The CARD Act amended the Electronic Funds Transfer Act (“EFTA”) to bring gift cards under federal law for the first time.   The Federal Reserve proposed extending Regulation E, which implements the EFTA, to certain stored value cards as far back as 1996, but never adopted final rules.   The Federal Reserve did extend Regulation E to encompass payroll cards, effective July 2007. Regulation E is now being amended to implement the gift card requirements of the Card Act, effective August 22, 2010.

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The Federal Reserve is required under the Card Act to publish final regulations for gift cards before February 22, 2010.   The effective date for the rules will be six months later, August 22, 2010.  The comment period on the proposed rules published in November 2009 closed at the end of December. 

 

The Federal Reserve’s initial proposal was well thought out and cognizant of the complex realities of the prepaid card market, although constrained by the contents of the CARD Act itself, for which the same claim can’t easily be made.  Seemingly simple in concept, the gift card requirements of the CARD Act require bright line distinctions that the Federal Reserve struggled to implement in its proposed rules. 

 

For instance, one of the several exclusions from coverage under the CARD Act is for reloadable cards, codes or devices that are not marketed as gift cards. Recognizing that there are many uses for reloadable prepaid cards, the proposed rules and accompanying official commentary would deny the exclusion in any instance where any party in the marketing and distribution chain of the prepaid product even hinted that the card could be given as a gift.  For instance, celebratory graphics or other indication that the card could be given to others could constitute such a“hint”, even if the primary purpose of the card was, for instance, health care expenses or a general-purpose transaction account for the unbanked. 

 

Thinking this through, the Federal Reserve realized that issuers or program managers would be at the mercy of other parties in the distribution chain, so tried to create a safe harbor in the proposed rules and official commentary. Issuers or other affected parties can preserve the exclusion for reloadable cards, codes or devices if they implement reasonable procedures to prevent the cards from being marketed as gift cards.  This includes enforcement of contractual provisions with retail sellers requiring procedures designed to avoid the marketing of the prepaid cards as gift cards.  Unfortunately, the examples given of what qualifies and does not qualify for the safe harbor are problematic. 

 

The example given of a qualifying procedure is having sales displays for gift cards physically separated from displays for other prepaid cards.   The example given for a non-qualifying procedure is having all prepaid cards, gift cards and otherwise, on one kiosk with a sign reading “gift cards.”  Aside from the difficulty for many retailers in allocating more valuable selling floor space to two different types of prepaid cards, it is also not clear whether one kiosk with two different signs appropriately placed would qualify for the safe harbor, as perhaps it should. 

 

There will be many other indistinct lines that participants in the prepaid card marketplace will need to grapple with once the proposed rules become effective.  The prepaid card regulatory environment will be more complicated than ever.

Originally published on GetDebit.com. See GetDebit.com for more prepaid debit card news and information.

After months of lobbying, discussion, amendment and general puffery the House adopted yesterday H.R. 4173 which, among other things,  would create the Consumer Financial Protection Agency.  Although most of the press reports recently have focused on amendments to the CFPA provisions that restore much of the favored regulatory treatment received by federally-chartered institutions under federal preemption principles, the rest of the CFPA provisions reported out of the House Financial Services Subcommittee and adopted Friday by the full House survived more or less intact.  In an article published in Aspen Publishers Banking and Financial Policy Report in November I analyzed the House Financial Services Subcommittee version.  A copy of the publication with my article can be downloaded from my website at www.bwplawyer.com.  Some of the analysis will necessarily be moot due to amendments during the legislative grind, but the article is still a useful overview of the CFPA.

The discussion in the article of the preemption issues will of course be somewhat out of date, given the amendments to those provisions adopted by the House  The preemption amendments proposed by Representive Melissa Bean of Illinois and included in the final legislation give the national bank and federally-chartered savings institution regulators the power to preempt state consumer protection laws from application to their charges if the law is discriminatory or it "prevents, significantly interferes with, impairs, or hampers the ability of [a federally-chartered institution] to engage in the business of banking".  However, the federal regulator must justify any preemption decisions with findings on the record, including a finding that there exists an adequate federal consumer protection standard applicable to federally-chartered institutions, and a majority of the states can require the federal regulator to initiate a rule-making to consider toughening any federal standard.  These requirements prevent the recurrence of the  federal regulators' current preemption rules, which simply dismiss the application of any state consumer protection regulation against federally-chartered institutions with a peremptory wave of the hand. 

There are a couple of other amendments of interest to some Web 2.0 business models I will mention.  Person-to person lending operators will be subject to CFPA jurisdiction.  Private organizations offering educational loans will be required to be certified first by the educational institutions, but it is not clear whether this applies to person to person educational loan models as well. 

