Debit Network Rule
When consumers present a debit card for payment in a store, they get to make a choice about whether to process it on debit or credit rails. For the consumer, difference is PIN entry versus signature validation, but on the back end it can affect the merchant’s processing fees and other costs associated with the transaction.
To better address card-not-present transactions, the Federal Reserve voted to update a more than decade-old requirement about offering a choice of competing processing networks. What is the new update to the debit network processing rule, and how will it affect e-commerce merchants?
- What is the New Debit Network Rule?
- Why is This Debit Network Rule Being Updated Now?
- How is the Payment Industry Reacting to This Rule Change?
- What Do Merchants Need to Know about Implementing This Rule?
- Conclusion
The appeal of debit cards is that they allow consumers to fund card purchases directly from their bank accounts, but just because a debit card carries the Visa or Mastercard logo doesn’t mean it will be handled by those networks.
Since 2011, a rule has been in effect that requires issuers to offer at least two payment network options for their debit cards. However, initially this rule was only applied to card-present environments.
Merchants and consumers like this rule, because competing options keep fees and processing costs down. The card networks have been less in favor of it, because it cuts into their revenue when consumers choose debit networks owned by their competitors.
Now that the Federal Reserve has voted to update these rules, the clock is ticking for enforcement of the rule to reach e-commerce and other card-not-present environments.
What is the New Debit Network Rule?
The new rule is a clarification to Regulation II of the Durbin Amendment. It states that card-not-present transactions are also required to follow the rule that requires issuers to offer at least two payment network options for all debit card transactions.
When a consumer makes an online debit card payment, they must be provided a choice of either the major card brand or an alternative such as a PIN-based debit network—just as is already the case in card-present environments.
Why is This Debit Network Rule Being Updated Now?
A proposal to clarify the law was made in May of 2021, after it had become clear to the Federal Reserve that not all online debit transactions allowed more than one processing option—despite the fact that the technological barriers to doing are no longer so difficult to work around.
The Federal Reserve invited comments on the proposal, and the National Retail Federation stated that the lack of payment routing options was costing merchants billions of dollars every year. When the proposed rule clarification came to a vote in early October, it passed by 6 to 1. Enforcement of the rule will go into effect on July 1, 2023.
How is the Payment Industry Reacting to This Rule Change?
Card networks and issuers challenged the proposal, arguing that the technology to support PIN-based debit networks in e-commerce were still new and unproven. Banks and credit unions that issue debit cards have also voiced opposition.
According to analysts from Barclays bank and researchers at Jefferies, Visa may be hit the hardest by this rule change. They estimated Visa’s losses in the 1 to 3% range, based on Visa’s sizeable presence in the US debit card market. Mastercard may lose as much as 2%. The larger debit networks, they noted, could see lift of up to 3%.
Merchants’ response has been positive. The Merchant Payments Coalition responded by pointing out that the ever-increasing shift toward e-commerce makes varied and competitive payment options more important than ever.
The position from retail industry groups is that the payment card industry has been blatantly violating the Durbin Amendment since its inception, and that this clarification—and its enforcement—is long overdue.
The lone vote against the rule change came from Federal Reserve Board Governor Michelle Bowman, who cited the statements from credit unions and community banks that expressed concerns about the costs of implementing this requirement and potential increased risks of fraud. However, in their release announcing the decision, the Federal Reserve noted that many issuers are already in compliance with the rule.
What Do Merchants Need to Know about Implementing This Rule?
With debit networks competing for their shares of the card-not-present market, merchants should be able to look forward to lower fees and other charges related to processing debit card payments. But to take advantage of lower rates, merchants might have to adopt new payment technologies.
There are ways to implement PIN-based verification online, but merchants may need to work with their acquirers and install new checkout software in order to do so—for instance, 3-D Secure.
PINless processing is sometimes offered, using the card’s three-digit verification code. This is a much riskier method in terms of fraud vulnerability, and has not always been widely offered. With the rule change in effect, issuers should be motivated to find ways to make PINless debit transactions more accessible and secure.
One significant benefit for merchants is that transactions that are processed by the PINless method, or verified through 3-D Secure, are generally not subject to chargebacks. You can accept these transactions with little fear that they will end up getting reversed on you.
Conclusion
Accepting debit card payments means that merchants have a chance to avoid the rules and fees imposed by the massive credit card networks. Of course, three major debit networks are owned by those same credit card brands: Interlink (Visa), Maestro (Mastercard), and Pulse (Discover). For all of their protests, Visa and Mastercard might not lose that much revenue when all is said and done.
Nevertheless, competition among the big companies that control large parts of the payments ecosystem usually works to the benefit of merchants and consumers.
Lower processing rates mean that merchants get to keep more of their revenue, and gives them greater flexibility with their pricing. Providing a wide array of payment options is also important from a customer experience standpoint, and it helps merchants avoid the cost and hassle of dealing with credit card chargebacks.
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