washington outlook

Keeping Transactions Fair
A Heavy Regulatory Cloud



by Jim Romeo


   As many are hopeful that the recession before us is forming a bottom trough, credit card debt and interest rates continue to climb, as do default rates. Add to this a steady flow of card, PIN and other security breaches that make the news almost daily. If there is any news coming out of the card world, it seems to be negative lately.
   Given our economic climate, Congress wants to get consumer spending back and keep transactions fair. The Credit CARD Act passed the U.S. Senate Banking Committee, but some things were not passed. This begs the question of, "will populist sentiment help drive this legislation through in a way that, could affect the acquiring industry?"
   The recent Senate Banking Committee vote was close at 12 to 11. It faces opposition from Senate Republicans and even a few Senate Democrats. According to Steve Schneider, an attorney with the law firm of Mitchell, Silberberg and Knupp LLP, the bill in its current form, which got out of committee, is even more onerous than the House bill, but probably will become more like the House bill once the full Senate takes it up. "As passed out of committee, the Senate bill would prevent credit card issuers from raising interest rates and fees even if the consumer's general credit risk increases," he says. "That provision, of course, would ultimately increase fees and charges for credit-worthy consumers, since a risk can't be charged to those who should bear it must be spread over all consumers." He adds that the bill in its current form prohibits those under 21 from receiving credit cards unless a parent or guardian stands liable.
    "Recent legislative proposals like the Credit CARD Act in the Senate and the Credit Cardholders' Bill of Rights in the House present a troubling dichotomy," says Duncan Douglas, an attorney with the Atlanta, Georgia-based law firm of Alston and Bird. "On one hand, such legislation would address concerns that credit card issuers have too long engaged in practices harmful to consumers in pursuit of higher profits. On the other hand, the legislation would almost certainly reduce the availability and increase the costs of consumer revolving credit undesirable results at a time when consumers most need access to credit and businesses most need consumers to use that credit to help drive spending. I believe legislation curbing certain credit card practices will enacted this year, but I expect the legislation to be further diluted to more closely mirror the final rules promulgated by the federal banking regulators last December. Even then, the legislation (like the regulations) will likely have the effect of shrinking credit availability and increasing credit costs, which will result in lower card transaction volumes at the point-of-sale and lower acquirer fees."
    "There is more agreement between lawmakers and the industry than may be apparent at first," says David Berman, Senior Solutions Marketing Manager, ActivIdentity. "All parties have an interest in restoring consumer confidence and ending abuses practiced by a minority of lenders. The final bill is likely to include all the rules that the Federal Reserve and other bank regulators have already approved to take effect in 2010."
    Matt Sumsion, vice president of iTransact in Farmington, Utah, points out that the legislation is intended to protect cardholders from predatory practices by issuers, but affects acquirers indirectly. Sumsion adds that the new regulations will make lending more expensive for credit card issuers which will cause them to cover the added expense by raising interchange rates. However, there is action brewing to target interchange fees.
    "The Merchant Payments Coalition (MPC), an industry group that represents nearly 3 million retailers, is seeking to do away with interchange entirely," says Sumsion. "On March 30th the MPC began an ad campaign in the districts of eight Congressional members.
    Pressure on interchange rates, therefore, is coming from two different directions and it will be interesting to see how it plays out. The market seems to be bearing current discount rates, however, so all the legislation and activity may result in having little final impact on the total rates paid by merchants."
    Terry Maher, an attorney who works in the law firm of Baird Holm LLP, in Omaha, Nebraska, has worked within the electronic payments industry for 25 years and says that eliminating interchange fees may not help consumers either. "In countries where interchange fees have been cut through legislation, the cardholders have not seen any reduction in the cost of goods sold by the merchants, and have experienced a decrease in cardholder rewards programs and potentially higher fees and finance charges," he says. "Net, net, the consumer saw no definable benefits from reductions in interchange. You need to keep in mind that banks make money on credit card transactions in three ways: finance charges, cardholder fees and interchange fees paid by merchants. If Congress squeezes two of these three revenue sources, you will likely see higher annual fees, higher finance charges, lower credit limits and more selectivity on credit quality for card issuance—which may not be a bad thing, given write-offs."
    Given this turn of events, how can acquirers and ISOs position themselves to survive in a market that will likely have a heavy regulatory cloud over it?
   "Acquirers and ISOs need to embrace regulatory compliance as an opportunity to add merchant value," says Douglas. "As the payments industry becomes increasingly regulated, merchants need advisors to help them remain in compliance. Acquirers and ISOs can build merchant loyalty by educating merchants on compliance and offering merchant-directed solutions that ease their customers' compliance burdens and concerns."
   Sumsion says that merchant accounts will become even more of a commodity than they currently are. "Pricing will become continually more transparent and competitive - if not ultimately the same for all merchants - so acquirers and ISOs must come up with ways to differentiate themselves beyond just pricing," he says. "If a merchant's processing costs are identical despite which ISO he/she chooses - and this is becoming an increasing reality - an ISO will have to provide better service and/or more creative perks than its competitors in order to retain its merchants. ISOs and acquirers must ask themselves what they can provide to their merchants that their competitors cannot."
   Schneider says that Government regulation seldom favors the small or under-capitalized and this is something for acquirers to be aware of. "Compliance costs get heaped onto operating expenses," he says. "Acquirers and ISO's who are large enough to lay off that additional cost will do fine, as their smaller rivals who cannot do so leave the business or get absorbed. Additional compliance costs also add to the business entry barrier."
   This is not to say that card transactions as a medium of exchange and commerce are a past trend. "For the vast majority of merchants, the advantages of accepting plastic still far outweigh the negatives, even with PCI DSS in the mix," Sumsion adds. "What I am personally witnessing, however, are more very small merchants deciding against having merchant accounts. As enforcement of PCI DSS becomes more burdensome, we may well witness the loss of more small merchants from our portfolios. I don't see it ever reaching crisis levels, however; consumers want to use plastic and their voices are clearly being heard, so I donÕt foresee a day in the near future when huge numbers of merchants will stop accepting bank cards.
   Maher points out that other than data security, most of the regulation is hitting the issuing side of the business, not the acquiring side. "The 'regulation' on the acquiring side is mainly coming down from the card brands," he says. "In these days of margin compression, you either have to have a niche that you can service well, or significant volumes to justify the investment of time and money."
   Overall, Sumsion is upbeat about the acquiring industry. "Price and competitive pressures may well drive a number of players out of the industry," he says. "Those who survive and thrive will be those who can continually adapt to this constantly changing legislative and technological environment and find new ways to provide value to merchants. More regulation of the credit card industry will undoubtedly result in the introduction of new, alternative payment methods and technologies, and acquirers will need to adapt and adopt. On the bright side, legislation like the Credit CARD Act may actually increase consumers' willingness to use plastic, so the acquiring industry is not going to disappear anytime soon.