Another Turn of the Screw: Part 2

Tom Hymes and Kathee Brewer

In the conclusion of this 2 part series, we take a look at what several top attorneys have to say about the implications of the latest VISA / Master Card regulations:

The Attorneys
AVN Online spoke with several industry attorneys regarding these developments, and received far more ominous assessments from them. This was to be expected, not only because of natural professional proclivities or because they have been warning for years that the industry was fatally vulnerable to regulatory crackdowns, but more importantly because, almost to a man, they believe the credit card companies (i.e. V/MC) are in the penultimate stage of fulfilling their part of a devilish pact they surreptitiously struck with the government in which they immolate the adult Internet industry in the United States in exchange for long-desired favorable bankruptcy legislation. [New U.S. legislation at the federal level restricts bankruptcy filings favorably for credit card companies.] This "theory" was first postulated more than three years ago, and now, according to Greg Piccionelli, an ardent believer, it is finally happening.

Gregory Piccionelli
Piccionelli is an attorney with Los Angeles-based Brull, Piccionelli, Sarno, Braun and Vradenburgh. He specializes in patent law, but also has a slew of the major adult Internet companies as clients, as well as a long history of dealing with entrenched corporate entities like V/MC. He offered the following remarks.

"I knew this was going to happen," he said. "We told a lot of our clients that this was going to happen, because we already knew about it." In fact, for years Piccionelli has been predicting that this policy crackdown was going to happen.

"In terms of the cover story," he continued, "VISA and MasterCard are tightening up their regulations ostensibly to further protect themselves from rampant credit card fraud on the Internet. That's what all of this is supposed to be about. (Now keep in mind the drama I've been beating for the last year, which is this vicarious-and-contributory, aiding-and-abetting conspiratorial liability. Keep that in the back of your mind throughout all of this.)"

According to Piccionelli, the seeds of the current situation were planted years ago, when the third-party aggregators took on their current role in the industry. "The aggregators set themselves up for this day when they moved into the position of being the billing entities for the adult online industry rather than each merchant having their own merchant relationship with a bank," he said. "At that point in time, they [the aggregators] were delighted, because they believed that this would once and for all solve the [industry's] problems, that they would manage things a lot more effectively, because that's all they did. And I remember telling them then that it's only a matter of time, because what is happening is that this is just making a smaller number of targets, and if and when the day comes that they [V/MC] want to bomb the industry, it's going to be a much more manageable endeavor.

"So that was the beginning of the process," he continued, "and the aggregators have set themselves up for this day. And now, either the federal or state government, or VISA, but somebody – and I have a strong suspicion, though I'm not going to go out on a limb and say I know, because I don't want to get sued - but I have a strong suspicion that somebody has gone to these aggregators and said, 'You know, you're liable for what goes on, on these sites, and we could nail you right now, but instead you're going to help the government clean up the Internet, and this is how you're going to do it. We're going to change the rules to require you to acquire all this information, and then you're going to get it to us. And we're going to give to you a series of criteria to use.'

"And if the sites don't comply with that criteria," Piccionelli continued, "it will be because the criteria is content oriented. In other words, it will have something to do with the nature of the content on the sites. Now, the government can't do that, because it would be content-based restriction, but VISA can as long as they're not doing it on behalf of the government. And look how nicely VISA has insulated itself from it; they've now gotten the third-party processors to do it. And of course, when the processors are finished with this process, they'll go down too.

"These are the most ominous signs that there have been yet that the war is coming," he said, "because reading between the lines, this is what's going on: One, the aggregators are going to become the parties that accumulate the information that will probably through some means be passed on to the government for evaluation for prosecution. If the aggregators say [to a Webmaster], 'We're not going to process for you anymore,' they may not even give a reason why, because if they do, such as, 'Well, we've been told that the kind of material you have on your site could subject you to criminal liability, and therefore us to criminal liability,' that would basically be an admission that they know that they've been processing for somebody that could have criminal liability. So they probably won't say that, but if, seemingly for no reason, the third party processors just say, 'We've done an evaluation, and we've decided not to take your business anymore,' start sweating bullets, because that probably means that that information about your site has now been turned over, either directly or indirectly, to somebody else."

