Are You at Risk? Part 2
I have been getting more and more inquiries lately from my clients asking about regulation in our industry. People are hearing things and reading stories about how the federal government has become more active in our business. My clients are concerned that they should be doing something in order to stay out of trouble. But, as will be explained below, federal activity has been limited and does not affect too many companies in our industry.
There are 2 main ways the federal government has sought to regulate our industry. The first is by way of seizing companies through the powers of the Federal Trade Commission (“FTC”). The FTC is a federal agency that has the power to file suit against companies that it believes are engaging in unfair or fraudulent business practices. The enforcement actions usually take the form of a complaint being filed in federal court against the offending company, the company being taken over by a receiver and then finally the company being put up for auction. Given the drastic end result most companies are very worried that this could happen to them.
The fact of the matter is that such FTC actions in our industry are fairly rare. There have only been a handful since I started in the industry over 15 years ago. And, there has been a consistent pattern in the rationale for why the FTC went after these companies namely, undisclosed fees. For almost every enforcement action the allegations in the complaint and the findings of fact in final judgments concerns the failure to adequately disclose fees to merchants. The companies added on fees without any authorization or buried fees so far in the documents that it was almost impossible for the merchants to understand what they had been charged.
This leaves any of you out there with total control over the potential for the FTC to try and bring such an enforcement action against you. As long as you are adequately disclosing the fees you are charging, an FTC action like the one I described is unlikely to happen.
For sales agents and ISOs that do not take risk for merchant chargebacks and other losses (“no-risk ISOs”), such sales agents and ISOs are not in control of how fees are disclosed for the merchant account. The processor or bank is providing the merchant account and all the related merchant application and merchant agreement materials that disclose the fees. So the processors are the ones that need to make sure fees are adequately disclosed not the sales agents and no risk ISOs.
But, sales agents and no-risk ISOs do need to make sure that they adequately disclose any fees they do charge the merchants. Some agents and no-risk ISOs do things like rent equipment, have a merchant club to provide added benefits to merchants or provide other services that they charge the merchant for directly. In those cases, you need to make sure you have a written agreement with the merchant that allows you to collect the fees from the merchant and that also discloses those fees clearly. If you do that, you should have no troubles with the FTC as fee issues are concerned.
The second way the federal government has sought to regulate our industry is through “Operation Choke Point.” Operation Choke Point is a program whereby the Department of Justice (“DOJ”) and bank regulators have subpoenaed banks and payment providers in order to try to choke off the ability for certain business types to process payments. Various sources have indicated that such businesses as payday lenders, escort services and various get rich quick schemes. The idea is that if these types of merchants cannot process credit cards, debit cards and ACH transactions that it will put them out of business.
This effort has led to certain payment processors being subject to enforcement actions. A number of publicly-held banks have revealed in SEC filings that they have been subject to such actions and there have also been some settlements. Most of this enforcement action has been out of the public eye and not reported in the press. As a result, it is difficult to determine how widespread the enforcement efforts are for the program.
The FTC has also gotten into the act as far as holding processors liable for the actions of their merchants. The FTC recently filed actions against Newtek Merchant Solutions and Independent Resource Network Corp. The main FTC complaint was that it felt that the business models of the merchants in question fell into a category that should not be allowed to process payments with main stream banks and processors. As an example of why that was the case, the FTC pointed out the high chargeback rates for the merchants as further evidence that their business types were not above board.
The fact is through, these activities by the FTC and DOJ are targeting a very small part of our industry. Many of my clients are sales agents and no-risk ISOs. Such companies are not involved in the underwriting process and ongoing risk monitoring of merchants. So if you fall into that category, then you have little to worry about. If they come after anyone they will come after your processor, and not you the sales agent or no-risk ISO.
However, as to processors, full risk-taking ISOs, banks and all others that underwrite merchants and control the ongoing risk monitoring, reserve accounts and the like, there certainly is a danger of federal intervention. But the potential for that type of action by the federal government is again in your hands. If you stay up on the list of prohibited industries, make sure you thoroughly underwrite your merchants, put adequate safeguards in place to ensure that chargebacks and other activities are monitored and make sure all fees are adequately disclosed, you should have no issues with the federal government.
The upshot of this activity by the federal government is that processors, banks and ISOs are going to have to incur additional compliance costs. And there is a group of merchants out there that are not going to be able to operate by processing credit cards, debit card or automated clearing house transactions. But given the merchants that are being targeted maybe that is not a bad thing.
The information contained herein is for informational purposes only and should not be relied upon in reaching a conclusion in a particular area. The legal principles discussed herein were accurate at the time this article was authored but are subject to change. Please consult an attorney before making a decision using only the information provided in this article.