The entire consumer credit card industry is based on a fairly simple algorithm. At its core the banks have to balance the risk of you not paying for your purchases with the potential profit if you do. However, this can become a little bit more complicated when you do not carry balances. For example, if you have a credit card with a $50k balance, the bank does not make a nickel off of you if you don’t carry a balance.
For this reason, the banks have realized over the years that the higher the risk you are, the more money they will likely make off of you in the long term. Very few people get a credit card, ram it to the limit, and then never pay anything towards the balance. Even people with atrocious credit tend to make the minimum payments for years before the default or change things around and get rid of the balance.
When this happens, the banks still profit from this individual. Simply, he will probably pay for his purchases several times over before the default actually occurs. This is the case because people with bad credit pay incredibly high interest rates.
Bad Credit Card Example
Let’s say you have awful credit and you have one maxed out card with a $500 limit, a 28% interest rate, and only pay the minimum payment, and have an $8 monthly “Service Fee”.
In this example, we’ll say the minimum payment is $20 per month. You will pay $11.67 per month in interest alone, plus your $8 service fee, so from your $20 payment, your balance will only shrink $.33 the first month. Thus, when you begin month two your balance will be $499.67.
To drive the point home, here is month number 2.
You begin with a balance of $499.67 and this month you will have to pay $11.66 in interest, plus the $8, therefore your balance during month two will equal $.32.
As you can imagine, it will take you decades to pay off the credit card and the bank will make several times your original purchases before you do.
The reality is people with excellent credit rarely carry balances. For this reason, the banks are somewhat hesitant to give out large credit limits and low interest rates like they used to.
Why Banks don’t like large credit limits
For this example, let’s say you have absolutely perfect credit, a strong income, and low debt. Every credit card you apply for you will get, but you may be surprised by some of the credit limits. Getting much more than $10,000 may be a challenge for you if you cannot show that you will use this credit. There was a time when $25k-$50k credit limits were fairly common. However, the people with excellent credit that had these limits never carried a balance. Thus, the banks may have gone years without any profit from these individuals. In other words the bank had no upside to issuing the credit cards as they were not making any money.
Now, what happens when someone with excellent credit, a ton of credit cards, no debt, loses their job or becomes ill? This person may have $250k in unsecured credit cards that have no balances. The person can easily use the credit to get through the rough patch. However, if the person doesn’t come out okay the banks could lose a massive amount of money on a customer that they never had the potential to profit from. Therefore, from the banks perspective only one of two things could happen: the bank makes no money or the bank loses a lot of money. This is the reason the high limits are a thing of the past. The only exception to this is when you use a massive amount of money every month and are able to change the equation for the bank. You may have a traveling job or purchase things for work; this makes sense to a bank.