The next piece of the Piccionelli puzzle has to do with the new geographic restrictions. "The territoriality thing is really a little bit brilliant," he said, "because it takes the argument that if you tighten the noose too much in the United States they're just going to go offshore, and turns it all on its head; which actually may be the government's intent. I think the whole idea is to shut down the adult entertainment business online in the United States; actually get it offshore, because then they can say to the conservatives, 'Look, we cleaned [the Internet] up to the extent that we could, and it will be up to some future Republican administration to come up with some sort of treaty,' and they'll just blame it on the Europeans, and everyone will just go, 'Well, of course, the Europeans.'"

To Piccionelli, one big nail in the adult industry's coffin is the fact that data is being requested by VISA down to the individual URL. "I think this should be a tremendous shot across the bow for the industry," he said, "because [typically] you bomb the enemy before you send in troops, and the equivalent of that here is that you do an investigation, you acquire all the information you need, and then you get indictments. And what we have here is that, Website by Website, they're going to know what's going on. Now, you have to understand that knowing what's going on Website by Website should be immaterial, because if you were going to take a look at the recurring billing situation of, say, a gym, would VISA and MasterCard care how many chargebacks come from the Westlake Village branch of 24 Hour Fitness versus the Van Nuys branch? No, they don't care. They just say it's one corporation and want to know what the chargebacks are for the corporation. So why would they be interested in chargebacks Website by Website? Well, because for criminal prosecutions based on content, it's Website by Website."

But that's not the only motive, according to Piccionelli. "[Another] reason why they [VISA] want [to receive data] Website by Website is because then they can say, 'New rule: Since the way that these sites acquire the customers that generate these chargebacks is through an affiliate program, we want to know who the affiliates are that are sending the traffic to that site.' Then they will say that if you are a merchant that affiliates with one of these people that have been known to send traffic that generates high chargebacks, they're going to terminate you. That's the 2003 turn of the screw, where all member sites that are in the crosshairs [will be faced with] the decision: Are we going to turn over to the IPSP our list of affiliates?

"In fact, I predict it'll go one more step down," continued Piccionelli, "and one day one of these IPSPs will knock on the door of one of the [sponsors] and say, 'We've been told by VISA that we have to terminate you, but they did give us an alternative. If you could clean up your act and try to identify where the traffic is coming from that produced the chargebacks, they'll give you three months to try and fix the situation.' And of course, some of these guys will say, 'No thank you; I've got processing offshore.' But others will [give them] the list, and those guys, when they're dealing with their IPSPs, will think, 'Great; saved again, thank you very much.' They won't know that when the three months elapse and they've given away all the information, the map, that they're doomed, along with their affiliates.

"By the way," added Piccionelli, "you should also notice that the merchants will now be called Sponsored Merchants. [What that means] is that if you are one of these new IPSPs, VISA can now say to you, 'If you want to stay in business you have to do it this way; you have to sponsor the merchant, which means that you are going to be responsible for these guys, and we're going to hold you accountable.' Now, what if 'hold you accountable' means that VISA lets these guys know that there are all these criminal laws out there, but 'we're not going to evaluate the sites that you're sponsoring, but maybe you should?'

"Now that you have a nice tight system where you know the affiliates of each one of the people who actually have the money," said Piccionelli, bringing the scheme full circle, "that's when you start going to the affiliates and saying, 'You have this harmful matter and all this obscene material on your site. We're going to prosecute you unless you go out of business and admit that you've been getting it from this [sponsor] and that they knew perfectly well [what was on your site], despite their terms and conditions.' After they do five, six, or 10 of these people, now they have all they need for a RICO action against the [sponsor], and then they go after them. And remember, it has to happen relatively quickly, because they've got to get [the Internet] cleaned up for the 2004 election."

