Bucks Blog: Prepaid Cards May Lack Protections of Checking Accounts

Although they are becoming more popular as an alternative to traditional checking accounts, reloadable prepaid cards don’t have to carry federal deposit insurance, as checking accounts do, says a new report from a project of the Pew Charitable Trusts.

The cards are becoming more widely used because holders can use them for direct deposit of their paychecks and to pay bills, just as customers can do with a checking account. Americans are expected to load more than $200 billion onto general use prepaid cards this year, according to the report from Pew’s Prepaid Cards Research Project.

But checking accounts carry up to $250,000 in mandatory deposit insurance per customer through the Federal Deposit Insurance Corporation. The insurance is quickly available to customers in the event of a bank failure.

Most prepaid cards say they offer “pass through” deposit insurance, by pooling funds in federally insured, third-party bank accounts. But at least one company — American Express — does not, the report found.

Rather, American Express prepaid cards operate under state “money transmitter” laws. Those laws vary by state but generally require companies to be licensed and to post a surety bond to cover cardholder losses, if the card issuer goes under.  Most states further require that the companies hold high-grade investments to back the money in customer accounts.

But some states, like Alabama, only require a surety bond, and the maximum bond in that state is $50,000. So if an issuer were to default, the $50,000 could be the total amount available  to cover all claims, the report says. Three states — Montana, New Mexico and South Carolina — don’t require a license, a surety bond or investments of any kind, the report says.

Further, states vary in the amount their oversight of companies licensed under the money transmitter laws, and many lack streamlined processes to pay out funds in the event a card issuer were to file for bankruptcy protection. That might mean consumers would have to wait for months, or longer, to access money, in the event of a card issuer bankruptcy.

The report notes that American Express currently holds almost $20 billion in cash and appears “well-positioned” to prevent consumer losses in the prepaid card business. “But this does not mean it will always have such a surplus,” the report says. “Nor is there guarantee that any other company that avoids the use of F.D.I.C. insurance by taking deposits as a money transmitter will safely hold consumer funds.”

In an e-mail, an American Express spokeswoman, Vanessa McCutchen, said the company’s prepaid cards were backed by American Express Travel Related Services Company Inc., which has a  long history of issuing payment products. “Our prepaid cards are also issued pursuant to comprehensive state money transmitter regulations,” she said. “These regulations require that American Express hold assets to back up 100 percent of all funds in accounts at all times.”

In a follow-up message, Ms. McCutchen noted that laws do vary by state. For instance, she said, some states require the company to have money in reserves for every dollar loaded onto an account — not just in that state, but in any state where it does business. “Consumers can rest assured that we hold assets to back up 100 percent of all funds in prepaid card accounts at all times,” she said.

The report urges federal regulators to make sure funds held by consumers on prepaid cards are consistently protected. “Policy makers should establish a level playing field for all deposit products that protects consumers rather than allowing companies to choose less-stringent regulations,” the report concludes.

Do you use reloadable prepaid cards? Does uncertainty about deposit insurance concern you?

Article source: http://bucks.blogs.nytimes.com/2013/03/12/prepaid-cards-may-lack-protections-of-checking-accounts/?partner=rss&emc=rss