The Problem with Credit Card Penalities
Seana Shiffrin has written a very interesting article that raises the issue of credit card late fees as an unconstitutional form of punitive damages. Her approach is intriguing, largely because state and federal laws have allowed credit lenders to leap-frog over traditional principles of contract law that might otherwise invalidate such fees. If the fees are subject to a constitutional challenge, however, then an industry-favorable legislature can't rescue them by statute.
I pose one additional question along the same lines: whether various credit card clauses other than late fees violate fundamental contract law doctrine (which hasn't been legislatively overridden) when used to penalize consumers. For an explanation, continue reading below...
Contracts aren't punitive, so penalty clauses in contracts aren't enforceable. Liquidated damages are valid, which essentially means that parties can contract in advance for a reasonable amount to be paid should a party breach a contract, but liquidated damages are meant to cover the costs associated with the breach rather than serve as a penalty. Terms which call for a penalty above and beyond such an amount, however, are invalid.
Credit card contracts are loaded with penalty clauses, either on the face of the text or as put into operation by the lenders. For example, how many readers are familiar with a situation where a credit lender raises your interest rate for a late payment? You also get slapped with a late fee. It's arguable whether the fee is really a reasonable amount of liquidated damages given the fact that the credit card companies won't really have significant costs associated with your paying a day or two late. But regardless, assuming the fee does serve as a liquidated damages amount, how can the additional step -- the hiking of your APR -- be anything other than a penalty once the liquidated damages amount is covered? Under any argument, either the fee or the interest rate hike must serve as a penalty clause.
Universal default clauses are no different. These clauses basically allow the credit lender to raise your rates for any credit-based mistake, such as a late payment, to other lenders. In other words, if you pay your phone bill late Citibank can raise your credit card APR from 12% to a default rate of 29%. Does Citibank have a tangible cost associated with your late phone bill? Did you breach your contract such that this clause would serve as liquidated damages? Clearly this is a penalty.
As one more example, I'll point to the simple "change terms at will" clause in contracts. I've written numerous times about the problems associated with these provisions being included in a contract, but there's one further problem to note. Any time a credit lender uses this clause to negatively change the terms of your contract in response to your actions -- whether that means raising your APR, hiking your fees, stripping away your rewards program or promotional incentives, or anything else -- they are employing a penalty clause. This is clear simply by the fact that the contract itself specifies particular fees (liquidated damages) for all such situations. The additional step of altering your contract can be nothing more than the imposition of a penalty, and is therefore invalid.
It's time to make credit card companies play by the rules, whether those be constitutional restrictions or the basic principles of contract law -- rules that govern everyone who doesn't have a multi-billion dollar lobbyist arm to push the rules out of the way.
That's great. Let's sue! Oh wait ... my credit card agreement prohibits class action suits against the credit card companies.
Where do we go from here? If these penalties are unconstitutional, how do we proceed?
Paige
http://paiges-page.net
February 22, 2007 1:17 PM | Reply | Permalink
As I read this I have the desire to write the credit card companies notifying them that any change in the initial interest rate or if a late payment fee is added that this would render null and void any agreement for repayment of money borrowed using the card and no further payments would be made.
This could be turned into a real movement if everyone who has a beef with credit card companies sent them such a letter and then stopped making any payments. They should also cut their cards in half and send them along with the letter.
With the money saved from not paying their credit cards they might have enough to get by without digging a bigger hole by using credit cards to make up the shortfall because of how much they are having to pay on the cards.
Not sure it would work but maybe it's an idea worth thinking about. Boycotting a product or company has worked in the past. Boycotting payments to usurous money lenders seems like a delicious idea.
February 22, 2007 1:41 PM | Reply | Permalink
An excellent question and one to which Kevin should feel a response is called for.
As a result of a history of success in bringing consumer protection cases before reasonably liberal courts in the late 1960s-1970s, liberals came to rely on courts to resolve these economic injustices. Conservatives (read business interests) have fought back by closing the courthouse doors, one after another. But are conservatives, at bottom, correct?
We live in a democracy. Shouldn't this dispute be resolved politically -- that is, by legislation? We all carry credit cards; we're all affected by the actions of our fellow card holders which increase costs to the credit card companies. Shouldn't we all, through our elected representatives, be debating the issues rather than relying on judges?
February 22, 2007 5:21 PM | Reply | Permalink
A response is indeed called for, but I can't necessarily offer a satisfactory one. Yes, we should be debating these issues, and Senator Dodd has finally given us a voice, but we still face the uphill battle of opposing one of the wealthiest and most powerful lobbyist machines in national politics. The voice of the consumer is but a whisper when trying to be heard over the credit and banking industry.
