percentage rate (or penalty rate) based on certain violations of 
the account terms. Application of this increased rate can result in 
increased interest charges. However, the Board does not believe that 
Congress intended the words ``any penalty fee or charge'' in new TILA 
Section 149(a) to apply to penalty rate increases.
    Elsewhere in the Credit Card Act, Congress expressly referred to 
increases in annual percentage rates when it intended to address 
them.\15\ In fact, the Credit Card Act contains several provisions that 
specifically limit the ability of card issuers to apply penalty rates. 
Revised TILA Section 171 prohibits application of penalty rates to 
existing credit card balances unless the account is more than 60 days 
delinquent. See revised TILA Sec.  171(b)(4); see also Sec.  
226.55(b)(4). Furthermore, if an account becomes more than 60 days 
delinquent and a penalty rate is applied to an existing balance, the 
card issuer must terminate the penalty rate if it receives the required 
minimum payments on time for the next six months. See revised TILA 
Sec.  171(b)(4)(B); Sec.  226.55(b)(4)(ii). With respect to new 
transactions, new TILA Sec.  172(a) generally prohibits card issuers 
from applying penalty rates during the first year after account 
opening. See also Sec.  226.55(b)(3)(iii). Subsequently, the card 
issuer must provide 45 days advance notice before applying a penalty 
rate to new transactions. See new TILA Sec.  127(i); Sec.  226.9(g). 
Finally, once a penalty rate is in effect, the card issuer generally 
must review the account at least once every six months thereafter and 
reduce the rate if appropriate. See new TILA Sec.  148; proposed Sec.  
226.59. These protections--in combination with the lack of any express 
reference to penalty rate increases in new TILA Section 149--indicate 
that Congress did not intend to apply the ``reasonable and 
proportional'' standard to increases in annual percentage rates.\16\
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    \15\ For example, revised TILA Section 171(a) and (b) and new 
TILA Section 172 explicitly distinguish between annual percentage 
rates, fees, and finance charges.
    \16\ The Board also notes that prior versions of the Credit Card 
Act contained language that would have limited the amount of penalty 
rate increases, but that language was removed prior to enactment. 
See S. 414 Sec.  103 (introduced Feb. 11, 2009) (proposing to create 
a new TILA Sec.  127(o) requiring that ``[t]he amount of any fee or 
charge that a card issuer may impose in connection with any omission 
with respect to, or violation of, the cardholder agreement, 
including any late payment fee, over the limit fee, increase in the 
applicable annual percentage rate, or any similar fee or charge, 
shall be reasonably related to the cost to the card issuer of such 
omission or violation'') (emphasis added) (available at https://thomas.loc.gov).
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    Proposed comment 52(b)-2 would clarify that a card issuer may round 
any fee that complies with Sec.  226.52(b) to the nearest whole dollar. 
For example, if the proposed rule permits a card issuer to impose a 
late payment fee of $21.50, the card issuer may round that amount up to 
the nearest whole dollar and impose a late payment fee of $22. However, 
if the permissible late payment fee were $21.49, the card issuer would 
not be permitted to round that amount up to $22, although the card 
issuer could round that amount down and impose a late payment fee of 
$21.
    Proposed comment 52(b)(1)-1 would clarify that the fact that a card 
issuer's fees for violating the account terms are comparable to fees 
assessed by other card issuers is not sufficient to satisfy the 
requirements of Sec.  226.52(b)(1). Instead, a card issuer must make 
its own determinations whether the amounts of its fees represent a 
reasonable proportion of the total costs incurred by the issuer or are 
reasonably necessary to deter violations.

A. Fees Based on Costs

    Proposed comment 52(b)(1)(i)-1 would clarify that a card issuer is 
not required to base its fees on the costs incurred as a result of a 
specific violation of the account terms or other requirements. Instead, 
for purposes of Sec.  226.52(b)(1)(i), a card issuer must have 
determined that a fee for violating the account terms or other 
requirements represents a reasonable proportion of the costs incurred 
by the card issuer as a result of that type of violation. The factors 
relevant to this determination include: (1) The number of violations of 
a particular type experienced by the card issuer during a prior period; 
and (2) the costs incurred by the card issuer during that period as a 
result of those violations. In addition, the card issuer may, at its 
option, base its fees on a reasonable estimate of changes in the number 
of violations of that type and the resulting costs during an upcoming 
period.
    For example, a card issuer could satisfy Sec.  226.52(b)(1)(i) by 
determining that its late payment fee represents a reasonable 
proportion of the total costs incurred by the card issuer as a result 
of late payments based on the number of delinquencies it experienced in 
the past twelve months, the costs incurred as a result of those 
delinquencies, and a reasonable estimate about changes in delinquency 
rates and the costs incurred as a result of delinquencies during a 
subsequent period of time (such as the next twelve months). As 
discussed below, proposed comments 52(b)(1)(i)-4 through -6 would 
provide more detailed examples of the types of costs that a card issuer 
may incur as a result of late payments, returned payments, and 
transactions that exceed the credit limit as well as examples of fees 
that would represent a reasonable proportion of those costs.
    Proposed comment 52(b)(1)(i)-2 would clarify that, although higher 
rates of loss may be associated with particular violations of the 
account terms, those losses and associated costs (such as the cost of 
holding reserves against losses) are excluded from the Sec.  
226.52(b)(1)(i) cost analysis. Although an account cannot become a loss 
without first becoming delinquent, delinquencies and associated losses 
may be caused by a variety of factors (such unemployment, illness, and 
divorce). Furthermore, it appears that most violations of the account 
terms do not actually result in losses.\17\
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    \17\ For example, data submitted to the Board during the comment 
period for the January 2009 FTC Act Rule indicated that more than 
93% of accounts that were over the credit limit or delinquent twice 
in a twelve month period did not charge off during the subsequent 
twelve months. See Federal Reserve Board Docket No. R-1314: Exhibit 
5, Table 1a to Comment from Oliver I. Ireland, Morrison Foerster LLP 
(Aug 7, 2008) (Argus Analysis) (presenting results of analysis by 
Argus Information & Advisory Services, LLC of historical data for 
consumer credit card accounts believed to represent approximately 
70% of all outstanding consumer credit card balances). Furthermore, 
because collections generally continue after the account has been 
charged off, an account that has been charged off is not necessarily 
a total loss.
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    In addition, the Board understands that, as a general matter, card 
issuers currently do not price for the risk of loss through penalty 
fees; instead, issuers generally price for risk through upfront annual 
percentage rates and penalty rate increases.\18\ However, the Credit 
Card Act generally prohibits penalty rate increases during the first 
year after account opening and with respect to existing balances.\19\ 
The Board imposed similar limitations in January 2009, reasoning that 
pricing for risk using upfront rates rather than penalty rate increases 
would promote transparency and protect consumers from unanticipated 
increases in the cost of