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Changes to the Limited Network Exclusion (LNE) may affect businesses across the bloc, with the European Parliament favouring a permissive revamp in the amended Payment Services Regulation (PSR) text.
The revised Payment Services Directive (PSD2) allows specific services, such as store-specific gift cards and closed-loop payment solutions, to operate outside full regulation, reducing costs for low-risk financial services.
"This is a topic we receive many questions about,” said Max Savoie, a partner at Sidley Austin.
Savoie added that “there are definitely businesses that rely on this exclusion to fall out of scope of PSD2, and any changes could have a significant impact".
Any changes to the LNE could significantly impact businesses by increasing compliance costs and limiting the flexibility offered by the legal instrument.
"The LNE is a hotly debated topic, as it was originally included in PSD1 in 2007, its scope was narrowed down with PSD2 in 2015,” said Simone Giordano, an associate at De Matteis Law.
According to Giordano, after PSD2 was adopted, “significant uncertainty persisted in the industry regarding the scope of these instruments under PSD2”.
Julien Sad, senior associate at Bird & Bird, agreed, pointing out that when issuing these types of instruments, the user is not protected by PSD2.
“The issue was that, at the EU level, this framework was applied very differently across member states, with some national regulators being more relaxed than others"
According to Sad, there is concern that consumers often lack awareness that PSD2 protections do not apply to limited payment instruments.
“This issue was exacerbated when a regulated payment service provider also relied on the exclusion for some parts of its global offering.
“It created a situation where both regulated and unregulated payment instruments coexisted, potentially affecting reporting standards and compliance,” he said.
Inconsistencies prevail
Savoie said there are no “massive, sweeping changes” to the LNE in the European Commission's proposed rules.
However, the European Banking Authority (EBA) will be required to develop regulatory technical standards (RTS) under the PSR.
The EBA released guidelines on the LNE under PSD2 in February 2022 and will be required to take into account the experience acquired through their application when developing the regulatory technical standards under the proposed regulation.
Although any changes could be limited, if the EBA determines that the market has not paid sufficient attention to its guidelines, it might be tempted to impose stricter criteria for the exclusion.
The European Commission's proposed PSR text highlights inconsistent application of the regulation across EU states, with some providers exploiting the exclusion to offer high-volume services, potentially leaving consumers without sufficient protection.
Sad said that current LNE rules may also have given rise to potential abuse by entities and service providers.
“Some should have been regulated under PSD2 but claimed their payment instruments were limited in purpose to avoid regulation. When limited networks are turned into general-purpose instruments, this clearly goes against the intention of the PSD2 exclusion.”
According to the Brussels-based lawyer, this was one of the reasons the EBA had provided guidance in its Guidelines on the limited network exclusion under PSD2 of February 24, 2022.
For example, the regulator clarified that if a payment instrument is to be considered limited, contractual restrictions alone are not sufficient and technical restrictions are also needed.
The EBA guidelines addressed many other issues, including qualifying criteria and indicators for the exemptions. “Even at that time, the aim was to narrow the scope of the exclusion, and national regulators were told to apply these guidelines in a restrictive way,” said Sad.
However, these guidelines have not ended the problems.
“Despite these attempts to clarify the application of the exclusion related to specific-purpose instruments there are still service providers that provide services which involve substantial payment volumes and a variety of products offered to a large number of customers that seek to make use of that exclusion,” the PSR’s updated text says.
"Interpretations vary across EU countries despite EBA guidance,” Giordano acknowledged.
The Italian lawyer pointed out that this is the case, for example, for hybrid cards, which are payment cards with both closed-loop and open-loop functions, usable as merchant or fuel cards.
Most member states, with exceptions such as France and Spain, have adopted a restrictive approach in line with the EBA Guidelines.
“Therefore, significant fragmentation remains regarding the application of this exclusion. This is why, in the context of the PSD2 review, there has been a move to convert the guidelines into binding Regulatory Technical Standards (RTS), which would make compliance mandatory and enforceable,” he pointed out.
Parliament takes a different approach
The European Commission's proposal closely mirrors PSD2, but the European Parliament has suggested a broader approach to the LNE, aiming to extend the exclusion also to limited network B2B transactions.
“This has been interpreted by some as potentially excluding all corporate cards,” said Giordano.
Savoie agreed that the European Parliament appears to be arguing “for some changes that seem more permissive rather than restrictive”.
"This could potentially extend the exclusion to apply to a broader range of payment instruments used exclusively for B2B transactions, even if they previously wouldn't have qualified,” he said.
Savoie pointed out that the latest report from the European Parliament “suggests maintaining the core elements of the exclusion while adding clarifications”.
For example, one proposal suggests clarifying that the premises of the issuer include virtual spaces, allowing payment instruments used solely within an issuer’s virtual premises to operate without a regulatory licence.
“If these proposals are implemented and interpreted so as to apply to payment instruments used exclusively within online marketplaces and other e-commerce platforms, I expect a lot of firms will want to consider whether they can structure parts of their businesses to fall outside the scope of EU regulation,” he suggested.
If these amendments are taken forward in the trilogues negotiating the payments legislation, then, according to Savoie, “it seems the direction could lead to a slightly broader exclusion”.
“This will be debated, and the Council may have a different perspective. Much will depend on how these changes are interpreted, including under the EBA technical standards and any further guidance it may issue after the text of the Regulation is finalised,” he said.
“There are a lot of known unknowns regarding whether there will be a broadening and how helpful this might be."
Giordano, meanwhile, was sceptical that the Parliament's more relaxed approach would make it to the final text.
“This would be far reaching and the proposal has already been rejected by the Council and is unlikely to pass through the legislative process,” he said. “The upcoming negotiations will certainly be interesting.”
Looking ahead, the European Council’s general approach document, setting out its negotiating stance on the payment services package, is expected to be completed by the end of this year.
Whether the Council opts to go in a similar direction to the European Parliament remains to be seen, but the LNE could be yet another ambitious change in the revised payment services rules that firms will soon need to comply with.
