On March 5, 2024, the Consumer Financial Protection Bureau (CFPB) issued a final rule to lower the typical penalty fee for late credit card payments to $8 from $32. This rule will apply to banks with 1 million or more open accounts, which comprises more than 95% of total outstanding card balances in the U.S.

We think implementing this rule could hurt card issuer earnings, particularly for banks focused on nonprime borrowers, where the propensity to fall behind on payments is highest. Specifically, we believe the most exposed card issuers in our rated universe include Bread Financial Holdings Inc. (BB-/Stable/--), Synchrony Financial (BBB-/Stable/--) and, to a lesser extent, Capital One Financial Corp. (BBB/Stable/--).

We believe our current ratings and outlooks on the most exposed banks already capture the potential volatility to earnings from the late fee cap. (These issuers are rated one or more notches below more diversified commercial banks.) Positively, we think these banks have become more resilient in recent years, providing some offset to diminished earnings.

The implementation of the current expected credit losses reserving model in January 2020 led to a doubling of the credit allowance as a percentage of total receivables for most issuers. Common equity levels also remain healthy and we think, despite the late fee cap, card issuers retain a good degree of financial flexibility to accrete capital by adjusting origination and pricing levels or reducing shareholder payouts, owing to their superior earnings power. In addition, we think the most exposed card issuers will employ mitigation strategies that will gradually soften the blow to earnings over the years.

The mitigation strategies that we expect banks will employ to offset the revenue impact include:

• Executing pricing actions across the portfolio, like increasing annual percentage rates (APRs) or adjusting other fees;
• Modifying partnership agreements in cases where cards are issued within a private label or cobranding arrangement;
• Reducing exposure to the least creditworthy borrowers;
• Addressing the cost base, including reducing customer rewards or other issuance-related costs; and
• Potentially proving that a fee higher than $8 is necessary to cover actual collection costs.

We will closely monitor whether the most exposed banks can offset revenue impacts by executing these strategies. Historically, card issuers have been able to adapt their business models to regulatory changes, including following the CARD Act of 2009. In addition, we believe that the proposed ruling may force some institutions to tighten their underwriting policies, which could improve the creditworthiness of their customer base over time.

We may reassess our ratings on the card issuers most exposed to the late fee cap if they are unable to mitigate revenue loss without increasing their risk profile. We are also closely watching card loss rates, given the softening economy and potentially rising unemployment. We could also reassess ratings based on institution-specific factors, including the execution of pending acquisitions and other strategic initiatives.

The largest credit card issuers--such as JPMorgan Chase & Co., Citigroup Inc., and Bank of America Corp.--remain very diversified in terms of their business models. They generally focus on prime consumers, so their revenue exposure to the late fee cap is limited. We also expect the revenue impact at American Express Co. to be nominal.

Although the effective date of the final rule is expected to be 60 days after it is published in the Federal Register, we expect that litigation could delay implementation. (On March 7, the U.S. Chamber of Commerce and five trade groups sued the CFPB.)

Bread Financial

We expect the late fee cap to reduce Bread's revenue by about 25%. This reflects the company's high proportion of private label credit card loans, at about 62% of card loans at year-end 2023, and its relatively high exposure to subprime borrowers (about 43% of credit card balances). Management has focused on rolling out mitigating actions, including testing higher APRs beginning in December and proactively discussing with partners potential changes to their arrangements.

Like industry peers, Bread will continue pursuing actions to mitigate the impact over time, through more rate and fee increases, tightening credit, and working with retail partners to revise the economics of their share agreements. While the company expects substantial progress in the first year after implementation, full mitigation will be gradual with APR increases only expected to filter through the existing loans over the next several years. We also think Bread will adjust its business accordingly, with a higher-credit-quality customer base and increased cobrand and proprietary card balances in the longer term.

Synchrony Financial

Late fees generated almost 20% of operating revenue for Synchrony Financial in 2023, and the bank remains one of the most exposed credit card issuers to the CFPB's fee cap. A meaningful proportion of Synchrony's receivables are to nonprime borrowers (with VantageScores of 650 or less), including about 28% of credit card balances.

However, the company's retailer share arrangements help mitigate the higher loss profile of its portfolio, and we think that the partner agreements will allow for some sharing of the burden from the partial loss of late fees. We also think Synchrony will adjust pricing and underwriting models.

Capital One Financial Corp.

Late fees generated almost 6% of total operating revenue at Capital One in 2023, and about 9% of revenue at its domestic card business. The bank remains more diversified in terms of business lines than many peers, notwithstanding its proposed merger with Discover. Although nonprime balances are about 32% of total card receivables, we think this percentage will decline with the addition of Discover, reducing its exposure to the late fee cap.

Discover

We anticipate the change will have a minimal impact to Discover given its low proportion of late fee income to revenue at below 5%. The company has a broad no-fee positioning across its products, with the first late fee waived and flexibility to waive a second occurrence upon the customer calling in. As such, late fees serve more as a deterrent to unfavorable payment behavior than a revenue stream.