I. INTRODUCTION
Stored value cards, also called “prepaid” or “value-added” cards, will generally make funds available to customers through either a computer chip or magnetic stripe embedded on the card. Categorized as a functional equivalent of emerging “E-Cash” systems, the electronically-stored funds may be accessed at point of sale (POS) terminals and the remaining balance of funds will be recorded on the card.
In a “closed” system, the amount of funds available on the stored value card is limited and the use of the card is limited typically for a single purpose (e.g., telephone card, transit card): once the value is used up, the card is disposable. By comparison, in an “open” system, the card may involve multiple uses, for multiple purposes, with multiple “E-cash” issuers, and may even involve transferring funds between the card and a bank account or from one card to another: the card may be reloadable and may serve as an “E-cash” alternative to the “paper based” payment system.
Recognizing the growing interest and expanding use of stored value card systems, the OCC issued a “Guidance” on September 10, 1996 (OCC 96-48). The purpose of the guidance is to inform banks on the emerging stored value card systems and highlight the associated risks involved so that banks may be able to identify and manage such risks as the industry becomes more involved with such mechanisms.
This article is to provide an introduction to stored value systems, highlighting both the roles that banks play and the risks associated in participating in such financial services. The article relies heavily on the definitions and issues discussed in OCC 96-48.
II. DEFINITIONS
According to the Office of the Comptroller of the Currency (OCC), the term “stored value card” refers to
a card either with a magnetic stripe or with a computer chip that is charged with a fixed amount of economic claims or value that can be “spent” or transferred to individuals and/or merchants in a manner that is similar to spending paper money or coins. Depending on the particular system adopted by the vendor, stored value cards can operate more like debit cards or more like the functional equivalent of electronic cash.
The OCC formally describes the concept of “electronic cash” (“E-Cash”) as
stored value represented by a digital computer code that consumers use for payments processed through a computerized financial network. A consumer executes these payments using a stored value card in conjunction with a personal computer, an automatic teller machine (ATM), a television cable connection, an enhanced telephone, or some other form of telecommunications equipment. When the consumer spends electronic cash with a merchant, the point of sale (POS) device “collects” the appropriate amount for the merchant, deducting electronic cash from the stored value card. The merchant then can redeem the accumulated electronic cash from the POS device for currency or a credit to a deposit account.
A distinction should be drawn between “debit transactions” and true “E-Cash transactions.” While debit transactions may be processed electronically, there are different regulatory issues between the two transactions. The distinctions are made through the OCC’s respective descriptions of debit cards, smart cards and stored value cards. The following descriptions are taken directly from OCC 96-48.
A. Debit Card
A debit card is used to access an account, in order to withdraw or transfer funds from or to existing accounts. Consumers accomplish these withdrawals or transfers either through ATMs or POS devices. Although these cards have magnetic stripes that contain account information, there is no value stored directly on the card as is the case with stored value cards. The distinction between debit and stored value cards, as noted above, can be fuzzy depending on the system adopted by the vendor; moreover, it should be noted that some systems will offer multifunction cards that can enable a consumer to perform payments by electronic cash, by debit or by drawing on a credit line.
B. Smart Card
A smart card is a plastic card with an embedded computer chip that looks like a credit card. Smart cards may be used as stored value cards. Depending on the capacity of the integrated circuit, the smart card may hold limited information, or may have the ability to perform more complex computing functions. For stored value smart cards, an electronic device is used to read the existing value of electronic cash and to load (add) or deduct electronic cash stored on computer chip. Smart cards, functioning as stored value cards, can operate within existing and future technologies for example, retro-fitted ATMs, augmented telephones such as screen phones and smart phones, electronic purses (stand alone dedicated devices), or PCs.
C. Stored Value Card
Stored value cards may be disposable or reloadable. Disposable cards store a one-time fixed amount of electronic cash. Reloadable cards generally store electronic cash on a computer chip and interface with special loading devices that allow a consumer to load electronic cash on the card. Each system could have specific features such as limits on the amount of electronic cash that can be stored or cards that expire after some established time period.
Finally, stored value card systems may be loosely characterized as either “closed” or “open” systems. In a pure closed system, the stored value card is accepted only by a single merchant or entity. Among other functions, closed store value card systems are used to pay for public transportation and telephone calls. The issuer distributes the cards to customers of a single merchant and redeems all payments. In contrast, an open system may have one or more electronic cash issuers of stored value cards that are accepted by multiple merchants. These systems require a valid payment systems network for collecting and processing the electronic cash payments received by merchants.
In one respect, most stored value card systems, whether open or closed, function like bank debit or credit card systems; the electronic cash can only be “spent” with a merchant and must be presented to the issuer for redemption. However, some more complex stored value card systems permit transfer of electronic cash from one storage device to another without restrictions. These are called purse-to-purse systems because the electronic cash can move from one consumer electronic purse to another. In such systems, the electronic cash is allowed to circulate for an indefinite period before it is presented back to the issuer for redemption.
III. ROLES PLAYED BY BANKS AND RISKS ASSOCIATED WITH STORED VALUE SYSTEMS
As with other financial products offered by banks, there are several roles and accompanying risks that present themselves to banks in regard to investing or participating in stored value card systems. The bank may be either an investor or noninvestor participant. By creating E-Cash, the bank becomes an issuing bank and may further perform as a distributor or redeemer of E-Cash when it sells such cards or converts the stored value into currency or deposit account. If the stored value system requires transaction authorization, the bank may play the role of the transaction authorizer and if the E-Cash issued by one bank is accepted by another who contracts with another bank or banks, then the banks may perform clearinghouse functions. In order to prevent losses due to error, fraud or counterfeit, the bank or its agent may also support a transaction archive.
In these various roles, it is clear that rules of conduct will vary by contract. It is important that agreements entered into between banks and their customers clearly define transactional rules and responsibilities. An essential part of the process is to identify the risks involved and address the resolution of such risks within the contracts themselves. Consumer education, information and disclosure should be also be considered a key factor in attempts to minimize risk exposure. OCC 96-48encourages basic consumer disclosures and specifically lists the following items:
The Appendix to OCC 96-48 describes the general risks that a bank may be exposed to when involved in stored value systems. The eight specific categories discussed in this Appendix are transaction, strategic, reputation, compliance, credit, liquidity, interest rate and foreign exchange risks.
The OCC 96-48 Guidelines also identify and discuss risks in specific functions and roles which are summarized briefly, as follows:
IV. CONCLUSION
The current regulatory environment has not yet adjusted to the innovations presented by the evolving and ever changing world of E-Cash and “cyberspace banking.” There are many unresolved issues, such as whether consumer protections laws and regulations, including Regulation E, are applicable to stored value card systems. It is unclear how the Bank Secrecy Act applies to E-Cash and how state money transmitter laws or state unclaimed property laws apply to stored value cards. The rights and liabilities of consumers in cases that involve issuer insolvency or fraud or lost or stolen cards has not been satisfactorily addressed by law or regulation. State and federal laws regarding collection remedies, such as the use of liens, levies, set-off rights or garnishment procedures, are questionable as to their applicability to stored value systems. At present, without clear legal or regulatory guidance, both banks and consumers assume uncertainties and risks.
If history serves as a guide, the innovations of the marketplace, in responding to consumer demand and convenience, will be followed by predictable market practices and customs. Bankers should remain attuned to the marketplace and its practices, actively control risk, curb perceived or real abuses, and assume a positive role as policymakers attempt to address the legal and regulatory framework upon which electronic cash and electronic banking will operate.