How Credit Card Companies Make Money
The credit card industry is big business. They process over 23% of all consumer transactions in the US, and their usage is growing. With online shopping becoming more common, and the rewards points, bonuses and security offered to cardholders will ensure they will continue to be an important part of people’s daily spending habits for years to come.
The top 5 largest credit card companies are worth almost 1 trillion dollars:
Visa (V 416.75B), MasterCard (MA 318.5B) , American Express (AMEX 124.5B), Capital One (COF 63.5B), Discover (DFS 33.6B) – Stock Value December 2021
So how do credit card companies make money?
5 Ways Credit Card Companies Make Money
Credit card companies make money in 5 main ways – finance charges, balance transfers, fees, reselling data and merchant processing. Understanding the way the credit card business works may help you maximize their use while keeping costs down.
Finance charges are the most straightforward way that credit card companies make money. These charges are determined by the APR, or yearly interest rate attached to each card. Unless a balance is paid off, the interest rate is typically compounded daily on all purchases and charged monthly.
A simple way to see how much money this generates is to take your interest rate and divide it by 12. a standard APR of 18% and means that a balance holder is paying more than 1.5% a month in finance charges.
Balance transfers can save you a lot of money in interest because they almost always come with a special offer like 0% interest for 12 or 18 months. Credit card companies know that since you currently have a balance, you are a good customer to have and will have to pay interest in the future.
Lately, credit card companies have been charging “balance transfer fees”. These fees tend to add 3-5% to your balance, for which the banks get to eventually charge interest on if you don’t pay it off in full.
Late & Missed Payment Fees
If a cardholder misses or is late for a payment, there is a fee attached to it. This generates $28-35 in revenue per occurrence for the credit card company. They can also raise your interest rate and cancel promotional rates as well.
If it happens occasionally, you may be able to get the fee waived, and you also may have rights that prevent them from raising the interest rate on your first occurrence. Still, this is a big revenue generator for the card companies.
Consumer Data/Affiliate Programs
If you’ve ever looked at your terms when signing up for your credit card, you might have seen that they can sell your personal data to their partners and affiliated companies. While you might be able to opt out, who does?
All of your transactions can be studied, bought and sold to affiliated companies and used to market to you. Capital One has attributed it’s early success to personal offers direct to consumers (source) by using customer data. Now, credit card companies have a much more sophisticated approach.
Many cards also have discount programs to their partners. They can earn a commission for each referral they send their partners way.
Merchant Processing Fees
Merchant processing fees are actually the backbone of any credit card company’s earnings. They are fees charged off the top to the merchant for every transaction that is completed. These fees can be as high as 35 cents per transaction plus 3.5% of the total. The more volume a merchant does, the better rates they get, but they are still high.
Say you go into a store and spend $10 on your credit card. That that store will charge your card $10, but only get $9.30 deposited into their account a couple days later. The credit card company gets charge full interest on the $10, while paying out less than 97% of the total charge.
Even if a credit card customer pays off their balance each month, the credit cart company still gets to keep this money, less the fees paid to the interchanges (companies that set up the stores with credit card terminals).
Credit Cards Are a Financial Service
The main reason why credit card companies make so much money is because they provide valuable service. They make it easy to borrow money and complete transactions. The money they make goes to pay for their employees and systems, along with the great rewards we all love so much. They also provide a safety net or make getting something you want or need all that much easier.
If a person or business uses credit cards responsibly, they can be a great tool to help make life easier. We hope this article helps you understand the business of the credit card industry so you can make the best choices with your use.