What a Claim Against a Seller Becomes When a Card Paid for It

Answer first: the claim travels to the issuer, minus the tort claims

Regulation Z states the general rule directly. When a person who honors a credit card fails to resolve satisfactorily a dispute as to property or services purchased with the credit card in a consumer credit transaction, the cardholder may assert against the card issuer all claims, other than tort claims, and defenses arising out of the transaction and relating to the failure to resolve the dispute.

The consequence follows in the next sentence. The cardholder may withhold payment up to the amount of credit outstanding for the property or services that gave rise to the dispute, and any finance or other charges imposed on that amount.

The statute behind it says the same thing from the issuer's side. A card issuer who has issued a credit card under an open-end consumer credit plan is subject to all claims, other than tort claims, and defenses arising out of any transaction in which the credit card is used as a method of payment or extension of credit, subject to the conditions below.

This is a different mechanism from the billing error procedure. A billing error is about what the statement says. A claim or defense is about what the seller did or failed to do. A charge can be perfectly accurate as a statement entry and still be the subject of a claim arising out of the transaction.

The conditions, and the amount ceiling

Regulation Z states that the right applies only if two things are true. The cardholder has made a good faith attempt to resolve the dispute with the person honoring the credit card. And the amount of credit extended to obtain the property or services exceeds fifty dollars, with the disputed transaction occurring in the same state as the cardholder's current designated address or, if not in the same state, within one hundred miles of that address.

The statute frames the same two limits as an initial transaction exceeding fifty dollars and a place of transaction in the same state as the mailing address previously provided by the cardholder, or within one hundred miles of it.

The ceiling is separate from the floor. The statute says the amount of claims or defenses asserted may not exceed the amount of credit outstanding with respect to the transaction at the time the cardholder first notifies the card issuer or the person honoring the card. It then fixes the accounting: for determining that outstanding amount, payments and credits to the account are deemed applied first to late charges in order of entry, then to finance charges in order of entry, then to other debits in the order each was made.

That ordering rule is the reason the timing of notice matters arithmetically and not only procedurally. The outstanding amount is measured at first notice, and the deemed application of payments determines what is still outstanding on that particular transaction at that moment.

Regulation Z adds a protection while the right is being exercised. If the cardholder withholds payment of the amount of credit outstanding for the disputed transaction in accordance with the rule, the card issuer may not report that amount as delinquent until the dispute is settled or judgment is rendered.

Six ways the dollar and distance limits disappear

Both the regulation and the statute carve out a set of relationships in which the fifty-dollar floor and the hundred-mile radius simply do not apply. The regulation lists them where the person honoring the credit card is the same person as the card issuer; is controlled by the card issuer directly or indirectly; is under the direct or indirect control of a third person that also controls the card issuer; controls the card issuer directly or indirectly; is a franchised dealer in the card issuer's products or services; or has obtained the order for the disputed transaction through a mail solicitation made or participated in by the card issuer.

The statutory list matches, with the last item phrased as a solicitation in which the cardholder is solicited to enter into the transaction by using the credit card issued by that card issuer.

What unites the six is a commercial connection between the seller and the issuer. Where the issuer is on both sides of the arrangement, or has helped generate the order, the geographic and dollar screens fall away.

The good faith attempt to resolve the dispute with the seller is not on that list. It is a general condition in the regulation's text and is not carved out by the exclusions.

Two adjacent rules on the same page: offsets and refunds

The same regulation carries two other provisions that decide what an issuer and a seller may do with money after a purchase goes wrong.

The first is a prohibition on offsets. A card issuer may not take any action, before or after termination of credit card privileges, to offset a cardholder's indebtedness arising from a consumer credit transaction under the card plan against funds of the cardholder held on deposit with the card issuer. The rule preserves the issuer's ability to obtain or enforce a consensual security interest, to attach or levy, or to obtain a court order, where the same procedure is available to creditors generally. It also permits a plan, if authorized in writing by the cardholder, under which the issuer periodically deducts card debt from a deposit account it holds — subject to the billing-error limitation that suspends deductions of a disputed amount.

The second is the refund clock. When a creditor other than the card issuer accepts the return of property or forgives a debt for services that is to be reflected as a credit to the card account, that creditor must transmit a credit statement to the card issuer through the issuer's normal channels within seven business days of accepting the return or forgiving the debt. The card issuer must then credit the account within three business days of receiving that credit statement.

The regulation is careful about what this does not create. It does not require refunds for returns and does not prohibit refunds in kind. What it does require is even-handedness: if a creditor other than a card issuer routinely gives cash refunds to consumers paying in cash, it must also give credit or cash refunds to consumers using credit cards, unless it discloses at the time the transaction is consummated that credit or cash refunds for returns are not given.

What the seller may and may not be told to do about card acceptance

The last paragraph of the section governs the issuer's contracts with sellers, and it has a consumer-facing consequence that is easy to miss on a checkout page.

No card issuer may, by contract or otherwise, prohibit any person who honors a credit card from offering a discount to a consumer to induce the consumer to pay by cash, check or similar means rather than by use of a credit card or its underlying account. A cash discount at checkout is a thing a seller is permitted to offer, and an issuer may not contract that permission away.

The same paragraph bars a card issuer from requiring a seller who honors its card to open or maintain any account, or obtain any other service not essential to the operation of the credit card plan, from the issuer or anyone else, as a condition of participating in the plan. Where maintaining an account for clearing purposes is determined to be essential to the plan's operation, it may be required only if no service charges or minimum balance requirements are imposed.

One boundary closes the section. Regulation Z states that for guidance on whether Regulation Z or Regulation E applies to transactions with both credit and electronic fund transfer aspects, the reader is directed to Regulation E on issuance and liability for unauthorized use. On matters other than issuance and liability, this section applies to the credit aspects of combined transactions. A payment that runs from a deposit account rather than a credit line is governed elsewhere, and the claims-and-defenses right described here is written for a credit card in a consumer credit transaction.