Merchants have been complaining for years about the cost of interchange fees and unnecessary profits the banks are earning.  Interchange fees are not regulated by the federal government, which in turn provides Visa, MasterCard and the issuing banks the right to raise fees for any reason.  Merchants and advocate groups claim that capping interchange fees would lower merchant costs and help prevent – or limit – bank profits from unnecessary fees.  For example, credit card companies and the banks that sponsor gas credit cards collect as much as 8 cents per gallon for interchange fees.  The Retail Industry Leaders Association said that last year “Visa and MasterCard represented 71 percent of the credit card market and 88 percent of all interchange fees were collected by the top ten managing banks.”

In 2008, U.S. merchants paid an average interchange rate of 1.82 percent per transaction, according to the Nilson Report, a Carpinteria, Califorinia-based newsletter that tracks the industry.  “A significant advantage of capping or limiting interchange fees would be that it would reduce interchange fee costs most directly,” the report said.  However, this type of legislation could create fees elsewhere in the cycle.

“U.S. card issuing banks receive an estimated $40 billion to $50 billion in income annually from interchange fees.”

A 2003 law to curb credit card fees in Australia was initially intended to lower costs for merchants – hopefully creating a more competitive pricing market.  The law has backfired a bit.  Australian consumers are seeing new costs associated with using a credit card.  Banks have added annual card fees, cut card perks and reduced rewards programs, like frequent-flier miles. The Australian central bank also allowed merchants to impose surcharges to card users.  Merchant fees for American Express and Diners’ Club were not affected because interchange fees are only related to Visa and MasterCard.  However, both card companies decided to reduce merchant fees to avoid losing customers to Visa and MasterCard.

Following the introduction of the Credit Card Interchange Fees Act, President Obama signed the Credit Card Accountability Responsibility and Disclosure Act of 2009, which directed the Government Accountability Office (GAO) to conduct a study of credit card interchange fees.  In November, the GAO released their report.  The GAO assessed four options to address merchants’ concerns:

• Limit or cap interchange fees
• Require the disclosure of interchange fees to consumers
• Prohibit card networks and other entities from imposing rules on merchants that limit their ability to discriminate among the different types of cards, or levy a card surcharge
• Allow merchants and issuers to directly negotiate interchange fees

The GAO determined that proposals to cut credit card merchant fees will be hard to implement.  The report did not conclude, however, if merchants were likely pass on any savings they obtained through lower fees to consumers or encourage consumers to decrease their use of higher rate cards.  They did conclude that disclosing interchange fees to consumers could be confusing and, of no surprise, interchange fees “account for the largest portion of the [merchant] fees for [the] acceptance of Visa and MasterCard credit cards.”

Congress is currently considering three bills that would regulate interchange.  If U.S. regulators put limits on fees or rates, the banks will find another way to generate revenue.  U.S. card issuing banks receive an estimated $40 billion to $50 billion in income annually from interchange fees.  The banks and card companies are obviously against any bill proposing fee and rate limits.  Reflecting on the aftermath of the new credit card rules in Australia, the U.S. Congress has the difficult task of deciding what to do.

It is estimated that PIN-based debit transaction Interchange costs have gone up nearly 85% in the last year alone. The rise could be attributed to a large consolidation between debit networks. Whenever there is consolidation, there is typically less competition and the result is higher PIN-based debit costs to processors and higher interim costs to merchants. Interlink’s current fee is nearly $0.76 per transaction and Pulse’s is over $0.64. Many merchants have become accustomed to paying flat fees for PIN-based debit transactions but in the coming years that will be a thing of the past.

Online merchants can take advantage of PINless debit solutions by having the option of using networks such as Star, NYCE, and Pulse and not having to pay traditional Interchange fees. This is beneficial to e-commerce merchants because payment is immediate, unlike e-check or ACH which can take a few days. The funds are also verified and clients do not have to give out checking account information. These features are currently limited to certain business types, such as utilities (water, gas and waste management), Education, government payments (taxes, fines, licenses), insurance (auto, life, and health), health club memberships, and internet service providers.

It is still beneficial to add a PIN pad to your terminal if you are a large ticket business. This will ensure you are paying the lowest rate possible. Some processors will offer a low PIN-based debit transaction fee. Often the merchant will still have to pay debit network pass-through fees.  If the PIN-based debit fee you are quoted sounds too good to be true, it probably is.

Many large credit card companies, such as Capital One, are disclosing a rise in delinquencies for November of 2008. Issuers, like American Express and Bank of America, are raising rates on existing balances and slashing credit lines in the short term. Banks are expected to cancel $2 trillion in available credit over the next year. If credit card issuance is being cut and rates will soon be regulated, it only seems inevitable that banks will turn to raising Interchange rates on merchants to cushion the fall.

Although merchants can’t do much about rising interchange rates, they can begin to take Pin based debit cards instead of credit cards to ease the fees. Offering gift cards and loyalty cards are also becoming very popular. The Federal Reserve and Office of Thrift Supervision are already fighting the battle of Interchange rates. Small business owners may not like the rate hikes, but banks may have no choice. The money has to come from somewhere and it certainly cannot keep coming from government bailouts. What happened to taking responsibility for your own credit and debt?

It is arguable that banks should be able to adjust interest rates as they assess the risk of customers on an ongoing basis. What stops banks from misusing the power to adjust rates? Or is this a great level of protection for all consumers in an economic downturn? As the credit crisis continues to go round and round only coming years will tell what can be done to solve the situation.