In such a scenario, where an unsupervised para-governmental entity can potentially stage-manage the exile of an entire industry, one has to wonder why any company would allow itself to be manipulated toward its own banishment, not to mention to turn over on members of its own community. "Because the affiliate program Webmasters [sponsors] have made so much money they'll do anything to stay in business," explained Piccionelli, "just like these aggregators will also do anything to stay in business."

Lawrence Walters
Larry Walters is a Florida-based partner with the bi-coastal law firm Weston, Garrou & DeWitt, who specializes in obscenity and Internet law and has a longtime devotion in First Amendment issues. He sent AVN Online the following comments on the day of the announcement:

"The recent policy implementations by VISA demonstrate its desire to distance itself from controversial transactions online. They also provide quite a bit of evidence that could ultimately be turned over to law enforcement, if any criminal allegations surface. A few months ago, the major merchant banks, along with PayPal, refused to continue processing online gambling transactions. The recent restrictions on third-party billing processors will now have a similar impact on the adult Internet industry. The registration fees, information disclosures, and residence requirement all make it more difficult for unscrupulous Webmasters to hide, but also take smaller players out of the game. Obviously, these policy changes impact the foreign Webmasters most dramatically, but also demonstrate an overall concern by VISA regarding its perceived association with the adult industry. VISA knows how the conspiracy laws work, and wants to head off any problems at the pass.

"These new policy changes may result in more foreign Webmasters seeking to form a corporation or otherwise establish a presence in the United States. Industry attorneys should probably prepare for a flood of corporate work!"

The next day, Walters sent this follow-up. "All day long I have had my foreign clients asking me to set up U.S. corporations or bank accounts to comply with the new VISA regulations. Now I hear that VISA has clarified its 'presence' requirement. They will require all companies to have actual staff people in the U.S. This raises interesting implications, including a requirement that the companies now pay U.S. federal income tax on their earnings. Hmmm."

Later in the week, AVN Online spoke with Walters by phone, and he added the following thoughts: "The first thing that jumped out at me when I read through these [new policies] was that it harkened back to the Michigan thing." [Michigan Attorney General Jennifer Granholm threatened several aggregators with criminal prosecutions if they didn't stop processing for sites she claimed contained child pornography, even though it turned out that several of them in fact had never had any child porn on them, and were entirely legal Websites].

"It seems obvious that each and every one of these regulations is designed to make sure that VISA knows who they're dealing with, and that they have someone to go after if they need to point the finger at somebody, and that they can't be held responsible on their own, because they're always going to have some company present here in the United States to deflect liability onto. Otherwise, as in the Michigan situation, you'd have all these foreign Webmasters that no one can ever go after, which puts the heat back on the processors, and, potentially, VISA. So they want an IP address, stats, and a corporation here in the States that they can go after and say, 'Here's the bad guy; leave us alone.' Politically, that's an easier sell than, 'Oh well, we can't find them, but we're processing for them.' The consequence is furthering the policies of the United States government, which is something they want to do, because they’re [simultaneously] trying to push through this bankruptcy legislation, and they're willing to do anything that is necessary. ...this society collectively has to find a way to bring online transactions to the surface, and not allow them to be hidden in a sea of obscurity...

"Now the IPSPs are in the same trick bag as the AVSes [Adult Verification Services], where they've got the ability to kick out sites that are committing either copyright violations, child porn, or whatever, but they don't want to take on the liability of having to do that and having to review them on a regular basis, like the Perfect 10 [court order] requires [Adult Check] to do. In that sense, it's a very difficult position to be in, and there may be some unintended consequences that could impose more liability on VISA even though it seems like their ultimate goal is to reduce their liability."

