By Jerry Soverinsky
"This legislation represents a huge accomplishment," beamed NACS President and CEO Hank Armour on July 21, 2010, as President Obama signed into law the Dodd-Frank Wall Street Reform Act, a financial services bill that included the Durbin Amendment, which addressed debit card swipe (interchange) fee reform.
After praising the efforts of NACS members, whose work launched "the largest petition drive on a legislative issue in U.S. history," Armour issued a stark reminder of the work that lay ahead. "The war on interchange fees is far from over. We must engage with the Federal Reserve over the next nine months to ensure that appropriate standards are issued."
Armour€™s cautionary words seem eerily prescient today. The U.S. Federal Reserve €" despite releasing draft debit rules on December 16, 2010, that limited debit card swipe fees to between 7 and 12 cents per transaction €" released a final rule on June 29, 2011, that set the fees at 21 cents per transaction, plus 0.05% of the transaction€™s value, and an additional one cent per transaction to pay for card security compliance to card brand standards.
The unexpected increase from the draft rules was a sobering setback for NACS members expecting final rules to fall in line with the Fed€™s staff recommendations. While still projected to save close to $500 million in annual cost reductions, it was a far cry from the $1.3 billion anticipated from the original recommendation.
The Fed€™s final rules on debit card swipe fees "is an irresponsible abdication of its legal duty to implement the law as written," remarked NACS Senior Vice President of Government Relations Lyle Beckwith, a frustration shared by retailers who worked with NACS in pushing for the reform.
"This rule is unacceptable to Main Street merchants and consumers who were counting on the Fed to issue a reasonable and proportional rule," said Mallory Duncan, National Retail Federation senior vice president and general counsel. "Unfortunately, this rule does not meet those qualifications."
Prior to enactment of the Durbin Amendment on October 1, 2011, debit card swipe fees averaged 44 cents across all retail industries, according to the Fed, and post-reform, those fees are limited to 21 cents plus one cent for fraud prevention costs and 0.05% of the transaction to cover fraud losses €" in all, a drop of about 50%, according to the banks, right?
While the average debit card swipe fee pre-Durbin may have averaged 44 cents, retailers know that for smaller transactions, fees were much lower, with a $5 purchase costing perhaps 6 cents to 10 cents. Interchange fees were assessed on a sliding scale, with low cost transactions incurring far lower rates than higher value ones.
Post-Durbin, however, that sliding scale has seized up, with banks treating the 21-cent swipe fee limit as both a minimum and maximum. That is, a $5 candy bar and a soda purchase will incur the same interchange fee as an $80 fill up: 22 cents (excluding the 0.05% of each that is also assessed).
The result for retailers, especially NACS members whose average in-store debit transactions totals $6.61, is that reform has not done much to limit out of control fees. Indeed, in some interchange qualifications, because the Fed ended up relying on a fixed-cost model in implementing Durbin, things have actually gotten worse.
"My interchange fees have gone up after Durbin. I can prove that in hard numbers," said Sam Odeh, owner of Illinois-based Power Mart Corp. "I am paying today probably a minimum a half to three-quarters percent more than what I used to pay [in debit card transaction fees], sometimes even a full point."
Odeh said the problem is not just the 22-cent transaction fee for both big and small transactions, but that the conflict has generated an unanticipated consequence for retailers: increased charge-back scrutiny.
"I€™ve been in business for 28 years and I€™ve never seen the scrutiny in the last six to nine months on chargebacks, especially from pay-at-the-pump, than I€™ve seen now," Odeh said. "Any iota of a problem is becoming a chargeback now." The banks, he said, are either trying to compensate for their perceived losses or else just striking back in the spirit of a sustained fight. Either way, he struggles to find a silver lining.
"I suppose I could say the charge-backs are tax deductible, so that€™s a plus," he said, "but in this business, no one is making money; looking for tax deductions is not our first priority." Odeh€™s experience is a common one for some convenience store retailers as of late.
7-Eleven franchisee Dennis Lane, president of the New England 7-Eleven Franchise Owners Association and national spokesperson for the Retail Industry Leaders Association, spent a great deal of time advocating for swipe fee reform ("I was in D.C. every other week for two years.") even attending President Obama€™s Dodd-Frank signing ceremony. But the optimism he felt on that humid July day was undercut several months later when the Fed announced its final rules.
"I honestly think [my store is] going to be close to where we were before Dodd-Frank," Lane told Bloomberg of the Fed€™s decision to cap fees at 21 cents per transaction. "The first 20-odd cents of every transaction will go to the financial services industry €" and that€™s not such a problem if you€™re selling computers or wide-screen TVs or digital cameras€¦It€™s a huge problem when you€™re selling newspapers and coffee and doughnuts and candy bars."
Six months later, after the new rules had been in effect for more than two months, Lane said his prediction had come true. "We€™re seeing small, almost insignificant savings compared to what we had believed the savings would be," Lane said. "It€™s horrible that the first 21 or 22 cents of every cup of coffee goes to the bank. Small tickets are painful for retailers€¦"
Thankfully, not all of the news is grim.
NACS€™ own Card Processing Program, with more than 1,200 stores, saw a 24 basis point reduction in overall Master-Card and Visa interchange rates between September (before Durbin) and October (after Durbin pricing was put into effect).
"Signature debit was where the highest interchange was before Durbin," said Gray Taylor, payments consultant to NACS. "We are seeing half our merchant€™s signature debit transactions falling under Durbin €" a smaller share than originally expected. Our data indicates that the industry will save about $450 million in the first full year of implementation, barring further significant declines in fuel prices."
