Interchange Fee Regulation (IFR) and PSD2 - Two important judgments from the Court of Justice of the European Union (CJEU)

On 7 February 2018, the CJEU handed down two important judgments interpreting the EU Interchange Fee Regulation (IFR) and PSD2. More precisely, in one judgment the CJEU confirmed the applicability of the IFR interchange fee (IF) caps to three-party scheme (3PS) cards/transactions that involve an "agent" or a "co-branding partner"; and in the other provided clarity on the extent to which 3PS (such as American Express (Amex), for example) are subject to Article 35 PSD2 on "access to payment systems". We provide below a short summary and analysis of these two important judgments.

The IFR Judgment

When the European Commission (EC) proposed the draft IFR in July 2013, it proposed the imposition of IF caps not only on consumers cards bearing the logo of the traditional four-party schemes (4PS) such as Visa, Mastercard and the domestic debit card schemes that exist in a few EU countries1, but also on any 3PS consumer card where the 3PS scheme "licenses other payment service providers for the issuance of card-based payment instruments or the acquiring of card-based payment transactions, or both". By this inclusion, the EC sought to ensure a level-playing field between traditional 4PS and 3PS operating de facto as 4PS, such as, for example, the Amex "GNS" model under which Amex relies on third party players to issue the cards to consumers (and sometimes to acquire transactions at merchants). The objective was to ensure that card issuers would not be financially incentivised by uncapped IF to issue 3PS cards instead of traditional 4PS ones.

During the IFR adoption process, two other concepts were added: the concept of "agent" and the concept of "co-branding partner".

  1. The concept of "agent" was added after the EU legislator realised that some of the third parties that 3PS were relying upon to make a 3PS card available to consumers were not technically "licensees" of the 3PS (issuing the card in their own name but under the 3PS brand), but instead were merely "agents" of the 3PS (with the card legally being issued by the 3PS to the consumer, but the agent nonetheless collecting a remuneration that economically was the equivalent of an IF).
  2. The concept of "co-branding partner" was added in order to capture arrangements entered into by 3PS with non-payment service providers (PSPs) – typically merchants such as airlines or supermarket groups – where there is marketing of the card by the non-PSP and a flow of remuneration towards it, even though it is not the card issuer. Again the intention was to ensure a level-playing field between 3PS cards using this approach and traditional 4PS cards.

After these additions, the relevant section of the final text of the IFR reads as follows:

"When a three party payment card scheme licenses other payment service providers for the issuance of card-based payment instruments or the acquiring of card-based payment transactions, or both, or issues card-based payment instruments with a co-branding partner or through an agent, it is considered to be a four party payment card scheme."2

Before turning to the legal challenge that Amex introduced in the UK and EU courts, it is worth noting that the above article can be interpreted in two different ways – something that was not addressed in the legal proceedings. In particular, it can be read as saying either:

  1. Intepretation 1: that if a 3PS operates with a licensee, agent or co-branding partner, then transactions involving that third party player are subject to IF caps in the same way as are 4PS transactions – but "pure" 3PS transactions (i.e. transactions where the 3PS is the issuer and acquirer , as well as the scheme, and those third party players are not involved) remain exempt;
  2. Intepretation 2: that if a 3PS operates any transactions with a licensee, agent or co-branding partner, then all of its transactions – including those which have no connection with any licensee, agent or co-branding partner – are subject to IF caps. This means that the financial flows between the acquiring arm of the 3PS and its issuing arm would be subject to the IF caps which, without an accounting separation in place, may be quite difficult to monitor.

It is fair to say that the first interpretation is probably what the EU legislators had in mind when they adopted the IFR, and it is the way in which national regulators seem to understand the IFR (e.g. the UK Payment Systems Regulator (PSR)'s Guidance on the IFR, paragraph 2.18: "The interchange fee caps do not apply to transactions where the scheme is both the card‑issuer and the acquirer"). However, the second interpretation is actually a more natural reading of the text. In the rest of this article, we use interpretation 1 as our working assumption.

Now returning to the Amex court proceedings, these were initiated in the London High Court in relation to the concept of an agent and co-branding partner, and the High Court referred the issues to the CJEU for interpretation. Amex's argumentation was that the IF caps should only be applicable when the agent or the co-branding partner was the issuer-of-record of the card (i.e. the issuing PSP). If instead the issuer-of-record of the card was someone else than that agent or the co-branding (e.g. the 3PS itself acting at the issuer-of-record of the card), the IF caps should not apply.

