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Durbin and Debit: What New Legislation Means For Merchants

September 21st, 2011

On October 1, 2011 new legislation regulating the costs associated with processing debit cards (check cards) goes into effect. The Durbin Amendment was a last minute addition to the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010. The Dodd-Frank bill sought to reform the financial regulatory system following the financial crisis that began in 2007. The Durbin Amendment was introduced with the idea that the government needed to regulate certain aspects of credit card processing. There are two notable changes:

  1. Allow merchants to offer discounts for certain payment types (debit instead of credit) and impose minimum purchase amounts as long as the minimum does not exceed $10. Both of these options were previously against Visa and MasterCard merchant account agreements.
  2. Regulate the fees merchant service providers pay to process debit cards in hopes the savings is passed on to businesses and subsequently consumers.


This column is going to focus on the fee portion of the Amendment.

Debit cards are issued to consumers by banks and are authorized and settled over the Visa and MasterCard networks. Unlike “credit” cards, debit cards use funds drawn from consumers’ checking accounts and access funds that are readily available rather than funds that will be paid back in the future. So far, Visa and MasterCard have been the sole determiners of the fees associated with processing these cards and they control about 80% of the market. The fees are comprised of the transaction costs to authorize and settle transactions along with a percentage of the sale. These collective costs are called interchange.

Largely due to lower risks of fraud and non-payment for the issuing banks, interchange costs have always been lower for debit cards than credit cards. Senator Durbin, lobbied by large retailers like Home Depot, sought to curb these fees and seek an across the board limit on what Visa and MasterCard could charge. The result of the legislation, signed by President Obama on July 21, 2010, is that the Federal Reserve ruled that debit interchange fees would be capped at 22 cents plus 0.05% of the transaction. The new limits will cut the expense of accepting debit cards roughly in half and should amount to a $7 billion reduction in fees overall.

Keep in mind that these changes affect the “wholesale” cost of processing cards. What merchants ultimately pay depends on the merchant’s price structure with their current merchant services provider. Let’s take a look at the two main pricing structures in the merchant services world and how these new regulations might impact what a merchant pays in fees.

The first price structure is commonly referred to as “Interchange Plus” or “Cost Plus”. Originally this price structure was reserved for high-volume merchants but has become more and more common among smaller merchants. This pricing style simply takes the wholesale costs of processing (interchange) as determined by Visa, MasterCard, Discover, etc. and adds a uniform mark up across all interchange categories. This uniform mark up amounts to the profit made (after additional expenses like customer service, internal operations, additional network costs, marketing, etc.) by the merchant service providers. Merchants under this type of price structure should realize a direct correlation between reductions from the new price caps and the final costs on their merchant account statements.

A majority of merchant accounts are billed using a”tiered” price structure. Most commonly tiered pricing takes all of the nearly 300 interchange pricing categories and compresses them into three tiers: Qualified, Mid-Qualified, and Non-Qualified. Fluctuations in interchange costs are rounded up into the next tier and priced as “surcharges” to the qualified rate.

Rate adjustments under this structure are a little trickier and not automatic as in the cost plus example. Tiered pricing is predetermined and requires the processor/acquirer to manually change the price for debit or even add a separate category for debit if it didn’t exist previously. This leaves processors with one of several choices that will impact their merchants: 1.) make no price adjustment whatsoever and realize a higher profit from the reduction in cost, 2.) adjust the tiered price for debit accordingly to reflect the new rate change, or 3.) move the merchant to “cost plus” pricing.

Needless to say this new environment casts chum in the water for merchant services sales organizations. Sales people will be contacting merchants with the intent to move them to new accounts with “better pricing”; a barrage of phone calls and knocks on the door are forthcoming.

It is critical for merchants to understand how their merchant accounts are priced, what their current processors intend to do, and what options they have in order to avoid side-stepping into a new merchant account with pricing that seems more attractive, but has the same old deceptive fees and pitfalls.

By now, merchants should either have had their rates automatically adjusted or received some notification from the processor as to how these changes will be addressed in a reasonable time frame. It is best for merchants to reach out to their current processor and learn how they will address this new legislation. Then merchants can assess their options, and make an informed decision that best impacts their business.

Entry Filed under: Advice

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