Summary: The CFPB’s new rules for prepaid cards are altogether beneficial to consumers – improving transparency and bolstering rights – and there is nothing in them that will have unintended consequences for the public. However, the organization did miss a couple of important opportunities to truly make a major impact on the behalf of users. For example, the regulator did not take steps to limit the number of fees a prepaid card can charge, nor did it address the issue of inconsistent FDIC insurance for prepaid card funds.
The Consumer Financial Protection Bureau on Nov. 13 announced a sweeping new set of rules for the prepaid card market, setting this increasingly popular form of payment up for some big changes once a mandatory 90-day public comment period concludes. These proposed rules – which we’ll examine in detail below – have been a long time coming, as the CFPB first announced an advance notice of rulemaking two years ago in response to the rising rate of usage among consumers.
Not only were prepaid cards the fastest growing form of electronic payment from 2006 to 2009, according to the Federal Reserve, but they truly hit the mainstream when the Durbin Amendment took effect in October 2011. This law capped the swipe fees that banks can charge merchants when traditional debit cards are used as payment, robbing the banks of $8.4 billion in annual revenue and leading them to promote prepaid cards as useful (and profitable) alternatives to traditional checking accounts. Now prepaid cards are used for all sorts of purposes, from replacement checking account to alternative check cashing tool and financial literacy teaching tool. And consumers are loading an ever-increasing amount of money onto them – an estimated $100 billion in 2014, according to the Mercator Advisory Group.
So while it is no surprise that prepaid cards are under the regulatory microscope, the question of whether the proposed rules are any good still remains. To answer that question, WalletHub analyzed each of the CFPB’s proposed rule changes and placed them in one of four categories: The Good, The Bad, The Fluff and What’s Missing. Hopefully our analysis regarding these designations, which you can read below, will help you better understand the nature of the CFPB’s rulemaking and the implications for consumer life.
- New Liability Limits for Unauthorized Transactions – Prepaid cards, like traditional debit cards, are at greater risk of fraud than credit cards because funds are immediately removed from one’s account upon a transaction being completed. The CFPB, recognizing this susceptibility, has decreed that consumer liability for unauthorized transactions perpetrated on lost or stolen cards must be limited to $50. That is the same liability limit that is legislatively imposed for credit cards.
While this is undoubtedly good news for the prepaid card market, the impact of this rule change is dampened somewhat by the fact that card network policies already gave most prepaid card users $0 liability protection. This particular rule change was nearly filed under “The Fluff” as a result. However, the CFPB’s rules extend beyond prepaid cards that bear card network logos (i.e. Visa, MasterCard, Amex and Discover), and giving liability protection to the likes of government benefits cards and digital wallets is definitely good news for the consumer.
- Improved, Standardized Disclosures – The CFPB has been testing new model disclosures for the prepaid card market for quite some time, and its proposed rule changes include the fruits of that labor: a pair of new, standardized disclosures designed to promote consistency and ease direct product comparison. There is both a short version, which concisely lists key fees, and a long version that includes all of the account’s terms. Given the growing number of prepaid card products on the market and the variety of fees that they charge, improving consumer understanding of the costs associated with prepaid card use and making comparison shopping easier is certainly beneficial to consumer performance.
The ultimate value of these new rules remains to be seen, however. “The effectiveness of product disclosures and warnings depends on a number of factors,” says Laura A. Heymann, vice dean of the College of William & Mary’s Marshall-Wythe School of Law, ”such as the prominence of the disclosure or warning, the language that's used, and the existing knowledge and understanding of the target audience.”
- Issuers Must Gauge Borrowers’ Ability to Pay – While one would not ordinarily consider prepaid card users to be borrowers, the CFPB has found that credit-related products are sometimes offered in conjunction with prepaid card accounts. One such credit mechanism, according to the CFPB, is overdraft protection.
The CFPB considers this to be a loan, since it entails a prepaid card issuer fronting money to a customer to cover the cost of a transaction that cannot be paid for in full with the funds currently in the account. These borrowed funds often have fees and/or interest tied to them as well. Requiring prepaid card companies to evaluate their customers’ ability to repay borrowed funds before they disseminate them is therefore a logical move on the CFPB’s part. Personal finance in general seems to be moving toward greater transparency in terms of consumers understanding the costs they are asked to foot and financial institutions understanding the capabilities of their consumers. Brining this level of accountability to this under-the-radar corner of the prepaid card market is therefore a good idea.
- Monthly Statements for Credit Components of Prepaid Accounts – When credit is extended in connection with a prepaid card account, such as would be the case with overdraft protection, the issuing institution will now be required to send monthly statements to the consumer, detailing the amount owed, any relevant finance charges and any corresponding due dates. Clear consumer understanding of financial obligations is always beneficial.
- Reasonable Late Fees – Further extending the credit card market’s rules to the credit-related realm of prepaid cards, the CFPB has decreed that prepaid card borrowers be given at least 21 days to repay their debts before penalty fees can be implemented. Furthermore, these fees must be reasonable and commensurate to the offense that triggers them. This is important, as it prevents liabilities from compounding quickly for borrowers, trapping them in a circle of debt that is difficult to extricate themselves from.
