Knowing how your company stacks up against best practices and overall costs of acquiring your card-based sales is becoming more important, especially given the increasing growth of e-commerce and overall card-based sales, writes Aeron Sharp.
Unravelling the complexity of interchange fees
Did you know that the merchant card market in the United States is considerably more complex than most other nations in the world? Did you know the payment card interchange rates in the U.S. are the highest in the developed world?
Knowing how your company stacks up against best practices and overall costs of acquiring your card-based sales is becoming more important, especially given the increasing growth of e-commerce and overall card-based sales.
What makes the fee structure of card payments so complex? First, numerous players touch every transaction starting with the obvious consumers who purchase the goods with their debit and credit cards and the issuers from whom the consumers request the cards, and finally, the merchants who accept the consumer’s cards. Then there could be dozens of different potential players who could potentially touch every transaction along the path!
In addition, some of these intermediaries play more than one role. There are the closed network providers, eWallets, eWallet platforms, merchant processors, gateways, mobile POS providers, merchant acquirers, third party processors, point-of-sale terminal vendors, integrated system providers, Independent Sales Organizations (ISO’s), on-line providers, in-store providers, fraud control providers, customer authentication providers, card associations, and others! Are you overwhelmed yet?
Therefore, I think we can agree that it is a complex matrix of players between the swipe of the card and the deposit of funds into the merchant’s bank account. The primary questions that we ask ourselves are, “where do the fees get applied, who gets paid to do what, and how do they get paid”?
The overall cost per transaction is a percentage of the value of the transaction and ranges typically from 1.5 to 3.5% of the purchase. This total cost is absorbed by the merchant and is netted out of the value of each sale upon settlement by the processor who is hosting the merchant’s account before the merchant gets any credit posted to its account.
There are three primary components to this total cost, or effective rate:
- Interchange fee paid to the card issuing banks;
- Dues and assessments paid to major card networks (e.g. Visa, MasterCard; as a side note: American Express and Discover earn their own fees, as they operate as closed networks.
- Fees paid to the merchant’s bank or payment processor and/or card acquirer.
We will first focus on the interchange fees which are most significant and account for up to 90% of the fees applied to a transaction. Visa/MasterCard have set up a complex matrix of over 700 possible interchange rates and regulations in the United States which has created unnecessary complexity and potential for confusion. These fees are paid to the card issuing banks.
The amount of the interchange fee depends on many factors, including the type of card, the merchant’s designated industry code, the amount of the transaction, whether the card is present at point of sale, or if the transaction is considered “card not present” or ‘CNP’. For example, a CNP could be a B2B, over the telephone, card-on-file, or one originated through an e-commerce website. The interchange revenue received by the issuers covers costs of any rewards programs, their internal costs, including fraud costs, leaving the remainder as profit. Despite the complexity, interchange fees CAN be managed and in some instances, negotiated with the card networks.
Next we will focus on the network assessments and dues. Card networks sell their reliability and expanse and earn fees on every card transaction that flows on their ‘rails’. For a merchant producing greater than $100 million in card sales, these fees would account for about 8% of the total cost.
Lastly, the Processor/Acquirer fee accounts for the remaining 2% of the total merchant discount fee. Card Processors and Card Acquirers earn fees on every payment card transaction. Card processors serve as the settlement and processing entity for the payment card system. There are ten card processors that account for the majority of payment card transactions. A Card Acquirer can take many forms: a sales organization, a bank, a processor, or an entity that acquired the relationship with the card-accepting merchants. There are 1000’s of card acquirers. Many merchants do not realize that they are paying for both their processor and acquirer.
Given the interchange fee is by far the largest component, can a merchant actually achieve an optimal interchange rate? Yes, you can take some strong steps towards that goal:
- First, verify with your Processor and/or Acquirer that your Merchant Category Code is correctly assigned. Be sure it most closely reflects your business profile.
- Next, merchants should be able to analyze data from their authorization and settlement systems to identify the sources of significant variances and take action.
- Where ever possible the merchant should be identifying transactions that do not qualify for the best rates. Are ‘downgrades’ being tracked and investigated for potential staff training? Some typical causes for downgrades include
- Delayed settlement or stale authorizations;
- Lack of using address verification systems on select Visa transactions;
- Lack of collecting Level 2 or Level 3 data for Commercial Cards;
Ask yourselves, “Is your company optimizing Point of Sale and payment systems for AVS prompts? Are you able to respond to PIN prompting or least-cost routing? Are you using Level 2/3 data transmission for commercial cards?”
These are some best practices that can help manage your interchange fees and hopefully provide improvements to your bottom line! I think we can all agree that, due to the complexity and high cost of interchange fees in the U.S., there is a critical need to focus on what may be a merchant’s highest expense in actualizing revenue. Who is watching the card fees at your company?