Card fee limits to hit banks large and small

Colorado bankers say they’re about to suffer a new blow in the wake of the economic meltdown – this one imposed by Washington. The massive Dodd-Frank Wall Street Reform and Consumer Protection Act that could land with a thud on President Obama’s desk any day now includes a provision that would limit interchange fees – the fees merchants pay to banks and credit-card networks when customers use debit or credit cards.

“Banks are under pressure already, so any time you take away income it’s concerning,´ said Mark Bower, senior vice president, CFO and COO of Home State Bank in Loveland. “As a percent of gross income it is very small, but nonetheless the government keeps chipping away all around the edges.”

Sen. Richard Durbin, D-Ill., sponsored the amendment “to help small businesses by ensuring that debit-card interchange fees are reasonable.”

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It is a response to price-fixing by Visa and MasterCard, who control 80 percent of the debit market and thereby set the debit interchange fee rates that apply to all banks within their networks. Those fees are currently 1 percent to 2 percent  – “far higher than the actual cost of processing debit transactions, and they mean that small businesses and merchants always get shortchanged when they accept a debit card for sale,” according to Durbin’s website.

The financial reform bill actually includes an exemption for banks and credit unions with assets under $10 billion. That covers 99 percent of banks, including Home State, but Bower and the Colorado Bankers Association say it’s an exemption in theory only. Small banks will have to lower their fees to the price the government fixes or be priced out of the market.

“That exemption is there, but since most banks use large banks to do the processing behind the scenes, it won’t be effective,” Bower said. “You just can’t change the way the market functions and not have unintended consequences. We’ve yet to see a case where the government has set a price on anything and it didn’t either set the price too high or too low.”

Don Childears, president and CEO of Colorado Bankers Association, says the exemption is smoke.

“You’re still in the marketplace,” he said. “A retailer has a choice of who they have process their cards. If you’re approached by a local community bank that says it will cost you 50 cents for this service, and then Wells Fargo says it will cost you 10 cents, guess who the retailer goes with. That exemption is meaningless. It forces community bank pricing to come down to that government dictated level and hurts them the same.”

Request to remove

Citing the impact on community banks and credit unions, a coalition of 15 free-market and conservative  groups led by the Competitive Enterprise Institute sent a letter to Congress asking that the interchange provision be removed from the bill.

“America is unique in that a small bank or credit union from a small state can issue a credit card that can be used anywhere in the world,” the June 16 letter states. “The Credit Union National Association and the Independent Community Bankers of Association are correct to note that government controls of the market rates of credit- and debit-card networks will adversely affect all financial institutions that issue these cards, regardless of whether the final bill contains exemptions on paper for the size of institutions.”

Though the fee price has yet to be set, Childears expects it will be too low because the amendment’s language only allows for part of the cost of the product to be considered. The provision requires the Federal Reserve to set interchange fees that are “reasonable and proportional” to the “actual” cost and it defines actual cost as being exclusive to the cost of the electronic transaction of the funds.

“They did make an amendment late in the process to allow fraud costs to be purportedly covered, but it still basically says that the price fixed by the government can only reflect the incremental cost you have for that transaction,” Childears said. “I like the airplane analogy. It’s like saying that the ticket price can only reflect the cost of fuel for carrying one extra person, that you can’t factor in labor costs for flight attendants and mechanics and pilots and all the other expense.

“They want to confine (the interchange fee) to the additional cost to send that one electronic transaction through, when this is a huge investment that delivers enormous value to retailers. It removes the prospect of fraud losses,” he added. “Banks bear fraud losses, which is not the case when a merchant accepts a bad check.”

Source of income

Fees are also a much-needed source of income for banks at a time when loan losses are high. Childears anticipates banks will make up for lost revenue by cutting or restricting services like free checking and raising fees for other services for their customers. At the same time, he doubts big-box retailers will pass any of their savings from reduced fees onto consumers.

Bower assesses the situation more bluntly: “Wal-mart wanted lower costs and fees on those cards, and Wal-mart won.”

He’s not sure how Home State will make up for lost revenue while there is still so much uncertainty about where the pricing is going to be set and how that will impact his bottom line. What he is certain about is that the banks that issued the cards will be affected the most because they have the risk.

The interchange fee limits are coming on the heels of the government’s crackdown on other credit card practices, like high late penalties and changing interest rates. Home State didn’t have to change any of its policies because it didn’t have any of the exorbitant fees the rule sought to quash, but as with any new regulation there was still significant time and money spent on changing forms to comply with new disclosure rules.

In addition to his frustration over regulations being imposed on his business, Bower is also concerned about all that’s been left out of the financial reform bill.

“The current legislation is some of the worst we’ve seen in my banking career,” he said, noting that it doesn’t touch the problems that allowed the financial crisis to occur, like the lack of a separation between traditional banks and investment banks. He feels it’s unsafe and unsound for the economy and small community banks to bear the brunt of the burden as too-big-to-fail institutions continue to gamble on bad home loans.