Subsidising with Surcharges
Every gambler has a great system...
I’m not really breaking new ground by suggesting that credit card companies make a lot of money out of people. As a person with functioning braincells and a distaste for getting gouged by billionaires, you are probably keenly aware how credit cards charge huge interest rates if you miss a payment.
You’ve also heard of companies like Afterpay, a “Buy-Now-Pay-Later” business that lets you purchase goods immediately and pay them off over time. To your average person, this sounds remarkably similar to a credit card since, like credit cards, they will charge you late fees if you miss a payment. But as long as you keep on top of things, neither of them punish you… Right?
One of the beautiful things about financial plumbing is you get to see how we all get screwed over, even when things are looking good on the surface. To the surprise of almost no one… you aren’t sneakily beating the odds against the multi-billion-dollar companies that sell you your ultra-platinum sigma deluxe card with PlayStation merchandising rewards points.
One of your insufferably smug friends will always justify his credit card by claiming that he has never had to pay interest, and all those points he’s accumulated means that he got a free pair of headphones once, 3 years ago, which more than makes up for the insufferable tedium the rest of us have to sit through whenever the topic of travel and Flybys come up.
See, exorbitant late fees are one of three major ways credit cards make money. Technically there are more, like the co-branded advertising partnerships that many cards offer, but three that directly impact your wallet:
Annual Fees:
You own a card? Pay a fee. This is far more common in Australia, for reasons we will get to later, but in countries like America, most cards don’t actually charge an annual fee anymore. Something about paying a subscription for access to money rubs people the wrong way, so these companies look for ways to remove this charge.
Late fees/Interest on Debt:
You don’t pay on time and, whilst they won’t break your kneecaps, like the lenders of yore, they will make you pay through the nose, which certainly sounds just as painful.
Since your capacity to pay credit card debts seems to be inversely correlated with your wealth, it’s no surprise that the people who continuously drum up expensive credit card debts are the poor people who by definition can least afford them. Whilst wealthy card holders almost always pay off their card each month, the rest of us tend to rollover our unpaid balance, watching that debt tick upwards with every interest charge.
The average amount of unpaid debt on an Aussie credit card is $1487. The average annual interest rate is 18.34 %. This means, on average, credit card companies make around $23 a month off each credit card.
Not bad, but hardly the kind of wealth that allows these companies to offer free business class upgrades to Japan, and 1.5% cashback rewards.
Side note, but one of the big reasons why credit cards aren’t as popular in Australia is our massive mortgage debts. When you go for a house, your mortgage broker will emphasise that getting rid of credit card debt dramatically increases your borrowing capacity, so getting rid of that $5k of debt means you can get a mortgage worth another $80k… A fun little silver lining that comes with our crushing property market.
But if companies only get late fees from the poor, why would they ever advertise to wealthy people? Is there a masochism kink that pervades the upper echelons of financial society? I don’t know… probably, but in this instance, there is a much better reason for their decisions.
Interchange Fees:
… Look, there is technically both ‘interchange fees’ and ‘scheme fees’, and I might write about the difference in the future, but I will use the terms interchangeably for simplicities sake… We are already up to our necks in obscure minutiae, and I can’t afford my readership to get bored. All four of you mean so much…
Imagine you buy a coffee from that incredibly chirpy barista nearby. She charges you $6 for bean juice and milk, but when you tap your card, you see that $6.06 has come out of your account. Enjoy that 6¢ interchange fee.
To an American viewer who, through decades of watching sales taxes being added at the counter, and using dating apps in Los Angeles, might be used to not getting what was advertised, but to the rest of us, this fee is galling.
A decade ago, when I used cash for almost everything, a $6 coffee cost $6… Well, it cost $3.50, but I don’t want to do a ‘back in my day’ rant.
Nowadays, we mostly use cards. The few holdouts that still try paying for things in cash might also note how much harder it is to find a fee-free ATM. So, we eat the 6¢ fee, and forget about it because which anally retentive loser would put a lot of thought into such a tiny change?
This anally retentive loser, baby!
Whenever you use your credit card, the merchant is charged a fee. For simplicities sake, let’s say around 1.5-2%. They can pass that surcharge onto you, their dear devoted customer, or they can eat the cost and suck it up. In businesses like cafés, that already subsist on razor thin margins, it’s usually quite important to them that that surcharge is passed on, but many larger-margin businesses like to eat the cost to avoid upsetting the customer.
One thing almost no business does is accurately track and surcharge based on the exact interchange fees that they receive from your specific credit card.
I said between 1.5-2%, rather than a specific number, because every card has its own labyrinthine formulas for what fees they charge. The more expensive the card/the person owning it, the larger interchange fee that is charged to the business owner. Some cards hit 3.3%.
This is where the real money is; convincing the ultra-rich to buy everything on their ultra-high fee cards and collecting massive payouts from the businesses that sell the rich goods.
18.34% of not a lot of money is… not a lot of money.
3.3% of several hundred thousand dollars is… more money.
Points, cashback rewards, and the various incentive schemes that are advertised on these credit cards are simply marketing costs to attract the wealthier patrons. At least in Australia, it is illegal to make a profit off of surcharges, so almost all businesses will be forced to charge a minimum surcharge for all cards.
Using the earlier example, since some credit cards/debit cards only charge 1% (the ones that poor people use), the business can only charge a 1% surcharge.
Which means they legally have to eat the 2.3% loss they made on that coffee, selling to a rich guy.
So here lies the rub. Simply by using his fancy credit card, a rich person will be given all sorts of rewards, meaning their money is worth more to them than your own, the coffee house will make less profit than they would on a normal transaction, and will inevitably have to increase prices on everyone to facilitate these constant losses.
We have effectively socialised the losses and privatised all the gains. Richie Rich didn’t earn himself a free flight to Bali on his flyby points, you paid for his trip by subsidising fractions of every purchase he ever made.
Everyone suffers very slightly, enriching mega corporations in the process, to give upper-middle class socialites the illusion that they are so smart they have somehow hoodwinked a billion-dollar industry with their discounted tickets to sporting games.
You aren’t beating the system; you’re just not losing quite as obviously. If you really were that smart that you have somehow gamed decades of opaque financial infrastructure, there are companies out there that would pay you so much for this recondite knowledge, that you wouldn’t be pissing about with Qantas rewards.
Some notes:
Australia has limited interchange fees, like their European counterparts. Scheme fees are still unregulated. You say potato, I say starchy tuber. If this linguistic incongruity offended you and prevented your enjoyment of this article, please feel free to mention this in the comments section… specifically, someone else’s comment section.
This is why Australian and European credit cards have larger annual fees than their American counterparts, as regulations mean that these companies simply can’t eek out the same level of profits.
As you can imagine, MasterCard doesn’t approve.
