Sometime this summer, the third largest company in the U.S. will launch a new competitor into the credit card space. Technology giant Apple announced in March that it will soon debut a new consumer credit card in partnership with Goldman Sachs. The card is unique in that most everything about the card is designed to be done on an iPhone – from the application process, to payments, to account management and support. For Apple, the primary motivation is to continue building the adoption of its mobile payment platform, Apple Pay, amongst the nearly 800 million iPhone users worldwide.
For Goldman, Apple Card will be an interesting test as the multinational investment bank who had been trying to cut costs will now invest more than $200 million to build out a customer support infrastructure and internal payments system to handle the new venture. The move continues Goldman’s aim at consumer-focused offerings which began in 2016 when the company launched its online consumer bank, Marcus, to counteract declines in its securities trading profits.
Though Goldman emerged as the final partner for Apple Card, it is reported by CNBC that several other major financial institutions were in talks to work with Apple. One of those in the final running was Citigroup, who said it dropped out due to concerns over the profitability of the card’s no-fee and low-interest structure. In the wake of this news, here is a look at the different responsibilities of those companies involved in offering a credit card and how these companies turn a profit.
Card issuers vs card networks
Though Goldman Sachs is the headline partner of Apple Card, they are not the only player involved. Goldman serves as the card-issuing bank and is responsible for covering the credit issued to users. Some of the most common card-issuing banks in the U.S. include Bank of America, Capital One, Chase, and Citi.
Most cards also operate by using a credit card network to handle transaction approval, card acceptance, and payment processing and facilitation. The two main card networks in the U.S. are Visa and Mastercard, the latter of which is the card network for Apple Card. Additionally, American Express and Discover operate as both card issuers and card networks. Interest charges
The most popular and profitable source of revenue for credit card companies is interest charges. Outside of certain promotions, card-issuers will charge interest any time money is spent using a credit card. This is done at an annual percentage rate (APR), which according to creditcards.com was an average of 17.72 percent in the U.S. as of May 2019. Interest rates are not the same for everyone and are calculated based on a borrower’s credit score. Most card issuers will offer a range of interest rates to their borrowers even if using the same type of card. For example, person A with an excellent credit score will likely have a lower interest rate on the same credit card as person B with a fair credit score. According to research firm R.K. Hammer, interest charges were the largest source of revenue for card companies in 2016 bringing in over $63 billion across the industry. Interchange and network charges The second largest revenue source for card issuers is interchange charges, which give a small percentage of the sale purchase from a merchant back to the issuing bank. This rate in the U.S. has a current average of just under two percent for in-store purchases while online transactions range between 2.3 to 2.5 percent. In 2016, interchange charge revenue totaled just over $42
On top of this, credit card networks will also take a percentage of each transaction, though it is far less than the interchange fees collected by issuing banks. Visa and Mastercard will typically collect around 0.05 percent of each transaction. While this cut for card networks may seem small, consider that these charges apply to all the card issuers they work with. For instance, Mastercard charges a network transaction fee on all purchases for both the Citi Premier Card and Captial One Platinum Card, along with the many other cards for which they are the network. According to the 2018 Nilson Report, a publication covering worldwide payment systems, Visa has 3.15 billion cards in circulation while Mastercard has 1.82 billion.
Some card-issuers will charge a flat-rate annual fee just to be a holder of a certain type of card. These vary widely with many cards having no annual fee to some having fees in the thousands of dollars. Often, cards with an annual fee have other perks attached such as a lucrative rewards program, airline miles for every certain dollar amount spent, or access to benefits such as lounges at airports. A study conducted by ValuePenguin.com in 2018 found the average annual credit card fee in the U.S. to be $147. Credit card companies hauled in $12.5 billion in annual fee revenue in 2016.
Although very avoidable for consumers, penalty fees continue to be a big revenue source for credit card companies. These fees appear most often when a late payment is made but can also be charged for exceeding a credit limit or bouncing a payment. Today, most card issuers offer a set of tools to help users avoid these fees such as automatic payment options and credit limit restrictions. Still, penalty fees brought in $12 billion for card issuers in 2016.