Overseas, many organizations have formed campaigns against Visa and MasterCard. In Canada, ad campaigns are being run by The Retail Council of Canada telling Visa and MasterCard to “stop sticking it to retailers.” The Retail Council of Canada is a non-profit association that represents more than 40,000 stores of all retail formats.

In Europe, ongoing Interchange battles have reached boiling points. EuroCommerce, the retail and wholesale governing body, is accusing MasterCard of raising interchange rates 160% after the release of MasterCard’s new interchange fee structure. On December 19^th, 2007, an agreement was signed prohibiting MasterCard’s multilateral interchange fees (MIF). These fees apply to almost all cross-border card payments in the European Economic Area (EEA). This card type was prohibited because it is said to inflate the base on which acquiring banks charge. Since 85% of businesses accept these card types in Europe, it is said to potentially harm businesses and their customers. Naturally, MasterCard will raise other card type fees in order to compensate for money lost on fees from MIF.

Australia has already won their battle against interchange. Fees in Australia are capped, and in some cases they pay half a percent. Of course lower interchange rates, in my opinion, have been the result of fear. Card associations are afraid that regulations will be imposed if they do not lower their fees.

It’s only a matter of time before Visa and MasterCard will have similar regulations imposed upon them. But, are these fees price gauging or just a fair network of profit? It seems to me that we are all happy with our sky miles and rewards point, but are oblivious to where money for these rewards comes from. The people that are coming up with these regulations could be forgetting we are in a capitalistic society. Would we haggle over the price of our dinner at a high end restaurant saying the restaurant charged too much, after we already read the price on the menu? Merchants are aware of the rates they are going to pay before they sign their agreements. Perhaps we need to do a better job of educating merchants about Interchange fees and what they are used for.

If this new bill is passed by Congress, it is could potentially create more of a mess and ultimately higher costs. I am sure there are millions of businesses in the U.S alone, and if it passes, Visa and MasterCard are going to be getting a lot of calls from people looking to negotiate their fees. This means they will have to hire more staff to take the calls, and possibly even create systems to track all the various negotiated rates. So will this bill help the situation, or only put a band aid on what merchants believe to be an issue? Fees collected generally go to rewards programs, credit losses, and operating costs.

There are a total of 23 Bills regulating the card processing industry; some of the key ones are as follows:

SB 349/HB 2856 – Disclosure

A contract authorizing a merchant to accept a credit card or debit card may not: (a) Give a financial institution the right to charge a merchant or deduct from the merchant account the cost of a credit card or debit card transaction because the cost of the transaction exceeds a predetermined amount; or (b) require a merchant to limit or waive its rights under this act.

SB 348 – Sales tax

Discount rates, transaction charges, interchange rates or any other charges or fees charged to merchants or deducted from credit card or debit card sales for processing credit card or debit card transactions shall not be applied to the tax portion of any credit card or debit card sales.

HB 7775/S5035 – Disclosure

Whenever a contract authorizing a merchant to accept a credit card or debit card specifies that the merchant is bound by the rules of a financial institution, the contracting financial institution must: (1) Give the merchant access to the complete rules referenced in the contract, notify the merchant of any rule additions or modification, and provide a copy of the new or modified rule; (2) provide a complete schedule of interchange fees, credit card and debit card transaction rates and any other fees that the financial institution charges to merchants, as well as provide an explanation of which rates apply to the merchant and the situations in which those rates apply; and (3) not require a merchant to agree not to disclose the contracting financial institution’s rules or rates as a condition of receiving access to the rules and rates.

Whether or not Congress takes action is still up in the air. The important thing is that they make an educated decision. I will keep you posted on the outcome.

In nature we have the cycle of life – in card processing we have the life of a transaction. It is important to understand where the fees come from and know who all the players are.

• The process starts with the consumer making a purchase via a terminal or website.
• The merchant’s terminal transmits the transaction, via DSL or phone line, to the acquiring bank.
• The acquiring bank routes the transaction to a processor, and then to the card associations via Visa’s system (VisaNet) or MasterCard’s system (INET).
• The association’s system requests an approval from the issuing bank.
• The issuing bank sends back a response. If the card is approved, an authorization code is sent back to the association. The association sends the code to the acquiring bank, and then to the merchants terminal.

Issuing banks charge Interchange fees to the acquiring banks. These fees are part of the costs that merchants pay to their bank. Whether you are using a big bank or a smaller provider as your card processor, there is a mark up on Interchange fees. This mark up (basis points) pays for your application process, customer service, risk monitoring, and of course your sales rep.

Both acquiring and issuing banks are charged fees by the card associations. Assessment fees are Visa and MasterCard’s primary source of revenue. You may have seen these on your merchant statement as 0.0925% and 0.0950%. These are typically less confusing because they are standard and don’t vary based on criteria.

Without sounding too obvious, the current credit crunch many are facing particularly affects merchants who are dealing with the rising cost of goods and services. The latter includes interchange fees. The two bills in Congress address the need for merchants to be able to negotiate the interchange fees they pay to credit card companies. Some of the debate in Congress calls interchange fees “hidden fees” that must be brought out into public focus.

While Congress is in summer session, I want to begin a series that will:

1. Shed light on what interchange fees are,
2. Talk about the history of these fees, and
3. Follow these two bills through the legislative process.

Do you understand what interchange fees are and how they affect not only you as merchants but your customers as well? As I begin this series, I want to hear from you about interchange fees. What questions can I answer for you?

Drop us a line. We look forward to hearing from you.