WASHINGTON – A federal judge on Wednesday struck down federal regulations on debit-card transaction fees, finding that the Federal Reserve adopted rules that "inappropriately" inflated fees by billions of dollars.
The decision was a win for retailers and retail trade associations that challenged the debit-transaction regulations adopted by the Fed in 2011. The agency, the retailers claimed, ignored Congress' directives to consider only certain costs in setting the fee standard and, as a result, set it too high.
The ruling won't change transaction fees just yet, though. U.S. District Judge Richard Leon of the District of Columbia ordered the Federal Reserve to vacate the rules, but simultaneously said he would stay that order to give the agency time to replace the problematic sections. Leon asked the parties to weigh in on the length of the stay, noting that he was leaning towards "months, not years."
Steptoe & Johnson partners Shannen Coffin and Linda Bailey were lead counsel for the retailers. Firm partner Douglas Kantor, who also serves as general counsel for plaintiff NACS (formerly the National Association of Convenience Stores) said the decision meant "the reform of the interchange fees ought to be what it should have been in the first place, which is a real change to allow for merchants and consumers to save more money and transactions to be more efficient."
"We are reviewing the judge's opinion," Fed spokeswoman Barbara Hagenbaugh said.
Under a provision of the Dodd-Frank Act known as the Durbin Amendment, the Federal Reserve was tasked in 2010 with developing a new standard for debit-transaction fees and regulating how they are routed over networks. The Fed adopted a final rule allowing financial institutions that issued debit cards to receive up to 21 cents per transaction.
The fee covered costs related to the "authorization, clearance, or settlement" of a debit transaction, as required by the Durbin Amendment. In addition, the Fed's standard included other costs related to a transaction—such as the software or hardware used—and transaction monitoring, as well as network processing fees. In addition to the 21 cents, the issuers could recover a certain percentage of the transaction's value to cover losses from fraud.
In November, a group of six retailers and trade association sued the Federal Reserve. The plaintiffs included NACS, the National Retail Federation, the Food Marketing Institute, Miller Oil Co. Inc., Boscov's Department Store LLC and the National Restaurant Association.
The retailers argued that Congress only intended the Fed to consider costs related to the "authorization, clearance, or settlement" of a debit transaction and barred the agency from considering "other costs." The Fed said the Durbin Amendment was silent on whether the agency could consider other costs specific to a transaction but not "authorization, clearance, or settlement" costs—meaning it had discretion to decide.
The judge rejected the Fed's position, saying he had "no difficulty" (emphasis in original) finding Congress explicitly divided the costs associated with debit-card transaction fees into two categories: the "authorization, clearance, or settlement" costs, which the Fed could consider in setting the fee standard, and all "other costs," which it could not. The other costs included in the Fed's standard, the judge wrote, from the fraud-loss coverage to network processing fees, weren't what Congress intended.
By including the other costs, Leon said, the Fed's final rule significantly increased rates for small-ticket debit transactions under $12, which it wasn't supposed to do under the Durbin Amendment.
"Ultimately, the Board asserts that it was given broad discretion to fill statutory gaps in establishing the interchange transaction fee standard," Leon wrote. "But even if this were true, which it is not, such discretion does not give the Board the authority to ignore the expressed will of Congress."
Leon said the Fed also ran afoul of Congress' intent in how it regulated the networks used in debit transactions. Under the Durbin Amendment, the Fed was supposed to come up with rules that would give merchants more choices in what networks they could use to process transactions.
The agency required at least two unaffiliated networks for each debit card. The plaintiffs argued Congress wanted merchants to have more choices per transaction, and that requiring two unaffiliated networks per debit card was too limiting because there were multiple ways consumers could authenticate debit transactions (entering a PIN or using a signature being the primary methods).
"Congress adopted the network non-exclusivity and routing provisions to ensure that for multiple unaffiliated routing options were available for each debit card transaction, regardless of the method of authentication," Leon wrote. "The Board's Final Rule not only fails to carry out Congress's intention; it effectively countermands it!"
Sen. Richard Durbin, D-Ill., the author of the provision of the 2010 law mandating a cap on swipe fees, called Leon's ruling a "victory for consumers and small business around the country (that) will lead to lower interchange rates for billions of debit-card transactions each year."
Durbin, who is the assistant majority leader in the Senate, had filed a legal brief supporting the retail groups' suit in the case.
The National Retail Federation, one of the parties that brought the suit, said the Fed had "grossly misapplied" the law and failed to follow Congress' call to set "reasonable" standards for fees that are in proportion to banks' costs for transactions. "As a result, small-ticket transactions, such as those imposed on convenience stores and restaurants, skyrocketed under the misapplied law," the group's senior vice president and general Counsel, Mallory Duncan, said in a statement.
Banks had lobbied hard against the cap, saying the lower fees wouldn't cover the cost of handling transactions, maintaining their networks and preventing fraud. Attempts by some big banks to compensate by charging consumers monthly fees for using debit cards sparked a nationwide furor in late 2011, leading the banks to drop their plans.
The Consumer Bankers Association, which represents large U.S. banks and regional banks, said the new ruling "will create even more chaos for consumers and small banks."
"Congress ought to save families from this uncertainty by repealing this government mandated price-fixing," Richard Hunt, the group's president and CEO, said in a statement. "We certainly hope retailers return to their free-market principles as they did when opposing the proposed government ban on big gulp sodas in New York."
A status conference is scheduled for Aug. 14.
@|Zoe Tillman is a reporter for The National Law Journal, an affiliate of the Law Journal. She can be contacted at firstname.lastname@example.org. Associated Press contributed to this story.