The Washington Post
By: Danielle Douglas
April 11, 2013
Four years after the financial crisis, more than a dozen of the country's largest banks have jumped into the once-niche market of prepaid debit cards, courting the millions of Americans on the margins of the banking system.
The banks, including JPMorgan Chase, Wells Fargo and PNC Bank, are tapping into the pools of consumers who either don't qualify for a traditional banking account or can't afford one. They are cheaper to serve and offer a simple way to recoup the billions the industry has lost to tighter financial regulations.
These efforts offer potential legitimacy to an industry that has existed in the shadows for decades with less government oversight and a reputation for high fees. Some regulators see the market shift as an opportunity to address the growing population of people who have no access to the banking system.
But the industry's explosive growth, and large banks' push into the market, has left some consumer advocates worried that low-income consumers will be trapped outside the banking system without the protections inherit in traditional checking and savings accounts.
The industry needs more oversight to ensure that players in the market aren't simply profiting from low-income consumers by charging exorbitant fees, advocates say.
"Electronic cards are a good way to get people into the banking system, if they are low cost and operate similar to other accounts banks offer," said Mark Pearce, director of the division of consumer protection at the Federal Deposit Insurance Corp. "Historically, prepaid cards haven't measured up to that standard, but it has been an evolving marketplace."
Mercator, a consulting firm, predicts that Americans will put $202 billion on reloadable cards this year -- a giant leap from $28.6 billion in 2009.
Demand soared as nearly 1 million households exited the banking system between 2009 and 2011, bringing the number of "unbanked" households to 17 million. Almost 18 percent of those households used prepaid cards in 2011, compared with just over 12 percent two years earlier, according to the FDIC.
Most prepaid cardholders earn less than $30,000 a year and are under 35, according to Aite Group, a financial services consulting firm. They are able to add money to the cards, typically electronically, and use them as debit or credit cards.
Until recently, banks discounted the industry's potential, noting its low profit margins and high customer turnover. Prepaid customers often kept their cards active for only a few months before switching to another provider.
That changed after the 2010 Dodd-Frank reform law and other new regulations restricted the amount banks could earn from debit and credit card fees. Those restrictions are expected to cost banks $7 billion a year, according to Standard & Poor's, prompting some to hunt for new revenue sources.
And Dodd-Frank left a loophole. Banks could still impose high fees on merchants when customers pay for goods with a prepaid card.
Over the next few years, banks leapt into the prepaid business -- and several others -- they once shunned. In 2011, U.S. Bank, the country's fifth-largest bank, began offering payday loans, while Regions Financial moved into the check-cashing business.
The biggest push was into prepaid cards. JPMorgan, the country's largest bank, entered the market last year, followed closely by PNC. BB&T, Fifth Third and Commerce Bank all recently began offering such cards.
The $57 billion prepaid industry is expected to grow at a rate of 42 percent a year from 2010 to 2014, according to Mercator.
The market is still dominated by established players, including GreenDot and Net Spend. But the large banks are gaining market share by leveraging their existing customer base, according to Aite Group.
And at a fraction of the cost.
It costs JPMorgan 40 percent less to serve its Chase Liquid prepaid card customers than clients with a checking account, since the majority of transactions are electronic, said Ryan McInerney, the company's head of consumer banking.
"Liquid customers are more comfortable serving themselves through mobile banking than other client segments," said McInerney.
Regions Financial has already seen success in luring its prepaid card and check-cashing customers into traditional accounts. About 9 percent of the 230,400 customers who signed up for these services have opened a traditional account, said Bill Simpson, the bank's senior vice president.
Consumer advocates say the industry has potential -- much of it untapped. In particular, prepaid cards could help consumers build a credit history that would eventually give them access to home and auto loans.
Banks "can look at your history and glean what kind of financial life you're living," said Adam Rust, research director of Reinvestment Partners, a consumer advocacy group. "If they see you making regular payments every month to your landlord, they can invite you into their other services with a degree of trust."
But banks don't share data on prepaid cards with the credit bureaus, making it impossible for consumers to use them to bolster their credit scores. And many advocates are concerned that the nation's largest banks are segregating lower-income people into a second-tier system that costs less to manage, has fewer consumer protections and is still largely outside the traditional banking system. Peddling a product known for high fees, they say, is no way to engage financially vulnerable communities.
Prepaid card operators are not always forthcoming about their fees, consumer advocates say. Consumers can be charged $5 a month just to maintain the card. They may also have to pay to speak to a customer service agent, check their balance at an automated teller machine or load money onto the card, consumer advocates say.
"The extent that people are choosing prepaid over checking raises questions about how banks are marketing these cards and how hostile bank accounts have become to low-income people," said Deyanira Del Rio, associate director of the Neighborhood Economic Development Advocacy Project.
With the industry experiencing explosive growth, the Consumer Financial Protection Bureau is developing the first federal guidelines to govern it.
Those rules should require standardized fee disclosure, consumer advocates say. Consumers who deposit thousands of dollars on a prepaid card may not realize that not all cards are protected by government insurance, like a checking account is.
"Prepaid cards need to be covered under the same protections as traditional debit cards and checking accounts," said Lauren Saunders, an attorney with the National Consumer Law Center.