You are herePro Publica: Backgrounder: Behind the Battle Over Hidden Debit Card Fees

Pro Publica: Backgrounder: Behind the Battle Over Hidden Debit Card Fees

March 21, 2011- A provision within the financial reform bill that would regulate debit card transaction fees could be postponed by a year or two following fierce objections from banks. Specifically, banks large and small are objecting to a Fed proposal to limit what are known as interchange fees — the fees they collect from merchants every time a customer uses a bank-issued debit card to make a purchase.

Lawmakers in both houses of Congress last week drafted legislation to postpone writing new debit interchange rules for one to two years. According to Dodd-Frank, the rules were supposed to be finalized by April 21 and to go into effect by July 21.

Consumer groups have decried the delay, saying it would postpone much-needed reform to a system that is “uncompetitive, non-transparent and harmful to consumers [1]” [PDF]. At the same time, these groups voiced concerns that if interchange reform passes, banks will levy other charges on consumers — something many banks have warned they may do.

Given the controversy, we’re taking a closer look at how interchange works and what’s at stake for banks, for businesses and for consumers.

How Interchange Works

Many consumers are only vaguely aware of the existence of the interchange fees—or “swipe fees”—but they’re still paying for them because the costs are ultimately passed on to consumers [2] in the form of higher retail prices. The fees often cause retailers to offer discounts for cash or set minimums for credit and debit purchases.

Aside from the argument that paying with plastic is convenient for both consumers and merchants, the justification for interchange fees is partly that banks assume some risk [3] in these transactions, particularly with credit purchases. But because debit transactions are simpler—a matter of moving money from one account to another [4]—some have argued that debit interchange fees are unjustifiably high.

The Dodd-Frank financial reform bill takes aim at only these debit interchange fees. It tasked the Federal Reserve with adopting standards to determine whether interchange fees are “reasonable and proportional” to the cost of processing the transaction.

What the Fed came up with was a plan [5] [PDF] to cap debit interchange fees at 12 cents per transaction—a proposal that banks appear to uniformly hate [6]. They currently get about 1 to 2 percent of each debit transaction, which averages out to about 44 cents [7].

The exact numbers are squishy here and are negotiated between merchants and payment networks like Visa and Mastercard, but generally fees for credit cards are higher than for debit cards—and they get even higher if the cards have fancy reward programs. (The card networks also collect their own “network fees [8]” from merchants, which they keep, but as the New York Times has noted, those fees are smaller, and they’re not particularly controversial.)

Some have pointed out that this means merchants—and customers, in the form of higher prices—essentially subsidize the purchases and perks of card-users [9]. According to an analysis released last year [10] [PDF] by the Boston Federal Reserve, such subsidies average more than $1,000 for card-using households each year.

It’s also worth noting that debit card payments with PIN numbers are less costly for merchants than debit card payments with signatures. The larger fees are why some banks have tried to encourage customers to use signature debit instead of entering their PINs, even though PIN transactions are more secure [11] and cost businesses less.

The debit transaction themselves, as the Washington Post has pointed out, only cost a few pennies each to conduct [12] if you don’t count the infrastructure costs. (As it happens, the Fed isn’t counting infrastructure costs in calculating the fee cap. Costs like network connectivity or overhead costs, “cannot be attributed to any particular transaction, given that they could not be avoided if any particular transaction did not occur [13],” Federal Reserve Governor Sarah Bloom Raskin testified last month.)

As Reuters columnist Antony Currie points out in his handy FAQ [14], Visa Europe has capped its debit card interchange fees at 0.2 percent of each transaction, and U.S. interchange rates currently average about six times that.



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