Can new rules curb prepaid card fees?

This post comes from Quentin Fottrell at partner site SmartMoney.

If federal regulators limit the charges levied on prepaid debit card users, banking officials say the industry will likely just invent new fees.

The Consumer Financial Protection Bureau Wednesday announced plans to develop new protections for the prepaid cards, which allow those who don't have bank accounts to make purchases or ATM withdrawals. The agency says the regulations would aim to rein in fees by making them more transparent and help consumers to recover stolen funds.

"Prepaid cards have far fewer regulatory protections than bank accounts or debit or credit cards," bureau director Richard Cordray said in a statement.

But the banking industry says these regulatory efforts could backfire. Nessa Feddis, vice-president and senior counsel for regulatory compliance at the American Bankers Association, says that whenever government "interferes with the market" and cuts fees, banks need to look for alternative sources of income.

For instance, after the 50% reduction in debit-card surcharges for merchants, banks turned to inactivity fees, charges for paper statements, and higher punitive fees for bounced checks to make up their losses, consumer advocates say. And when regulations cut bank overdraft fees by 4.5% in 2011, economic research firm Moebs Services Inc. says banks raised other fees more than 5%. (Post continues below.)

Tougher regulations and caps on fees often simply result in more creative charges, says John Ulzheimer, president of consumer education at SmartCredit.com. "I'm certain that the industry will subsidize any new legislation by increasing existing fees or adding new fees and then blame it on new legislation," he says.

But critics of the cards add that new regulations are an important first step toward better protecting prepaid card holders. The current lack of oversight has made prepaid cards "the Wild West of the card market," says Ed Mierzwinski, consumer program director for the nonprofit U.S. Public Interest Research Group: Some cards have a "fair fee structure," he says, while others have "outrageous fees" for adding funds, making purchases or withdrawals, and even just for owning the card.

Jean Ann Fox, director of financial services for the Consumer Federation of America, says government regulators should target overdraft fees and credit allowances. "We oppose both as unsafe for prepaid card users," she says.

Prepaid cards should not become credit cards with fewer protections, she says. They need to have the same protections that apply to debit cards, including liability limits and insurance provided by the Federal Deposit Insurance Corporation, Fox says.

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Despite high fees, prepaid cards continue to rise in popularity: Consumers are projected to add $82 billion onto these cards in 2012, a figure that's expected to double to $167 billion by 2014, according to estimates by the Consumer Financial Protection Bureau. The cards are increasingly pitched at younger consumers with poor financial literacy, experts say, with many of them endorsed by celebrities.

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