By Patti Murphy
ProScribes Inc.
Is the Durbin Amendment the death knell for debit card programs? The answer depends on where one falls along the debit card food chain. Acquirers, ISOs, merchant level salespeople and regional EFT networks could fare well.
Card issuers, consumers and smaller merchants may not be as fortunate. The Durbin Amendment to the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (named for its chief author, Sen. Richard Durbin, D-Ill.) established for the first time federal price controls on debit cards.
It directed the Federal Reserve Board to establish rules capping interchange assessed by the largest banks issuing debit cards at rates deemed by the Fed to be "reasonable and proportional" to the costs issuers incur handling debit card transactions.
Financial institutions with less than $10 billion in assets (this includes thousands of community banks and credit unions) are exempt from these price caps.
In response to the legislation, the Fed articulated Regulation II, a new set of rules that cap debit interchange initially at 21 cents, plus an additional 0.05 percent of the transaction amount to cover fraud losses. The Fed also approved an additional fee of one cent per transaction, on an interim basis, for card-issuing banks that satisfy certain fraud prevention requirements.
The debit card interchange caps take effect Oct. 1, 2011. Meanwhile, all card issuers (not just the over $10 billion in assets crowd) have until April 21, 2012, to comply with another key Durbin Amendment requirement: ensuring their customers' debit card payments can be processed on at least two unaffiliated payment networks. This rule against network exclusivity aims to help merchants save money by being able to select least-cost processing options for customers' debit card payments. It also could spur shifts in transaction volumes to regional EFT networks.
"This is a real game-changer," said Dan Fisher, President of Copper River Group. Fisher, a former banker, expects a lot of community bank debit card programs will fare better than those of larger banks, given the $10 billion asset cut-off.
The exceptions are issuers that piggyback their debit card programs on those of correspondents, which are more likely to be covered by the law by virtue of size.
Just about everyone I've interviewed lately expects implementation of the Durbin Amendment to push more issuers to adopt chip and PIN technologies. "Customers are going to demand it," said Fisher of the advanced fraud protection provided with chip and PIN.
Federal regulators are also looking closely at risks and risk management routines associated with retail payments and online banking. The Federal Financial Institutions Examination Council issued a statement in June 2011 reiterating its concerns about online banking security.
A similar document addressing risk management practices related to retail payment systems - check, card and automated clearing house payments - was issued in 2010. The FFIEC is an interagency body that coordinates the standards and routines for regulating commercial banks, credit unions and savings banks.
One irony of the Durbin Amendment is that it lacks any method or mechanism to ensure the anticipated shift in issuer revenues finds a way to merchants accepting debit cards.
I'm not talking about largest (Tier 1) retailers: brands like Wal-Mart Stores Inc. and Target Corp. that negotiate directly with large processors and acquirers. It's the other million-plus small to mid-sized businesses that generate the bulk of interchange income.
These merchants typically pay acquirers a blended fee for card transactions, as opposed to interchange-plus pricing, which is what Tier 1 merchants pay, said industry consultant Paul Martaus. The result: a number of acquirers and their sales partners are anticipating revenue windfalls from lower transaction fees that aren't passed along to merchants.
Martaus also predicted issuing banks and acquirers will raise credit card fees to cover anticipated shortfalls in debit card income and the cost of administering new pricing schemes. "The overwhelming majority of businesses may actually see costs increase, not decrease," he said.
I agree, especially considering the new regulatory compliance fees some ISOs and acquirers have concocted in response to new Internal Revenue Service reporting requirements established under the Housing and Economic Development Act of 2008.
Acquirers and their agents must now collect verified taxpayer identification numbers and business names on all card-accepting merchants and, starting with tax year 2011, file a 1099-K form with the IRS for each.
Banks will also be looking to recoup more costs from consumers. Several large card-issuing banks, as well as smaller financial institutions, have begun eliminating debit card rewards programs and instituted new debit cardholder fees.
My bank now charges customers a $5 monthly fee for debit card use, and it dropped a program whereby customers were reimbursed for surcharges paid to outside-network ATM operators.
If ever there were a harbinger that the days of free checking are numbered, this is it. But I don't envy bankers navigating this transition. Deservedly or not, banks have been taking a lot of flak from the public in recent years, especially regarding fees, so anything done to recoup diminished debit card revenues is likely to be met with strong public resistance.
In March 2011, nearly two out of three U.S. consumers (64 percent) surveyed on behalf of Bankrate Inc. said they'd consider switching banks if their banks raised checking account fees.
Those most likely to switch were young (71 percent of folks under 30) and affluent (75 percent of those earning more than $75,000 a year). More recently, media outlets have been heralding the news of higher checking account and debit card fees, sowing consumer indignation in their wake.
Fisher said community banks can use this public sentiment to advantage - at least those not affected by interchange caps - by promoting low-cost or free checking account and card privileges.
There's plenty of market share up for grabs since, by most estimates, just a handful of the largest banks account for more than 50 percent of checking accounts in the country today.
Patti Murphy is Senior Editor of The Green Sheet and President of ProScribes Inc. She is also the founder of InsideMicrofinance.com. Email her at patti@greensheet.com.
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