Interchange fees make up well over half of the costs that merchants pay for every credit card transaction their customers make. Sellers often hold their noses and bear the burden of these fees without really understanding their nuts and bolts.
Here’s a quick overview to help you learn about these charges so that you can be more empowered as a business owner.
Interchange fees defined.
In a nutshell, interchange fees are charged between banks when card transactions take place. After the customer’s purchase is made, your acquiring bank pays a fee to the cardholder’s issuing bank.
These fees are set by the card networks and usually include a flat charge along with a percentage of the purchase amount.
You might be wondering why interchange fees need to exist in the first place. The bottom line is that they are used to cover the costs incurred to authorize and process card transactions.
Card companies also use the proceeds to fund their incentive rewards programs. Additionally, fees help to cover some of the costs of maintaining and operating the card networks, including providing the most up-to-date fraud prevention and security measures.
How are interchange fees determined?
There are several factors that combine to determine what interchange fees your merchant processor will charge. Among them are the type of card the customer uses (credit or debit), the type of transaction (in-person or card-not-present), the region where the transaction occurred, and the nature of the business.
Specifics of calculation of interchange fees.
The factors that go into the complex calculation of interchange fees include the following: The type of card used (rewards cards come with higher fees); transaction method (card-not-present transactions are costlier, for example); the merchant category code (because some businesses represent more risk of fraud than others); size of transaction (larger purchase price means higher fees); and how the transaction is processed (manual keyed-in, for example, has a higher risk of entry error and thus has higher fees).
Each card company determines its own fees, announcing them twice per year.
Interchange fee pricing models.
Businesses are billed by payment processors for interchange fees using three different pricing models.
Interchange plus pricing.
The business pays the card network’s interchange fee plus a fixed or per-transaction markup that the payment processor sets. Although the per-transaction fee can fluctuate, the merchant always knows exactly how much they will be paying over the base cost.
Tiered pricing.
The charges are divided into three categories: qualified, mid qualified, and nonqualified based on the risks and rewards of the transactions. In this model, each tier has its own rate, and costs are not as predictable.
Flat-rate pricing.
This is the simplest fee form. In this model, the business pays a flat fee, a fixed per-transaction percentage, or both regardless of the card type or transaction method. Because the rate does not change along with the interchange fee, the cost is predictable.
However, it is often more expensive than interchange-plus pricing.
How interchange fees work.
When the customer presses the “buy now” button to make a purchase, you send the details to the acquiring bank. That bank then sends the details to the card network, which conveys them to the issuing bank.
After checking the user’s account for sufficient funds, authorization is sent through the network and back to the business.
At the end of the day, you send all authorized transactions to the acquiring bank. That institution sends the batch to the card networks for settlement, and the issuing bank’s account is debited.
Finally, the card network subtracts the transaction fees, sending the remainder to the acquiring bank, which takes out its own fees and then conveys the final payment to the business.
How businesses are affected by interchange fees.
Interchange fees impact merchants in several ways.
They raise operating costs, which often need to be passed onto consumers in the form of higher prices — as with the cash vs. credit pricing common at gas stations. Additionally, deducting transaction fees can affect the cash flow that a company has on hand at any given time.
To lessen the impact of interchange fees, some merchants make changes in their business model such as incentivizing customers to use cash or debit cards instead of credit cards.
Finally, they may affect a company’s choice of payment processing solutions since one may use a different pricing model than its counterpart.
How interchange fees affect consumers.
On the surface, most buyers are oblivious to the effects of transaction fees. However, they make a huge difference to the customer in the long run.
Most notably, merchants may opt to raise item prices to cover these expenses. They may also make it less desirable to pay with a credit card, which could impact how and where a person shops.
Are interchange fees negotiable?
In short, the answer is no.
It is the card companies (Visa, Mastercard, Discover, and American Express) who set these fees and standardize them for all customers. That being said, the total fees a business sees on their bill will be lower or higher based on factors such as the card used, the type of transaction, and the other factors described above.
Although you cannot haggle when it comes to transaction fees, you can negotiate other costs charged by your merchant services provider. You can also incentivize payment methods that garner lower fees or reward customers for using the more economical methods you prefer.
Keep an eye on your processing statements, and shop around if necessary. Also, you can lower costs by consolidating multiple individual card transactions into a single batch.
Finally, keeping your payment hardware and software updated can be an excellent long-term preventive strategy. When everything is upgraded, security risks are lowered, as is the chance of chargebacks.
Over time, your merchant processor might lower your costs because you represent a reduced risk.
Interchange fees significantly affect every player in the card transaction process. They support the card companies, affect merchant cash flow and pricing, and influence the customer experience in numerous ways.
Although you cannot make these costs go away, at least now you know the role they play in the big picture of your company’s operations.
