Special Report:
Prepaid Cards’ Ever-Expanding Universe
Peter Lucas
Gift, payroll, and health-savings account cards represent a tide of potential new transaction volume. And the good news is
that much of that volume will come at the expense of King Cash.
It’s a big world out there when it comes to payments, and by some measures card issuers and merchant acquirers have only begun
to scratch the surface, despite the ubiquity of the established credit card brands. Gift cards, payroll cards, and health-savings
accounts represent a potential gold mine of new volume, possibly more than $1 trillion in the next decade that can be pulled from
cash, checks, and even money orders.
That’s good news for processors, acquirers, and card issuers, many of which have been using acquisitions in recent years to add
market share. “After consolidation, the only real growth opportunity left is to displace cash, checks, and money orders,” says Dennis
Moroney, senior analyst at Needham, Mass.-based TowerGroup Inc. “The Baby Boomers are moderating their use of credit, and the
generations behind them are more debit-oriented. Going after cash transactions makes more sense.”
Currently, about 22% of the 240 billion payment transactions generated annually in the United States are conducted electronically,
according to Metavante Corp.’s NYCE electronic funds transfer network. Those transactions include credit, debit, prepaid, and
automated clearing house e-checks.
“There is a growing demand for the electronification of more types of transactions,” says Steve Rathgaber, NYCE president.
Rathgaber adds that research has shown consumers in the 18-to-34 age bracket prefer to pay with some type of debit product. “This
trend will only continue to move upstream through the demographic segments,” he says.
That bodes well for increasing volume through gift cards, payroll cards, and health-savings accounts. The first two essentially are
modified debit cards that draw off an existing balance. Fueling the prepaid card craze has been the explosion in gift cards, which generated
$50 billion in spending in 2005, according to Mercator Advisory Group Inc.
Even more telling is a survey conducted by First Data Prepaid Services of 1,003 adults. Released in 2005, the survey revealed
that 50% of respondents said they preferred to give a gift card over cash. “There is tremendous potential for growth in the gift card
market, especially as it pushes down into small merchants,” says Ariana Michele-Moore, a senior analyst for Boston-based
consultancy Celent LLC.
Payroll cards, meanwhile, offer a wealth of opportunity to capture more transactions from workers without bank accounts, the socalled unbanked. That figure totals between 30 million and 50 million consumers primarily oriented toward using cash for purchases,
with the exception of buying the occasional gift card or other stored-value card.
Employers pay out more than $200 billion in checks to unbanked workers, who then cash their checks, for a fee, and use the money
to pay bills, make purchases and send money orders to relatives outside the country.
Finally, health-savings accounts (HSAs), which were created to enable employees with high-deductible medical-insurance
plans to fund their deductibles on a pre-tax basis, represent a major source of new volume. With the first wave of Baby Boomers
entering their 60s, health-care costs are projected to skyrocket as they age further. Many Boomers already are using HSAs to save
for medical costs in retirement, but some experts predict the real tide of new volume will co me as younger workers with children
open HSAs. These workers are more likely to spend more than the $5,000 the federal government allows families to put into
HSAs annually.
And other health accounts, such as flexible-spending accounts, won’t be far behind. “HSAs are coming into vogue, as are other
types of health-care payment cards, and it won’t be long before the multi-purpose health-care spending card becomes more common,”
says Matt Lanford, MasterCard Worldwide’s vice president for prepaid health-care cards.
Here’s a more detailed look at these three rising stored-value markets.
Sizzling Gift Cards Lead Prepaid’s Assault on Cash
Despite the volume being generated by credit and debit cards, cash still remains the king of payments. Consumers make $3 tril lion
in annual cash purchases, according to Needham, Mass.-based research and consulting firm TowerGroup Inc., an editorially
independent subsidiary of MasterCard Worldwide. That’s $1 trillion-plus more than is spent on credit and signature-based debit
cards combined.
At the same time, debit card growth has begun to cannibalize credit transactions, and many credit card holders are shifting their
balances from card accounts to lower-interest-rate loans, such as home-equity loans, leaving issuers with slightly riskier portfolios.
Cash-oriented markets thus remain the best option to grow card-based transaction volume. “Cash is the plum, there is no doubt
about it,” says Dennis Moroney, senior analyst, bank cards, at TowerGroup. “The best opportunity to get cash transactions onto
cards is through prepaid cards.”
