Major Merchant Backing, with Rewards, Helps Fuel Surge in ACH-Based Debit

An obscure transaction code used by the automated clearing house network for debit card payments is surging as major merchants adopt the payment method and offer significant rewards to customers who use it.

The POS code, which refers to ACH debit entries initiated at an electronic terminal, accounted for 4.59 million transactions in December, according to numbers compiled by Gary Nesbitt, senior vice president at EastPay, a regional ACH association based in Richmond. Va. Nesbitt’s numbers come from the Federal Reserve, which, as one of two ACH operators, handles 57% of network volume. POS volume has nearly doubled from the 2.33 million transactions recorded in December 2009 and is up 25% from 3.68 million in December 2010, according to Nesbitt’s figures, which he presented last week at a conference in Baltimore sponsored by NACHA, the rules-setting body for the ACH.

Unlike debit cards branded by Visa Inc. or MasterCard Inc. and issued by banks, many debit cards that work on the ACH are issued by retailers as loyalty cards. Such cards have been around for at least a couple of decades, but in recent years merchant interest in them heightened as the cost of bank-issued debit steadily climbed. The cost to merchants for an ACH POS debit ranges from a nickel to 7 cents per transaction, according to Paul Tomasofsky, president of Two Sparrows Consulting LLC, Montvale, N.J. That compares with 24 to 27 cents for a transaction on a card issued by a bank regulated by the Durbin Amendment’s interchange cap or 35 cents to 50 cents on a card from an unregulated bank, he estimates, adding in acquirer fees.

Such economics have helped attract some major retail brands, such as Nordstrom Inc., Shell Oil Co., and Target Corp. But it is the Target card that may have done the most to account for the recent surge in POS volume, says Tomasofsky, who spoke with Nesbitt. The Minneapolis-based chain, which introduced its debit card in 2007 as the Target Check Card, rechristened the product in 2010 as the Redcard Debit Card and began offering cardholders a hefty 5% off on transactions as a standard discount. Target offers the same discount on two other Redcards, a proprietary credit card and a Visa credit card. Similarly, Shell offers 2 cents off per gallon of gas or diesel fuel on its debit product, the Shell Saver Card, and Nordstrom extends rewards points and extra services to holder of its debit card.

Besides dramatically lower costs, merchants are also attracted to the idea of being able to control rewards and other loyalty features on the cards. “There’s no financial institution associated with that, the consumer’s loyalty is with Target,” Tomasofky said during the conference session. Target would not disclose statistics related to the Redcard Debit Card.

The increasing popularity of ACH-based debit cards comes after years in which the cards languished in obscurity and were confined chiefly to the grocery industry, where supermarkets, operating on razor-thin margins, used them to help control payment costs. Despite their low acceptance costs, the cards come with some significant drawbacks that put off many merchants. Chief among these are that POS transactions, like other ACH transactions, are not guaranteed payments. This contrasts with PIN-based debit cards offered by banks on the major-brand networks. “This is one reason we saw very little transaction volume in the early days once [bank-issued] debit cards came along,” Nesbitt said.

Another drawback is that POS debits can require extra training for bank and merchant staff who are accustomed to dealing with bank-issued debit cards. “There’s cardholder confusion about what the product is doing, and there’s back-office and training costs,” Tomasofsky said.

But the POS code enjoyed a short-lived renaissance several years ago when a few banks, notably Capital One Financial Corp., introduced so-called decoupled debit cards. These cards drew on funds held by the cardholder at another bank, using the ACH for settlement. Cap One soon shelved its decoupled product, and later Federal Reserve regulations implementing the Durbin Amendment targeted the product, effectively ending bank interest in the concept. Now, it appears to be major retailers that can draw on loyalty databases that are lending impetus to the POS code.

Indeed, for merchants that can track a customer through a loyalty program, and that know that customer has never had a check bounce for insufficient funds, “this would be a great product,” Tomasofsky said. “Why pay 50 cents for a guaranteed transaction every time in cases like that?”