Need a Penny? Too Bad: Legal Implications of the U.S. Penny Shortage

Kris Kully: Hello listeners, welcome to Mayor Brown's Financial Services Focus, our podcast discussing the latest insights at the intersection of business, law, and policy. My name is Kris Cully. I'm a partner in Mayor Brown's Washington, DC office and a member of the firm's financial services group. I'm joined today by my colleagues here at Mayor Brown's Washington office, Matt Bisanz and Kerri Webb.

Today's topic is the lowly penny, specifically the administration's announcement that it will stop making and shipping pennies, the impacts those decisions are already having, and the legal implications going forward. As you may have heard, it costs more than a penny to make a penny, but how much will it cost to eliminate the penny and who will bear that cost? Obviously, that depends on who uses pennies and why. While many economists have studied this issue, I will assert unscientifically that pennies are used largely by merchants, providing change to consumers related to fairly small cash purchases to the extent that the purchase price, including the sales tax, does not end in a zero or a five. Going forward, we may be able to adjust purchase prices and even tax calculations so that they always end in a zero or five and then face the fact that nickels also are relatively expensive to produce.

However, I'd like to turn to my colleagues so we can understand why it may not be that easy, at least not in the short term. Kerri and Matt, can you help our listeners understand what's easy and what's hard here?

Kerri Webb: Thanks for the introduction, Kris, and thank you for joining us, Matt. So Matt, to start out, I've talked with some of our colleagues and even friends and family, and it seems like there is not a ton of awareness about what is happening with the penny currently outside of the financial and consumer business space, you know, the people who deal with cash every day. Can you talk a bit about what is going on with the penny? Is there a penny shortage? And if so, why is that happening?

Matt Bisanz: Kerri, thanks. Yes, I'll cut to the chase and say, yes, there is a penny shortage because the penny is going away. And I can't blame your friends and colleagues for not knowing about it. Earlier this year, the White House and Treasury Department announced that as part of their efforts to find waste in the government and streamline things, they were getting rid of the penny. And that came at a time of many other more momentous cost reductions in the government.

This particular emphasis on the penny probably just did not make it into the headlines that at a high level, the penny costs about 3.7 cents to punch out. And that is already the debased modern penny we have, which is mostly zinc with a little copper cladding on it. It's not the pennies of old, the wheat pennies that are solid copper.

And so there was really no way to further reduce the cost of making the penny. It costs the government about 50 to 80 million dollars a year to make the penny. So it's a money losing venture. And this was viewed as something that could be eliminated to save costs. That if the government didn't make pennies, then it wouldn't incur that 50 to 80 million dollar cost every year. And so that's why the pennies, the production is ending.

Kerri Webb: Thanks, Matt. So production is ending. How is the Federal Reserve handling this?

Matt Bisanz: In the typical understated Federal Reserve way, there is a website that is available that has FAQs on the end of the penny. And this is in part because the Federal Reserve distributes coins and currency, but it does not produce it. That all coins in the US are made by the mint and all currency is printed by the Bureau of Engraving and Printing, both of which are part of the Treasury Department.

They then sell that money to the Federal Reserve, which distributes it to the 4,000 banks and almost 4,000 credit unions who then sell and distribute it to businesses, give it as change and so forth. And so the Federal Reserve announced, since we're not going to be able to buy any more from the mint, that means that the various distribution points where we distribute pennies to banks will run dry eventually.

There's about 160 of these distribution points operated by the Federal Reserve, armored car services, similar vaulting services. And so as these distribution sites run dry, banks won't be able to get any more pennies. And eventually as banks run out, that means merchants will also not be able to fill their cash registers. And the Federal Reserve kind of put it in a matter of fact basis on this FAQ page. Again, very understated and also very late timing that I this page first was published in September. And today in early November when we're recording this is when the last penny is actually being minted at the Philadelphia Mint after some 230 years of being minted today is the last day that pennies will be made.

Kerri Webb: Today's the last day pennies will be made. The Fed is going to stop distributing pennies. What does this mean for businesses and for banks?

Matt Bisanz:This means that they need to find alternative measures that we still are a base 10 number system. The penny remains legal currency, just as you could divide a dollar into 10 cents, you can still divide it into one cent. And that means that as various transactions are put forward that require a penny and surprisingly something like 14 % of commercial transactions in your various retail stores and convenience stores still use currency. As those transactions come in, people will need to figure out what to do that we are a sales tax based system.