So, what to do? First, I'll note that we are pursuing litigation options to really drive these points home. This is something we take seriously, and we don't mean to just toss out blog posts in a vacuum. Efforts are underway to battle these issues out using the resources, training and experience of an extraordinary group of attorneys.
Second, I'll suggest a new line of thought that might sound a bit absurd at first glance: the First Amendment. Remember that oft-overlooked portion of the amendment known as the Petition Clause? It guarantees us the right to petition the government for a redress of grievances. The Supreme Court has held that the Petition Clause applies to all branches of the government -- including the judiciary. I would argue that state laws which enforce (a) mandatory arbitration argeements in contracts, and (b) class action bans, effectively deny citizens the right of access to the judiciary to sound complaints such as those we've raised here. As you might imagine, this is a line of thought that has never been explored (or at least isn't found in) current First Amendment jurisprudence, but maybe it's time to make that push.
February 22, 2007 11:29 PM | Reply | Permalink
Very interesting -- although presumably, waivable.
To the extent that contractually, holders of constitutional rights can waive or agree not to exercise their rights (here, a right of Petition), perhaps, courts should not enforce such waivers when they are found in adhesion contracts or in contract clauses which are overwhelmingly common to a particular industry.
The Fourteenth Amendment: If it's good enough for the owners of a few abatoirs, it should be good enough for a few hundred million consumers.
February 23, 2007 4:06 AM | Reply | Permalink
All these clauses are certainly questionable, but in my mind there is another related issue that needs to be considered at the same time. That issue is how the contract is formed. In a previous post on this blog Jason Spitalnick highlighted something I discovered in the way credit card companies form their contracts with us. See that post here.
I would argue that the clauses they put in these contracts and the way they manage them should be illegal for what I would consider adhesion contracts. We should not be able to waive constitutional rights so easily. This works contrary to the intent of the law, which is to protect the people. We are using contracts to attempt to invalidate laws we don't want to follow by using our freedom to waive our rights under those laws. Credit card holders are waiving constitutional rights with no understanding of what that means. They are simply doing it because everyone else is. It is very clear that Credit Card companies are abusing their power, and are working to invalidate the very Constitution that makes this country what it is - a free one.
I would also argue that these contracts are aleatory contracts, that puts the terms of the account out of the control of the consumer, in favor of the credit card company. In the case of adhesion contracts, these kind of aleatory contractual terms should be illegal when it is to the benefit of the more powerful party.
One solution I would suggest is that consumers be given alternative contracts to counter the contract offers that come in the mail with the credit card, that make the contractual terms fair. These should be given to consumers to send to credit card companies in response to those offers, and let consumers know they can send counter offers, which can be agreed to with the same non-action on their part, as they have with consumers, or by simply allowing the credit card's usage.
Jim Anderson
The Truth About Credit
Facebook ProfileFebruary 23, 2007 9:57 AM | Reply | Permalink
Regarding the initial point, relating to Jason's post, the adhesion contract issues -- including the fact that the terms are disclosed after contract formation, which seems absurd -- is a great point. Unfortunately, the Supreme Court hasn't agreed. Take a look at Carnival Cruise Lines v. Shute, 499 US 585 (1991), for example, which is a fascinating (if upsetting) read. Then consider things like concert tickets and airline tickets, where the terms are printed on the ticket itself and aren't available to the consumer until after purchase... but the tickets are non-refundable. Very interesting, no?
February 23, 2007 12:08 PM | Reply | Permalink
Kevin:
Great post, as always. There is a lot to chew on there. The real problem is finding a good attorney team and set of sympathetic plaintiffs. Oh, and some attorney(s) that have more money to take on the credit cards and go to the Supreme Court with these issues than brains -- because you will probably lose right up to the Supreme Court. And with the number of conservatives that have been -- and will be -- appointed by the time this Administration's term is over.
However, I'll do my part. I'll post a link to this and the article you mentioned on my blog. I get about 50 readers per day, and some of them may pick it up.
Satellite Sky Blog
Find the Truth. Do Justice.
February 23, 2007 4:08 PM | Reply | Permalink
A couple of responses, as the constitutional aspects of contract law, and federal preemption of contract terms are an area in which I've done a lot of research:
1. The courts generally, and the supreme court (especially this one) view contracts from what is almost 19-th century perspective in terms of their sanctity--almost as if you can see the signer sitting in a lawyer's office carefully perusing the terms before executing with an ink-dipped quill. Contract enforceability is, of course, vitally important to stable commerce, but the nature of digital information, and the ensuing reduction in transaction costs, has rendered the "reflection" present in the old days far less prevalent. Now, if you click, you're bound. Vendors, from software companies to ebay, will stick consumers with terms that the consumers would never agree to in a negotiated setting, but the courts apply nearly the same deference to those terms that they did back in the days of the Dickensian mill. That will take some time (and a lot of judicial appointments) to change.
