The Expert's View

Fraud and Durbin's Impact on Community Banks

Looking to Networks for Fee Relief and Fraud-Prevention Guidance

While the final rule [(Regulation II, Debit Card Interchange Fees and Routing] is a significant improvement over the December proposal, which would have capped debit interchange at 12 cents per transaction, it remains a serious concern. Any relief for community banks from the impact of the Durbin amendment must come from the networks' implementation of the rule.

The final rule caps interchange fees at 21 cents per transaction, plus five basis points of the transaction amount to cover fraud losses, and takes effect Oct. 1. The Fed also proposed an additional 1-cent fee, which will also become effective Oct. 1 on an interim-final basis, if the issuer satisfies certain fraud-prevention requirements.

Thousands upon thousands of community banks use various payments networks and third-party processors, and rely exclusively on these entities for new fraud-prevention technologies. 

Debit card issuers of less than $10 billion in assets - community banks and credit unions - are exempt from interchange price controls, including the fraud-prevention adjustment, though the networks are not required to set separate prices for them.

There's lots of buzz surrounding the impact of the final rule will have on fraud prevention. Community banks recognize that fraudsters are getting better and better, and they certainly want to contain fraud losses, particularly in a marketplace that will, over time, limit their ability to cover the costs of their debit card programs and earn reasonable profit.

But community banks are in a wait-and-see state regarding the implementation of new fraud-prevention technologies. This country has a very complex and fragmented payments-card processing environment. Thousands upon thousands of community banks use various payments networks and third-party processors, and rely exclusively on these entities for new fraud-prevention technologies. Community banks will embrace new fraud-prevention technologies as soon as the networks and processors offer proven and cost-effective solutions.

With regard to network exclusivity requirements, the final rule requires a card issuer to ensure that its debit cards can be processed on at least two unaffiliated payment card networks - one signature network and one PIN network - if the card has both signature and PIN capabilities. Cards offering only PIN capability need to have two unaffiliated PIN network connections. Debit cards only usable at ATMs are exempt. The two-network requirement, consistent with statute, provides merchants the ability to select the least-costly routing path. Small issuer cards are not exempt from these requirements, which become effective April 2012.

From a community bank perspective, the most promising aspect of the new rule is the creation of a new Federal Reserve program, proposed by Gov. Tarullo, to monitor the small issuer exemption and report findings six and 18 months after the rule's effective date. The program will assess network pricing schedules before and after the rule, changes in small bank interchange revenue and the impact on small issuer costs. This program acknowledges the risk faced by small issuers despite the exemption - a risk acknowledged by Federal Reserve Chairman Bernanke, former FDIC Chairman Sheila Bair, and acting Comptroller John Walsh.

The Durbin amendment has been the overriding priority of ICBA in the 14 months since it passed, because it threatens the viability of community bank interchange programs. Typically, these programs merely break even or earn only a modest profit. But because customers have come to expect debit cards, community banks must offer them to remain competitive with large banks. If community banks are not shielded from the impact of the Durbin rule, debit interchange revenue will drop over time. This could happen if the networks set a single debit interchange rate, with no separate rate for small issuers, or if the separate rate is not high enough to cover small issuer costs. Revenue could also be lost if retailers discriminate against community bank cards and steer customers toward large bank cards or PIN-based transactions, which are less expensive for merchants. Any lost revenues will have to be made up in order for community banks to remain viable.

According to a recent survey of ICBA members, community banks would be forced to make up lost revenue by charging for services currently offered for free - such as checking, debit cards and remote services for small businesses. Lost revenue would make it more difficult for community banks to offer competitive rates on deposits and loans and could even tip the balance against a decision to open a new branch or maintain some employees.

Given what's at stake for our customers and our communities, we are diligently working with the networks on liability rule changes that recognize the new environment and monitoring the impact on community banks. The Durbin amendment was a setback. While the Federal Reserve rule is a concern, it reflects the statutory constraints they were given to work with. Our task now is to minimize the impact so that community banks can continue to offer the debit cards our customers have come to expect.

Viveca Y. Ware is the senior vice president of regulatory policy for the Independent Community Bankers of America. With more than 30 years of banking experience, Ware is a registered lobbyist and directs ICBA advocacy efforts related to payments, the online delivery of financial services, technology, crisis preparedness, minority banks and bankers' banks. She also serves on the Financial Services Sector Coordinating Council for Critical Infrastructure Protection and Homeland Security, the EPN Business Committee, the Accredited Standards Committee X9 Board of Directors and various industry forums.



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