We recently documented the Federal Reserve recommendations on limit overdraft and over the limit fees as a result of the Credit Card Accountability Responsibility And Disclosure (CCARD) Act. Apparently, this isn’t the only analysis they were tasked with as a result of the new law.

The Fed was also required to investigate whether credit card companies used “transaction profiling” in making decisions about the credit limits and interest rates of their cardholders at any time during the November 2006 to November 2009 time period. What is transaction profiling? We posted in January about the non-credit factors which might lead a credit card issuer to lower credit card limits.

Out of 175 banks and lending institutions surveyed, six used one or more of these practices as a basis for adjusting credit limits, raising rates, or making closure decisions on active accounts during this three-year period.

Of the 25 largest credit card issuers surveyed:

• Two considered the type of credit transaction in a decision about rate increases.
• Four considered the type of credit transaction when regarding account closures.
• Five considered the type of credit transaction to make decisions about reducing credit limits.

How was the type of transaction was determined. The study found that every transaction processed by Visa or MasterCard is assigned a merchant category code. The codes cover relatively broad groups of merchants such as jewelry stores, landscaping services, home supply warehouse stores, shoe stores, and restaurants. Merchant category codes are used to classify a business by the types of products or services offered. There are about 600 four-digit codes that group various types of businesses. You can see a list of the codes at: “Visa Commercial Solutions: Merchant Category Codes for IRS Form 1099-MISC Reporting.”

Additional practices that generally relate to a cardholder’s transaction activity including:

• Cash Advance Activity. Some issuers used cash advances as an indicator of risk. One issuer indicated that, for some of its new cardholders, it monitored cash advance activity in conjunction with card purchases at certain type of merchants (for example, jewelry and electronic goods stores). According to this issuer, it has found such behavior among new cardholders to be an early warning of elevated credit risk.
• Transaction Velocity. Issuers indicated that unusually high transaction velocity (number or dollar amount of transactions in a given period) or even a change in velocity may reflect cardholder behavior that is indicative of elevated credit risk. Some of the card issuers used a product called “BankruptcyPredict” a product developed by Experian and Integrated Solutions Concepts, Inc. (a wholly owned subsidiary of Visa U.S.A. Inc.), an account management-tool that combines consumer credit characteristics drawn from credit records and Visa transaction spending characteristics to predict future cardholder bankruptcy.
• Merchant Activity. Two issuers used shopping and merchant activity to assess risk. The information was used to divide cardholders into groups with similar characteristics. One issuer considered the performance of other customers within the category to make decisions on account terms for individual accounts.
• Mortgage-Lender-Related Activity. Two issuers considered the performance of the lenders where cardholders had mortgages. These issuers cut credit limits for some cardholders who had a mortgage loan from a lender with a badly performing mortgage portfolio or if the mortgage lender accepted very low minimum payments (pick-a-payment loans). Individuals with pick-a-payment mortgages had relatively high delinquency rates on their credit cards

Reference: Report to the Congress on Reductions of Consumer Credit Limits Based on Certain Information as to Experience or Transactions of the Consumer (PDF) [Federal Reserve via LowCards]

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