What to do about wireless termination fees

Early termination fees for wireless cell phone contracts came under fire during a Federal Communications Commission hearing Thursday as commissioners examined an industry-backed proposal that could soften the blow of these fees for some consumers.

The FCC held the hearing to gather more information as it considers a proposal that would give new cell phone customers a 30-day grace period to cancel their contracts without penalty. After those 30 days, early termination charges would then be prorated or reduced over the duration of the contract.

In exchange for accepting this proposal, wireless operators have asked to be absolved from ongoing lawsuits that could cost them hundreds of millions of dollars.

Wireless operators seem to have won at least the initial battle in their legal wars over early termination fees. Also on Thursday, a California State jury ruled in favor of Sprint Nextel in the first of these class-action lawsuits.

FCC Commissioner Kevin Martin acknowledged that early termination fees, which range from $150 to $225, were problematic, stating that "in practice (it) can leave people locked into a service that they really want to leave." He even joked that his wife, who apparently is unhappy about the fees, had volunteered to testify at the hearing.

But he said he was skeptical that the class-action lawsuits would resolve issues for all consumers. And he offered his own proposal, which was similar to the industry's proposal.

Martin proposes that fees be prorated, as the industry has suggested, but he also said that the fee should be based on the cost of the phone. For example, the fee for a service with a $50 phone would be lower than one for a $500 phone, he said. He also said fees should be reasonable, and that customers should be given a suitable time period to evaluate the service before being penalized for canceling service.

Consumer advocates and state regulatory officials said that even prorating fees is not enough. Anne Boyle, chair of the Nebraska Public Service Commission, called for these fees to be abolished altogether.

"The industry should do away with these contracts and let people purchase the products on their own and pay for service on a month-to-month basis," she said. "It's the most common method for providing products and services in this country."

Boyle and other state regulatory officials also argued that states--and not the FCC--should have authority over carriers and the fees they charge. Martin argued that a single, federal policy is needed to protect all consumers, especially in states where no policies are implemented.

"Don't you think that some kind of federal rules, even if it was a floor, is better off for the consumers who have none?" Martin said to the panel during the hearing.

Operators claim these fees are to recover the cost of cell phones, which they subsidize in exchange for customers signing up for long-term contracts. And they have long argued that without contracts or fees, customers would be required to pay more upfront for phones.

"If we didn't have early termination fees, we would be here today talking about how to lower the barrier to entry for subscribers," Tom Tauke, executive vice president of public affairs for Verizon, said of during the hearing. "(The current model) has proven to be a good business model giving consumers access to the latest devices and allowing wireless companies to offer them at subsidized prices."

But Lee Selwyn, an expert on telecommunications policy and economics, testified at the hearing that the early termination fees carriers charge is roughly 12 times higher than the cost of the actual subsidy. He said that, on average, carriers are only paying about $14.33 for each phone they sell to a consumer.

He also said that carriers have overstated the loss in profit they face when customers terminate contracts early. He said that operators build their level of churn (or customer turnover) into their forecasts for capital and operational spending. Ultimately, carriers only lose about $0.70 of profit per month on customers who terminate contracts early. So for someone who still has 13 months left on a 24 month contract, a wireless operator is only losing roughly $9 in profits, a far cry from the $150 or $200 it charges customers to leave its service early.

In general, wireless operators are reacting to the public outcry over these fees by revising their service plans. AT&T and Verizon Wireless, the two largest operators in the U.S., have already begun prorating cancellation fees. And the other major carriers have said they will do the same. Some operators have also stopped restarting contracts when customers make changes to their service plans. But so far, not one major wireless operator in the U.S. has said it will get rid of early termination fees altogether.

Instead, operators argue that customers who don't want contracts have other options. Most of them offer month-to-month plans for customers who buy their own cell phones. But Boyle and Selwyn pointed out in their testimony Thursday that these month-to-month plans are often more expensive than the plans offered with subsidized handsets.

"Common sense dictates that the customer that buys his phone outright would pay a lower monthly fee," she said. "But they don't. It's the funniest math I've ever seen."

But Verizon's Tauke said consumers have plenty of alternatives to contracts, and he said that his company is moving toward giving customers more freedom and choice.

"Today if you walk into a Wal-Mart, there are lots of options in terms of prepaid phones," he said. "And (at Verizon), we are moving toward an open development system so that you can purchase devices from people not affiliated with our company."