Could a previously unknown woman from California organize a debtor’s revolt, in which millions of consumers refuse to pay off their credit card debts?
Ordinarily, I would say no, but this time is different.
If you haven’t already seen it, this is the video that everyone is talking about:
You might look at the video and conclude that it’s not a very compelling call to arms — until you think about what it means to pay interest rates of 23 to 33 percent. Some banks are raising credit card interest rates to 28 percent or higher for virtually all their cardholders. Others automatically apply the “default” rate, now usually 30 percent or more, whenever they hear that a cardholder has become unemployed or changed jobs. And no matter how good your financial history is, the bank can switch you to the default rate if a payment on your account is ever one day late — even if the late payment is entirely the bank’s fault.
The problem with this is that it is almost impossible to pay off debts at a 30 percent interest rate. If you owe ten months’ income at a 30 percent interest rate, you are already done for. And in a period when banks can raise interest rates on a whim, and seem particularly eager to do so, if you owe 10 months’ income on credit cards, you are living on borrowed time, financially speaking, regardless of what the interest rate is now.
Try to imagine the predicament of owing an amount equal to your total income for ten months at an interest rate of 30 percent. Taxes and insurance are already taking 53 percent of your income, and housing, if you’re lucky, is taking 18 percent. The required payments on the credit cards are another 27 percent — 25 percent for the interest payments, and 2 percent for the principal payment that will theoretically allow you to pay the debt off eventually. Add this up, and you are spending 98 percent of your income on taxes, insurance, housing, and credit card debt service. This leaves you with 2 percent of your income to pay for all your other living expenses — categories such as utilities, food, and transportation. How long do you think you can make that work? What is a consumer to do?
The numbers I am using are hypothetical, but the situation is all too real. At a guess, by this time next year, 25 to 50 million U.S. households will face debt that is financially impossible to pay off. People who think they’re doing fine now won’t be doing so well after a pay cut and an interest rate increase.
The specific point of no return depends on the details of a consumer’s situation, but as a rule a thumb, a consumer whose credit card balance is around 10 months of income, at today’s credit card interest rates, is already on the slippery slope to bankruptcy. And many consumers who owe 5 months of income in credit card debt, and who also have other debt, are in the same situation.
How can this be? Just four years ago, owing 5 months of income on credit cards was thought to be nothing to worry about — a drag, to be sure, but not the equivalent of bankruptcy. But when you’re in debt, interest rates are everything. If your interest rate goes up from 8 percent to 30 percent, as has happened with the average major credit card, your required monthly payment goes up by a factor of 3. The effect of the debt load, if it is large enough, goes from inconvenience to insolvency.
When you are insolvent, and you seriously doubt that you can ever pay off all your debts, deciding not to pay any more on your unsecured debts is not just a bold way of standing up for yourself. It is the responsible thing to do. It might even be your legal responsibility. Any bankruptcy judge will tell you that if you are probably facing bankruptcy, it is your responsibility to preserve your assets. As a practical matter, if you are unable to pay off your credit card, you may have to stop making payments entirely before the bank will consider negotiating with you — and that may be your only chance at ever paying off the debt.
And so there really could be a debtor’s revolt — not so much because so many people think it’s a great idea, but because so many consumers are backed into a corner and have few other options.