Introduction

In recent years, the financial services industry has become very inventive around new uses of technology to improve the structure and delivery of retail products. One relatively new type of payment product, stored value cards (SVCs), serves as a cash or check alternative.

As many as 20 million American households are unbanked . Additional households, estimated in the millions, conduct most of their financial transactions outside of banks even though they may have a savings or checking account. SVCs could be a valuable financial tool for these consumers for several reasons:

SVCs do not require the credit requirements that effectively bar millions of individuals from opening traditional bank accounts.
SVCs can be reloaded at a growing number of locations.
SVCs can provide immediate availability of funds at a cost that is lower than some other alternatives for unbanked consumers.
SVCs are prepaid and difficult to overdraft.

Stored Value Card Products

Stored value cards fall into two broad categories:

Closed Loop: Closed loop cards, such as retailer gift cards and prepaid phone cards, have limited functionality and limited acceptance, since they are intended to be used to make purchases from specific merchants or possibly small groups of affiliated merchants. Given these factors, closed loop products have only limited applicability in meeting the financial services needs of the unbanked.

Open Loop: Open loop cards offer broader acceptance and increased flexibility, especially if they are branded with a bank associations logo such as Visa® or MasterCard®. These cards can be used anywhere a branded credit or debit product is accepted and they function in much the same way as a traditional debit card. Such cards include (i) payroll cards and (ii) reloadable general spending cards. It is these two applications that hold the greatest promise for providing more effective financial service capabilities for the unbanked population.

Payroll Cards

Payroll cards are offered by employers as an alternative to payroll checks for those who are unwilling or unable to have their pay directly deposited into a bank account. Instead of the employer arranging for direct deposit of wages to an employees bank account, the direct deposit is posted to the SVC card account. Payroll cards function like a debit card at the point of sale and may be used to pay bills and gain access to cash via ATMs. Payroll cards eliminate the need to stand in line at a bank or check casher to receive cash, offer immediate access to pay and provide greater safety since the consumer only needs to withdraw as much cash as necessary. Branded cards allow cardholders to shop online, via catalogue or telephone, and pay bills online, many conveniences associated with Visa® and MasterCard® products that most consumers take for granted. Payroll cards have been referred to as “a checking account without the check”.

A 2002 study reported that 10 percent of unbanked households, representing one million families, were using payroll cards at the end of 2002, up from almost zero in 1998. More recent research reported that 1.8 million prepaid cards were used in 2004.

Employers benefit by lowering their internal payroll costs when they issue payroll cards. Not only does the employer avoid the costs of producing, handling and distributing payroll checks, but they also avoid the costs associated with lost or stolen checks. The typical cost to an employer of a direct deposit transaction is 20 cents. The cost of a paper check is estimated at $1 to $2. It cost businesses an estimated $8 to $10 to replace a lost or stolen check. In addition to cost savings, employers benefit from this product by being able to transmit payroll electronically to employees who are stationed at remote locations. The issuance of payroll cards, like direct deposit, allows companies to avoid the problems associated with paper check distribution.

General Spending Cards

General spending cards offer many of the same features as payroll cards. Like payroll cards, they may be loaded via payroll electronic payments. However, these cards may also be loaded at designated retail businesses such as Western Union Swift Pay or designated banks. General spending cards also are a viable method for individuals working in the United States to send money to families in their home countries, such as Mexico, the Philippines and India that have a large workforce in the United States. SVCs provide ATM access in these countries to funds that have been transferred from the card here in the United States.

Current Market Landscape

The stored value card market is extremely new in the United States. Closed loop SVCs were introduced in the early 1990s and open loop SVCs became available by the middle of that decade. Much of the SVC growth has occurred within the last several years and innovation has moved more quickly with the open loop products.

There are few research studies that could serve to inform this work and data on stored value cards are not publicly available. For example, Mercator Advisory Group measures the dollar volume loaded onto prepaid SVCs, such as prepaid wireless telephone services. Mercator estimates that $157 billion was loaded to prepaid SVCs in 2003. By contract, The Pelorus Group measures market size based on the number of cards issued, rather than dollar volume loaded. In 2003, Pelorus estimated that 15 million prepaid SVCs, defined as open loop, were issued. Pelorus projects that this figure will rise to 34 million in 2005, with general spending SVCs having the largest market share at 35%. Celent Communications estimated that general payroll card usage doubled between 2002 and 2003 to over 2.2 million cards and Pelorus estimates that payroll cards will reach 8.5 million cards in 2005.

At present, the largest banks in the country, including Bank of America, Citigroup and JP Morgan Chase are becoming increasingly involved in the issuance, marketing and distribution of SVCs. Smaller institutions, including community banks and credit unions, are also working to structure SVC programs that can meet their current or potential customers needs. As issuers, banks hold the funds underling stored value cards. This is done in a variety of ways: some banks hold the funds off-balance sheet, in fiduciary accounts; others hold the funds on the balance sheet in pooled accounts, perhaps in the name of the card’s distributor.

Affordability

Bankrate.com conducted a survey of checking accounts in the spring of 2005 and discovered that the average monthly fee for an interest bearing checking account in the country’s 25 largest markets was about $11. Though checking accounts advertised as “free’ and lacking in monthly fees proliferate in the marketplace today, non-sufficient funds and bounced check fees can average $27 in these accounts; ATM surcharges as high as $2 might apply as well. Moreover the Office of the Comptroller of the Currency (OCC) estimates that a typical consumer making basic transactions would incur costs of $270 per year at a check cashier, assuming that the consumer cashed two $400 checks per month and required five money orders to pay bills.

Depending on the card pricing structure and the consumer’s usage pattern, an SVC could be a cheaper alternative than using a bank account or check cashing service.

Product Trends and Innovations

Reloadability: The ability to load cards in multiple fashions at a variety of locations will drastically increase the business case for SVC products. SVC leaders are pursuing partnerships with money-service businesses, convenience stores and other retail distribution channels to increase SVC users’ reloading options.

Bill Payment: Many SVCs offer some sort of bill pay option, especially branded cards that enable signature-based transactions. Because many SVC users are unbanked, the functionality of paying bills without using checking accounts or money orders is important. Often, consumers can use an SVC to pay any bill that can be funded through direct debit.

Remittance Features: A trend that ties SVC products to remittance products that enables consumers to send money to merchants for bill payment; or the ability to send money to family and friends in other countries is growing rapidly.

Rewards: Credit cards have long offered reward programs to consumers, with debit cards following suit. Now, SVCs have begun to explore the possibility of providing loyal customers with rewards for using the cards.

Conclusion

Stored value cards bring unbanked consumers into the electronic payments system and provide them with a safe, convenient and relatively inexpensive way of accessing cash and making purchases. Banks overall have reported low rates of attrition, especially in the payroll product. For the unbanked or undeserved who lack traditional depository accounts, stored value cards can provide much of the functionality of banks, often at a lower cost than alternatives such as check cashing outlets or even banks themselves.