In typical arrangements, agents and co-branding partners are in practice never the issuer-of-record of the cards (this normally being the 3PS), and therefore Amex's argument, if successful, would effectively have amounted to having the references to agent and co-branding partner de facto removed from the text of the IFR. Therefore, national regulators would not have had the power to scrutinise financial arrangements under 3PS involving an agent or a co-branding partner.

The CJEU rejected Amex's interpretation and concluded that the IF caps should apply to all 3PS cards/transactions involving an agent (e.g. a bank interacting with a consumer to place a 3PS card in the consumer's wallet) or a co-branding partner (e.g. an airline), irrespective of the identity of the card issuer (i.e. even if the card issuer is the 3PS itself).

Some of the consequences of the CJEU judgment include the following:

  • National regulators in charge of enforcing the IFR are allowed to scrutinise 3PS consumer cards involving an agent or a co-branding partner even if the 3PS is the issuer-of-record, for example by asking if an IF is paid in relation to transactions using such card and, if so, if it is capped at the maximum allowed by the IFR (i.e. 30 bps on a consumer credit card), or is there a circumvention of the IF caps in violation of Article 5 IFR, etc.
  • Given that IF caps have applied since December 2015, any 3PS arrangement now determined to have fallen within their scope should arguably be reviewed to determine whether there are any amounts paid under it which may have caused the caps to be exceeded. If so, in principle, an obligation arises to refund excessive IF that may have been collected.
  • It is not clear whether any national regulator may fine any 3PS and/or agent or co-branding partner for exceeding any IF cap in the period up to the time of the CJEU's judgment, or whether a more lenient approach will be taken if it is accepted that the legal position was previously uncertain.
  • Since 2012, merchants have been suing Mastercard and Visa for damages on the basis that allegedly excessive amounts of IF would have been passed on to those merchants through inflated merchant service charges (MSCs). More recently, a consumer class action was launched in the UK against Mastercard on the basis of allegedly excessive IF being passed on to consumers in the form of higher retail prices. To the extent that excessive IF caps would have been paid since December 2015 on 3PS transactions involving an agent or a co-branding partner, and those allegedly excessive IF would have been passed on to merchants and ultimately consumers, those merchants and consumers might be able to sue for damages to recoup the alleged overcharge.
  • Could 4PS cards issuers and/or traditional 4PS take proceedings against a 3PS that has paid excessive interchange fees since December 2015 if that practice by the 3PS has resulted in a loss of revenue for that 4PS issuer and/or that 4PS (e.g. on the basis that the agent or the co-branding partner would have partnered with them, rather than the 3PS, if the IF caps had been complied with)?
  • The CJEU also clarified that as soon as a 3PS contracts with one or more licensee, agent or co-branding partner, it becomes subject to the requirement in Article 7 IFR to separate scheme operations from processing operations. Although not entirely clear, the CJEU seems to be taking the view that it is not only those cards/transactions involving a licensee, agent or co-branding partner that would be subject to the separation requirement, but all the transactions handled by that 3PS, including the transactions that are "pure" 3PS transactions – i.e. the CJEU seems to apply Interpretation 2 above as far as separation of scheme and processing is concerned.

All these questions will now need to be analysed by the various stakeholders.

The PSD2 Judgment

PSD1 subjected traditional 4PS to an "access" requirement, meaning that those schemes had to grant licenses to PSPs to issue cards and/or acquire transactions on "objective, non-discriminatory and proportionate" conditions3. 3PS were not subject to this access requirement4, meaning that a 3PS was free to decide which, if any, third party PSPs would be allowed to participate in any part of its scheme. For example, it allowed a 3PS to decide to operate in way which was quite similar to a 4PS in some EU countries (e.g. by working with one or more other PSPs), while operating in a purely closed manner in others.

In PSD2, the EU legislator decided to subject 3PS to the same "access to payment systems" requirement as 4PS, except for "payment systems composed exclusively of payment service providers belonging to a group"5. Recital 52 sought to provide more clarity on when a 3PS should not be considered as "composed exclusively of PSPs belonging to a group" by referring to the same concepts of licensee, agent and co-branding partner as in the IFR: "Such systems include three-party schemes, such as three-party card schemes, to the extent that they never operate as de facto four-party card schemes, for example by relying upon licensees, agents or co-brand partners".