Consumers have already shown a penchant for gift cards and prepaid cash cards, the latter of which are extremely popular among
Hispanic and Asian workers who send money to relatives in their native countries. Factor in the use of prepaid telephone cards and
gasoline cards and the idea of expanding the reach of prepaid cards to take a big bite of the $3 trillion in cash expenditures may not be
such a stretch. “Within 10 years, prepaid cards can represent $700 [billion] to $800 billion in volume,” predicts Moroney.
Gift cards represent the ripest opportunity for growth. Since their appearance in the mid- and late-1990s, these cards have largely
displaced the cumbersome paper gift certificate.
Gift Cards Boom
($ figures in billions)
Closed-loop gift card spending, 2005:
$50.0
General-purpose gift
card spending:
2005
2004
Change
$14.1
$4.1
244%
% of adults who bought or received
a gift card:
2005
2001
59
23
Source: Mercator Advisory Group, First Data Corp.
Spending on store-issued or closed-loop gift cards totaled about $50 billion in 2005, according to Mercator Advisory Group Inc., a
Waltham, Mass.-based research and consulting firm (chart). The average spend per card was $228, according First Data Prepaid
Services, a unit of Greenwood Village, Colo.-based processor First Data Corp. A First Data survey of 1,003 adults released in 2005
revealed nearly six out of 10 respondents, or 59%, either purchased or received a gift card in the previous 12 months, up 23% from 2001.
Spending on open-loop prepaid cards issued on the American Express, Discover, MasterCard, and Visa networks totaled $14.1
billion in 2005, up from $4.1 billion in 2004, according to Mercator.
As the popularity of gift cards soars, consumers are using their cards in more places than just traditional stores. Quick-service
restaurants, supermarkets, and entertainment-related merchants are popular shopping destinations for gift card holders. In some of these
new markets, private-label cards also are competing quite well with the new general-purpose models.
One of the more intriguing opportunities for prepaid cards is a tie-in with entertainers and entertainment companies. Sioux Falls, S.D.based Meta Payments Systems, a unit of Storm Lake, Iowa-based bank-holding company Meta Financial Group, is quietly carving out a
leadership position in this segment. Meta Payments and affiliate Meta Bank have issued several gift and related prepaid cards branded
with a celebrity’s name, such as the Carmen Electra gift card and cards for personal spending.
In January, Meta partnered with Payment Data Systems Inc., a San Antonio, Texas-based payment-services provider, to develop and
issue a series of prepaid celebrity, gift, and personal-spending cards. In September, Meta teamed with the Simon Property Group Inc.,
an Indianapolis-based operator of 159 shopping malls nationwide, and the Susan G. Komen Breast Cancer Foundation to issue the
Simon Pink Ribbon Giftcard. For every purchase made with the Visa-branded card, Simon Property will pay $1 to the Susan G. Komen
Breast Cancer Foundation to support the fight against breast cancer. The card will be sold at Simon-operated malls.
Meta also has partnered with Austin, Texas-based NetSpend Corp., marketer of the All-Access reloadable, prepaid Visa or MasterCard card. The agreement calls for Meta to issue the All-Access card, which is targeted primarily at the unbanked. Cardholders
can load up to $10,000 onto the All-Access card. Funds are federally insured and can be accessed using an ATM. Meta Payments did
not respond to repeated requests for interviews.
“Meta Payments is a rising star in the prepaid card market,” says Moroney, who adds that Meta even is working with MasterCard
on prepaid initiatives. “They are on their way to becoming a leader in the market.”
Another rising star is the Pleasanton, Calif.-based Blackhawk Network, a subsidiary of supermarket giant Safeway Inc. Blackhawk
sponsors prepaid and gift cards and operates a payments network for more than 60,000 merchant locations that serve 135 million
customers per week. Blackhawk targets supermarkets, mass-market merchants, convenience stores, drug stores, and specialty retailers.
In October, Blackhawk finalized a deal to acquire San Diego-based technology provider EWI Holdings Inc. EWI’s PayGo
platform provides a single transaction-processing platform that resides on the merchant’s point-of-sale system. Blackhawk says the
EWI acquisition will provide the infrastructure needed to create better prepaid card services for merchants. In addition, the new
owner expects the EWI platform will enable Blackhawk to expand the acceptance of its cards over more transaction networks and
bring new products to market faster.