2. With respect to the petition clause, it's an interesting point. There's no way that a consumer that clicks through an I ACCEPT button on the internet, or gets fed 30 pages of 5-point type in a credit card agreement, has engaged in a knowing, voluntary waiver of their First Amendment rights to petition the government. In College Savings (the unfair competition one, not the patent one), Scalia dismisses the idea of "constructive waiver" for sovereign immunity, which he equates with fundamental rights such as those of a jury trial.
Nonetheless, cases such as Shelley v. Kraemer, 334 U.S. 1, 22 (1948; Hurd v. Hodge, 334 U.S. 24, 35 (1948) (finding that the enforcement of a racially restrictiv land covenant in the District of Columbia constituted state action and could be challenged under the civil rights laws) relied heavily on the legislative history of the civil rights laws in doing so, and would frustrate its purpose. . More recent cases, such as Cippolone v. Liggett Group, express a large deference towards private bargains. One might construe these cases for the proposition that enlisting the court to enforce unconstitutional promises constiutes "state action", but it's really a stretch--especially considering you would never get votes out of Alito, Roberts, Scalia, and Thomas, and would have to articulate a limiting principle that would keep arbitration clauses and the like from becoming constitutional cases every time they are used The far preferable course would be a federal statute that reinstates the common law.
February 23, 2007 5:46 PM | Reply | Permalink
Interesting. And in all this legal mumbo jumbo written in the Supreme Court's decision on this case, they overcomplicate the issue and justify doing things our founding fathers would have considered treason. The Supreme Court is simply reinterpreting the Constitution to serve those who make laws and who control the money.
I don't use credit cards anymore, and don't intend to in the future. I am finding though that I can't manage my finances without being cornered into waiving constitutionally granted rights, or go without banking services all together. Something has got to change. For all practical purposes, we don't have the choice to preserve the rights that protect us anymore.
Jim Anderson
The Truth About Credit
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February 23, 2007 8:46 PM | Reply | Permalink
Can somebody submit a bill to Congress to reinstate common law?
Jim Anderson
The Truth About Credit
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February 23, 2007 8:50 PM | Reply | Permalink
Thanks for the link post.
I'll add here that Seana Shiffrin was kind enough to contact me regarding this post, and she provided some excellent feedback on my original points. I extend my thanks, and I note for our readers that I'll be exploring some of these problems and issues in the coming months as I dig deeper into the topic.
February 24, 2007 3:23 AM | Reply | Permalink
The Petition Clause point is meant as food for thought, not really as a viable litigation option. Although I think it's interesting on a theoretical level, I have little doubt that it wouldn't be received with open arms by courts (let alone the Court). Traditionally, the clause addresses actual physical access to the courthouse, at least as far as I recall based on my (minimal) knowledge of the case law surrounding the clause. Nevertheless, I think it's worth some thought.
February 24, 2007 3:27 AM | Reply | Permalink
Sure--Dodd would be a logical choice, but the banking industry would go completely bananas and I don't know that any other business group would be willing to help.
February 24, 2007 9:03 AM | Reply | Permalink
When we do plea agreements in criminal court, we always have the defendant sign multiple statements that make clear that they understand what rights they are giving up (right to trial, right to attorney to represent them, right to have witnesses compelled to testify for them, etc). There is no such equivalent in credit card transactions or contracts.
Satellite Sky Blog
Find the Truth. Do Justice.
February 24, 2007 11:41 AM | Reply | Permalink
Why does it matter whether other businesses would support it? Who elects Congress, businesses or voters? That is part of our dilemma.
Jim Anderson
The Truth About Credit
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February 24, 2007 4:06 PM | Reply | Permalink
I cancelled ALL my credit cards, over the protestations of various and sundry financial institutions, and not only is my wallet lighter, but my conscience is also clearer. I paid my dues, fees, and late charges, and in exchange, recieved the Enlightenment on plastic money. Debit cards get the job done, too, and long-term, cost you a damn sight less, you're wasting less time reconciling records, and so forth.
Plastic fantastic with the 100k limit may be a dream for some, but usually it's a 'stealth' mortgage on your house. Beware what you sign...
February 25, 2007 2:44 PM | Reply | Permalink