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Education

ISOs secure rights in respect of their residuals in the event
of that outcome? Most ISOs do not have the bargaining
power to achieve special rights in the event of a processor
bankruptcy, but some ISOs and super-ISOs may have the
ability to do so and should consider pursuing this option.

Legal ease: 2. Reserve account funds
It is too early to tell whether any shenanigans took place
concerning Wirecard merchant reserves. However, one
classic example of processor or large ISO wrongdoing
is to treat merchant reserves as if they belonged to the
processor or ISO.
Merchant reserves, of course, are funds that rightfully
belong to merchants and should not be commingled
with processor funds. In fact, the payment network rules
Wirecard: generally require acquirers, processors and ISOs to keep
merchant reserves at the acquiring bank and not allow
Legal lessons them to be held elsewhere or used for purposes other than
protecting the acquirer and its sponsored entities from
merchant losses.

By Adam Atlas 3. Third-party processors
Attorney at Law The hole in Wirecard’s balance sheet appears to have
ecent news concerning failed German payment related to certain third-party processors that were
processor Wirecard resounded across the fin- processing for merchants in foreign jurisdictions where
Wirecard was not itself licensed as a domestic processor.
tech world: financial irregularities, CEO steps
R down, CEO arrested, operations suspended, In my experience advising international super-ISOs, it is
highly unusual to leave processing revenue overseas.
bankruptcy — all within a few days. This happened
after auditors revealed they could not find $2 billion on If the auditors of Wirecard had sufficient experience in the
Wirecard's balance sheet, and the company subsequently
admitted the funds might be "missing." processing industry, they would have found it peculiar
early on that substantial amounts of revenue from third-
party processors in certain foreign countries stayed in
What legal lessons can we learn from a disaster that those countries and were not repatriated to the parent
befell what was perhaps the greatest European ISO and
processor? Following are six to remember. company in Germany.

1. Processors are leveraged The norm in international processing is for the parent
company to repatriate most of the revenue earned by
From their vantage point, ISOs might imagine processors foreign subsidiaries or foreign partners, leaving only
are flush with cash. This is often not the case. Like ISOs, enough money in country to cover local tax obligations
processors borrow money to grow their businesses. and pay local down-line agents and acquirers.
Investors in that growth are hungry for results. Thus
processors, like many borrowers, are greatly tempted to 4. Compliance versus business
impress their investors with numbers that are something
other than the truth. In every payments business of consequence an inevitable
and healthy tension exists between business interests
on the one hand and compliance interests on the other.
When a processor is leveraged, the ISO is put at risk Business interests seek to maximize processing volume
because processor insolvency can result in an interruption,
reduction or complete elimination of ISO residuals. In the and the quantity and variety of merchants. Compliance
interests rightly seek to limit the quantity of transactions
event of insolvency, the trustee in a processor's bankruptcy
has a vested interest in continuing to pay ISO residuals, and the type of merchants so as not to result in the
company aiding and abetting illegal activity, such
but the legal obligation to do so may drop away, leaving
the ISO completely without recourse. financing of terrorism, money laundering, or other illegal
or risky actions.
Like Wirecard, U.S. processors carry enormous debt that Where business wields too much power over compliance,
is serviced by the hard work of ISOs and other revenue
sources. ISOs negotiating contracts with processors should the results can be catastrophic. Evidently, had Wirecard's
internal audit compliance standards been more rigorous,
consider what would happen to their residuals if a given
processor were to become insolvent or bankrupt. Can the catastrophe might not have occurred. Conversely, had
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