What will new credit card rules mean for those under 21?

The new credit card rules signed into law recently herald a great deal of positive changes, but one requirement sticks out as an odd addition. The requirement that individuals under 21 need a parent or guardian to co-sign for a credit card has the capacity to leave many otherwise responsible borrowers without the ability to begin building credit.

In theory, this new rule protects young people from making bad credit decisions, and makes it easier for credit card companies to recoup losses associated with young people who default on their credit cards. But in practice it is odd that legislators believe young individuals can join the armed forces and even gamble but not make responsible credit card decisions.

When the law goes into effect next year, individuals under 21 whose parents won't co-sign for a credit card will have to have proof of the ability to repay the credit card. I spoke with former credit card industry insider and CEO of Cardhub.com, Odysseas Papadimitriou, to find out what kind of proof will be required in 2010.

First and foremost, he pointed out that the current language of the law doesn't define the burden of proof needed, and he expects card issuers to offer various formulas until an industry-wide proof of ability to repay is put into place by issuers or legislative action. As it stands now, expect to see issuers relying on a pay stub income assessment, much like apartments and other businesses verify ability to repay.

Papadimitriou suggest that another, and less likely to be argued about, method will be secured credit cards. Secured credit cards differ from most cards on the market because the card issuer keeps a deposit equal to the card's limit while the borrower has the card. Since the bank already has the full value of the credit card it's clear that the card can be repaid. Secured credit cards have long been a good option for those with poor or no credit history, and are available from many card issuers. My first credit card was a $300 secured card from my credit union, which got me through most of my college days; and helped me graduate with no credit card debt, even after I moved to an unsecured card.

The biggest problem with this new legislation is that in the coming years young consumers will have much shorter credit histories. This could make it harder to get a car or home loan, and will likely translate into a higher interest rate when a loan is secured.

Instead of requiring parents to be a backstop to poor credit decisions, which many have made themselves, a better requirement would be to complete a financial literacy course like FoolProof. At one time, this was an option for underage credit card consumers, but it was struck from the final version. Such a requirement would be in line with other federal lending regulations for young people, including the current Federal Stafford entrance exam, which essentially states that this money has to be repaid and outlines the consequences of not doing so.

So what should you do if you're under 21 and expect that having your parents co-sign will be a problem, or simply don't want to deal with the credit card industry figuring out what proof will be required?

Papadimitriou recommends that, "If you want an unsecured credit card, you get one as soon as possible since issuers may start making changes by this fall." He went on to suggest that young consumers use the student credit card page at CardHub as a jumping-off point.

While some personal finance writers feel that credit cards are more trouble than they are worth; when used responsibly they are a good way to build credit and to get extra protections like the ability to charge back, extend warranties, and safely make online purchases. To get a better understanding of how credit cards work and the responsibilities that come with having one, I highly recommend you work through the FoolProof financial literacy program before you get your first card.
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