Should Credit Card Companies Cut Lucrative Sign-Up Bonuses?

Elizabeth Aldrich, The Motley Fool
woman smiling and holding a large pile of cash

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If someone gave you $500 to sign up for a credit card, would you do it?

There are plenty of offers like this out there already in the form of big sign-up bonuses. When it comes to travel credit cards, you typically receive a generous amount of points for opening the card and spending a certain amount of money in the first few months. And yes, plenty of these offers are worth $500, sometimes even more.

It’s not too good to be true for the consumers, but it might be a problem for the credit card companies. What happens when the benefits they give outweigh the profit they bring in?

Losses and gains from big sign-up bonuses

The purpose of sign-up bonuses has always been customer acquisition. Credit card companies started offering them after the recession as a way to compete for new customers. There’s no question as to whether or not they’ve been successful to that end -- a wildly popular sign-up bonus from Chase for one of their premium travel credit cards caused them to run out of physical cards.

However, as more people take advantage of these offers, credit card companies are experiencing bigger losses. Chase ended up losing $200 million to $300 million on that popular sign-up bonus.

Chase CEO Jamie Dimon wishes they would have lost $400 million.

Sign-up bonuses are just marketing costs, he explains, and he expects to see returns on their spending eventually. Whether or not the offer will pan out as he hopes remains to be seen, as it will take seven years to get a clear picture of the profits from the card.

That’s because credit card companies make a huge portion of their profit off interest, which accumulates over time. And these rewards credit cards come with extremely high interest rates. The national average APR for rewards credit cards, as of October 2018, is 17.03%. In theory, customers jump at the temptation of a big sign-up bonus and spend the $4,000 required to qualify for the bonus, but then a good number can’t pay off their balance in full. Some end up spending even more, and the bank recoups their losses with ease.

Consider the fact that the limited-time sign-up bonus offered by Chase was worth $1,500. They’ll need to keep the customer long enough and get them spending enough to recoup that. The annual fee on their premium credit card is $450. Now let’s say one customer goes a little over the minimum spending requirement for the sign-up bonus and racks up a $5,000 balance, and then pays it off making only the minimum monthly payment. At a 20% APR, that person will end up paying $5,602 in interest alone.

This example isn’t out of the ordinary. In fact, many consumers rack up even higher balances. Credit card debt is still hitting all-time highs, with the average American owing $6,375 as of January 2018. From March 2017 to March 2018, consumers spent nearly $104 billion in credit card interest and fees. Unless consumers alter their habits in a big way, Chase and other credit card companies will likely continue to recoup losses on even their most generous sign-up bonuses.

The credit card hackers threatening credit card benefits

If consumers who dig themselves into debt and only make minimum monthly payments are how credit card companies turn big profits, then a growing breed of credit card hackers exemplify how they lose big.

These credit card enthusiasts target big sign-up bonuses, often applying for multiple credit cards at once and up to 12 per year. Newbie churners are advised to essentially take the bonus and run: you always pay your balance in full, avoiding any interest fees, and then you cancel the card unless you’re sure you’ll use its benefits enough to recoup the annual fee. The goal is to profit off of the credit card companies and never let them profit off of you.

What used to be a niche hobby in a small corner of the internet, “credit card churning,” as it’s dubbed, has exploded into a fairly widespread practice thanks to popular credit card rewards websites. There are entire blogs dedicated to teaching others how to churn -- one of the most popular blogs receives over 3 million views every month.

Pair this phenomenon with the wealth of personal finance information now available through blogs, vlogs, and money management programs that teach consumers about the dangers of credit card debt and how to avoid it, and you’ve got the perfect storm. As credit card users become increasingly debt-conscious and credit savvy, credit card companies will start to see bigger losses without the future returns they expect. If this happens, they’ll have to re-think the way they lure in new customers, and the desirable sign-up bonus may just become a thing of the past.

The Motley Fool owns and recommends MasterCard and Visa, and recommends American Express. We’re firm believers in the Golden Rule. If we wouldn’t recommend an offer to a close family member, we wouldn’t recommend it on The Ascent either. Our number one goal is helping people find the best offers to improve their finances. That is why editorial opinions are ours alone and have not been previously reviewed, approved, or endorsed by included advertisers. Editorial content from The Ascent is separate from The Motley Fool editorial content and is created by a different analyst team.