This paper was written as background research for The Money Charity’s responses to the Financial Conduct Authority consultations on the short term credit market. As a reference document it may be of interest to people working in the sector.
Key Points on credit card minimum payments
- The legal minimum credit card payment (per month) is: interest, fees and charges plus one percent of the outstanding balance.
- This was introduced by an agreement between the Department of Business, Industry and Skills (BIS) and the credit card industry that came into force in 2011 and is now in the FCA’s rules.
- Most credit card issuers use a formula based on this minimum.
- Between 2014 and 2018, the FCA carried out a Credit Card Market Study.
- The FCA found that actual credit card payments are highly polarised between those who repay their credit card in full each month and those who pay only the minimum 1% or are in arrears. Very few consumers pay between these two extremes.
- In behavioural trials, consumers making manual credit card payments significantly increased their level of payment when the ‘anchor’ of the minimum payment was removed from the credit card payment screen.
- Similar uplift occurred for consumers setting up new direct debit payments for their credit card bills, but the effect with DDs was not persistent.
- Rather than raising the minimum payment, the FCA is currently focused on the implementation of its new (2018) credit card rules, which require companies to take action to limit persistent credit card debt among consumers.
- The FCA has no current plans to increase the minimum payment, but says it will review the issue when it has assessed the impact of the new Credit Card Market Study rules. It is considering whether to go forward with ‘de-anchoring’, ie removing the minimum payment and leaving it to consumers to choose their own monthly payment.
Developments from 2000 to 2009
Credit card minimum payments have been controversial over the last two decades. For example, in 2003-04, the House of Commons Treasury Select committee looked into the issue and reported:
Although credit cards are a flexible form of borrowing, terms and conditions specify a minimum monthly payment that the consumer needs to make. This is typically 2% – 5% of the outstanding balance. The Task Force on Over-indebtedness expressed concern that ‘a number of lenders have in recent times reduced the minimum repayments that are required for credit card debts, sometimes to as little as 2%. At this level borrowers will be paying little, if any, of the principal outstanding.’ (Para 95)
In the late 2000s, there were media reports suggesting that credit card firms had been lowering the monthly minimum. For example:
Over the past few years the minimum repayment amounts for credit cards have fallen from a typical 5% of the outstanding balance to an average 2-3% of the outstanding debt.
Just last year , for example, Halifax announced that they were cutting their minimum payments in half to just 1% for most credit cardholders.
Those kind [sic] of small required repayments can quadruple the original credit card debt for those people who never pay off more than the minimum over a long period.
Customers who make only low monthly repayments for years have been known to end up spending longer paying off their credit card than their mortgage and the trap is thought to particularly affect the most vulnerable people.
The effect of the new Halifax rule was that credit card customers would pay only slightly more than their monthly interest, extending the notional repayment term for a £5000 debt to 80 years.
The 2009 BIS review
In 2009, the Department for Business, Innovation and Skills (BIS) conducted a review of the regulation of credit and store cards. In its evidence to the review, the UK Cards Association provided evidence on the level of minimum payments being made at that time. At the lowest, minimum payments were set to avoid ‘negative amortisation’, ie they were at or slightly above the level of interest, fees and charges owing on the outstanding balance. However, minimum payments varied by risk band:
In recent years it has been fairly common for credit card lenders to reduce the level at which minimum payments are set across parts of their portfolio. The average required minimum payment for the UK industry is 3% of balances… However, the required minimum payment differs by risk band. Whilst being relatively consistent for the low, medium and high risk accounts, the average required minimum payment for high risk accounts is closer to 5%. (Page 128)
The UK Cards Association calculated that it would cost the industry £343 million in lost revenue if the minimum payment were raised to 1% of principal (in addition to interest, fees and charges). If the minimum were raised to 5% it would cost the industry £1,492 million.
