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Chargeback Scheme

How Much Do You Know About the Chargeback Scheme?

The chargeback scheme was devised by and for the payments industry. If you’ve been a merchant long enough, you’re probably at least somewhat familiar with it.

This is a process that allows consumers to recover funds in the event of fraud. If a criminal uses a cardholder’s identity to make fraudulent purchases, for example, the cardholder can turn to the issuing bank and request a chargeback. The bank then overturns the transaction, making their customer whole. It’s a fair system, by all outward appearances. But where does the right to file a chargeback come from?

As discussed in our recent post on chargeback laws, the Fair Credit Billing Act of 1974 established that customers in the US have a right to dispute credit billing. Myriad laws guarantee consumers similar rights in many jurisdictions, like Section 75 of the Consumer Credit Act in the UK. Many of the details of the dispute process, however, are not formally enshrined in law.

The Uniform Commercial Code only provides an outline of the process for card networks to follow in writing policies for their brand. From there, card networks like Visa and Mastercard each developed their individual plans in response to the legislation. Seen in that light, the chargeback scheme is an industry-devised response to a legal mandate.

Breaking-Down the Process

Because of the way the process was developed, the chargeback scheme is not a unified process. It can—and does--vary in many ways from one card brand to another. However, there are a few basics that remain consistent.

Chargeback Scheme: Parties Involved

A dispute generally involves five key players, each of whom plays a specific role in the chargeback scheme:

Cardholder:

The owner of the account involved in the disputed transaction.

Merchant:

The entity who accepted and submitted a payment from the cardholder.

Issuer:

The bank who issued the payment card and/or credit on cardholder’s behalf.

Acquirer:

The bank who processed and submitted the payment on the merchant’s behalf.

Card Network:

Also called a “scheme” or “association.” Established the transaction rules to be followed by issuers and acquirers who are members of the network.

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Chargeback Scheme: Step-by-Step

The five main parties interact in different capacities during the chargeback process. The exact steps will vary based on certain circumstances and the rules in place at the card network level. That said, a typical dispute proceeds as follows:

The Cardholder

Identifies a transaction as illegitimate and contacts the issuer to ask for a chargeback

The Issuer

Submits a chargeback on the cardholder’s behalf, withdrawing the funds from the acquirer according to the rules established by the card network.

The Acquirer

Withdraws the funds from the merchant’s account to cover the chargeback amount

If the merchant believes the chargeback is an error, or that the customer is committing friendly fraud, they can proceed to the next steps:

The Merchant

Assembles compelling evidence and submits it to the acquirer, along with other documents like the rebuttal letter

The Acquirer

Submits all information to the issuer (a process called representment)

The Issuer

Reviews the information submitted by the acquirer. If the case is compelling—and correctly submitted—the issuer overturns the chargeback. Otherwise, they side with the cardholder

If the issuer accepts the merchant’s case, then the chargeback process ends. If they side with the cardholder, though, the merchant can still choose to appeal the decision to the card network. This is called arbitration.

The Acquirer

Submits the case information to the card network for review

The Card Network

Reviews the information and issues a decision. The losing party is then responsible for paying an additional arbitration fee.

Problems With the Chargeback Scheme

The chargeback scheme originated both to comply with the law, and to help boost consumer confidence in credit cards. At the time, credit cards were an innovation, and many were skeptical of them. At the time, chargebacks gave consumers reassurance that they were protected, and seemed like a viable countermeasure for fraud and abuse.

Today, however, it’s far from an ideal solution.

The primary issue with the chargeback scheme is that it is not responsive to changes in the marketplace. The process was created nearly half a century ago, at a time when the developers couldn’t anticipate things like the internet, or the profound impact eCommerce would have on global payments.

Another related issue is the lack of consistency in the chargeback scheme across different card brands. Visa and Mastercard—the two largest card networks in the US—have similar processes in many regards. Overall, though, the Visa chargeback process is distinct from the Mastercard process in multiple areas.

And in fact, each card network has its own unique ruleset. For example, Visa overhauled their entire chargeback process in 2018 with the Visa Claims Resolution initiative. While Mastercard has some similar changes planned as part of their Mastercard Dispute Resolution Initiative, they are still completely different in practice.

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As a result of all the different information and requirements, the chargeback scheme becomes difficult (if not impossible) to parse. Addressing this dense regulation requires specified expertise…something to which few merchants have access.

Can the Chargeback Scheme Evolve?

Of course it can. In fact, the chargeback scheme must evolve.

As discussed above, the process we use to file, dispute, and resolve chargebacks is dangerously outdated. It’s poorly suited to the needs of the eCommerce marketplace, which is why we’ve seen such a rapid increase in friendly fraud cases over the last decade.

We already mentioned the recent and currently underway Visa and Mastercard policy changes. However, other payments industry innovations demand a response as well.

Take, for example, the changes authorized under the second Payment Services Directive, or PSD2. With this new EU ruleset, companies like Google and Facebook can now act as financial institutions. However, the rules were not clear about how chargebacks involving tech companies should be handled. And, even if one card network provided guidance, it would not necessarily carry over to another brand.

All of which brings us to the operative word to describe what the chargeback scheme needs to survive: standardization.

Change happens fast in the digital marketplace, but response from the industry tends to be a plodding, haphazard process. A concentrated, coordinated approach is required if we are to develop the dynamic payments environment we need, both for now and for the future. Card brands, banks, and merchants need to be involved in the conversation.

Want to know more about standardization? Have questions about navigating the minefield of different chargeback scheme arrangements? Click below to speak with one of our experts today.


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