The Federal Reserve Board has proposed a new rule for public comment that would significantly lower the cap on interchange fees that debit card issuing banks (issuers) may charge a merchant’s bank (an acquiring bank) for processing debit card transactions. Importantly, the proposal also includes a formula that would periodically adjust the interchange fee cap based on data voluntarily reported to the Board by debit card issuers. If adopted, this formulaic approach would result in automatic revisions to the amount of the interchange fee cap every two years, without any public comment.
Significantly, an exemption to the interchange fee cap for small issuers, defined as debit card issuers with consolidated assets of less than $10 billion, would remain intact. Fintech companies that partner with these small issuers, such as neobanks and digital wallets, can breathe a sigh of relief.
Debit cards are a vital component of the payments ecosystem, remaining the most popular form of noncash payment. Interchange fees are a key source of revenue for banks and their fintech partners, such as neobanks and digital wallets. In 2021, interchange fees across all debit card transactions totaled $31.6 billion, a 19.1 percent increase from 2020. Market distortions inevitably result from price regulation, and this proposed rule, which would amend Regulation II, is no exception. Ramifications from this proposed rule, if adopted, will reverberate across the payments and banking industries.
Background
The Board first adopted debit card interchange fee standards in 2011, as mandated by Congress in the statutory provision known as the Durbin Amendment. Specifically, the statute requires the Board to establish standards for assessing whether the amount of any interchange fee received by a debit card issuer is “reasonable and proportional” to the cost incurred by the issuer with respect to the debit card transaction, while allowing for an adjustment to account for the costs incurred by the issuer to prevent fraud.
Under the current rule, each interchange fee received by a debit card issuer for a debit card transaction can be no more than the sum of 21 cents, plus a small ad valorem component keyed to the amount of the debit card transaction and a small fraud prevention adjustment. The proposed rule would lower the cap to 14.4 cents per transaction such that, for example, the maximum permissible interchange fee for a $50 debit card transaction would be 17.7 cents under the proposal, down from 24.5 cents under the current rule.
Additionally, the proposal includes a mechanism that will, every other year, automatically adjust all three components of the interchange fee cap based on data reported to the Board in a voluntary survey of large debit card issuers. These future updates to the interchange fee cap would not be subject to public comment and would be published by March 31 of odd-numbered years, with the new amounts taking effect on July 1 and remaining in effect for two years until the next update.
Ramifications for Industry Participants and Consumers
Interchange fees are a zero-sum game between issuing banks and acquiring banks, with the latter tending to pass their costs on to merchants. Interestingly, the Board has noted that the introduction of the interchange fee cap in 2011 resulted in covered issuers increasing customer fees on checking accounts more than they otherwise would have, citing a study conducted by Board staff, presumably to offset the lost revenue.
Although the proposed rule would apply only to large issuers, those with more than $10 billion in assets, small issuers exempt from the rule “do not exist in a vacuum” and could potentially indirectly face fee pressure in operating debit card programs, as Governor Bowman noted in a strong dissent. The impact of the proposed rule across the payments ecosystem may also be exacerbated by the Board’s recent revisions to debit card transaction routing rules for card-not-present transactions, which came into effect in July.
The Board is inviting public comment on the proposed rule, which has yet to be published in the Federal Register, until 90 days after the proposal’s publication.
For more information on the new debit card interchange rules or any related matter, please contact Jess Cheng or any member of Wilson Sonsini’s payments practice.