From 2011 – the minimum payment rule
The BIS/Industry deal, December 2010
The BIS review resulted in December 2010 in a ‘voluntary’ deal with the industry that the minimum payment for consumers opening new accounts “will always cover at least interest, fees and charges, plus 1% of the principal to encourage better repayment practice.” The new rule was introduced on 1 April 2011.
The FCA credit card minimum payment rule
The minimum payment rule established in April 2011 has remained in place. It is currently in the Financial Conduct Authority’s CONC 6.7.5, which reads:
A firm must set the minimum required repayment under a regulated credit agreement for a credit card or a store card at an amount equal to at least that amount which repays the interest, fees and charges that have been applied to the customer’s account, plus one percentage of the amount outstanding.
Current bank practice
The 1% + interest, fees and charges rule seems to be the typical contractual minimum payment. For example:
The Post Office credit card (operated by the Bank of Ireland) has the following minimum payment rule:
Any monthly minimum payment will be rounded up to the nearest pound (£) and will be the greatest of:
2.5% of the outstanding balance on your statement (minimum £5) OR
The full balance (if less than £5) OR
1% of the outstanding balance plus interest, plus fees, plus any insurance premium.
The options “2.5% of outstanding balance” and “1% of principal plus interest” are equivalent at an interest rate of 18%. At interest rates above that level, “1% of principal plus interest” is the higher amount.
The effect of the £5 minimum is to slightly shorten the long tail of payments that occur when the outstanding principal eventually (after 20 years) reaches a low level.
Nationwide has the same percentage minimum payment rule as the Post Office, but with a £25 minimum payment.
Barclaycard describes its minimum payments as follows:
If you opened your account after December 2010… your minimum payment will be the greatest of:
£5 (or the total outstanding balance if it’s less than £5)
25% of your main balance plus any purchase plan instalments due for that month (if you have a plan)
Default charges and annual fees, plus interest, plus 1% of your main balance.
If you opened your account before December 2010… your minimum payment will be the greatest of:
£5 (or the total outstanding balance if it’s less than £5)
25% of your main balance
1% of your balance, plus interest
Barclaycard has the 1% minimum rule as per FCA CONC 6.7.5 and its description also shows the pre-2010 position, where the payment could be as low as 0.1% plus interest.
FCA consideration of credit card minimum payments
Credit card minimum payments have been kept under review by the FCA. They were considered in 2014-2016 in the FCA’s Credit Card Market Study. In its 2016 report, the FCA said:
7.36 In the interim report, we also mentioned that some stakeholders have suggested simply increasing the minimum repayment across the board, and invited feedback from stakeholders. We received several responses. Consumer groups were mostly in favour, citing the limits to behavioural change through disclosures.
7.37 Many were concerned about how it would be implemented. Some suggested it should be introduced incrementally to avoid payment shocks, or only starting with new contracts, or excluding those already struggling to meet the existing minimum repayments.
7.38 Industry respondents broadly did not support increasing minimum repayments across the board, citing the flexibility the current level provides. They argued that many people making frequent minimum repayments choose to do so rationally, for example, to minimise debt servicing costs in the short-term. They raised the issue of those on balance transfer deals currently paying no interest, and suggested detriment could result for customers who cannot afford to repay at a higher level than the existing minimum as they could fall into arrears.
The FCA said it would do further work, including consumer trials, before proposing any changes to the rules, with the results of this work being available in 2017.
Current consumer practice
Actual credit card payments arise from a combination of payment rules and consumer behaviour. In its 2014-16 credit card study, the FCA collected information on credit card payment practice and found that consumer behaviour is highly polarised between those who pay off their cards in full each month and those who pay either the legal minimum payment or just above the minimum payment:
Most people either paid off their credit card in full each month (the right hand bar) or paid the minimum or were in arrears (left hand bars). Very few were in the space in between.
This is a very unusual frequency distribution. In most statistical distributions there is a hump in the middle, either a ‘normal’ distribution (a symmetrical central hump) or a skewed distribution with a thick tail to either the right or left.
