Rumblings From The Public Sector

  Government agencies are getting on board with card payments, but acquirers still face some of the same problems they encountered when they began to crack the market more than a decade ago.
  Like a teakettle over a low flame, the public sector finally seems ready to start percolating with payment card transaction volume.
  With an expanding list of government agencies taking plastic for payments, the foundation is being set for more consumers to use cards to pay their income and real-estate taxes, as well as fees for vehicle registrations, trash collection, business licenses and other state, county and municipal costs.
  "The public sector is a huge opportunity in terms of value," says Donna Johnson, vice president of acceptance development for MasterCard International. "But card activity still is fragmented among states, towns, transit agencies and other consortiums."
  Fragmentation is just one of the problems acquirers face in trying to sign government agencies as card-accepting merchants, a market they started to pursue in the early 1990s. Acquirers frequently complain that they encounter bureaucracy and slow approval processes. And even when they finally do put card decals on their doors, many cash-strapped agencies don't have the marketing money to get the word out about their acceptance programs.
  Still, acquirers can't resist a market with potential charge volume in excess of $747 billion. Federal and state tax payments alone account for about $641 billion, Purchase, N.Y.-based MasterCard estimates.
  Virtually all card-based income and real-estate tax transactions are initiated through the Internet or telephone integrated voice-response systems, the result of rulings from MasterCard and Visa USA that permit acquirers to charge cardholders a service fee for the convenience of making payments via those outlets.
  Without such fees, most public agencies would not be able to accept cards for taxes because they usually are required by law to collect 100% of the amount owed. Thus, they cannot pay the discount fee-typically a percentage of the payment amount-that acquirers charge merchants in the private sector for processing and other services. The associations prohibit surcharges on their credit and debit products unless merchants also attach the fees to all other payment forms.
  Since consumers are unable to pay cash or write checks for Web or phone payments, however, Visa and MasterCard say the service fee-which typically is about 2.49% of the transaction amount-does not amount to pricing discrimination against cardholders.
  While most consumers still prefer to write checks to pay taxes, processors expect that to change as electronic payments become more ingrained in the taxpayers' lifestyles.
   "Just one-tenth of 1% of federal taxpayers use a credit card for payment, so the growth potential is tremendous," says Jim Weaver, president and chief executive officer of Walnut Creek, Calif.-based Tier Technologies Inc., parent company of Official Payments Corp., a major acquirer of federal and state tax payments. "The increasing acceptance and convenience of electronic payments will cause card use to grow at an accelerated pace."
  Transactions already are gradually increasing. The Internal Revenue Service, which accepts Visa, MasterCard, Discover and American Express cards, says there were 559,600 card transactions for federal income-tax payments last year, up 79% from 313,400 in 2002.
  As of early February, taxpayers had initiated 241,472 transactions for federal tax payments, with volumes totaling $149.2 million.
  The Final Minute
  Meanwhile, revenues for Link2Gov, a Nashville-based processor of card-based government and utility payments, have grown more than 300% annually over the last three years, and continue to increase between 10% and 15% each month, says Ed Braswell, president.
  To pay taxes online, cardholders typically click on a link located on a government agency or third party's Web site. The transaction is routed to the processor, and is posted to the agency's ledger within seconds. Taxpayers typically get confirmation of the payment in real time, or are sent an e-mail.
  By initiating transactions via the Web or phone, cardholders can literally wait until the final minute before the deadline before paying their taxes from the convenience of their homes. But perhaps the biggest incentive for credit or debit card use is the prospect of more quickly earning the rewards that are tied to card activity.
  New York-based American Express Co., for instance, is enabling its Delta Air Lines SkyMiles customers to receive double the miles earned for air travel when using their SkyMiles cobranded cards for federal income-tax payments. Cardholders normally receive one mile for every dollar spent.
  American Express' Starwood Preferred Guest credit cardholders also can earn double the Starpoints-up to a maximum of 5,000-when paying federal taxes with the card. Starpoints can be redeemed for free nights at Starwood Hotels & Resorts or for airline travel on major carriers.
  Morgan Stanley's Discover card, meanwhile, which offers many customers up to 1% in cash back on purchases, also is trying to leverage the popularity of rewards by working aggressively to get more counties to accept its product for real-estate tax payments, says Gerry Wagner, vice president of sales and marketing for Riverwoods, Ill.-based Discover Business Services.
  Discover has a sales team dedicated to responding to requests for proposals from counties seeking to launch an acceptance program. "We're seeing double-digit growth year-over-year in the government sector, and it is growing at a much faster pace than any of our vertical markets," Wagner says.
  Discover is the only card accepted by about 200 public agencies, partly the result of its more accommodating policy toward user surcharges than Visa and MasterCard.
  Yet the associations also are encouraging cardholders to initiate government transactions through joint initiatives with agencies and issuers. MasterCard, which is reporting a 78% increase in public-sector activity over the last four years, is placing inserts promoting card acceptance in the driver's license renewal forms being sent to 600,000 motorists by the Massachusetts Department of Motor Vehicles.
  Minneapolis-based U.S. Bancorp, which has issued 4.2 million Visa-branded credit cards and 5.3 million debit cards, sent statement inserts to all its customers this year publicizing the Web addresses that cardholders should access to initiate online tax payments.
