Millions of poor Americans who use prepaid debit cards could soon face higher fees.
Under a rule to take effect in July, companies that issue debit cards must reduce the fees they charge retailers. To recoup their lost revenue, banks that offer the cards are raising fees for people who use them.
People who use prepaid debit cards, typically low-income consumers and those collecting government benefits, are supposed to be shielded from the fee hikes. To protect them, the rule provided an exemption: It let companies that issue prepaid cards keep charging retailers higher rates.
But that exemption could take up to a year to enact. In the meantime, card companies will likely charge users of prepaid cards higher fees to recoup the lost revenue.
About 70 percent of prepaid card users earn under $45,000, according to data from Aite Group, a research firm. The cards, preloaded with cash, give users easy access to their money. Others use them to receive government benefits.
Annual fees for the cards can run $108 to $320, according to data analyzed by the consulting firm Bretton Woods Inc. To make up the swipe-fee revenue they'd lose while the exemption is phased in, card issuers would need to raise fees by up to $220.
If prepaid-card companies can't collect high swipe-fees, "lower-income people are going to get clobbered," said Todd Zywicki, a George Mason University law professor.
Michelle Coppola, a sales consultant near Roanoke, Va., says she struggled with banks' minimum-balance rules and overdraft fees before switching to prepaid cards.
"There's been times when I haven't made enough money on my job, and I couldn't keep up with the amount of money the bank wanted in the account," said Coppola, 50.
With a prepaid card, "If I don't have enough money, I don't have to worry about fees," she said.
Coppola's card costs $9.95 for activation, plus $8.95 a month and $2.50 for each ATM withdrawal. If her fees jumped, Coppola said she'd switch to a bank account, even though she might pay more in fees, such as for overdraft protection.
No one knows exactly what the new rule from the Federal Reserve will require once it's released. It could take months for computers to recognize new categories of cards, said Brian Riley, a research director with Tower Group, a consulting firm.
Banks and other companies that issue prepaid cards will have to change how they handle debit transactions. So will Visa and MasterCard. The same for payment processors, networks that process PIN transactions and government agencies.
"It's not like flipping a switch; there's definitely lots of coding involved," said Madeline Aufseeser, who spent decades in the prepaid industry and is now at the Aite Group.
Some companies might be able to make the changes in a week, she said. Others could need months.
For many people without bank accounts, the cards have become essential. Prepaid cards enable people to buy online or via electronic kiosks — an alternative to costly check-cashing storefronts. There's no need to visit bank branches or reveal many personal details. The cards also help budget: Users can't spend more than they've loaded on a card.
Prepaid cards are expected to be loaded with $288 billion in 2014, up from $41 billion in 2008, Aite Group's data show. More than 10 million households use general-use prepaid cards, often to help avoid bank accounts.
Prepaid cards are also becoming unavoidable for people who collect unemployment, disability and other government benefits. The federal government will stop mailing benefits checks by 2013. People who collect Social Security or veterans' aid face a choice: Get a bank account and start direct-deposit. Or use a prepaid card.
Card companies need the revenue from swipe fees to turn a profit on cards that deliver government benefits. If they lose it, the companies will likely abandon their deals with states or threaten to do so, bankers and state officials say. Raising fees on consumers would be the only option.
Swipe fees — "interchange" fees in industry jargon — run 1 to 2 percent of a transaction's cost. The Fed's rule would slash industry interchange revenue by up to 90 percent, according to independent analyses.
Congress passed the rule after retailers argued that their high swipe fees lead to higher consumer prices. States also cautioned lawmakers that reducing banks' interchange revenue would make the banks unable to break even on cards that distribute unemployment and other benefits. They warned that low-income users and government beneficiaries would suffer higher fees.
So Congress carved an exemption for prepaid cards in the financial overhaul law.
Among card issuers, those that offer prepaid cards would lose the most during the months when payment networks won't be able to distinguish among debit cards. Unlike banks, these companies can't replace lost revenue by selling investment advice or adding checking fees. One of them, Green Dot Corp., has said a drop in interchange rates will likely cause it to raise fees.
Even after prepaid cards receive their exemption from the Fed rule, that still might not shield users from higher fees. Retailers might choose the cheapest network to process the transactions. The competition could drive swipe fees toward zero, prompting another round of fee increases.