Were we to plot a chart of ‘credit card payment affordability’ it would be likely to have some sort of central hump, with tails at each end, like most statistical distributions.
The unusualness of the above chart suggests strongly that institutional anchoring effects are at work, and this is what the FCA’s report finds. Many consumers do not understand exactly what the minimum payment is, interpreting it as the ‘recommended payment’. Some have direct debits set up to take only the minimum payment each month. Many do not understand the cost of making only the minimum payment, or how long it will take them to repay their credit card debt this way. The presence of the minimum payment on credit card statements draws people toward making this payment only.
Trials have been conducted of improved messaging to consumers, encouraging them to increase their payments, but these tend to have only limited impact. For example, in one test conducted by Capital One, only 12% of consumers changed their minimum payment in response to a strong and helpful message. The FCA found no effect at all in a similar test it conducted.
Prima facie, we can conclude that if the minimum payment were raised, say to 2%, or if a minimum payment ratchet were introduced, the lower end of the monthly payment distribution would shift to this new minimum.
As a precaution, the FCA would need to explore the impact of such a rule change on the arrears rate. With 15% of consumers in arrears with a 1% minimum payment rule, it is possible that the arrears rate would increase if the minimum payment were increased. The extent of this would need to be investigated.
At the same time, there may be some sort of relationship between minimum payments and the amount of credit card debt people take on. With a higher minimum payment, people may be deterred from taking on as much debt as has happened with a 1% minimum payment rule, which would reduce any impact on the arrears rate.
Developments since 2016
The FCA issued further consultation papers in 2017, with proposed new rules which came into force in 2018.
New FCA rules, 2018
The outcome of the FCA’s credit card study was not to raise the legal minimum repayment, but to introduce rules requiring firms to assist customers ‘in persistent debt’. The FCA says that it regards 3-4 years as a reasonable repayment period for credit card debt. Where firms see that customers are in persistent debt for over 18 months, they must begin prompting them to raise their repayments. If the customer remains in persistent debt after 36 months, ‘lenders must offer customers a reasonable way to repay their balance. If customers are unable to pay, firms must show ‘forbearance’ and may have to reduce, waive or cancel any interest, fees or charges.’ Options include converting credit card debt into a personal loan at a lower rate of interest.
These rules came into effect (after a transition period) on 1 September 2018.
The FCA estimates that two million credit card accounts will need intervention at the 36 month mark, with up to around 570,000 accounts proceeding eventually to the forbearance option.
‘Persistent debt’ under these rules is where the customer has paid more in interest, fees and charges over the period in question (18 months in the first instance) than in reducing the principal. The Money Charity’s 2017 response to the FCA’s consultation on the draft rules criticised this definition as being too tight. We argued that payments slightly above the minimum (eg 1.5%) would result in the customer paying more in principal than in interest, fees and charges, therefore taking them out of the definition of persistent debt. However, such customers would still have very long repayment terms with very high levels of accumulated interest.
Minimum payment behavioural trials
In July 2018, the FCA published the results of its behavioural trials. These were focused not on increasing the legal minimum repayment, but on finding ways to get consumers to raise their repayments above the minimum. The key findings were:
- For manual payments (the majority), there was a strong de-anchoring effect when the minimum payment was removed from credit card screens. Consumers significantly increased their payments.
- For direct debit payments, there was a de-anchoring effect but this was offset by those who did not set up a DD at all and those who reduced later manual payments. There was no overall increase in repayments.
- Providing better information to consumers (graphics showing repayment amounts and time periods) had little or no effect on consumer behaviour.
The FCA is currently considering whether to go forward with a de-anchoring proposal, ie removing the minimum payment and leaving it to the consumer to decide their own level of payment.