- First-Year Fee Cap & Interest Rate Limitations – The CFPB would also like to extend the credit card market’s rules against prohibitive fees and interest rate repricing to the credit-related elements of the prepaid card market. The total amount of fees assessed in connection with a prepaid card account’s credit line may not exceed 25% of that credit line during the first year an account is open. Issuers are also prohibited from increasing interest rates on a customer’s existing balance unless the customer becomes 60 days delinquent on payment. Such rules have proven extremely useful in the credit card market, improving transparency and lessening the financial burden on the lower ends of the credit spectrum.
- Your Funds Won’t Be Taken Without Consent – Prepaid card users who avail themselves of overdraft protection won’t need to worry about having funds automatically deducted to pay their debts when they next load money to their cards under the CFPB’s proposed rules. Funds can’t be automatically withdrawn from your existing account balance when the bill for the borrowed money comes due, unless the cardholder affirmatively opts in for the service. Giving consumers greater control of their money and preventing financial institutions from automatically seizing it is definitely a positive development that speaks to the improving fairness of the prepaid card market.
- Classifying Overdrafts as Credit Creates Confusion – While none of the CFPB’s proposed changes are flat-out bad, the decision to classify overdraft protection as a credit element does stand to create a lot of confusion among consumers. Consumers are already unsure about the credit capabilities of prepaid cards, with many people thinking these products report to the credit bureaus and thereby help build credit. Besides, prepaid cards are ultimately checking accounts without the physical checkbook, and creating a distinction between overdrafts done with a prepaid card and those done with a checking account makes no sense.
- Easy and Free Access to Account Information – The CFPB’s new rules require prepaid card issuers to provide either periodic account statements or free online access to account information in order to help consumers keep track of where they stand. This is a fine rule, but its impact is mitigated by the fact that prepaid cards generally provide online account management already. In other words, the rule merely cements common industry practices and is therefore less beneficial than you might initially think.
- The Right to Correct Account Errors – Prepaid card issuers will now be required to investigate account errors – inaccurate charges, for example – and even provide temporary account credits for prolonged investigations. Again, that’s great but probably unnecessary in light of existing industry practices.
- Publicly Available Card Agreements – The CFPB is requiring prepaid card issuers to post their account agreements online as well as submit them for a centralized CFPB bulletin. Based on our experience with the same rule in the credit card market, this information is of little practical benefit as few people use it. Card agreements are simply too dense and confusing for consumers to compare a number of them on a government website.
- 30 Day Waiting Period for Credit – Prepaid card companies must now wait 30 days before offering customers a credit line in conjunction with their accounts. This initial waiting period is intended to give customers time to acclimate to their new accounts and better understand the terms and expectations associated with them before further complicating matters with credit. There are a couple of problems with this, however. For starters, 30 days is unlikely to change consumer behavior in regards to credit. What’s more, a consumer would be unable to overdraw their account during an emergency situation falling within this initial period, creating a domino effect across their finances.
- A Limit on the Number of Fees Charged – Prepaid cards charge an average of 11 different fees, according to WalletHub’s 2014 Prepaid Card Report, and annual account maintenance costs can reach as much as $400 as a result. Capping the number of different fees that a prepaid card can charge and/or instituting naming conventions for these fees would perhaps have made an even bigger positive impact on the market than overhauling disclosures.
- No Consideration to Funds Insurance – One of the most critical weaknesses of prepaid cards is the uncertainty that exists in regard to the safety of funds deposited into an account. While consumers are secure in the fact that funds loaded into a checking account will be insured up to $250,000 by the Federal Deposit Insurance Corporation, that’s not the case with prepaid cards. Some prepaid cards provide FDIC insurance and others do not. It often depends on the type of institution issuing the prepaid card and how it stores the funds loaded to an account. In some cases, funds are insured once they are deposited into a certain “pooled” account operated by the issuer, but that often takes a day or two to happen and the funds are vulnerable in the meantime. Failing to address this issue is perhaps the biggest flaw in the CFPB’s new prepaid card rules and will continue to undermine consumer confidence until it is solved.
- Did Not Address Naming Confusion – Part of the reason people don’t understand prepaid cards is the way they are marketed. They are routinely referred to as “prepaid credit cards,” even by the industry’s biggest players – AccountNow, for example. Use of the term credit in connection with prepaid cards implies credit building capabilities, the availability of a credit line, and a certain level of familiarity that people do not have with the still relatively new prepaid card market. However, rather than clearing up this naming confusion by cracking down on offending issuers, the CFPB exacerbated the uncertainty by characterizing account overdrafts as an extension of credit and instituting a number of credit-related rules.
- No Consideration to Clarity in the Checkout Lane – Prepaid cards are not gift cards. They serve very different purposes, have different fees and are governed by different rules. They are typically positioned on displays right next to each other in retail locations, however, which inevitably leads to mistaken purchases and misuse. Not taking steps to distinguish prepaid cards from gift cards at the point of sale was therefore a mistake on the CFPB’s part.