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My credit card company gives me 5% cashback on my top eligible spend category up to $500 spent each billing cycle and 1% unlimited cash back on all other purchases. From my reading, credit card companies charge 1.5% to 2.9% processing fee from the merchants.

I currently only spend money on one category using this card, thus this category is always the top eligible category. For my other purchases, I use my other credit cards which give more cashback than 1%.

I do not see how the credit card company makes money here. It charges the merchants 1.5% to 2.9% processing fee and gives me 5% cash back. Is the company not losing money?

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    You're forgetting the interest the bank charges costumers who carry a balance. Merchant fees is not Citi Bank's only source of revenue on their Custom Cash Card. They might be losing money with you, but making money with others.
    – user19035
    Commented Oct 16, 2021 at 2:10
  • Merchants also participate in the bonus categories to attract spending.
    – quid
    Commented Oct 16, 2021 at 2:35
  • @quid That's true in certain cases, but not all. In the card in question (Citi's Custom Cash) the categories are too broad - "travel", "groceries", "gas", etc. - for Citi to have arrangements with all of them. Discover's Target/Walmart/Amazon quarter is a lot more likely to involve some sponsorship.
    – ceejayoz
    Commented Oct 17, 2021 at 1:25
  • What is the source of your figures of 1.5% to 2.9% processing fee for your specific high reward credit card?
    – DJohnM
    Commented Oct 17, 2021 at 17:43

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Lets do some math. If you spend $3,000 a month on the card and the biggest category is always $500 or more, thus maxing out the cashback opportunity. Lets also assume that they charge 2% fee because it is in the range you quote and the math is easy.

Each month they collect $3000 x 2% in merchant fees or $60.

They pay you $500 x 5% plus $2500 x 1% or $25 + $25 or $50

In that case they make $10 a month in the merchant fees even after paying you.

Now if you milk the category perfectly, then you spend exactly $500 on the card and no more, then they would only collect $10 in merchant fees and lose $15 a month.

Most customers will act like the first customer, most of their purchases will be at 1% cashback. Many others will carry a balance and pay a high interest rate that far exceeds their cashback.

Yes every card company has a group of customers that they don't make much money on, they may even lose money on some of them. They still contribute to the company because they are still moving money through the system, and allow the credit card company to use the size of their customer base to set the merchant fees.

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Credit card companies generate revenue from transaction fees, balance interest transfers (3-4%), hefty charges on outstanding balances, and late fees. The majority of their revenue comes from interest payments with the highest rate just over 20%.

5% cashback up to $500 spent each billing cycle is peanuts compared to the aggregate total of revenue from these other sources.

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    @jamesqf Not necessarily. They still get a percentage cut of every charge you make to the card.
    – glibdud
    Commented Oct 16, 2021 at 5:25
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    @jamesqf And indeed they might be. But they don't care about individual accounts as long as their aggregate income is OK, and the cost of tracking which accounts are losers (and the PR hit that might come from cancelling such accounts) probably outweighs what they lose individually from you.
    – chepner
    Commented Oct 16, 2021 at 18:03
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    I think that some of you have gotten lost the minor details of an individual's credit card account. 7/27/21: Visa announces a third quarter a third quarter GAAP net income of $2.6B. 7/29/21: Mastercard announces a second-quarter net income of $2.1 billion. In the big picture, paying out 5% in bonuses here and there is peanuts.
    – Bob Baerker
    Commented Oct 16, 2021 at 18:38
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    Also worth noting that the sum total of credit cards issued by Visa and Mastercard is zero. They're essentially SaaS and marketing companies running networks from processors to card issuers. They have nothing to do with the rewards.
    – Levi Ramsey
    Commented Jul 28, 2022 at 10:50
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    @LeviRamsey: ahh that makes sense, I agree "benefits" is the better word for those (above and beyond being the actual usage)
    – Ben Voigt
    Commented Jul 29, 2022 at 18:53
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If your credit card company is getting 2.9% from the merchants on your purchases, and if the 5% category is limited to $500, then if you spend at least $550 above that $500 in a month (or have $550 in a different category), then the credit card company out ahead. For the vast majority of people, the company will make a profit, even without considering fees and interest charges. The credit card company will be just fine if they end up losing a few bucks occasionally to you in a given month.

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Is the company not losing money?

Of course not. Your credit card company is betting that you will carry a balance on your card. As of September 2021, over 40% of American credit card accounts keep a balance each month (generally called "revolvers") and about 33% of American credit card accounts pay off their balance every month (called "transactors", source). About 25% of American credit card accounts are unused (and called "dormant"). The average credit card account keeping a balance has a balance of $5,525. With an average interest rate of 17.48%, this means that the credit card company is expecting to earn $80.48 per month, of which you might "reduce" by up to $25 in "cash back".

Presuming that all credit card users earn the max cash back, the credit company expects transactors to cost $25/month and revolvers to earn (for the bank) $80.48/month. Expected bank income from transactors is 33% * -$25 = -$8.25/month. Expected bank income from revolvers is 40% * (-$25 + $80.48) = $22.19 per month. Your credit card company can expect to make a profit of $13.94 per customer per month. This does not include merchant charges, late fees, annual fees or any other fees.

In short, while you might make $25 this month, and maybe next month as well, your credit card company is betting that you're going to slip up and start carrying a balance on your card and you're going to pay them far more than you "made". They have the historical data to show that they're in the much stronger position than you are. Typically, when people start carrying a balance on their credit cards, they carry those balances for decades. Anecdotally, I've had some co-workers who have carried large balances on credit cards from their 20s until retirement making only minimum payments their working lifetime. I personally stay away from credit cards. After a prolonged unemployed period in my early 40s, I have gone out of my way to be as debt-free as possible, with only car loans, student loans (from earlier years) and home mortgages since then.

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