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Interchange Fees Capped: 'Christmas Present' for Card Accepting Merchants in Europe

EUROPE | A deal has been reached on the capping of interchange fees for paying with debit or credit cards across the European Union. "This legislation is good for consumers, good for business, and good for Europe,” said Competition Commissioner Margrethe Vestager.

Capping MasterCard and Visa Interchange Fees

Back in July 2013, the European Commission issued the second Payment Service Directive (PSD2) wherein it proposed new regulation on interchange fees for card-based payment transactions. Interchange fees are the fees paid by the merchants' card processor (card acquirer) towards the issuer of the card.

Interchange fees often reflect a fair share of the merchant commission rate or card fees paid by the merchant accepting cards, whether accepted in-store or online. Interchange fees on creditcards are often a percentage of the purchase amount, which is why charges to retailers and business are also in percentages of the transaction amount. Charges to merchants can be quite substantial, especially for larger transactions. Merchants definitely need to absorb these costs in their pricing or charge separate fees (surcharges) to consumer to cover for transactions costs. A situation which many retail bodies and regulators felt as preventing innovation, competition and commerce.

In April this year, the European Parliament voted on some changes to the proposed regulation, effectively maximising ('capping') interchange fees at 0.20% of the transaction value for debit cards and 0.30% for credit cards. These capped interchange rates have now broadly been agreed upon, and are expected to receive final agreement by the member states early 2015.

Only Four Party Schemes Impacted

Important to recognise is that the agreement  only impacts interchange card fees of so-called 4-party card schemes wherein the issuing and acquiring entity are not the same body. Both MasterCard and Visa have such a 4-party system and it will be the mainly these two card payment giants (and its members) that will be impacted heavily by the agreement.

Other credit card schemes like American Express and Discover (both considered a three party card scheme as the issuer and the acquirer are the same body) do not fall under the proposed new card fee regulation. That is why especially MasterCard but also an Alliance of merchant associations from different segments, tried to broaden the scope of the new card fee regulation by including third-party card schemes.

Capping of Commercial Card Interchange Fees

At the same time the Alliance tried to squeeze in the capping of business card transactions as well. Business and corporate cards (=Commercial cards) most often are charged substantial higher interchange fees than consumer cards. To draw the picture, here are some interchange examples to clarify and underline the differences between interchange for consumer and business card transactions within the Europe Economic Area (EEA).

For MasterCard e-commerce cross-border transactions - using the 3D secure protocol - the interchange rate is 0.17% + 2.5 eurocent (source: MasterCard Intra-EEA rates). For the same transaction conducted with a corporate card the interchange fee is 1.75%. Over ten times as much. For similar Visa transactions the percentages are 0.23% + 2 eurocent and 1.45% (source: Intra Visa Europe - EEA).

However, despite the Commissions and Alliance's quest for more fee transparency and capping of interchange fees, commercial card interchange fees have been left out of scope of the agreement and will not be capped by the new interchange rules.

Weighted Average Interchange Percentage

Under the new agreement the regulators have agreed to cap consumer card interchanges to a weighted average percentage (debit cards 0.2%, credit cards 0.3%), rather than a cap on each individual transaction. Which means that interchange rates for consumer cards can still differ - depending on multiple factors - as long as the annual card volumes and the interchange fees paid for reflect a percentage of 0.2% for debit and 0.3% for credit on average. 

So, in theory, ecommerce transactions could still be charged an interchange fee of 0.7% whereas in-store payments (still the larger share of transactions) are charged an interchange of 0.25%, as long as the total interchange fees divided by the total sum of the transaction value is below 0.2% for debit and 0.3% for credit cards. Therefor it remains to be seen till what extend merchants, especially the ones conducting business online, will benefit from these lowered 'average' interchange rates. Nevertheless it is expected - and recent interchange reductions within European countries substantiate that - that ecommerce interchange rates on a domestic (intra-country) level are lowered as well. 

Discover, Diners and American Express

The new rules will not apply to so-called three-party card schemes such as Discover/Diners and American Express. However, three-party card schemes that licence other parties to issue cards and thereby operate as four-party schemes, will fall under the new regulation in order to avoid unfair competition. This rule, however, will only come into effect after three years.

What the new interchange fees will bring merchants

Despite the fact that there has not been set a cap on the interchange fee per transaction, the agreement will definitely impact current interchange rates and costs incurred by card processors and merchant acquirers - and thus by merchants. It is difficult to anticipate lower commission rates for merchants individually, however, in general, one definitely could say that both point-of-sale and online merchants should be able to benefit in the coming years.

Till what extend depends on the actual rates that will be set in nearby future and merchant specific situations. What we can predict is that the lower interchange rates could fuel the increased competition between card processors and merchant acquirers in Europe. Especially now more and more card acquirers enter the European card marketplace or expand their operations across Europe, card fees or commission rates are pressed down. All in all, this definitely could be good news for both merchants, consumers and Europe.

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Article by Erik van den Heuvel, About-Payments, December 19th, 2014

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