Although Walters freely admits that "one end of the paranoia spectrum could be cooperation between VISA and [Attorney General John] Ashcroft," he also sees a potential silver lining to the new regulations, at least in terms of remedying an unacceptable existing state of affairs. "I think this society collectively has to find a way to bring online transactions to the surface, and not allow them to be hidden in a sea of obscurity, allowing a lot of unscrupulous, fraudulent, and shady practices to occur under the guise of hidden electronics. If you force these companies to come out in the open and establish a presence, and provide information about what they're doing and where they're going, it may have a spin-off effect of legitimizing the industry more so than it is."

In the end, Walters is taking a wait-and-see attitude. "It's going to be interesting how the industry reacts to it, and how forceful they are with implementing these things, because it's one thing to say this and come out with these press releases, [but] it's another thing how they're going to enforce it."

J. D. Obenberger
Joe Obenberger is a Chicago attorney whose firm, J.D. Obenberger & Associates, covers the gamut of legal issues confronting Webmaster and content producer issues. He sent AVN Online the following comments:

"These are the problems. Number one, you can't get registered for processing unless you have a presence in the country where the processing company's located. I think that may mean a bank account ... though the way it's been explained to me is that the [IPSPs] are going to require that the foreign Webmasters have corporations in the U.S.

"Now let's follow that through. If there is income that goes from a third-party biller [IPSP] to an American entity, you have a taxable event. That means that New Zealand or Canadian Webmasters are suddenly going to lose a third of their income to American taxation. Previously, their money got wire transferred from the processor directly to their banks in New Zealand and Canada, but now the money flow is going to be from the processor to an American entity's bank account. I'm really worried about that issue, because the logical thing then would be to pull out of iBill, CCBill, and Epoch and get overseas processors, even though I know that these [foreign] people have wanted to use American processors.

"The other thing that concerns me about this is that it sounds like VISA is trying to have its cake and eat it too. The way I understand it, the whole reason this industry of third-party processors has arisen was because VISA and MasterCard didn't want to have direct dealings with adult Websites, both for public spin issues, but also for legal liability if a site is guilty of obscenity or child pornography. This gives them plausible deniability and insulation – it's a firewall between them and the porn.

"One thing I think may have fueled this is the problem of what to do with chargebacks. I've heard stories that major players in the U.S. have caused third-party billing companies to go under because they were suddenly faced with chargebacks they couldn't absorb and that they couldn't collect back from the subscriber or the subscribing Website. So the banks are trying to have two things simultaneously, insulation and control. Whenever you see something like this, it's a lawyer with too much testicularity."

Clyde DeWitt
A founding partner of Weston, Garrou & DeWitt, Clyde DeWitt has written a plethora of articles over the years about all aspects of the adult Internet industry. He referred us for comment to his partner, Larry Walters, but did want to file the following opinion:

"As we have learned from the series of articles I wrote a couple of years ago about merchant processing (Part I, Part II, Part III, Part IV), the near monopoly enjoyed by VISA and MasterCard allows them to wield staggering economic control over all forms of commerce, especially the Internet. The latest development is just another example of them clubbing merchants over the head."

AVN Online contacted Visa for comment and clarification as soon as this story broke, directing the query to Visa International's PR contact for Electronic Commerce, who forwarded our request to a Visa USA Corporate Relations representative, who said she would answer any questions we had. We immediately forwarded a series of questions to her, and since then we have been told on a daily basis that they are still researching the answers. We will provide them when they arrive.

One question to which we did receive a partial explanation, and a curious one at that, was why Visa USA was answering these questions when the IPSP announcement states, "These rules are worldwide, not just in the USA."

Initially Casey Watson, the Visa International contact, wrote, "My colleagues in our US Region will be working with you since the material you reference is specific to the US marketplace. We needed to do a little research before we responded." Then, after we stated our confusion as to whether the regulations were domestic or International, Janet Yang, the Visa USA rep, responded, "When Casey referred to this as a USA matter, she meant that this new policy was initiated by the US region. How this plays globally ... I'm not sure, but I'm working to find out."

Erick Black and Tripp Daniels also contributed to this report.

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