Interchange at a Crossroads

The dust is still settling around the July 29, 2011 passage of the final version of the Durbin Amendment to the Dodd-Frank Wall Street Reform and Consumer Protection Act, and it is unclear whether credit unions will consider themselves victors or victims.

A cap on debit interchange fees that was originally proposed at 12 cents per transaction emerged in July at a 21 cent cap with a 1 cent fraud charge plus .05 percent of the transaction’s value, which takes effect October 1, 2011.[1] Interchange fees bring in a reported $14-19 billion in revenue for financial institutions.[2]

Although most credit unions will be exempt from the regulation, as exemptions include all financial institutions with $10 billion or less in assets and government benefit cards,[3] they will not be unaffected. Credit unions and smaller financial institutions have held that the interchange fees are required to fund fraud protection and rewards programs.[4] The exemption means that credit unions will not have to change their business models or issue new cards, at least over the short term,[5] but the practical implications of the new rule may subvert the intentions of the legislature in exempting those credit unions.

For credit unions and other small issuers of debit cards that are subject to the regulation, the decrease in interchange fees means less fee per transaction—and lower prices for consumers are not a likely result.[6] Merchants currently pay just under 50 cents per transaction, and that amount is split between the merchant’s bank and the card issuer. The Federal Reserve Board warns that lower interchange fees in other countries, such as Australia,[7] have not lead to lower consumer prices.[8]

The ability to add the 1cent fraud charge requires the issuer to demonstrate they follow specific fraud procedures, and the .05 percent per transaction fee is also ostensibly related the cost of fraud protection.[9] Although the amendment does not actually lower fees for merchants, it nearly halves the interchange rate for debit card transactions.[10]

It will allow merchants to choose how their transactions are routed, and will require those subject to the amendment to carry two or more debit networks (one PIN and one signature network) that are nonaffiliated. Originally, issuers might have been required to participate in as many as four networks. The two network rule does not take effect for issuers until April 1, 2012.[11] These merchant-directed routing fees will likely create a burden on small banks and credit unions regardless of their exemption from the rule. 

An immediate result of the changes was a restructuring of fees by Visa designed to preserve routing profits, incentivizing merchants who continue to use their network once they can route their own transactions.[12]

The results of the amendments may be additional fees for existing debit cards and the end of many rewards programs. USAA has already done so, after surveying their customers to determine which cost cuts would have the least impact.[13]  However, the end of such programs may not be felt by many, according to a study by Mintel Compermedia which found that a little less than half of debit rewards participants have redeemed their points.[14]

Overall, however, it is still likely that debit interchange is a declining source of revenue as the processors court merchants, who may now choose transaction routes, rather than issuers. The rule will also likely be revisited in the next few years as regulators observe results.[15]

If you have questions about how the new rule may affect your institution, please contact the Credit Union Group of Weltman, Weinberg, and Reis Co., L.P.A., or Emily Honsa Hicks, Esq. Emily is an associate in WWR’s Real Estate Default Group based in the Cleveland Office. She can be reached at (216) 685-1083 or ehonsahicks@weltman.com.
Footnotes:
[1] Detweiler, Gerri. What The Debit Card Interchange Rules Mean For Consumers. Business Insider, June 30, 2011, available at http://www.businessinsider.com/what-the-debit-card-interchange-rules-mean-for-consumers-2011-6.

[2] Id.

[3] Marx, Claude R. Durbin Reiterates that Interchange Rule Will Help Consumers, March 24, 2011, Credit Union Times, available at http://www.cutimes.com/2011/03/24/durbin-reiterates-that-interchange-rule-will-help

[4] Chen, Tim. Banks Should Love the Fed’s Durbin Amendment Ruling, Forbes, July 12, 2011, available at http://blogs.forbes.com/moneybuilder/2011/07/12/banks-should-love-the-feds-durbin-amendment-ruling/

[5] Morrison, David, Interchange Rule Draws Flak, Credit Union Times, July 17, 2011, available at http://www.cutimes.com/2011/07/17/interchange-rule-draws-flak?t=washington

[6] Morrison, David . Federal Reserve Interchange Rule Could Result in Drastic Cuts for CU Income, December 16, 2010, Credit Union Times, available at http://www.cutimes.com/2010/12/16/federal-reserve-interchange-rule-could-result-in-drastic-cuts-for-cu-income

[7] Cheney, Bill. New Interchange Rules for Debit Cards: A Perceived ‘Win’ Is Really a Loss , January 20, 2011, The Huffington Post, available at http://www.huffingtonpost.com/bill-cheney/new-interchange-rules-for_b_811091.html

[8] Supra note 1.

[9] Supra note 4.

[10] Practical eCommerce Staff, Understanding the New ‘Durbin’ Debit Card Rates; Exec Explains, Practical Ecommerce, July 8, 2011, available at http://www.practicalecommerce.com/articles/2889-Understanding-the-New-Durbin-Debit-Card-Rates-Exec-Explains

[11] Supra note 4.

[12] Morrison, David. Visa Pricing Change Seen as a Bid to Hold Merchants. Credit Union Times, August 2, 2011, available at http://www.cutimes.com/2011/08/02/visa-pricing-change-seen-as-a-bid-to-hold-merchant.

[13] How the New Debit Card Rule Affects You, USAA Bank, July 6, 2011, available at https://www.usaa.com/inet/ent_blogs/Blogs?action=blogpost&blogkey=newsroom&postkey=debit_card_rewards

[14] Morrison, David. Debit Rewards Value Doubted by Study, Credit Uniton Times, July 31, 2011, available at http://www.cutimes.com/2011/07/31/debit-rewards-value-doubted-by-study

[15] Supra note 5.

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2 thoughts on “Interchange at a Crossroads

  1. It seems like every day someone is “discovering” another unintended side effect of the limit that the Federal Reserve placed on debit card transaction fees, which took effect in October. The thing about all these unexpected side effects is that they were all both predictable and described in some detail on our blog and elsewhere long before the interchange limit was enforced.

    No one who was paying attention and had actually bothered to look into the numbers should be surprised. The type of situation we have here is strikingly similar to, although not quite as potentially disastrous as, the European crisis in that in both cases politicians and their advisors were cheerfully ignoring the experts’ early warnings only to later declare, when it turned out that the experts had been right all along, that everyone was surprised with how events were unfolding. http://blog.unibulmerchantservices.com/another-durbin-amendment-side-effect-gets-the-limelight

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