The Office of Fair Trading is to impose a £12 limit on late payment and other credit card charges after branding the penalties imposed by companies such as Barclaycard as excessive and unfair.

The move is good news for the one in five credit card holders hit with an average penalty charge of £22 last year but will be bad news for profits at the UK's leading financial institutions.

The announcement means that companies such as Alliance and Leicester, which charges customers £25 for a late payment and £25 for exceeding a credit limit, will have to reduce their fees or face the embarrassment of legal action by the OFT.

The regulator said credit card fees have been set "at a significantly higher level than is legally fair" and estimated that consumers paid £300 million more than was reasonable last year.

The OFT said it expects all credit card issuers to recalculate their charges and that fees should only be used to recover administrative costs. It added that the same principle would eventually also apply to default charges on overdrafts, store cards and mortgage products.

John Fingleton, the chief executive of the OFT, said: "Our statement of principles provides practical guidance to banks which increases their incentives to compete vigorously while protecting consumers from being charged unfair amounts.

"Our threshold approach is a spur to changes in market practice. We expect credit card issuers to adjust their default fee levels quickly. We have not ruled out future legal action if the market does not respond positively."

Investment bank Credit Suisse has estimated that UK banks generate about £2 billion of revenue from penalty charges across bank accounts and credit cards.

It said that if the credit card default fee were capped at £15 gross profits in the banking sector would be reduced by about £800 million. A £10 cap would cut profits by £1.2 billion. Profits at Lloyds TSB, Alliance & Leicester, Barclays and HBOS would bit hit hardest by the move, the investment bank said.

Consumer groups welcomed today's decision. Robert Kenley, head of credit cards at price comparison website moneysupermarket.com, said: "This OFT news cannot come soon enough.

"Encouraging the card providers to comply with the £12 cap can only lead to increased transparency and clarity across the credit card industry. It will ensure consumers are better able to understand the fees for which they could be liable and subsequently less likely to make payments late or exceed their credit limit."

The credit card industry has until May 31 to respond to the OFT statement.

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