Debit Fee Interchange Income: All Clear or Danger Ahead?

In our last post, CUs’ Checking-Related Fees = Better Value for Consumers, we noted that increases in the credit union system’s other operating income as a percentage of average assets are generally off-setting recent declines in fee income stated on the same basis.  While this is certainly good news, a key component of other operating income, debit interchange fees, came under pressure in 2011 with the implementation of the Durbin Amendment. 

Under the Durbin Amendment, debit card issuers with total assets ≥ $10 billion had their debit card interchange fees capped at $0.21 per transaction, plus 5 basis points multiplied by the transaction’s value.  Furthermore, non-exempt financial institutions that comply with the Fed's fraud-prevention standards may charge an additional $0.01 fee.  Some analysts and regulators thought the Durbin Amendment might also indirectly lead to a decline in debit card interchange fees for exempt financial institutions, i.e., those with total assets < $10 billion.  Prior to the Amendment’s implementation, there was some concern that card networks might not offer two-tiered fee structures to accommodate higher interchange fees for exempt financial institutions.

The following graph, based on a Fed survey of payment card networks released earlier this year, shows average debit interchange fees in 2011 for both exempt and non-exempt financial institutions.  Average fees are shown for both the nine months prior to implementation of the Durbin fee cap (January-September 2011) and the three months after its implementation (October-December 2011). 

As expected, non-exempt financial institutions experienced a dramatic decline in average debit interchange fees for signature (59%) and PIN (32%) transactions once the cap went into effect on 10/1/2011. In contrast, the impact on exempt financial institutions’ average debit interchange fees was relatively minor: a 6% decline for signature transactions and a 3% decline for PIN transactions.

Despite the relatively small initial impact on exempt institutions’ average debit interchange fees, a number of real and potential headwinds may still put this important source of revenue at risk:

• Per the General Accounting Office (GAO), the Fed’s regulation implementing the Durbin Amendment “prohibits issuers and card networks from restricting the number of networks over which electronic debit transactions may be processed to less than two unaffiliated networks.”  To entice retailers to route debit transaction through their networks versus competitors’ networks, some card issuers may reduce their debit interchange fees.

• The Fed survey identified only one card network that did not offer a two-tiered interchange fee structure as of late 2011.  However, as the GAO report suggests, “economic forces” might cause some card networks to discontinue offering a two-tiered structure profitably.  The higher fee structure offered to exempt institutions might be phased out by some card networks if this scenario plays out.

• Finally, widespread adoption of alternative payment methods could also lead to a decline in debit and credit card interchange income:
• Some retailers attempt to steer consumers to payment methods that reduce retailers’ costs, e.g., discounts for cash payments or retailer-issued ACH debit cards, such as Target’s Debit REDcard.
• A number of alternative payment providers offer payment options (example 1 and example 2) that bypass the card (interchange) networks entirely by tapping either ACH or proprietary networks.

Where do you see debit interchange income headed?  Please share your thoughts and any relevant anecdotes of your credit unions’ post-Durbin experiences in the Comments section below.