Debit card issuers have nine months to ensure all transactions made with their cards — including card-not-present payments — can be processed by at least two unaffiliated networks.
The same ban on exclusivity has long applied to in-person debit card transactions under Regulation II. The Federal Reserve Board finalized a rule Monday that applies to all other debit transactions, including e-commerce payments.
Part of the Dodd-Frank Act, Regulation II governs debit card interchange fees and routing. The rule was meant to give merchants a way to control their expenses by ensuring they have multiple routing options for processing purchases. Card issuers and networks argue that their costs are fair and necessary to support innovation and fraud detection for card payments.
The rule change has elicited a strong pushback from the banking industry and from at least one member of the Fed Board of Governors, who contend the amendment to Regulation II goes beyond simply clarifying the statute and would constitute a significant burden on issuers.
Fed Gov. Michelle Bowman issued a dissenting opinion on the change, asserting that the Fed did not do enough to address the "substantial concerns" raised by community banks during the comment period.
"Although the Board has attempted to identify the likely effects of the proposed rule based on available information, I believe that significant questions remain about how the rule will affect banks, and particularly community banks, with respect to both fraud and the cost of compliance," Bowman said in a statement. "Given this continued uncertainty, I do not support the final rule."
Spurred by the rise of e-commerce, card-not-present transactions more than doubled between 2011 and 2019, going from 10% of the market to 23%, according to the Fed, with more growth likely occurring during the online shopping boom seen during the COVID-19 pandemic. In 2019, card-not-present transactions grew at more than four times the rate of card-present ones, and had an average transaction value twice the size.
Despite this proliferation and improvements to technology to accommodate card-not-present transactions, many card issuers have not taken steps to ensure their products can be used with multiple networks. In 2019, roughly a quarter of issuers subject to Regulation II — collectively accounting for $10 billion of assets and more than half of debit card transactions — only had card-not-present operability with a single network, the Fed found.
"When the Board initially issued the rule in July 2011, the market had not developed solutions to broadly support multiple networks for card-not-present debit card transactions," the board said in a statement. "Since that time, technology has evolved to address these barriers."
In its memo on the final version of the rule, the Fed noted that the "majority" of community banks already make their debit cards interoperable with multiple networks, meaning the brunt of the new policy will fall on larger issuers.
The rule change broadly aligns with a proposal released by the board last year. Minor changes have been made to clarify parts of the rule following a formal rulemaking process. For example, one change clarified that issuers will not be required to make sure merchants access multiple networks that support their debit cards, only that they have at least two options to choose from.
Rob Nichols, president and CEO of the American Bankers Association, said his organization was "deeply disappointed" by the Fed's decision to move forward with the change. In a statement released Tuesday morning, he said the Fed failed to address key issues raised during the public comment portion of the rulemaking process and did not adequately assess the impact of the change on competition and community banks.
He also compared the change to the Durbin amendment, an addendum to Regulation II that requires the Fed to limit fees charged to retailers for processing debit payments. As with that amendment, the Fed anticipates the current change will deliver cost savings to merchants that will be passed along to consumers. Nichols said those savings did not materialize before and he expects the same to hold true with this latest change.
"Meanwhile merchants and consumers continue to benefit from significant investments in innovation and fraud detection embedded in the U.S. payments system, as noted in the Fed's own study of debit card transactions," Nichols said in the statement. "Unfortunately, the Fed's actions today could put the convenience, safety, and security that Americans have come to expect when they use their debit card at risk."
The ABA will further review the final rule and consult with our members on our option, Nichols added.
Merchants, meanwhile, celebrated the Fed's finalization of the Regulation II changes. Leon Buck, vice president for government relations, banking and financial services for the National Retail Federation, said the change modernizes the rule to reflect the evolution of the e-commerce landscape.
"The Federal Reserve has declared once and for all that a debit transaction is a debit transaction no matter where it takes place and that merchants have the right to choose the network that offers the best service, strongest security and most reasonable fees," Buck said in a statement. "Congress ended Visa and Mastercard's virtual monopoly over debit transactions a decade ago, and this decision makes clear that the law applies the same for in-store and online transactions — the result that Congress mandated in the first place. It's welcome news that will benefit small businesses and their customers across the nation."
Debit card issuers have until July 1, 2023, to become compliant with the new rule.