The Senate is considering its own version of legislation creating a CFPA, and it has been reported that opposition is stronger in that body.  A vote in the Senate could be as late as May of next year, so we can look forward to possibly 5-6 months of legislative grinding before we know the fate of the CFPA in the Senate, with even more time for reconciliation if the Senate adoptes a version that differs significantly from the House version. 

In the spirit of holiday season charity I have to acknowledge the committment and endurance of our legislators in pursuing their duties.  It is my observation that no business negotiation, however difficult and complex, can match the tedium and aggravation of the legislative process.  My favorite moment during the markup of the legislation in the House FInancial Services Subcommittee was when Barney Frank observed late in the evening, after listening to an apology by a Representive for mis-citing the source of a biblical homily in a previous soliloquy, that the book of the Bible he was most interested in at that moment was Exodus.

 I have just submitted an article analyzing in detail the latest version of the legislation in the House (H.R. 3126) that would create the Consumer Financial Protection Agency, to be published in the November edition of the Banking and Financial Services Policy Report by Aspen Publishers.  A copy of the article will be available on my website (www.bwplawyer.com) when it is published.  However, the House Committee on Financial Services will begin mark-up on Wednesday of H.R. 3126, so now is the time to point out a couple of flaws in the bill I hope are fixed during the mark-up.  I am not advocating for or against creation of the CFPA, just expecting Congress to make the effort to draft legislation that does not lead to unnecessary confusion and bad policy. 

My first complaint about the bill is that it is nearly impossible to read and determine definitively who is a "covered person" subject to the rule-making and enforcement authorities of the CFPA.  I attempt to parse the definition of "covered person" in my article, but after hours of trying to make sense of the various inter-linked definitions in the bill can only claim to have a plausible interpretation.  It appears to me that the entities that are going to have the most trouble figuring out where they fall under the bill will be transaction processors, data communication providers, and value-added processing intermediaries. However, the CFPA is also given the express power to determine that activities and entities that do not strictly fall within the definition of covered person are nonetheless subject to its jurisdiction, so perhaps the rest of the definitions are actually irrelevant.  Sorry, but this seems rather arbitrary and, frankly, lazy lawmaking. 

There are very few restrictions in the bill on the power of the CFPA to engage in rule-making, and it appears to have the power to go beyond the scope of the enabling statutes adopted by Congress that the CFPA will have authority to interpret and enforce. 
if this is not the intent of Congress now is the time to clarify. 

Perhaps irony is overrated, but contrast the authority granted to states in the bill to adopt more protective legislation than any scheme adopted by the CFPA against the broad and otherwise nearly unrestricted powers that would be granted by Congress to the CFPA.  This is the "preemption" issue that is the subject of intense lobbying, for and against, reported in the press.  The preemption rules in the bill will be applicable only to rules adopted by the CFPA not based on currently existing consumer financial protection legislation such as the Truth in Lending Act, the Electronic Funds Transfer Act, the Fair Credit Reporting Act and other statutes responsibility for which is transferred to the CFPA in the bill.  Most of these existing statutory schemes have their own preemption rules and the bill expressly does not supersede them.  In the Truth and Lending Act and the Fair Credit Reporting Act there are certain aspects that the states can alter with more protective legislation, but the states are totally preempted by and cannot alter other aspects. In the latter cases either Congress or the regulatory agency responsible for adopting rules to enforce the statutes determined that the benefits of nationwide standards were more important than allowing states to alter the rules to make them more protective.  In future rule-making the CFPA will not have the ability to make a similar determination since the ability of the states to adopt more protective legislation is absolute in the bill.  This seems to be short-sighted at best, and it would seem better to give the CFPA the right to preempt state legislation if it determines that to do so would best achieve the goal of effective consumer financial protection.  In its current form the preemption provision in the bill reflects a federalism victory by the states, but federalism is a two way street for good reasons, and the bill's preemption provisions are bad public policy.

Reuters reports that Barney Frank has proposed some revisions to H.R. 3126 to address concerns about that legislation that would create the Consumer Financial Protection Agency.  These proposed revisions include eliminating the requirement that "vanilla" products be offered by financial institutions, and clarifying that the CFPA would not have authority to require sellers of financial products to assure that consumers understand the features and risks of the products they are buying. The CFPA instead would focus its efforts on ensuring meaningful and comprehensible disclosures. These are helpful revisions given the nearly unlimited authority that the original legislation seemed to impart.  The proposed revisions also would give the existing regulators a seat on a Consumer Financial Protection Oversight Board that would advise the Director of the CFPA.  This would help the coordination effort with other regulators with potentially conflicting safety and soundness regulatory concerns, and the revision would further create an independent body to which institutions subject to conflicting regulatory demands could appeal for relief.  These revisions are clearly a response to criticisms that bifurcating consumer protection responsibiities from prudential and safety and soundness regulation will create turf wars with the regulated in the middle.  Other proposed revisions would require that the CFPA coordinate its examination activities with respect to an entity with other regulators that have examination authority, and would address CFPA funding fairness issues that have been raised by the banking industry. Finally, the proposed revisions would clarify the standards applied by the CFPA to non-bank financial institutions subject to its jurisdiction.  The good news, I guess, is that the regulation can be no more strict than that applied to banks.

