How to Build Confidence for A Successful SDD Appropriation
An ADN’co article first published by GTNews. You will also find this article here (free registration required)
Among the 3 new pan-European payment instruments ushered in by SEPA, Single Euro Payments Area (1), the SEPA Direct Debit (SDD) is the most challenging one. Designed anew by the main European banks gathered within the EPC (European Payments Council), it will be offered as of 1st November 2009. It will progressively replace existing nationwide direct debits in the course of the following years.
EPC’s "Core SDD Scheme Rulebook" describes its features and rules:
- euro transactions only, national as well as cross-border use (2) in and between the 31 SEPA countries (3),
- a single document (the mandate) signed by the debtor directly to the creditor, who is alone in charge of safekeeping it and of transmitting its dematerialised elements to its own bank at each direct debit collection,
- easier disputes: during 8 weeks after debit date without justification; during 13 months in case of invalid mandate.
Nine months ahead of market introduction, corporates should - if not done so yet - analyse SDD impact on their organisation and explore its added value for intern payment handling – particularly on the debtor’s side. More specifically, this paper draws attention on possible shortcomings of its implementation.
It has already been widely advertised that creditors will face a heavy adaptation effort, only to be followed by a heavier daily management burden.
The purpose of this article is to bring forth a few practical examples from Germany. Local practices already allow German payers to easily dispute direct debits. Their behaviour, that of creditors and of banks alike therefore give insight into how high SDD related workload will be. It allows anticipating workarounds to face potential security issues as well.
(1) The Single Euro Payments Area (SEPA) initiative will make all electronic payments across the euro area – by bank transfer, direct debit or by credit or debit card – as easy, quick and safe as domestic payments within one country are now. A political requirement of European Union to realise the Internal Market, SEPA aims at empowering competition in retail payments and complete what had been started with the euro adoption.
(2) Today direct debits only take place within each country, according to the relevant local rules and standards.
(3) 27 EU Member States + Switzerland, Norway, Iceland and Liechtenstein.
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Heavy impact on organisations calls for more precisions on remaining uncertainties
Compared to current Italian, Portuguese and French direct debits, SDD completely shifts mandate management onto creditors, while increasing disputes from debtors. These indeed will be able to repudiate settled SDD collections during 8 weeks towards their bank "on a ‘no-questions-asked’ basis" (4).
According to a series of interviews with corporate treasurers mid-2008, corporates in Europe are preoccupied with the workload required to adapt their processes to SDD and to manage the collections (5). They lack vision on dispute timelines and thus on the time limit when SDD-received funds may eventually be considered as certain. They are also worried about a possible surge in fraud on a payment instrument whose design still bears security breaches and lacks control and supervision by competent authorities.
Towards an increased litigation burden?
Lesser ex ante control on issuers
To take the French example, a licence to issue direct debits is granted by the central bank to creditors in the form of unique National Issuer Identifier (NNE). Although no thorough security procedure is involved, this requirement makes it a de facto filter. Not everyone may issue French direct debits.
There is no such preoccupation in the Core SDD Rulebook. A Creditor Identifier will be attributed by the relevant national authority (central bank or competition authority), without inquiry or reliability check however. The German central Bundesbank will deliver them on a quasi automated basis
Optional mandate validation service
SDD has an optional feature of electronic mandate validation, to avoid malevolent mandate disputes. However, use of this Additional Optional Service (AOS) of the SDD Scheme is dependent on the debtor’s banks willingness to offer this service. If so, they will request their customers through their online banking Website to acknowledge and confirm they have signed the e-mandate received through the creditor’s bank. If the service is not offered, the bank will debit the debtor without notification.
If the mandate is on paper however, no validation procedure is foreseen. Each debtor bank will have the responsibility to propose a proprietary ad hoc service.
To make it short, if creditors issue e-mandates, they will be none the wiser with regards to potential 13-month disputes.
Moreover, the SDD Rulebook does not require banks to verify the existence of a mandate, nor the correctness or consistence of mandate data which are sent with the collection messages.
On top of that, e-mandate unused for more than 3 years will be deemed invalid, but creditors only are in charge of enforcing that rule.
Possible cross-border fraud
It appears that issuing a direct debit collection towards existing accounts wherever in SEPA zone will be quite simple. All a creditor needs is to send authentic account references and debtors’ postal addresses to its bank and to comply with SEPA formats. Debtor banks will presume the existence of a mandate and debit their customers, only to re-credit them if disputes arise. If so, they will send « Return » messages to the creditor bank, to get funds back.
It is expected that fraud could affect cross-border SDD in the same way as card payments for remote sales (card not-present transactions), with a cross-border extent. In the current state of Rulebooks, a fraudulent company may open an account in countries with lesser oversight standards. It can get real BIC and IBAN references, in the same way as payment card details may be obtained today by criminals (through intrusion or compromising tricks). This company will then be able to issue cross-border SDDs before transferring received funds elsewhere and closing business. Mass effect and inattention from debtors could allow to siphon cash out before the creditor bank faces incoming disputes.
Today, this scenario is a purely theoretical one, but parades are not disclosed yet either by banks or the EPC itself. There is no doubt financial institutions will set up safety mechanisms, but would-be SDD creditors have already voiced out their concern (6).
