Credit card companies make their money from a combination of interest and fees they charge on customers’ transactions as well as charges to use the credit card network. Credit card issuers make money from the principal and fees they charge to consumers, whereas companies that are part of the credit card network make money from enabling transactions and licensing. Fortunately for consumers, there are government regulations that protect them from excessive credit card fees.
When you look at your credit card balance at the end of the month, there are various parties involved in the “credit card industry.” There are credit card issuers, such as Citi Bank and Wells Fargo, credit card networks, such as Visa and Mastercard, and even companies that buy the debt in order to earn interest. Each member in this triumvirate makes money in different ways, from fees to interest to credit card transaction charges. As credit is absolutely vital to business and the capitalist economy, these charges allow credit card companies to keep extending credit. Below, we’ll break down the different types of fees you may see on your credit card statement.
How do credit card companies make money?
Credit card issuers make money by charging clients a combination of interest and fees on the money they borrow. Credit card networks make money from charging assessment fees on transactions that go through merchants. Collection agencies make money from buying delinquent debt and charging interest/fees.
Credit card issuers
Credit card issuers are usually banks or major financial institutions such as Wells Fargo or Chase. Other times, they will partner with a private company, such as an airline, to create a co-branded credit card. Credit card issuers make money in two ways: by charging interest on the money borrowed and by charging various fees, such as late fees.
Credit card issuers charge compounded interest rates. For instance, if you were to borrow $5,000 and not pay it back, then the interest would accrue every year, along with the principal, which is not compounded. Here is what that would look like over a period of five years.
|Year||Starting Balance||Interest (15%)||Ending Balance|
That compounded interest will keep growing larger if the balance is not paid off. In the above example, we simply show compounded interest, but remember, you will be required to make a minimum credit card payment every month. In many cases, you will not be able to use more credit if you do not meet the minimum monthly payment.
Credit card issuers make plenty of money on various fees that they charge to customers. If you have had to pay some of these fees, you know that they can seem never-ending. Below is a breakdown of fees that you might come across on your credit card statement.
|Fee Type||What Is It?|
|Annual Fees||Yearly charge for having a credit card.|
|Balance Transfer Fees||Fee for transferring a balance from one credit card to another.|
|Cash Advance Fees||Fee for using the credit card to obtain cash.|
|Foreign Transaction Fees||Fee for making purchases in a foreign currency or outside your home country.|
|Late Payment Fees||Fee charged if the minimum payment is not received by the due date.|
|Over-the-Limit Fees||Fee for exceeding the credit limit on the card.|
|Returned Payment Fees||Fee for a payment that is returned, often due to insufficient funds.|
|Finance Charges||Interest charges on the outstanding balance.|
|Penalty APR||The increased interest rate for violating the card’s terms.|
|Application Fee||Fee for processing a credit card application.|
|Paper Statement Fee||Fee for receiving paper statements by mail.|
|Card Replacement Fee||Fee for replacing a lost or stolen card.|
|Expedited Payment Fee||Fee for processing a payment quicker than the standard time period.|
|Inactivity Fee||Fee for not using the card for a certain period (rare).|
|Expedited Card Shipping||Fee for receiving a new or replacement card more quickly.|
|Rewards Redemption Fee||Fee for redeeming rewards points or miles (if applicable).|
Some of these fees probably sound familiar, such as an annual fee or a card replacement fee. You might not be as familiar with penalty APRs attributed to consistently late payments or returned funds and foreign transaction fees. These fees can add up both for the customer who owes them as well as the credit card company that collects them. However, due to government regulation, they cannot be too predatory (even if they sometimes seem like it).
Credit card network companies
You’ve probably seen a variety of commercials that tell you why amazing places around the world take Mastercard but not American Express. The companies mentioned in those overplayed commercials are credit card network companies. These network companies make money by renting out their brands, network, and services to enable credit card transactions. These are some of the fees they charge.
Interchange fees: These are fees paid by merchants’ banks to the cardholder’s bank for each transaction. Visa and Mastercard set the rates, but the fees are collected by the issuing banks. A small bit of this may be paid to a network company like Visa or Mastercard.
Assessment fees: These are fees paid by the issuing and acquiring banks to network companies. They are based on the volume and number of transactions processed. Assessment fees are in most cases, very small, and are just a minimal transaction charge.
Data processing fees: Fees for processing transactions and providing authorization, clearing, and settlement services.
International transaction fees: Additional fees for transactions that involve banks in different countries or currencies. You may want to familiarize yourself with forex if you are making a lot of foreign transactions (what the exchange rate is on the GBP to the USD, for example).