On the legal minimum payment, in July 2018 the FCA announced the following:
“We do not propose to mandate an increase to the level of minimum repayments (required under CONC 6.7.5R) at this time. Firms are in the process of implementing our persistent debt and earlier intervention measures and some are responding by raising minimum repayment levels. We are keen to preserve flexibility for those who cannot afford higher repayments. We will reassess this issue once we have had time to assess the impact of the Credit Card Market Study package of remedies and the industry and consumer responses to these.”
FCA writes warning letter to credit card firms about credit card fee practices
In March 2019, the FCA wrote to all credit card firms warning that certain credit card fee practices were likely to be in breach of FCA rules. The fees in question are: late fees, over limit fees, returned payment fees and multiple fees in a single billing cycle, where one type of fee triggers further fees. The FCA explained that the charging of such fees is likely to be an indicator of consumer financial difficulty. Under FCA rules firms should be taking steps to assist customers in difficulty, rather than simply adding fees.
Options for changing minimum payment behaviour
There are a number of possible options, for example:
- Rely on the new FCA ‘persistent debt’ rules.
These have a narrow definition of persistent debt and a long intervention timetable, but the FCA’s statement that 3-4 years is a reasonable period for repayment of credit card debt may influence providers to increase minimum payments for those falling into the persistent debt category.
The FCA is considering ‘de-anchoring’ ie removing the minimum payment, in the expectation that this will lead consumers to voluntarily raise their repayment rate. Consumer tests show that where consumers are making manual monthly payments they tend to significantly increase their monthly payments when no minimum is specified.
- Introduce a payment ‘ratchet’, ie a fixed £ amount per month
Under a ratchet, payments would begin at 1% plus interest, but the £ amount would then be fixed, meaning that the percentage payment would gradually rise over 2-3 years as the interest component of the fixed payment fell, substantially reducing the repayment time to just over five years at current credit card interest rates.
- Raise the minimum payment
The minimum payment could be raised to two or three percent of principal, plus interest, fees and charges. This would substantially reduce the nominal repayment term, but only to 11-15 years, so it would not meet the FCA’s suggestion of a repayment term of 3-4 years, nor would it match the effect of a ratchet. The minimum payment would have to be raised to 6% to match the repayment term of a ratchet, leading to much higher initial payments.
- Raise the minimum payment and/or introduce a ratchet after a delay
To maintain credit flexibility (one of the FCA and industry arguments) consumers could be allowed to make the 1% payment for an initial period (say, 3-6 months), after which the repayment could be increased, a ratchet introduced, or both of these.
- Give consumers messages about credit costs
Each month’s credit card statement could include an individualised estimate of the cost of credit and repayment term at the minimum payment level, encouraging consumers to increase their repayments. This is attractive from a financial capability point of view, but consumer tests have so far been disappointing, showing little or no change in behaviour.
Policy and Research Manager, The Money Charity
10 July 2019
 https://publications.parliament.uk/pa/cm200304/cmselect/cmtreasy/125/125.pdf. The percentage repayment rates quoted in this paragraph include interest on the balance outstanding.
 FCA 2016, Credit Card Market Study, Annex 4: Behavioural Trials, page 2 https://www.fca.org.uk/publication/market-studies/ms14-6-3-credit-card-market-study-final-findings-report-annex-4.pdf
 In the FCA’s behavioural trials, a hump did appear in the distribution of payments when consumers were invited to choose their level of payment without being guided by the minimum. See page 7 of https://www.fca.org.uk/publication/research/research-note-helping-credit-card-users-repay-their-debt-summary-experimental-research.pdf
 ibid, page 5.
 For example, introduce a rule that the minimum £ payment in Month M+1 must be greater than or equal to the minimum payment in Month M. This would create a ‘ratchet’ preventing the minimum monthly payment falling as the outstanding balance falls, with the result that credit card debt would be paid off much faster than under the current diminishing balance rule. See The Money Charity, The Money Statistics April 2019, https://themoneycharity.org.uk/money-statistics/april-2019/ page 5.