The SDD Rulebook offers the debtor the option to oppose any incoming SDD. The debtor bank will then reject automatically any SDD collection from designated account(s). It is however a all-or-nothing option.
End October 2008, banks questioned on this issue have acknowledged these security loopholes. They answered that none of them would miss to propose solutions, in the form of individual commercial offers (a bank-specific AOS).
(4) as worded in the Core SDD Scheme Rulebook last version N° 3.1 of 24 June 2008.
(5) Does SEPA Address the Needs of Treasurers? The French Example’, ADN’co, Paris, September 2008: survey conducted in Spring-Summer 2008 with 23 large France–based corporate, and Experian Payments (UK) survey with European corporate treasurers, 5 August 2008.
(6) cf. 2 above quoted inquiries.
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  The German experience: 2% no-recovery, of which 0.2% fraud
Close to the Core SDD Scheme, current German direct debit (Lastschrift (7)) allows an insight into operational running of SDD. We will therefore now draw on the expertise of payment professionals in Germany – a country where 40% of non-cash payments occur through direct debit (vs. 29% European average (8)).
In Germany, the direct debit mandate is not communicated to banks. Creditors do not undergo any registration process before being allowed to issue direct debit orders. They only need to sign a framework agreement with their bank.
As soon as they receive a direct debit authorisation signed from a debtor, creditors may start debiting them with Lastschrift. Banks deliver a direct debit issuing software to smaller creditors (sport clubs, associations).
Debtors are usually notified by creditors, but there is no obligation. Lastschrift may be disputed by consumers before reaching them as well as during 6 weeks after debit date without any justification.
To minimise disputes, most German banks notify their customers through their Web-banking (e-channels) of incoming Lastschrifts. Banking Websites list all received direct debit collections with their due dates. Each line includes a « Reject » button to help customers refusing a direct debit before interbank clearing and settlement.
An easy instrument to set up, Lastschrift makes fraud relatively easy. However, it goes with a high degree of debtor protection.
Potential losses due to increased disputes and fraud
Between 1% and 3% of monthly Lastschrifts are rejected. 9 out of 10 rejects origin from the bank, the remaining 10% being initiated by the debtor. This means that on a 2% average rejection rate per month:
- 1.8% are rejected by banks due to technical reasons (lacking funds, unreachable accounts...)
- 0.2% are rejected by debtors as a result of commercial disputes or fraud.
These figures are somewhat higher for yearly Lastschrifts (because of debtors’ negligence).
- At the end of the day, effective fraud remains low, with the drawback of relatively high litigation and recovery procedures, as is shown now.
Organisation and workload
German creditors face a consequent workload to re-issue rejected collections. They contact defaulting debtors to reach an agreement on the re-presentment date. Aim is to avoid paying chargeback fees twice, since they may amount up to 5 and 10 € each.
Suggestions of additional services to SDD users
Basing on German practices, outlined hereafter a few ideas of possible AOS offers, to increase public confidence in SDD, particularly corporate debtors:
- Suggested banking offers to debtors:
- systematic notification of incoming SDD collections: debtor banks could commit to inform ahead their customers of SDD collections in real time: online banking Websites would be updated upon reception by the bank’s system. This could include the German feature of online “Reject” option.
- SDD filtration: banks could refine the all-or-nothing SDD blocking option: they could offer to restrict admitted creditors to certain activity types (e.g.: energy, water, insurances and taxes).
- Suggested banking offers to creditors: verification of mandate existence:
Creditor banks could manage mandates on behalf of creditors to verify mandates validity before transmitting collections to debtor banks
In all cases, users will have to be educated to new payment ways. Corporate teams will have to be trained, and even individuals will have to follow their SDD list, as we all (should) do for payment card transactions.
Today, to allow for a quick SDD take off, corporates shall investigate and press upon banks to communicate their added value offers, next to the Core SDD service.
Banks themselves will benefit from bringing up solutions to yet unanswered problems. Debtors confidence being key in the early deployment phase, it will allow to sooner reach a critical mass, then stop national instruments and thus avoid the costly running of two equivalent schemes (9).
(7) 2 types of direct debit coexist in Germany. The one described in this paper is the most used one, i.e. Einzugsermächtigung (debit authorisation).
(8) source: ECB figure for Euro area in 2006.
(9) End November 2008, the ECB has announced consultations to define a decommissioning deadline for legacy credit transfers and direct debits.
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A new legal framework for retail payments in EuropeAlongside migration, the EU 'Payment Services Directive' (PSD) provides the necessary legal base for SEPA payments in all EU countries, be they domestic or cross-border. It also creates a new status of payment provider next to banks: the Payment Institution (PI). PSD has to be transposed in the 27 national laws before 1st November 2009 to come into force.
--> Waiting for these 27 national adoptions entails the risk to delay SDD launch. Last 4 September 2008, the European Commission and the European Central Bank have therefore called EPC banks to actually offer it as of begin November 2009. Preparations and marketing should start without waiting for end of national transpositions. Unless some national communities still suspend SEPA involvement because of the SDD interchange issue, end of this year will see the first SDDs exchanged.
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- Publication date: January 2009
- Author: Guillaume de LONGEAUX - ADN’co, International Payments & SEPA Consultant
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