  Robust Options
  John Owens, senior vice president of U.S. Bank's debit and prepaid product group, says taxpayers typically use credit cards for large amounts, and debit cards for smaller payments, just like in the private sector. About half of the tax payments initiated on U.S. Bank cards last year were debit transactions, up from one-third in 2002, he says.
  Visa says its cardholders generated $22.8 billion in public-sector payments last year, up 18% from 2002. In addition to taxes, transactions included payments for child support, state university tuition and other applications.
  Many acquirers and public officials agree public-sector card activity and the acceptance base will continue to grow as more citizens show a willingness to bear the cost of the transactions.
  "Every agency I've met with predicts a significant reduction in their work force and a significant increase in payments by taking cards," says Mark Koran, director of fiscal services for GovConnect Inc., a Cincinnati-based processor of electronic government transactions. "They want to convert to paperless processing and to offer a set of robust payment options for citizens."
  Already taking cards-and looking to expand its program-is Hennepin County, Minn., which encompasses Minneapolis and 45 suburbs and began accepting credit card payments three years ago. Residents who pay property taxes with plastic through the Internet are assessed a 2.49% service fee by Official Payments. Cardholders also can settle court fines with credit and debit cards for no additional charge.
  "We collect $2.5 billion a year in property taxes, and our expenses would get pretty steep if we had to pay the credit card fees," says Pat O'Connor, Hennepin County auditor/treasurer. "It is not a legitimate expense, and our only recourse is to pass it on to the taxpayer."
  Most county residents, however, still are reluctant to pay for the convenience of initiating transactions online. Only about 19,000 of Hennepin County's 400,000 taxpayers paid their real-estate taxes electronically in 2003, with payments totaling $51 million.
  Word of Mouth
  Credit and debit cards were used for just 2,000 of online transactions. Nine thousand taxpayers sent electronic checks, and 8,000 had their bank accounts debited. The service has mainly been publicized by word of mouth and through the county's Web site.
  Officials, however, are trying to find new revenue sources so they could take plastic for more county costs and absorb the discount fee, instead of forcing cardholders to subsidize the program. "The acceptance of credit and debit for payments is the most requested service we get from residents, so we're studying options for dealing with the processing expense," O'Connor says.
  Nevertheless, the vast majority of public agencies are expected to attach cardholder charges to all the online transactions, says Pamela Stewart, president and chief executive officer of Certified Payments. Net, a Dallas-based independent sales organization that processes service-fee transactions for the government sector.
  "Some government agencies were willing to eat the cost of accepting cards so they could get their money quicker," Stewart says. "But with Visa and MasterCard offering the new convenience-fee model, the agencies now realize than can collect their money without paying anything, and that is making it more appealing."
  But convenience fees don't always resolve the issue of collecting 100% of what is owed, as is often required by state laws, according to Glen B. Gainer III, West Virginia's state auditor general. Gainer points out that a posted flat fee assessed to the consumer may not entirely cover the agency's cost if the agency has a percentage-based acceptance pricing plan with its acquirer. Gainer says national associations of state finance and auditing officials are working on ways to address card fees.
  Despite such thorny issues, more agencies are moving forward with card programs. In a nationwide survey of 419 counties conducted last year by the Washington, D.C.-based National Association of Counties, 28% of respondents indicated that they enable residents to pay their taxes and fees online with credit cards, up from 18% in 2002. In addition, 29% of respondents said they accept telephone credit card payments, compared to 26% the previous year.
  "Most of the counties resisting credit cards tend to be small or mid-sized," says Jacqueline Byers, the association's director of research. "Many of them don't have the expertise, or the money to hire the expertise, to set up payment systems."
  Many smaller cities also do not accept cards because most processors and ISOs say it is not profitable to invest the time and money required to sign such municipalities for card services, says Kerry Lauricella, executive director for the Harahan, La.-based National Association of Cities. In a member survey conducted last year by the NAC, less than 10% of the 1,700 respondents said they accept credit cards. Most of the association's members are municipalities with populations of less than 25,000.
  Not only are potential transaction volumes limited, but it can take up to a year for the towns to consider-and approve-proposals for card acceptance, processors say.
  In an attempt to jump-start member credit and debit activity, and spare processors the need to visit small towns, the NAC entered into a processing arrangement for its members with Englewood, Colo.-based First Horizon Merchant Services, the merchant-acquiring arm of Memphis-based First Tennessee National Corp. Under the contract, First Horizon will process NAC members' credit transactions with a discount rate of 2.35% plus 20 cents an item for Internet activity, and a face-to-face rate of 1.975% plus 20 cents an item.
  Red Tape
  The NAC also is providing members with a template for creating Web pages, and is hosting their Web sites for free. Municipalities interested in taking cards via their Web pages can connect to First Horizon through its gateway with NAC.
  First Horizon also can call into members' stand-alone terminals and download credit and debit processing software to create a foundation for face-to-face transactions, says Ted Gerhardy, First Horizon senior vice president. The first members are expected to go live within the next couple of months.
  "It takes most cities a long time to churn through the red tape for credit card acceptance, and the sales cycle is so long that a lot of processors get frustrated with the sector," Gerhardy says. "But there is great potential in cities and towns, and the biggest challenge was just bringing them online."
  Getting programs launched, and enticing residents to pay the fees to use plastic, remain two of the largest obstacles to government card program expansion. But many processors and issuers are betting that the more convenient payment option, along with the opportunity to quickly accumulate card-based awards, will be the keys that lead to rapid market growth.