In an important respect the proposed revisions seem quite inadequate, and that is in clarifying the scope of jurisdiction of the CFPA - in other words, who is subject to CFPA jurisdiction (and why)?  The Frank memorandum states an intent that the CFPA would not have authority over non-financial businesses and their billing activities (the corner butcher can now relax), and further lists a number of proposed express exclusions from coverage under H.R. 3216, such as lawyers, accountants, tax preparers, retirement plan providers, realtors, auto dealers, and communications providers. 

Two additional exclusions merit discussion.  The memorandum proposes that consumer reporting agencies would now expressly be excluded and continue to be regulated by the Federal Trade Commission. However, the language in H.R. 3126 that makes entities engaged in credit reporting activities a "covered person" covers not only collection of "consumer report information" but also the collection of "other account information".  Unless this is further pared back when the revised bill is actually drafted, the CFPA apparently will have jurisdiction, as an example, over entities creating and maintaining transactional databases not amounting to consumer reports under the Fair Credit Reporting Act and providing them to third parties for use in behavioral marketing or for other purposes.  In fact, this would not be inconsistent with the transfer to the CFPA of authority under existing privacy laws, such as Gramm-Leach-Bliley.

The other proposed exclusion is for service providers that provide strictly ministerial and support services to financial institutions. This raises many questions, since the definition of a "covered person" subject to CFPA jurisdiction in H.R. 3126 currently includes providers of processing services and products that support consumer financial transactions.  Perhaps the intent of the memorandum was lost in the reporting by Reuters, but it is not clear if that coverage is proposed to be eliminated.  If not, then it would be helpful if the legislation was clearer about what aspects of a third party processor's or product supplier's business will be subject to CFPA jurisdiction.  The Federal Trade Commission has had to postpone effectiveness of its Red Flag Rules several times due to confusion about what businesses are covered under the enabling legislation, so perhaps Congress can be more helpful this time. 

What the Frank memorandum does not address are concerns about the interplay between regulations adopted by the CFPA and activities of the various States (the "preemption" issue) or the broad grant of rule-making powers to the CFPA with no clear requirement that there be express Congressional authority for the rules that are adopted.

I am addressing these questions and others in much more detail in an article I am writing for publication in November in the Banking and Financial Services Policy Report, from Aspen Publishing.

I wonder if it will matter whether there is one dedicated consumer protection regulator like the CFPA or many multi-function regulators with consumer protection responsibility (the current model) if the political winds shift again, as they inevitably will. << MORE >>

By definition the actual unintended consequences are impossible to foresee, but there are probably inevitable consequences from the creation of the CFPA, some of which which the enabling legislation itself tries to address. << MORE >>

As summer winds down and Congress returns from recess (sadly diminished by the loss of Senator Kennedy) the swarm of lobbyists fighting or advocating the proposed Consumer Financial Products Safety Commission (CFPA) will keep temperatures high in Washington D.C..  The legislation has many flaws, and is rife with potential for unintended consequences, particularly when the idealistic teflon that has coated the proposal (and protected it from any serious policy analysis in Congress) has worn off in the day to day fray of agency operations and practical politics. 

The issues implicated by the CFPA legislation are many, and deserve consideration before the agency is authorized with the powers that are proposed.  Most of the public debate so far has concerned the removal of consumer protection responsibilities from existing regulators into the CFPA, involving questions of whether it is possible or advisable to isolate prudential regulation of financial institutions from consumer protection regulation.  Actually, this is not a question with a clear answer, and the fact that the question is raised loudest by the existing regulators and the regulated financial institutions makes it easy for a politician to ignore if so inclined.  

In the coming few weeks I will provide here a disinterested analysis of the proposed CFPA legislation and suggestions for improvement where appropriate.  I am no one's lobbyist and do not expect that my life will be impacted one way or the other if the CFPA is created or not (which is not to say that others less fortunate will not be).  My only interest here is in furthering the application of common sense to law-making and policy creation.  I am no genius, but then common sense is not rocket science.  Or economics, but don't get me started on that ...

I was mulling over the proposed legislation that would create the Consumer Financial Protection Agency, torn between admiration and scepticism, when I received a comment from Bruce Cundiff from Javelin Research.   He was responding to an earlier entry about the Cuomo vs. Clearinghouse Association case (posted before it was decided) discussing the importance of federal preemption for the prepaid card industry.  He wonders whether companies issuing payroll cards will qualify as agents of a national bank and thus be insulated from state prepaid card regulation as was found in SPGGC v. Ayotte 488 F.3rd 525 (1st Cir. 2007), or whether the employers will be considered issuers themselves, separately regulated under those state laws.  Nothing in Cuomo changed my usual answer to that question, which is that if the issuing bank retains control over the terms and conditions of the card issuance and the allocation of any fees that are charged then the company distributing the cards will likely be viewed as merely the agent of the bank.  In the case of payroll cards this test would seem pretty easy to satisfy.  However, as lawyers like to say, all that is probably moot in the near future. 

