To understand why the reloadable prepaid card industry remains the province of a handful of companies, despite growing consumer demand, talk to nFinanSe Inc.
After two years of clearing regulatory hurdles, the Tampa company said Monday that it was finally ready to compete on a national level. Jerry R. Welch, nFinanSe's chief executive, said it spent "hundreds of thousands" of dollars obtaining licenses in 41 states and the District of Columbia.
"It's the cost of doing business" in a business where "the universe of participants … is really quite small," Welch said.
His company's experience illustrates the obstacles facing most entrants into the reloadable debit market. A patchwork of state regulation has set a high bar to entry, even though the recession is creating opportunities.
Industry executives and observers said the time-consuming and expensive state requirements — which regulate retailer "agents" instead of banks and thus are not subject to preemption — have stunted competition and possibly slowed innovation.
"It is the most difficult part of compliance for prepaid card companies, bank and nonbank," said Judith Rinearson, a partner at Bryan Cave LLP, who chairs the Network Branded Prepaid Card Association's government relations working group. "Getting these licenses is a nightmare. … It certainly slows down the launch of products … and forces the companies to partner in a way that affects the margins."
Regulators and some industry lawyers said the licensing requirements protect consumers from fly-by-night outfits that otherwise could set up business and disappear with the money loaded on to the cards. Even one such occurrence could damage the reputation of legitimate providers, observers said.
Oversight of the cards, which are issued by banks but usually marketed, sold and reloaded by nonbanks, is almost as complicated as the supply chain. The depositories at one end are subject to federal banking regulations, but most states require a company selling cards at a retailer, or anywhere not a bank branch, to obtain licenses as money transmitters.
So receiving 42 individual licenses, as nFinanSe has done, is a cause for celebration. It allows retailers to sell nFinanSe cards in all but two of the states that currently require such licenses. For those two states — Hawaii and Vermont — "the costs and expenses associated with it are just too much," said John L. Moore, a partner at nFinanSe's outside counsel, Williams Parker Harrison Dietz & Getzen. "It just didn't make sense" economically. (Seven other states do not require licenses.)
Welch said nFinanSe also had to post $8.5 million of bonds to various states to cover the funds loaded on its cards, and Moore cited additional hurdles: "There are live hearings and interviews with the regulators. Just the back and forth with some states on the particular review of their applications takes months."
Even established prepaid players said maintaining compliance is cumbersome.
"In terms of time and costs, these licenses cost us a few million a year to get and keep," said Mark Troughton, Green Dot Corp.'s president of cards and network. "We made this commitment many years ago, six or seven years ago, and today it's less material for us, given our growth. But this is a very significant commitment."
The state licenses were created for transfer companies like Western Union Co. and MoneyGram International Inc., which handle billions of consumer dollars without being subject to the federal regulations governing banks.
When prepaid cards appeared at the beginning of the decade, many states amended their laws to apply such regulations to "stored-value" cards. Under the licenses, the retailers that sell or reload such cards qualify as "agents" of the prepaid companies, much like the agent locations for Western Union or MoneyGram.
"The ultimate goal of these laws is consumer protection," said John Ricci, Green Dot's general counsel. "The presence of nonbank third parties is what, rightly or wrongly, has gotten everybody concerned."
Joseph E. Rooney, the president and director of the Money Transmitter Regulators Association, acknowledged that the licensing requirements are "time-consuming" but said: "It protects the consumer if something goes wrong between the retail outlet and the bank. … Sometimes these companies, they start and then they fail."
According to Rinearson, even banks attempting to sell their own prepaid cards outside their branches would be required to comply with such regulations. Any licensed transfer company "can appoint this retailer to sell their prepaid cards, but a federally chartered bank cannot."
Such requirements have kept banks and nonbanks from diving headfirst into the market, Rinearson said.
"It's hard to know what entities are out there that decided not to get into this business because of this hurdle," she said. However, "there certainly are companies that either don't have a national launch or they have to start much more slowly."
The situation is unlikely to change in the foreseeable future, according to regulators and lawyers.
There are "a lot of money transmitters who would love to see one federal statute" that would preempt state regulations, Rinearson said, but the Obama administration has indicated it is reluctant to preempt states and, given the financial crisis, it has more pressing matters to address.