By Adam Atlas
Attorney at Law
The merchant acquiring industry is not a pyramid scheme, but it does resemble a pyramid. At the top, there are payment networks, like Visa Inc. and MasterCard Worldwide that establish the rules of play.
Below them are banks that are sometimes referred to as members of the payment networks; they also used to be the principal members of the payment networks before they became publicly traded. Below the banks are processors. Below processors are registered ISOs, then agents and sub-agents.
The purpose of this article is to discuss some of the key legal considerations in the variety of entities and relationships that lie below the processor. Specifically, I want to discuss the occasional practice of putting in place overlapping contracts between various chains of entities. These various layers of sales entities and individuals are sometimes called "downlines."
In order to understand exactly where you are in the hierarchy of the various entities in the industry, the first place to look is your contract. For example, if you are an agent of a registered ISO, chances are you have an independent contractor agreement with the ISO.
However, some processors like to have agents of an ISO sign an agreement with the processor as well as with the ISO. The purpose of these ancillary agreements is not necessarily to register the agent, but rather to give the processor a direct right of action against the agent in case they take merchants in contravention of their nonsolicitation obligations.
Let me unpack this concept. Let's say an ISO signs up an agent who brings on a hundred merchants over the course of a year or so. Let's say that the agent turns out to be a bad apple and starts moving those merchants to another ISO and processor in violation of their nonsolicitation obligations to the ISO under their agent agreement with the ISO.
In order to rein in the rogue agent, the ISO may stop paying residuals and threaten action against the agent. However, if the ISO doesn't do enough to stop the agent, the processor may wish to intervene directly. If the processor does not have a contract directly with the agent under the ISO, that direct intervention may be more difficult from a legal perspective. It is for this reason that some processors will seek to sign nonsolicitation or confidentiality agreements directly with agents of ISOs.
This concept of a kind of leapfrog agreement between an entity and another entity that is two "levels" below it is also found in ISO, agent and sub-agent relationships. In this set of relationships, the party seeking the added protection is the ISO. The ISO first enters into an agreement with an agent. The agent then engages sub-agents under it pursuant to written agreements.
The ISO may, however, require sub-agents of the ISO to also contract directly with the ISO. This mirrors exactly the cascading contracts discussed above between processor, ISO and agent. The reasons for these additional contracts at the ISO level and below are the same as those at the processor level – the ISO wants to protect its merchant base and establish a direct right of action against sub-agents.
I'd like to add that these cascading and overlapping contracts are not the rule, but they are not altogether uncommon either.
Everyone should care about extra contracts. Consider the ISO, agent and sub-agent scenario. Let's put ourselves in the shoes of the agent whose ISO has required that all its sub-agents contract directly with the ISO in addition to with the agent.
Stepping back for a moment, let's remind ourselves of where the value lies in an agent business. The value is in its agreement with the ISO, the merchant base built up with the ISO and then the agent relationships that the agent has created with sub-agents. If the ISO, rightly or wrongly, took the agent's sub-agents away, then the agent would lose one key source of new accounts – its sub-agents.
It is for this reason that the agent should think twice about allowing anyone (ISO or otherwise) to contract with its sub-agents. Sub-agents are squirrelly by their nature – anything that can provoke them to abandon their loyalty to an agent should be looked at with caution.
When an agent puts up resistance to allowing its sub-agents to contract directly with the ISO, some ISOs cite payment network rules as prohibiting agency three layers deep. Specifically, the ISO says that the payment network rules do not allow the agent to even have sub-agents.
There are varying interpretations of the payment network rules on this topic, and I prefer not to take sides. What I can say is that the reality of ISO, agent and sub-agent structures is very common and is not likely to disappear any time soon. As such, not all ISOs require contracts directly with sub-agents of agents. Agents should consider whether the ISO they are talking to for a possible relationship would require this and think about how it could impact the agent's business.
Having spent the better part of this column criticizing the practice of overlapping contracts, I'd like to take a moment to discuss why it can be a good thing in some cases. No matter who you are, paying residuals is a headache. Once you have the money to pay, you have to calculate exactly how much is owed to the entities below you and it is customary to provide some kind of reporting so the person receiving the payment can make sense of it.
Some ISOs offer their agents the service of managing residual payments payable by agents to sub-agents. With this service, agents benefit from the payment being made, reporting being supplied and more time to focus on signing accounts. For a smaller agent office, you can't argue with the benefit of having the ISO take care of residuals for you.
The best approach is to maintain as much "ownership" of the relationships with the entities under you as you can. If you are an agent and have opted for your ISO to pay your sub-agents for you, and the ISO requires a contract with your sub-agents to make that happen, make sure that the contract does not make your sub-agents somehow exclusive to the ISO or otherwise rob you of your title in your downlines.
If you can preserve that right, and also have the ISO promise not to steal (that is, solicit) your sub-agents, then I think cascading contracts are acceptable.
As usual, each acquiring industry agreement is best used after review by qualified counsel. 
In publishing The Green Sheet, neither the author nor the publisher is engaged in rendering legal, accounting or other professional services. If you require legal advice or other expert assistance, seek the services of a competent professional. For further information on this article, email Adam Atlas, Attorney at Law, at atlas@adamatlas.com or call him at 514-842-0886.
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