‘Emerging Market’
Beyond gift cards, money-transfer cards represent another opportunity to generate significant volume, especially among immigrants,
30% of whom send money back to their native countries, according to Moroney. In September, Pennington, N.J.-based American Cash
Exchange Inc., which provides payment services for the international market, announced that OXXO, Mexico’s largest conveniencestore chain with 4,630 stores, will carry its Poni card, a prepaid money-transfer card for the unbanked. The card can be loaded with up
to 3,000 pesos ($280). Cardholders enter a single-use PIN at an ATM to access the funds.
The deal provides OXXO with a larger distribution channel in Mexico. Poni card recipients also can send and receive money
transfers through OXXO stores. Each time funds are loaded onto the card, the cardholder receives a single-use PIN. American Cash
Exchange absorbs any foreign fee the cardholder incurs from the ATM owner while accessing funds.
“Prepaid cards for the non-banked are an emerging market that needs time and education to really open up,” says Ariana MicheleMoore, a senior analyst for Celent LLC, a Boston-based market-research and consulting firm. “But overall, consumers are realizing the
benefits and convenience of prepaid cards, which is why they have big growth potential.”
The Fertile Field of HSAs
After more than a decade of struggling to capture a substantial share of the nearly $250 billion consumers spend annually in out-ofpocket health-care expenses, payment card issuers and merchant acquirers say they are in a position to cash in on a fast-growing sector.
The move by employers, which are wrestling with fast-rising premiums for employee medical benefits, to reduce their costs by
offering high-deductible health-care plans and the subsequent creation of tax-advantaged health-savings accounts (HSA) in 2003 to pay
for out-of-pocket medical expenses has pushed the door wide open to this market.
The potential transaction volume available to acquirers and issuers is staggering. The U.S. Department of Health and Human
Services expects out-of-pocket medical expenditures this year to total $246.2 billion of the $2.1 trillion in consumer health-related
spending. By 2010, the government forecasts consumer out-of-pocket health-care spending at $316.3 billion and in 2015 it could hit
$421 billion of the expected $4 trillion in total medical spending.
“HSAs represent a huge and attractive market for financial institutions,” says Brian Riley, senior research analyst, bank cards, for
Needham, Mass.-based TowerGroup Inc., an editorially independent research and consulting subsidiary of MasterCard Worldwide. “There is
going to be a steady stream of volume through these accounts that will grow as more employers switch to high-deductible health-care plans.”
Given where the cards will be used, financial institutions and processors have mostly decided to ride the ready-made rails of the
Visa and MasterCard networks, which have a more than a 90% acceptance rate at practices with five or more doctors, rather than build
proprietary networks with insurance carriers.
So far, major banks such as Bank of America Corp., JPMorgan Chase & Co., Fifth Third Bancorp, Mellon Financial Corp., Wells
Fargo & Co., and U.S. Bancorp have launched HSA cards. American Express Co. has also entered the game in conjunction with
WellChoice Inc., the parent company of Empire Blue Cross Blue Shield of New York. In an effort to differentiate its HealthPay Plus
card, AmEx is allowing cardholders to apply for a line of credit that can be accessed to pay for qualified medical expenses under HSA
guidelines. The card began rolling out this year.
“More banks want to play in the HSA market and we have banks approaching us about what they can do to get in,” says Robyn BartlettAndersen, vice president in First Data Corp.’s First Data Healthcare Products unit, which processes HSA transactions for Kansas City, Mo.based UMB Healthcare Services, a division of UMB Financial Corp. “We are also reaching out to HSA administrators to access our system
for account-balance tracking.”
The number of HSA cards today in force is relatively small, a little more than 1 million cards by some estimates. To put it in better
perspective, between 2% and 5% of the workforce has enrolled in HSAs, according to Jeff Munn, a principal in the Washington, D.C.
office of Hewitt Associates, a Lincolnshire, Ill.-based human-resources services firm. Hewitt foresees rapid near-term growth, however,
and by 2009 total funds in HSAs could triple to $35 billion.
By the end of the decade, medical-finance experts project 50% of HSA accountholders will be spenders, as opposed to savers.
Currently, more than half of all HSA accountholders roll over some or all of their funds annually. Account funds are deducted from
their paychecks on a pre-tax basis. In a recent survey of its HSA accountholders, Aetna Inc. found that 52% of its 18,000 HSA
accountholders rolled over their entire balance in 2005. The Hartford, Conn.-based insurance carrier launched its HealthFund HSA in
December 2003.
