Remittances Regulation Raises Costs
As if financial institutions didn’t have enough on their compliance plate, the Consumer Financial Protection Bureau (CFPB) on February 7 issued a final rule to implement section 1073 of the Dodd-Frank Wall Street Reform and Consumer Protection Act amending the Electronic Funds Transfer Act (Regulation E). The ruling, which provides new consumer protections for remittance transfers, has largely gone unnoticed in the media but is beginning to inspire alarm in that particular area of the U.S. financial system.
Under the new rule, the term ‘‘remittance transfer’’ broadly refers to electronic transfers of funds sent by U.S. consumers to recipients in foreign countries, including consumer-to-consumer (c2c) low-value money transfers greater than $15 and consumer-to-business (c2b) transfers. The remittance transfers may be virtually any electronic payment vehicle, whether automated clearing house (ACH) transfers, international wire transfers, prepaid cards and the like. Any entity that offers remittance transfer services, such as banks, credit unions, and money transmitters, must be prepared by February 2013 to meet the requirements of the rule, which include:
- Fee disclosures that include the up-front fees, the exchange rate applied, additional fees, government taxes levied and the net amount the recipient will actually receive all before the consumer finalizes the transaction;
- A receipt that includes the fee disclosures, along with the date of the delivery of funds;
- A transaction cancellation window of 30 minutes with a full refund;
- Investigation of disputes and error remediation;
- Originating institutions to be liable for the acts of their agents and authorized delegates.
Open and Closed Systems
These rules were developed based on the closed network used by money transmitters such as Western Union and MoneyGram International, which possess end-to-end information in the receipt and disbursement of funds. The contractual relationships that money transmitters hold with their agents – or with intermediaries who manage these agents – forbid additional disbursement fees while guaranteeing settlement dates for when funds will be available to recipients, sometimes even before the accounts are settled.
By contrast, banks and credit unions have traditionally offered remittance services primarily through wire transfers – and, to an extent, ACH – which is an open network system. While participation in an open network enables transactions to reach virtually any bank worldwide through national payment systems that are connected via correspondent and other intermediary banking relationships, the drawback is that no single provider has the ability to monitor or control relationships with all of the participants that may collect funds in the U.S. or disburse funds abroad.
As such, these requirements will impose both onerous regulatory compliance costs and operational difficulties for financial institutions that rely on the open network system, particularly smaller ones such as credit unions. For example, like money transmitters, financial service providers of wire transfers usually charge up-front fees at the time of the transaction. However, intermediary institutions often impose additional or “lifting fees,” and recipient institutions may further charge fees for converting funds into local currency and/or depositing them into the recipient’s account. Coupled with the mechanics of the fluctuating exchange rate, variables outside of the financial institution’s control can complicate remittance transfer pricing, rendering the financial institution unable to obtain it for disclosure to consumers.
One of the unintended consequences of these new regulatory compliance costs will be some financial institutions exiting the business of remittance transfers, as noted by multiple comment letters from The Clearing House, banker associations and community banks. For those financial institutions that are able to continue providing the service, compliance costs will far exceed the CFPB estimate of nearly 7.7 million employee hours of work. Although the Bureau fails to disclose how it reached this estimate, large banks alone will spend millions to build and modify information technology systems, renegotiate agreements and revise contracts with correspondent banks in all foreign jurisdictions in which the financial institution intends to send consumer remittance transfers, as well as monitor the fees charged by unaffiliated institutions.
While large and well-capitalized banks can develop alternative business models to build out a closed network, the tracking of tax and privacy laws in all relevant jurisdictions will require costly consultant engagements or force institutions to limit their transactions to a few countries. In light of such issues, financial institutions will need to raise prices to cover these costs as they deal with the chain of middlemen, exchange rates and restructuring of the way money transfers are offered. Banks today are spending hundreds of hours every week working through issues that include the changes required to distinguish consumer payments from other payment types, the providing of disclosure information and the development of tax tables that are needed across a range of services and business lines, such as retail operations, private banking, wire transfer, ACH, online banking systems, global wealth management, investment management and foreign exchange.
One thing we can be sure of is that funds transfer customers will be faced with a less competitive market. Regrettably, for the unbanked and under-banked population of roughly 80 million people, sending remittances overseas will become more difficult and even more costly. Worse, the undesired process formality may threaten to drive these consumers to less formal and sometimes illicit money transfer providers. Ultimately, then, the new rule on remittances may end up hurting the very group that it was designed to protect.