Big credit-card shake-up could hit you in the pocket

Watch for hidden perils, warns Chiara Cavaglieri

The world of credit and store cards is heading for a massive shake-up. The Government wants to call time on much-criticised practices such as lenders raising credit limits without being asked by customers; taking only tiny minimum monthly repayments; and arranging it so that the most expensive debt gets paid off last. These seem like much overdue reforms and a win-win situation for consumers – but is this really the case?

Some experts predict a backlash from lenders that will mean higher interest rates and less choice. "The long-term implications are that we are likely to see less attractive credit-card offers in the future as the banks seek to regain lost income," says David Black, a banking expert at analysts Defaqto.

We could see sharp increases in interest rates, fees and charges, and the return of the annual card fee. Even now, 7.2 per cent of credit cards levy an annual fee, up from 4.1 per cent in October of 2007, according to Defaqto.

Of all the proposals, the move to ensure the most expensive debt – usually cash withdrawals – is paid off first is causing the biggest waves. As things stand, with the exception of Nationwide Building Society and Saga, credit card providers in the UK allocate payments so that the cheapest debt is repaid first and the most expensive last. This debt typically is charged at 25 per cent and is quite a money-spinner; if that income goes, people who switch between lenders may pay the price. Michelle Slade of comparison site Moneyfacts.co.uk says: "Without the money they make from this tactic the already dwindling number of 0 per cent introductory rates or balance-transfer deals may no longer work for the lenders."

As for raising minimum repayments, this addresses a real concern, as major providers such as Capital One, Halifax and MBNA have recently reduced minimum repayments which, they say, helps hard-pressed consumers, but in the long run could earn them a fortune.

"Minimum repayments make a massive difference to what consumers pay," says Andrew Hagger from financial information service Moneynet.co.uk. "A card charging 18 per cent APR, say, on a debt of £1,000 with a minimum repayment of 2 per cent or £5, whichever is greater, would take 29 years to repay and cost £2,286 in interest. Increasing the minimum to 5 per cent would clear the debt in just seven years, with interest charges of only £376."

But store-card interest rates are being left untouched even though some charge up to 60 times the Bank of England base rate. "These cards' rates are usually 24.9 per cent to 29.9 per cent," says Ms Slade. "It seems that, regardless of the reforms, the onus will still be on consumers to tread carefully."

But some play right into the hands of the card firms. "They'll sign up for a zero per cent balance-transfer card, pop the card into their purse or wallet, then in a moment of weakness they'll use it to make a purchase," says Mr Hagger.