In a Surprising Twist, Reloadable Prepaid Not As Durbin-Proof As Originally Thought

Reloadable general-purpose prepaid cards, once thought to be largely exempt from the debit card interchange restrictions of the Durbin Amendment, will be covered by that law in more cases now that the Federal Reserve has issued its final rule interpreting the amendment. Some experts see the new rule crimping growth for reloadable cards branded by Visa or MasterCard, a segment that has picked up steam in recent years. “Given this change, the opportunity for new growth at the expense of debit card companies has been significantly curtailed,” says Madeline K. Aufseeser, a senior analyst at Boston-based Aite Group LLC, in a report released this week.

The darker implications for prepaid debit are among many that industry participants are working out as they pore over the 378-page rule the Fed promulgated June 29. “Everyone is scrambling to understand everything,” Aufseeser tells Digital Transactions News. The rule’s interchange cap takes effect Oct. 1, though many facets of the rule, including routing restrictions related to prepaid, aren’t effective until later.

Under the final rule, reloadable cards issued by financial institutions with more than $10 billion in assets can be exempt only if they refrain from charging overdraft fees, allow the first ATM transaction each month to be free, and do not allow underlying funds to be accessed by any means other than the card itself. Issuers in some cases offer cardholders the ability to make electronic bill payments, write checks, and access their accounts via the automated clearing house. Offering such methods, which let prepaid accounts approach the versatility of a checking account, will now trigger the rule’s stringent interchange cap, set at 21 cents plus 0.05% of the transaction value. Issuers’ interchange income on prepaid cards currently averages 40 cents per transaction, according to Fed research.

The first two restrictions were included in the Fed’s proposed rule, released in December. But the restriction on account access is new and “came as a surprise,” Aufseeser says in her report, “Debit Card Interchange: Implications for the United States And Beyond,” which analyzes salient aspects of the Fed’s final rule.

Aufseeser says big issuers are now faced with some stark choices (those with assets below $10 billion are exempt from the rule). They can continue to offer their current lineup of access features and live with reduced income or look for ways to offset the lost revenue with fees for other services, which will likely drive up costs for cardholders. Or they can join in cobranded arrangements with smaller issuers that are exempt, though this too would likely require sharing revenues. This could also lead to an interpretation that the cobranded card is really a decoupled debit card, which the rule explicitly covers, even in the case of small issuers. “If it’s decoupled debit, all bets are off,” Aufseeser cautions.

The Fed’s concern in further restricting general-purpose reloadable cards was to prevent covered issuers from evading the interchange cap by using prepaid products to mimic the features of demand-deposit accounts. But in so doing, the Fed may have hampered what has been a key product for the underbanked, some observers say. “If the prepaid card is designed for people who are credit-challenged, to help them into the financial mainstream, this is going to make it more difficult,” says Ben Jackson, a senior analyst at Mercator Advisory Group Inc., Maynard, Mass. The new restriction could be particularly problematic for payroll cards, a product dominated by large issuers. With these cards, access to funds by means other than the card itself “can become a big deal,” says Jackson.

In one of the ironies of the Durbin Amendment, interchange critic Wal-Mart Stores Inc. finds itself a sponsor of one of the most successful reloadable prepaid Visa and MasterCard products in the country. Its MoneyCard, which is aimed at low-income customers and permits in-store bill payments, is issued by GE Money Bank, with Green Dot Corp. handling reloads. But with GE Money, at $20.5 billion in assets, exceeding the $10 billion threshold, MoneyCard’s backers could face sharply reduced income if they keep the bill-payment feature. Wal-Mart did not return a call from Digital Transactions News seeking comment.