Brand licensing: Fees paid by issuing banks for the right to use the Visa or Mastercard brand on their credit and debit cards.
Subscription and software fees
Payment platform subscriptions: Fees for access to payment platforms, security services, and other technology solutions provided by Visa and Mastercard.
Penalties and fines: Fees charged to banks and merchants for non-compliance with network rules and regulations. Most of the time this isn’t an issue, as most major banks will manage compliance with technology. That isn’t to say, however, that someone can’t occasionally get slapped with a fine.
As you can see, credit card fees can really add up for consumers, as well as businesses. Check out our list of the best credit cards with no annual fee, and use our tool to compare the features of various personal credit cards.
Credit is important for businesses too
Credit and debt are healthy in a properly functioning global free market economy. Many people will attest to credit cards being essential to maintaining their cash flow and quality of life, but they are essential to businesses as well.
Drew Mallozzi, the chief investment officer at Atlas Credit Partners, is very familiar with the business side of credit. “Middle-market companies are actively seeking comprehensive and collaborative solutions that commercial and industrial banks once provided,” he says. “This transformation indicates continuous growth of the overall credit market. Atlas Credit Partners is witnessing a robust pipeline of opportunities from both growth companies and well-established businesses, pointing towards a consistent increase in credit opportunities during the next 5 to 10 years.”
The future of credit
Melissa Terry, has a business herself, VEM Tooling, making specialized molds for the automotive and steel industry. “From my viewpoint, the trajectory of credit is expected to increase, but it will be marked by major changes, she says. “The credit landscape has been transformed by the development of digital payments and innovative financial technology solutions. Through micro-loans and alternatives to credit rating, the availability of credit could increase for those with no bank accounts. However, more prudent use of credit could be encouraged by increased awareness about the responsibility associated with borrowing.”
Remember, debt and credit work as lubricants to the financial system; without them, businesses couldn’t borrow to expand, and the economy would not grow as quickly.
Government regulation and credit card companies
Depending on the jurisdiction (different states can have different rules), there are various rules governing credit card companies and their ability to charge people fees. “From my perspective, credit card interest rates and the methods credit card companies use to generate profit are justifiable within the context of a competitive and regulated financial industry, says Alec Kellzi, a CPA.
That doesn’t mean credit card companies can charge whatever they want though! There are various rules and regulations such as:
A cap on the fee amounts, type of fees, and fee terms. Many of these will mimic stipulations from the Consumer Financial Protection Bureau. There are also caps on interest fee charges.
Consumer protections prevent discriminatory lending practices as well as the customer’s right to opt out of certain contractual elements or practices. Furthermore, dispute resolutions should be clear and easily accessible.
With data being as important as it is these days, it’s imperative to make sure your data is not being sold to different online marketing companies. Data security regulation applies to different credit card companies in different jurisdictions; check yours for specific details.
How do credit card companies make their profit?
Credit card companies profit in different ways depending on whether they are an issuer or a network company. Credit card issuers make money on the interest charged to a credit card account and various fees, such as late payment fees or cash advance fees.
How do credit card companies make their biggest profits?
The biggest share of profits made by credit card companies comes from issuers in the form of the interest they charge and accrue.
How do credit card companies make money if everyone pays on time?
Various other fees are part of maintaining a credit card account or making a special payment, such as an overseas transaction fee. You would be surprised at the ways that credit card companies can make money on fees and subscriptions even if many of their clients pay on time.
Who profits from credit card debt?
There are, of course, credit card issuers and network companies that profit from credit card debt, but they aren’t the only ones. Some companies, such as collection agencies, profit off credit card debt, as well as the tried-and-true ways credit card companies make money.
- Credit card companies make their money from a combination of interest and fees charged on customers’ transactions as well as charges to use the credit card network.
- Credit card issuers like Wells Fargo and Citibank make their money from the interest they charge on the debt, as well as various fees.
- Credit card network companies, such as Visa and Mastercard, make their money from licensing and enabling the usage of their network to process transactions.
- Credit cards and credit are important to a functioning economy, especially in the business world.
View Article Sources
- Limitations on Fees – Consumer Financial Protection Bureau
- Using Credit Cards and Disputing Charges – Federal Trade Commission
- New Credit Card Rules – Federal Reserve
- How Credit Cards Work: The History of Credit Cards – SuperMoney
- How is Credit Card Interest Calculated – SuperMoney
- The Power of Compounding Interest: How Your Money Can Grow Over Time – SuperMoney
- Why You Should Consider an Annual Fee Card – SuperMoney
- Understanding Data Mining: Methods, Pros and Cons, and Real-World Examples – SuperMoney