And so we will have many transactions that end in one, two, three, four, six, seven, eight or nine cents that it's not as if you could just round prices and fix things that you still will be assessing 7 % sales tax, 8 % sales tax. And so it will be an issue that merchants will have to deal with on their own because again, it's not as if the penny is coming back. It's not as if their banks can make more pennies, the banks will themselves face their own issues giving out pennies at ATMs. So they will have to come up with solutions on the fly in the absence of any kind of further guidance or legislative solution.

Kerri Webb: Okay, so, know, businesses and banks may have to round up or down, but it's only a penny. Why does it matter how they handle this?

Matt Bisanz: It's a good question and certainly since we prepped for this, I know you actually know the answer to this, but there are surprisingly a number of laws and just commercial issues that come with rounding up or down even amounts as small as a penny. And first from the legal issues, people, so you might say, well, look, if merchants round, down all their prices, doesn't that mean that the consumer will get two, three extra cents in every transaction? Isn't that like a consumer good? Like how could anything bad happen from this?

But there are certain laws that regulate how change is given, one of which is for ⁓ states that require exact change to be provided, just say that it shall be the amount. But even putting that aside, the SNAP programmer, the modern successor of food stamps, says that, look, food stamps are given on electronic benefit transfers. They got done on debit-like product cards. So they're not cash-based, it says, but you can't charge a different price for transactions made with SNAP benefits than you do for other transactions.

So, if you're rounding down for cash transactions, you're kind of giving a discount to the cash users that's not available to the food stamp users. so arguably there might be businesses who are ⁓ in non-compliance with the food stamp laws if they round down only cash transactions and don't round down ⁓ the similar snap transactions. And there could be similar issues that arise with cashing social security checks, with cashing other types of government benefits.

For example, Section 8 vouchers, where again, there are very strict laws that say there cannot be a difference between the cash price and the price used for government benefits. So that's the legal issues. There's also, I think, the possibility of consumer confusion that merchants, retailers might say, we'll round down our sale prices.

But then what about returns is another one that are we going to round down the change we give when a customer returns a piece of merchandise, in which case that arguably would be harming the customer because they might get back less than they had originally paid. And so that could then result in UDAPs and other issues. And so that we'll get into that in a second maybe but.

The final point I'll make is that from a business perspective, there are many businesses that operate on very thin margins. And some of these are the businesses where we see the most cash transactions that as I said, cash is still used in about 14 % of all payment transactions. But if you look at convenience stores, gas stations, grocery stores, I would suspect they have a much higher percentage of all cash transactions and they operate on some of the thinnest profit margins of any businesses out there. And so even taking away ⁓ one or two cents on cash transactions could be a significant hit to these businesses' profit margins.

Kerri Webb: So this sounds like a big issue, and I think you've touched on a few of the legal risks that our listeners may be interested in. Can you speak to any more about what sort of legal risk might arise here?

Matt Bisanz: Yes, yeah, and it's one I know you deal with a lot is the unfair deceptive acts and practices laws, the UDAP laws out there. There are the federal ones, many states have them. And this is just the general idea that if something is an unfair consumer act or practice, then a consumer has a cause of action, a state has a cause of action.

There can be penalties for the business and it's irrespective of specific legal requirements. And I could imagine there will be people who allege that, well, the rounding preference picked by a business is unfair, the decisions of which transactions to round or not round is unfair. A business may eventually stop accepting pennies. We often see businesses that have phased out coinage altogether and will only take ⁓ paper currency or some businesses that even only take paper currency or they only take electronic transactions. So, I could see there being any number of possible UDAP claims that a business's decision on how it is responding to the determination of the penny was an unfair practice.

And in the absence of a government standard, a government guidance even, it will be up to different courts to decide this. I was involved a few years ago with the transition away from LIBOR. That was an interest rate that was used for many commercial transactions. And in that case, the government convened an official sector panel that produced guidelines and Congress passed the LIBOR Ac that again formalized parts of those. so businesses had that cover that they could point to and say, well, I'm following official sector guidance. I'm complying with the LIBOR Act. But here there isn't that same kind of standard that is objective and can say, well, I'm not being unfair. So I think it opens a can of worms regardless of what path a business picks.

Kerri Webb: It certainly sounds like a complicated issue. Something that perhaps would be helpful is to look to other countries. We aren't the first country that has gotten rid of the penny. Canada, Australia, for example, have both gotten rid of the penny. How did they manage this process and why can't we just do what those countries did?

Matt Bisanz: So I was surprised to learn that Wikipedia has a great webpage for this. There's more than 20 countries that have eliminated their version of the penny. And some have done it for different reasons that ⁓ in some countries with very high rates of inflation, when you think of things like Italy before it joined the Euro, when you think of Turkey, and even Japan with the yen that that the yen is almost always quoted in hundred dollar hundred yen increments So for them inflation took care of it that that prices rose at such a rate that it no one was pricing things in pennies and so that that kind of took care of the situation naturally that in the U.S.