Amex sought to persuade the CJEU to rule that even when a 3PS relies upon agents and/or co-branding partners, it nonetheless remains "composed exclusively of payment service providers belonging to a group", and so exempt from the access requirement (Amex did not raise the same challenge in relation to situations where a 3PS works with one or more licensees).

As regards agents, the CJEU disagreed with Amex, concluding that as soon as a 3PS works with one or more "agents", it no longer qualifies as a scheme "composed exclusively of payment service providers belonging to a group" and is therefore subject to the access requirement.

As regards co-branding partners, the CJEU agreed in part with Amex's argument. The CJEU stated that a 3PS working with a co-branding partner is "composed exclusively of payment service providers belonging to a group" (and therefore not subject to the access requirement) as long as the co-branding partner is not a PSP. However if the co-branding partner is a PSP, then the 3PS is subject to the access requirement (the ECJ added "even though that partner does not itself provide, within the framework of that agreement, any payment service with respect to the co-branded products"6).

The practical consequence of the judgment is that as soon as 3PS operates with at least one licensee or agent or co-branding partner regulated as a PSP, that scheme becomes subject to the access requirement, and therefore is required to give access to its scheme to PSPs on "objective, non-discriminatory and proportionate" conditions.

This judgment confirms that PSPs have the following rights:

  • The right to issue cards bearing the logo of a 3PS, albeit with regulated IF revenue applicable to such cards. Perhaps this IF limitation makes such issuance less desirable compared to the issuance of traditional 4PS cards given that 3PS typically have a smaller merchant acceptance footprint?
  • The right to acquire transactions under that 3PS, thereby allowing an acquirer to offer a "one stop shop" to its merchants (i.e. acquiring their traditional 4PS transactions, but also their 3PS transactions). That acquirer should pay regulated levels of the IF on those transactions pursuant to the IFR if acting as licensee of the 3PS (i.e. 30 bps on a consumer credit card), and therefore should be able to undercut the MSC that the 3PS typically charges to merchants. Faced with such price competition against its acquiring business, the 3PS could be expected to reduce the level of the MSC that its charges to merchants. That reduction of its MSC revenue (acquiring side) combined with the reduced IF revenue on those transactions (issuing side) may be expected to reduce the ability of the 3PS to offer points, rewards, miles and other benefits on the card.
  • The PSD2 access requirement should be read in conjunction with Article 6 IFR which provides that "Any territorial restrictions within the Union or rules with an equivalent effect in licensing agreements or in payment card scheme rules for issuing payment cards or acquiring card-based payment transactions shall be prohibited". In other words, a PSP (e.g. an acquirer) permitted to acquire 3PS transactions in one EU Member State should also be allowed to acquire those transactions in other EU Member States.

Note that on this issue of 3PS being subject to the PSD2 access requirement, the CJEU is taking the view that, as soon as it works with an agent or a co-branding partner that is regulated as a PSP (or, of course, with a licensee), the 3PS as a whole is subject to the access requirement. As mentioned above, the CJEU seems to be taking the same view in relation to Article 7 IFR (i.e. as soon as a 3PS works with a licensee, an agent or a co-branding partner, the 3PS as a whole is subject to the separation of scheme and processing). This therefore begs again the question whether, for consistency sake, as far as IF caps are concerned, Interpretation 2 above would not be more logical/consistent than Interpretation 1?

All of the views expressed by the author in this article are his own independent views. They do not necessarily represent the views of clients of Bird & Bird. The author is grateful to Trystan Tether (Bird & Bird, London) for his comments on a draft version of this article.

1 Cartes Bancaires in France, girocard or ec-cash in Germany, Pagobancomat in Italy, Multibanco in Portugal, Dankort in Denmark, BankAxept in Norway, etc.
2 Article 1(5) IFR. The same wording appears in Article 2(18) IFR.
3 Article 28 PSD1.
4 See Article 28(2)(c) PSD1 and recital 17 PSD1.
5 Article 35(2)(b) PSD2.
6 Para. 64 of the judgment.

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