Credit Card Processing, Part 3: Reducing the Cost

Credit cards are the principal method of payment for ecommerce customers. But for merchants, the backend infrastructure of processing and collecting the funds is often bewildering.

This is the third and final post in which I answer frequent payment-processing questions. The first installment, “Part 1: Learning the Jargon,” contained an extensive glossary of industry terms as well as explanations of fixed versus percentage fees. I’ve capitalized those defined terms when used below.

The second installment, “Part 2: Pricing Models,” addressed the details of “Flat-rate Pricing,” “Tiered Pricing,” and “Interchange Plus.” Each model has pros and cons, which I’ve included in that article.

In this “Part 3” post, I’ll answer questions related to reducing the processing cost.

My Processor charges a flat rate fee for ecommerce transactions regardless of the card. Is that normal?

If you are charged a single flat percentage for all of your domestic ecommerce transactions, you are on a Flat-rate Pricing plan. (International transactions usually have a higher fee.) Stripe, PayPal, Square, and many other processors offer this pricing model.

Flat-rate Pricing is acceptable if you prefer simplicity. You can easily calculate processing fees as well as forecast future expenses for a given volume. Additionally, your monthly statements will be easier to understand.

Be aware that Flat-rate Pricing includes Markup Fees on top of Interchange fees and Card Association Fees. Markup Fees represent profit for the Processor. If you don’t mind relatively complex monthly statements, an Interchange Plus pricing model could save money. Unfortunately, not all Processors offer Interchange Plus. Those that do often require a monthly minimum transaction volume.

Why do some credit cards have higher processing costs?

If you are not on a Flat-rate Pricing plan, premium rewards cards, corporate cards, and luxury cards are more expensive to accept because the Interchange fee (which your Processor pays) is higher.

Someone has to pay for all of those points, rewards, gifts, and privileges! The Issuing Bank will charge Cardholders a monthly or annual fee. The financial institution will also earn interest on unpaid balances. But mostly, the cost of those exclusive cards is paid by merchants via higher Interchange fees. It’s not necessarily bad, however. Holders of premium and exclusive cards will, on average, spend more than holders of a regular credit card. Thus, in exchange for the opportunity to receive larger payments, you are being charged a higher Interchange rate.

My Processor charges a Discount Rate. But I receive no discounts. I’m confused.

In the world of finance, a “Discount Rate” is the interest charged to financial institutions for borrowing funds from other institutions such as the U.S. Federal Reserve. A credit card payment is like a loan. The Cardholder is borrowing money from the Issuing Bank to pay for goods and services. This is the origin of the term as applied to credit card processing.

The Discount Rate is the final, all-in fee that a merchant pays for processing a payment. The Discount Rate includes Interchange fee and Card Association Fee (collectively, “Wholesale Fee”) plus the Markup Fee. Unfortunately, there is no cost reduction, as the name may suggest.

How can I reduce my processing fees?

There’s no easy answer. Payment processing fees are a cost of doing business. However, here are a few ideas that could help:

  • Negotiate with your Processor to try to lower its Markup Fees. Remember, Interchange fees and Card Association Fees are set by the card brands (Visa, Mastercard, American Express, Discover), who prohibit negotiating. Markup Fees, on the other hand, are set by each Processor. Many Processors will lower their Markup Fee for a decent transaction volume, especially for new customers.
  • For merchants on Tiered Pricing, try to reduce Downgrades by your Processor. Downgrades (moving from Qualified Transactions to Mid-Qualified or Non-qualified) increase fees. For example, accepting credit card payments over the telephone will cause a Downgrade. All card-not-present transactions (i.e., ecommerce) are Non-qualified.
  • Use a reputable fraud-prevention platform. When your business accepts fraudulent payments, your Processor will assess chargeback fees. Plus, you’ll lose both the product you sold and the funds you received.
  • Carefully select a Processor. Ask about Markup Fees, tiers, and hidden fees. Don’t fall for the first inexpensive quote you receive. Make sure you understand how the Processor will profit from your business. Compare quotes and make a careful, informed decision. If your business requires value-added services — e.g., subscription sales, split payments, cards on file, fraud verification — make sure to include those fees in your evaluation.
  • Consider Interchange Plus pricing. If you don’t mind the extra work of reading (and understanding) longer, complex monthly statements, and if your business can meet monthly minimum transaction volumes, Interchange Plus pricing will typically offer the lowest rates.

I’m still confused. Is that normal?

Yes. The payments industry is a massive network of financial institutions, Card Brands, and technology providers. Each player provides a service and therefore wants to be compensated. The result is a mishmash of confusing terms and fees. Force yourself to read articles such as this one. Develop a working knowledge of the system to demand better service and more reasonable prices.

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Management & Finance – Practical Ecommerce

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