The proposed Consumer Financial Protection Agency (CFPA) enabling legislation contains amendments to the National Bank Act that will significantly reduce the current federal preemption protection national banks (and their subsidiaries, affiliates and agents) enjoy from state consumer protection regulation.  These amendments subject national banks to non-discriminatory state consumer protection laws and regulations that are not inconsistent with applicable federal laws, although, as in Cuomo, enforcement is permitted only by state attorneys general through the courts.  The prepaid card industry is upset with the prospect of losing federal preemption protection, arguing that having to comply with a patchwork of differing state laws will stifle innovation and reduce consumer availability.  There is truth to this claim, since many state laws applicable to prepaid cards were originally adopted to regulate gift certficates, and then gift cards, but they can apply as well to reloadable payroll and network-branded repaid cards (e.g. Amex, Discover ,MasterCard or Visa prepaid cards).  These are quite different products and some of the state restrictions adopted in connection with gift certificates/cards such as prohibition of activation fees, dormancy fees, monthly service fees or expiration dates may in fact be essential to the viability of reloadable prepaid products.  In the Ayotte case cited above one of the issues was enforceability of a New Hampshire law prohibiting expiration dates on prepaid cards.  The prepaid cards in question were Visa-branded prepaid cards, and by Visa rule these cards were required to have an expiration date (for fraud control purposes), which meant that the cards could not be issued to New Hampshire residents if New Hampshire's law applied to the federally-chartered financial institution-issued cards.  Federal preemption saved the program in that case, but that precedent will be overturned by the CFPA legislation.

I do love irony, and think that there is plenty of opportunity for it with the proposed CFPA.  Limiting myself to the prepaid card issue discussed here, I see vanilla as the flavor that will save the prepaid card industry's bacon (or something like that).  The CFPA will have the mandate to ensure that consumers are enabled to make informed choices in utilizing consumer financial products.  One of the tools to do so is defining by regulation "vanilla" products that are easily explained and understood and which can be the benchmark against which to measure more complicated products.  While credit cards and overdraft facilities are likely to get first attention due to the current noteriety of those products, the prepaid card industry may want to get itself on the agenda as soon as possible.  Whatever else you may want to say about federal regulatory agencies, when they adopt a rule, they really grind through a process in doing so and try to balance competing interests. If the CFPA adopts a vanilla prepaid card product rule, it is going to be one that is economically and practicably viable since that is the only way they will be complying with their mandate.  If certain terms and conditions and fees are truly essential to the viability of prepaid cards then the vanilla product will have to permit them.  The fun part follows, although its possible only a laywer would think so.  Although the CFPA legislation expressly provides that states may adopt more restrictive rules in areas where the CFPA has regulated, those rules cannot be inconsistent with the federal regulation.  Once a vanilla product has been defined by the CFPA, wouldn't any state restriction on a feature contained in the vanilla product be inconsistent and thus preempted?  The legislation is silent on this, but to find otherwise would undermine the purpose of defining vanilla products in the first place, so I expect the agency would find preemption appropriate and necessary.

The U.S. Supreme Court today struck down part of the regulation that the Office of the Comptroller of the Currency (OCC) adopted in 2004 to define the extent of preemption of state action under the National Bank Act.  I have written before about this case (Federalism and Consumer Protection - Cuomo v. The Clearinghouse Association).  The decision today (5 Justices on majority opinion, 4 on opinion concurring in part and dissenting in part) holds that state attorneys general can enforce non-preempted state laws against national banks, contrary to the position of the  OCC that such enforcement constituted preempted "visitation" under the National Bank Act. The majority opinion dismissed the OCC arguments in pretty strong terms (as lacking credibility), finding that earlier Supreme Court decisions clearly distinguish visitation from enforcement of state laws otherwise applicable to national banks.  In this case, the OCC had acknowledged that Congress did not preempt the state antidiscrimination laws in question, but argued that the state had no right to enforce its non-preempted laws, a position that the majority characterized as "bizarre". 

The significance of this case for state consumer protection law enforcement will be favorable, although perhaps shortly will be overshadowed by developments in Congress.  According to Barney Frank, the enabling legislation for the proposed and probably inevitable Consumer Financial Protection Agency will contain express protections enabling state consumer protection regulators (not just state attorneys general) to enforce local consumer protection law.  I expect that preemption questions under the National Bank Act will only increase in future as the states begin to exercise that authority.