Continuing a post-CARD Act trend of proactive regulation, the Federal Reserve recently proposed rules that, if adopted, would significantly improve the credit card application process. These rules would require banks to judge applicants for credit card offers based on their personal income rather than that of their household, as is currently the case, thereby making it far easier for issuers to judge who merits credit approval and, in turn, significantly decrease the likelihood of overleveraging.
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The current credit card application system
As the rules currently stand, credit card companies evaluate prospective customers based on household income as well as individual debts and liabilities. This imbalance makes application transparency and truly educated credit attribution decisions nearly impossible to achieve for cohabitating adults because it distorts ability-to-pay considerations.
Imagine, for example, that two people—we’ll call them A and B—apply independently for one of the credit cards for people with excellent credit. They both fill out applications, listing their household incomes and personal indebtedness, among many other things. They both have excellent credit scores. A has $50,000 in unsecured debt and $80,000 per year in household income. B too has $80,000 in household income but has no debt. To whom do you think the credit card company would decide to give credit?
B has more disposable income and is therefore the obvious choice on paper. However, unbeknownst to the credit issuer, A and B are a married couple with two young children. A earns the family’s income and B is a stay-at-home parent. The two share A’s wages as well as the obligation to make monthly payments towards A’s debt. As a result, B does not actually have more disposable income than A and is not a better credit candidate. Still, B got approved for a credit card when A didn’t. Obviously, the system as it currently exists is broken.
Implications of proposed Fed changes
The Fed’s changes would undoubtedly improve the credit card application process by bestowing upon credit card companies an accurate sense of their applicants’ financials situations. However, the proposal does have its flaws—the most significant of which being the burden it would place on stay-at-home parents.
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Concerns: How would these rules affect stay-at-home parents?
Most members of this demographic do not have independent income, meaning rules requiring that credit card companies only consider individually-earned money would largely shut off stay-at-home parents from credit. This would present a significant problem for such people if they got divorced or suffered the loss of a spouse because they would have no individual credit history and might therefore have a difficult time garnering a loan, landing a job or buying or renting either a house or an automobile.
Solutions: Joint credit card applications
Still, this issue should not result in the demise of the Fed’s proposed rules. These rules simply have too much potential. That is why I propose that the adoption of the Fed’s rules should be quickly followed by a requirement that credit card companies accept joint applications for credit cards, on which two individuals would both list their Social Security Numbers in addition to information about their incomes and assets as well as their debts and liabilities. This would allow couples joint-responsibility as well as the chance to build independent credit histories.
The best case scenario would be both of these measures taking effect. However, if the joint-application gets delayed or even amounts to nothing more than talk, it would not be the end of the world. The Fed’s proposed rules will improve the credit card industry drastically, and stay-at-home parents can always use secured credit cards to build independent credit. Income is not a requirement for such a card; all one needs is cash for a security deposit and a valid Social Security number. Still, we should all hope for the best.
Odysseas Papadimitriou is chief executive and founder of CardHub.com, a website that helps consumers find the best credit card deals and set up their own maintenance-free gift card wishlist.