By Patti Murphy
Washington can be a real buzz kill. The prepaid card space is the latest example. Still smarting over the prospect of a federal regulatory regime under the Consumer Financial Protection Bureau, banks active in the prepaid space now face scrutiny (and potential regulatory action) by the Federal Deposit Insurance Corp. In January 2015, the FDIC advised banks that deposits held in prepaid card accounts are "brokered deposits" subject to deposit insurance premium surcharges. Shortly after, The Bancorp, a Wilmington, Del.-based card issuer with a large prepaid portfolio, stated the FDIC had determined funds in its prepaid card accounts are brokered deposits subject to premium surcharges.
In a filing with the Securities and Exchange Commission, the bank said it would have to pay a 10 basis point surcharge for deposit insurance coverage for those deposits. "This surcharge will in the future terminate, depending upon the FDIC's evaluation of the Bank," the Bancorp noted in its Form 8-K filing with the SEC. The situation has some observers scratching their heads. "One question that is being raised is who has jurisdiction over what now?" said Madeleine Aufseeser, Senior Analyst for retail banking at Aite Group LLC. Questions also exist about nonbanks that don't answer to the FDIC, Aufseeser said in a recent interview.
Aufseeser also addressed the FDIC's action in an Aite blog post. "[T]he unintended consequences of redefining prepaid card deposits could have far reaching implications for the prepaid industry and consumers alike, including fewer market players, reduced product availability and higher fees for consumers," she wrote. Potential outcomes, she suggested, include:
"The regulatory tight squeeze on prepaid card markets is ironic given that this market was originally meant to serve and support underserved consumers who don't have access to traditional banking products, a consumer group that the regulators ultimately try to protect," Aufseeser wrote.
Some banks are already exiting the prepaid space. Citigroup stated last month it was taking an axe to "non-core" businesses in its institutional clients group that were underperforming, including prepaid cards and hedge fund administration.
Financial institutions have bad history with brokered deposits, dating to the 1980s savings and loan crisis. (Many of the savings and loan failures were tied to aggressive brokering of large-dollar deposits lured with double digit interest rates.) Congress and the FDIC responded with restrictions on banks' brokered deposit activities, recordkeeping requirements and premium surcharges when those deposits exceed predetermined thresholds.
The requirements and restrictions are explained in Guidance on Identifying, Accepting and Reporting Brokered Deposits Frequently Asked Questions, a document the FDIC updates every few years. In an update released in January, the FDIC stated that prepaid card funds deposited at federally insured financial institutions "qualify as brokered deposits."
There are limited exceptions. For example, the FDIC's guidance cited a company that distributes prepaid debit cards as part of a customer rebate program and advised that these would not be considered brokered deposits. Otherwise, it's a broad brush approach that appears to apply to all manner of prepaid debit card programs – open-loop, closed-loop, bank-run and programs run by retailers and other nonbanks. "In the absence of any definitive language, you have to assume that it covers everything," Aufseeser said.
The FDIC said it felt compelled to issue updated guidance on brokered deposits because "questions continue to arise regarding the proper classification of certain types of deposits." Aufseeser suggested it will foment confusion in the market about which federal agency ultimately regulates the prepaid card space.
The CFPB has been soliciting comments on an extensive set of rules that would effectively extend to prepaid cards the same consumer protections that presently cover consumer checking accounts and debit cards at federally insured banks and credit unions. These include strict disclosure requirements, error resolution steps that include provisional re-crediting, and restrictions on overdrafts. Comments are due by mid-February. Aufseeser said she expects final rules will be issued before the end of 2015.
Prepaid debit cards, especially reloadable ones, have become hugely popular with consumers and retailers. In December 2015, Mercator Advisory Group reported that 56 percent of U.S. adults were using such cards last year, up from 53 percent in 2013 and 47 percent in 2012. The two fastest growing segments of the prepaid market are open-loop gift cards in the form of general-purpose nonreloadable gift cards and general-purpose reloadable prepaid debit cards.
"Even if they have a checking account, many U.S. consumers are attracted to prepaid cards as a money management tool that lets the cardholders control their spending," said Karen Augustine, manager of Mercator's CustomerMonitor Survey series and author of a recent report, Consumers and Prepaid: Rising Use, Especially by Mobile.
The Federal Reserve reported that general purpose and private-label prepaid debit card payments are the fastest growing noncash payment segment among Americans. In 2012, 9.2 billion payments were made with prepaid cards, according to the 2013 Federal Reserve Payments Study; in 2009, the total was 3.3 billion. The average prepaid card payment was $26 in 2012, almost unchanged from 2009 when the average was $23, the Fed said.
In Prepaid Mania: A Merchant Affair, published by Aite in 2014, Aufseeser described how merchants see prepaid debit card sales as a great revenue booster. A survey of retailing executives conducted for the report revealed that over 70 percent of retailers sell open-loop and closed-loop third-party gift cards in addition to their own branded prepaid cards.
When she wrote the report, the prepaid debit card market seemed ripe for the picking. She encouraged banks and prepaid companies, networks and marketing companies to partner with retailers to help them sell more such cards. These days she's not as optimistic. She said Washington was "stifling competition," with rules that are bound to cut into margins of both banks and their customers. Buzz kill.
Patti Murphy is Senior Editor of The Green Sheet and President of ProScribes Inc. She is also the founder of InsideMicrofinance.com. Email her at email@example.com.
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