Actually, there is a mild precedent for this over a hundred years ago. We used to have fractional coins available. So half takes and even in the UK we had those and inflation took care of the need for half pennies. And so those when the governments eventually withdrew in the US the half penny or in say Italy or Turkey, when it withdrew those pennies, no one noticed because no one was using them.

But you're right in Canada, in Australia in the 90s, people were still using pennies because those currencies had not experienced inflation. And there were many solutions put forward. One was called ⁓ the Swedish rounding solution of rounding transactions up or down. So rounding ones that are one or two cents down to zero, ones that are three or four cents to the five cent point and the same.

In some cases, that was just done as a commercial practice. In other cases, there was actually legislation passed in these countries specifying the way in which rounding would be done as they phased out their pennies. In some countries, by either legislation or market practice, they actually agreed to round all.

I believe, Malaysia, they round both electronic and cash prices to the nearest zero or 10 cent rate. In some countries, they also phased out the nickel ⁓ as part of their transition process. So everything was either a zero or 10 cent rate. And that again, creates some very nice decimal points for pricing purposes. And if done again, in a country like Malaysia, where they did it, I believe as as all transactions that absolves some of the consumer issues with UDAPs that if both cash prices and electronic prices are done to the same rounding, then you arguably don't have that UDAP. think merchants would say, well, that is cutting even further into their profits, or that is further exacerbating the situation. But in a lot of countries, it was a decision made by the central bank to phase out the currency with a specific rounding. There's also, think, in some countries where they forced the issue by demonetizing their pennies and saying that actually they were no longer good currency, so they could not be transmitted in the sector. And so that kind of resolves the shortage issue, because if it's not valid currency, then merchants don't have to worry about kind of taking it in the exceptional circumstance.

There were a lot of different solutions put forward by different countries, typically a little more organized fashion than we're doing here, some government guidance to guide the hand of the free market to an orderly result. I don't know that we're going to get that kind of orderly guidance just given the duration that it takes for Congress to act and the many other urgencies the federal government is facing.

Kerri Webb: That's a great point, Matt. You've talked a bit about how the government has not issued much guidance or if any, surrounding this transition. Perhaps most importantly for our listeners, how should they be preparing to deal with this transition?

Matt Bisanz: Well, I think the thing they shouldn't be doing, the thing I would recommend against is hoarding pennies. I was reading about a couple of fast food stores that were saying that they had gone to all of their banks and bought as many pennies as they could to try to avoid this. And the article made light of the fact that even that kind of hoarding would only give them a one to two month cushion of pennies because pennies weigh a tremendous amount, like $500 of pennies weighs something like almost like a thousand pounds. So it's not really the kind of thing you can or should hoard. What I would recommend is first, first hiring lawyers like you, like Kris, like me, to spot these various issues so that when solutions are implemented, like say rounding down that merchants know to round down to their, EBT transactions.

I'd also recommend that businesses speak with their merchant processors that most businesses of any scale use credit card processors, payment terminal processors, and many of them will be confronting coding changes to their point of sale terminals to process rounding transactions. Speaking with your vendor about how they will be processing rounding,

Whether they have automated solutions, that that is a good step for many businesses that have electronic point of sale terminals. you don't have a point of sale terminal, if you are truly a small business ⁓ that just has, ⁓ say, cash transactions or a kind of point of sale where you don't have that relationship, talking to your local bank, that there are initiatives, I think you are hopefully bringing us into some of them. I believe you've spoken with some of the trade associations around trying to develop industry standards. so working with your bank, working with your payment processors to get on board with those self-developed industry standards is probably the best prophylactic solution ⁓ in the absence of a government action.

Kerri Webb: That's incredibly helpful, Matt. Those are all the questions that I had. Matt, anything else to add?

Matt Bisanz: No, I'll just say that I did not think I was going to get so many puns out of this not making sense. And if I could get a penny for your thoughts on what the solution should be, it has just been a field day for many puns. And as a father to a four-year-old, I already was working on my dad jokes, and this has just given me a whole new outlet to use them.

Kerri Webb: That's fantastic. Kris, any final thoughts?

Kris Kully: No, but thanks so much for this information. And I know most of what we're thinking about is whether we can help the crisis by taking all the pennies out of our jars at home and supplying them. I think we'll just let the penny go the way of the dodo bird, perhaps.

Kerri Webb: Thank you for listening. This has been Financial Services Focus.