Consumers can contribute up to $2,700 for an individual HSA and $5,450 per family per calendar year. Health plans qualifying for
HSA status must have a deductible of at least $1,050 for an individual and $2,100 for a family. Contributions will be indexed annually
to adjust for inflation.
“A lot of early enrollees are people saving for health-care costs in retirement or unexpected major medical expenses,” says Munn.
“But as the market develops more employees that meet their deductible every year will set up an HSA and actively use the money in
that account.”
One factor slowing near-term adoption of HSAs is employee education about the programs. Although 30% to 35% of large employers
offer HSAs, according to Munn, many employees have yet to realize the tax benefits of high-deductible plans due to lack of education, or
they simply prefer to put off the decision to open an HSA.
“Switching a health-care plan is an emotional choice for people and most prefer to stick with what they know, even if they aren’t all
that happy with the plan,” says Munn. “It’s going to come down to education and employers mandating the switch to high-deductible
plans for HSA enrollment to really take off.”
To help consumers better manage their spending, MasterCard has enabled its network to transmit data to health-plan administrators
to identify qualifying HSA purchases at the stock-keeping unit (SKU) level. Such information is especially useful if an HSA cardholder
tries to make a purchase at a pharmacy for a non-qualifying item such as toothpaste.
Under Internal Revenue Service regulations, accountholders are responsible for tracking and submitting qualifying HSA
transactions for each tax year. The data are also being used to match items against IRS-approved purchases for flexible-spending
accounts (FSA), which employees fund each pay period and receive reimbursement for each qualifying purchase. Unlike HSA funds,
money in an FSA must be spent within 14.5 months of funding the account.
“The aim is to provide more data to substantiate the transaction for the plan administrator and the accountholder,” says Matt Lanford,
MasterCard vice president of global prepaid products. “This is a way to eliminate false declines on transactions and split out nonqualifying transactions.”
Despite the rosy forecast for rapid growth in HSA volume, issuers and acquirers do face speed bumps on their fast track to the
health-care payment market. Some observers question whether AmEx and other issuers can successfully attach credit lines to HSA
cards, as they originally were not intended to be credit vehicles.
“The aim of HSA accounts is to better manage health-care costs by shifting discretionary spending to the accountholder, not
giving them a line of credit to incur debt related to health-care expenses,” says Alenka Grealish, manager of the banking group for
Celent LLC, a Boston-based research and consulting firm. “Adding a line of credit to HSAs is entering uncharted waters and is
something regulators are going to watch closely.” AmEx executives were unavailable for comment.
And on the acquiring side, questions are being raised about whether HSA transactions will fall under the jurisdiction of HIPAA (the
Health Insurance Portability and Accountability Act), which was enacted in 1996 to ensure the privacy of medical data.
“The data-security controls mandated by HIPAA are far more stringent than those currently required by the payments industry,”
says TowerGroup’s Riley. “There is no playbook on this yet, which is often the case when the payments industry moves into a new
market.”
Still, this is not a market where competitors will stand still, so it looks like the playbook for HSA cards will have to written on-thego.
Payroll Cards: The Key to the Unbanked
Every year more than $200 billion is paid out in wages to the 30 million to 50 million employees without a checking or savings account—
the unbanked—according to MasterCard Worldwide. The unbanked pay 1.5% to 3% to cash a pay check, after which they use the cash to
pay the rent and utility bills, buy groceries, and even purchase money orders to send money to relatives out of the country.
It’s an expensive proposition for the consumer and one that earns check-cashing companies about $8 billion annually in fees,
according to The Center for Financial Services Innovation, a nonprofit affiliate of Chicago-based ShoreBank Corp.
Rather than let that volume continue to slip through their fingers, debit card issuers, processors, and card networks have begun
aggressively pushing into the payroll card market.
“Payroll distribution services provide a financial-services platform to the non-banked,” says Mark Herrington, president of
Money Network LLC, a Cordova, Tenn.-based provider of payroll card and related services. “They also provide an alternative to
employers that want to eliminate payroll checks, but can’t because not all their employees can accept direct deposit.”
More than 25 major banks issue payroll cards, including Bank of America Corp., Citigroup Inc., JPMorgan Chase & Co., and U.S.
Bancorp.