Continued Taylor: "High volume merchants will see the smallest decline. Those merchants who were qualified at Tier 1 pricing with the PIN networks will be most adversely affected by the 22 cent per transaction fee."
NACS understands retailers€™ frustrations and is challenging the Fed over the new debit fee rules, looking for a declarative judgment that the Fed read the law incorrectly, thus ensuring that the association€™s biggest legislative accomplishment in its 50-year history brings appropriate relief to retailers.
Accordingly, on November 22, 2011, NACS, along with the National Retail Federation, Boscov€™s Department Store, the Food Marketing Institute and Norfolk, Virginia-based Miller Oil Co., filed suit against the Federal Reserve in the U.S. District Court for the District of Columbia, alleging the Fed failed to implement the law as required when it issued its final debit card fee rules.
"The Fed came out with a proposed rule that remains basically true to the language of the [Durbin Amendment]," said Doug Kantor, a partner at Steptoe and Johnson, lead counsel in the lawsuit. "Unfortunately, they [Federal Reserve Board] wrote a [final] rule where they invented a new, unheard of interpretation of the statute€¦[where they considered] other costs that Congress didn€™t tell them they could take into account. But Congress was very specific about what the Fed was to do."
According to the lawsuit, here is what the Fed got wrong:
In calculating its final 21-cent standard, the Fed considered more than the exclusive costs that Congress mandated, which included authorization, clearance and settlement.
The Fed invented a third category of costs €" "those that are specific to a particular electronic debit transaction but that are not incremental costs related to the issuer€™s role in authorization, clearance and settlement," the lawsuit reads, "claim[ing] unfettered discretion to decide which of such costs in this third category it would include in allowable cost. It thus read [Durbin] to provide that 'all costs related to a particular transaction may be considered, and some €" the incremental costs incurred by the issuer for its authorization, clearance, and settlement €" must be considered."
Eliminating the legal-speak, Kantor distills the complaint as this: "While Congress was very specific about what the Fed was to do, the Fed said Congress was silent on the new body of costs," he said. "Basically, they packed the costs of running a bank into debit interchange."
Such costs, detailed in the lawsuit, include:
- Fixed system costs (such as network connectivity, computer and software costs) and labor costs related to the processing of banking transactions;
- Costs of processing chargebacks and other non-routine transactions;
- Network "switch" fees incurred by an issuing bank; and,
- Transactions monitoring costs (costs for monitoring transactions before authorization).
The lawsuit notwithstanding, NACS maintains the Durbin Amendment will benefit retailers, estimating the savings to the convenience and fuel retailing industry and its customers to be $450 million a year.
How much of that makes it to the merchants and customers will depend on how processors work with their retailer clients (processing fees, distinct from swipe fees, are not regulated under the Durbin Amendment or the Fed€™s rules).
"There€™s no guarantee that processors have to pass on savings to retailers who do not have an 'interchange, plus€™ processing arrangement," said Beck-with. "We always maintained the free market would force them to do it, but while some are passing the savings on, others are not. What is for sure is that the complex, layered structure of our payment system will delay the delivery of benefits throughout the market; possibly for many more months."
Indeed, the Wall Street Journal reported recently that Intuit Payment Solutions is one processor who recently raised some rates, according to a customer letter. "While we try to absorb interchange fee increases, we sometimes need to change prices as a normal course of business," the company said in a statement to the newspaper.
At the same time, Heartland Payment Systems announced it has already passed along $25 million of savings to its customers in the form of lower debit card fees. "I think what we€™re doing is the right thing," said Heartland CEO Robert Carr, to the Journal.
Similarly, virtually every major oil company reduced their card pricing to their branded merchants in anticipation of, or during, the month of October. Most oil brands indicated that further adjustments might be made based on actual savings they see in future months.
Beckwith praises major oil companies, Heartland and other processors who are sharing their savings with retailers, and urges NACS members who aren€™t realizing a benefit from the Durbin Amendment to initiate a dialogue. "If you don€™t think you€™re getting savings, you need to talk to your processor," he said. However, he was quick to caution that processors are not the sole reason why retailers might not be seeing lower debit card fees.
"There€™s the Fed and the processors but also, the mix of transactions with small bank cards is higher than originally thought," Beckwith said, pointing out that small banks €" issuers with less than $10 billion in assets €" are exempt from the Durbin Amendment. He emphasizes the exemption should not play any role in retailers€™ strategies: "In no way can you discriminate against small bank cards, we expected and accept that retailers will see less savings with them." Additionally, government benefit cards and general use reloadable prepaid cards are also exempt from the Fed€™s cap fee.
In the meantime, a lawsuit proceeds and the battle over swipe fees continues. Whatever and whenever the final tally, some tangible positive changes are already in effect for retailers.
For instance, merchants can now offer discounts based on payment type or type of credit card, something that the card companies often prohibited under their operating rules prior to enactment of the Durbin Amendment. Retailers can now curb the impact of small ticket items, such as a pack of gum and a cup of coffee, by setting a $10 minimum for credit card purchases. Debit card transactions are excluded from this rule.
It€™s perhaps modest consolation for a fight that began in 2000, where a collective industry effort spearheaded a fight against Wall Street that gained the sympathies of members of Congress and the White House. But ask anyone who has tried to stand up to the banks, the challenge is stiff and fraught with uncertain outcome.
Jerry Soverinsky is a NACS Magazine and NACS Daily contributing writer.