Card issuers have long found their bread and butter in penalty fees and high interest rates paid by consumers who carry a balance. But that business model has been upended by the legions of consumers who were overwhelmed by debt when the recession hit, forcing the industry to write off billions of dollars in loans. In addition, new federal laws limit how much card companies can charge risky customers.

Now, frugal-minded consumers are charging less on their credit cards, paying down their balances and steering clear of penalty fees — steps that are financially responsible but have the industry scrambling to find new ways to make money.

“The only true deadbeat customer is someone who has a card and never uses it,” said Curtis Arnold, who runs the credit comparison site CardRatings.com. “Just having good credit alone in today’s market is not enough for that customer to be profitable.”

A new study by the Pew Charitable Trusts found that annual fees and service fees have increased over the past year while penalty charges — which are subject to the new federal regulations — remained largely unchanged. Meanwhile, some cards are encouraging customers to charge more by offering enhanced rewards, allowing the issuer to capture “swipe fees” paid by merchants. And one issuer even allegedly threatened to reject consumers with high credit scores because they didn’t boost the bottom line.

In a lawsuit filed last month, outdoor retailer Gander Mountain, based in Minnesota, claimed that its credit card partner, World Financial Network, was turning down shoppers with nearly perfect credit scores of 800 or above. Gander Mountain said the reason was that the issuer said it could not make money from those clients, which World Financial Network estimated as about a quarter of new applicants. That created “a negative customer experience” that could drive shoppers away, the suit said. Both Gander Mountain and the issuer’s parent company, Alliance Data, declined to comment on the suit.

Though industry experts say the case is extreme, it illustrates the challenges credit card companies face. Issuers typically generate revenue from two sources, interest rates and fees. Congress has clamped down on both of those channels this year, including banning interest rate hikes on outstanding balances and curtailing penalty fees for late payments and over-limit purchases. The new rules are estimated to cost the industry at least $12 billion annually, according to law firm Morrison & Foerster, and issuers have long warned that customers in good standing could wind up paying the bill.

“A lot of people thought they were blowing smoke, but they were spot on,” said John Ulzheimer, head of consumer education for Credit.com. “Now something has to give.”

Many issuers have homed in on fees that typically accompany rewards cards as a potential moneymaker. The Pew study, which was to be released today, found that about 14 percent of bank credit cards have annual fees, about the same as last year. But the median annual fee for the 12 largest banks’ cards rose 18 percent, to $59, over the past year. The cost of cash advances and balance transfers also rose from 3 percent to 4 percent.

Some consumers say they feel penalized for what they thought was good behavior. D.C. resident Alanna Sobel said she pays her balance in full each month and was surprised to get a letter from Chase, the nation’s largest card issuer, notifying her that the annual fee on her Freedom card would be $30. The letter stated that the fee had been waived the previous year and would allow her to receive 3 percent cash back on gas and grocery purchases. If she did not pay the fee, she would have to settle for fewer perks.

“It was very confusing,” Sobel said. “I was just frustrated and wanted to make sure I didn’t get charged an annual fee.”

A Chase spokeswoman said Sobel’s account was part of price testing that the issuer performed over the past year before relaunching its Freedom card. The company eventually decided to nix the annual fee on the card — and the 3 percent cash back — to simplify the offer. Ulzheimer said card companies won’t be able to hang too many fees on the strongest customers, because that may drive them to do business elsewhere.

“There’s a major competitive dynamic going on,” he said. But “I can’t make enough by gouging the good to offset the bad.”

Issuers are also trying to entice customers to use their cards more often, allowing banks to collect fees from merchants, which must pay roughly 2 percent of the purchase price each time a card is swiped. The interchange fees, or “swipe fees,” have also come under congressional scrutiny, and the Federal Reserve is slated to craft new regulations within nine months limiting card swipe fees for debit cards. That makes credit card swipe fees even more crucial to card companies.

The tactic worked on District resident Barry van Roden. Like many consumers, he has tried to use cash more often, and when he does charge a purchase on one of his three credit cards — one for business, two personal — he pays it off at the end of the month.

But recently his Chase Continental rewards card offered him a deal: Use the card 20 times in one month and get an extra 2,500 airline miles. He bit, and afterward Chase upgraded his card to the new OnePass Plus, which has a 10,000-mile bonus when customers spend $25,000.

Meanwhile, his wife received an offer from Discover that promised $100 cash back if she spent $800 on her card within the next few months. Will she be hooked, too?

“She says no, but I kind of want her to,” van Roden said.

Via Washington Post