The primary market for payroll cards is the hourly worker employed by quick-service restaurants, landscaping companies, and
temporary-staffing agencies. “Many of these workers have multiple jobs, so to have to pay a fee to cash checks gets costly,” says
Andrew Crowe, vice president of global prepaid products for MasterCard Worldwide.
Payroll cards make sense for the unbanked because they already are familiar with prepaid cards such as phone cards, which can be
purchased through a wide variety of merchants using only cash.
A large portion of the workers purchasing these products is Hispanics, many of whom do not have banking relationships. Hispanics
are now the largest minority in the United States, with an estimated population of 42.7 million last year, the U.S. Census Bureau
reported in May. The Census Bureau projects the Hispanic population will hit 102.6 million by 2050.
“Payroll cards are a good fit for this customer segment because they are safe, cheaper than check cashing, and you don’t need a
banking relationship,” says Dennis Moroney, senior analyst, bank cards, for TowerGroup Inc., a Needham, Mass.-based research and
consulting firm owned by MasterCard.
At the same time, employers are finding payroll cards attractive because they can lower their costs. Mercator Advisory Group Inc., a
Waltham, Mass.-based research firm, estimates that employers can cut their payroll costs 50% by moving away from paper checks that cost
$1 to $2 to issue and process. By contrast, it costs 20 cents to process an electronic payment deposited onto a payroll card, according to the
San Antonio, Texas-based American Payroll Association. In addition, employers spend $50 million annually reissuing lost or stolen pay
checks.
Factors Spurring Payroll Card Growth
$8 billion:
4 million:
$48 million:
Amount spent annually by the unbanked to cash checks
Number of paychecks lost or stolen annually
Amount spent by employers on replacement checks
Note: Data as of June 2005
Source: U.S. Comptroller of the Currency , The Center for Financial Service Innovation
Money Network, which was formed in December 2001 as a joint venture with Concord EFS Inc. and then acquired along with
Concord by processor First Data Corp. in February 2004, is already demonstrating the possibilities for payroll cards. The company has
developed TransCheck, which provides unbanked users with a deposit account for their payroll checks and the ability to access those
funds through paper checks, as part of its Paycard payroll card.
The TransCheck program provides accountholders a set of checks that can be used to pay bills. The checks include a MICR
(magnetic character ink recognition) line that is used for account routing by First Data subsidiary TeleCheck and Fidelity Na tional Information Services Inc., new owner of card and check processor Certegy Inc.
Funds are deposited into an account held by Denver-based First Financial Bank and insured by the Federal Deposit Insurance Corp.
Users access their accounts by dialing up an interactive voice-response (IVR) system or through the Money Network Web site. Once the
amount of the check has been authorized, it can be written to pay a bill, make a purchase or cashed for no charge at any of the
approximately 3,000 retail locations operated by Wal-Mart Stores Inc.
“Pre-authorization prevents the risk of non-sufficient funds and the cost of a bounced check, which runs about $32.50 at most
banks,” says Herrington, who adds that Money Network has 300 employees as clients. “We see the payroll card evolving beyond the
card itself.”
Funds also can be loaded onto a payroll card that can be used at ATMs and the point of sale. Users have the option of a PIN-based
debit card that is accepted by First Data’s Star electronic funds transfer network or a prepaid Visa card. Money Network levies fees for
each transaction. Accounts are portable as employees change jobs, as the new employer sets up direct-deposit service to the account
through Money Network. Pay stubs are converted to electronic documents that can be printed on a POS terminal at participating
merchants, such as Wal-Mart Stores Inc.
The ability to print out stubs satisfies state laws mandating that a pay stub be included with pay checks. Even companies practicing
direct deposit must issue a pay stub to employees each pay period.
Payroll card issuers claimed a regulatory victory in August when the Federal Reserve Board amended its initial ruling applying
Regulation E to payroll cards and decided not to mandate that issuers provide periodic paper statements to cardholders. Inste ad, the
Fed instituted a flexible rule that providers can provide balance information on the telephone, through Web sites detailing up to 60
days of transactions, or mailed statements showing 60 days of transaction data, upon request (“Payday for Payroll Cards?” May ).
The Fed also ruled that cardholders have up to 120 days to report any disputed or fraudulent transactions if the card issuer does not
track when they electronically access their account.
With the payroll card market firmly taking shape, banks, processors, and service providers now have a growing platform to extend
financial services to the unbanked.