Is Your Business Prepared to Handle Rising Interchange Fees?
Unlike chargebacks, interchange fees truly are an unavoidable cost of doing business.
Every merchant who accepts payment cards pays interchange. Unfortunately, determining how high those fees should be remains a point of contention between merchants and banks, and the discussion only gets more polarizing from here.
What Defines Interchange?
First things first: let’s address what constitutes an interchange fee.
Interchange is the fee imposed on each payment card transaction by the cardholder’s issuing bank. Fees are defined by the card schemes, and are typically a percentage of the overall transaction between 0.8% and 2.9%, along with a flat fee between $0.10 and $0.22. Determining the interchange fee for a given transaction depends on different factors including:
- Card scheme involved (Visa, Mastercard, etc.)
- Is the card credit or debit?
- Card type (business, corporate, gas, etc.)
- Is the transaction domestic or international?
- Is AVS used?
Interchange seems like a small expense, but it adds up quick: according to the Card & Payments World US Country Report, merchants paid an average of 1.49% of total sales in the form of interchange fees in 2016. With $5.936 trillion in domestic sales that year, the total cost of interchange added up to a staggering $88.39 billion.
Interchange Limits Set by Dodd-Frank
The above factors determine each transaction’s interchange fee. But another factor—the Durbin Amendment—is what caps how high those fees can be.
Average Interchange Fee
|Before 2011||After 2011|
|$0.44 per transaction||$0.24 per transaction|
The Durbin Amendment was adopted as part of the Dodd-Frank Act in 2010. The law requires the Federal Reserve to set limits on how much banks with more than $10 billion in assets can charge for debit transactions.
Prior to 2010, there were no limits on the amount institutions could demand for transaction processing; at that time, card sales averaged roughly $0.44 per transaction. After the rule took effect, the Fed set the maximum legal debit card interchange fee at $0.21 + 0.05% of the transaction total. That formula cut average interchange fees substantially.
The Durbin Amendment on Shaky Ground
Major national retailers had advocated for those reforms for years. Not everyone was happy with the arrangement, though: the banking industry collectively lost tens of billions of dollars each year due to lower fees after the Amendment’s passage.
Many activists and economists in favor of free market policies also criticized the law. They claim the Durbin Amendment lead to higher banking fees for consumers. While the possibility of a banking cost increase was expected to be offset by price drops from retailers, prices did not fall to compensate.
As a result, there’s been a vocal movement to repeal the amendment and return to pre-2010 interchange fees. Attempts at a repeal in May 2017 failed, but it’s very unlikely that critics of the law have given up.
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The consensus is that the Durbin Amendment is on borrowed time. As Electronic Payments Coalition Executive Director Molly Wilkinson put it: “Customers are not benefitting from the price controls on debit interchange transactions…consumers support ending this failed policy.” Given the general anti-regulatory climate in Washington, the Durbin Amendment will likely be repealed sometime soon.
Where Can Merchants Cut Excess Interchange Costs?
The only control on interchange fees after the Durbin Amendment’s repeal will be market forces; essentially, what sellers can afford to pay. Interchange fees are certain to rise as a result. Merchants’ best response to this change is to minimize costs, and ensure that they don’t need to pay interchange on transactions that will be overturned later by a chargeback.
Chargebacks are a form of payment reversal in which funds are withdrawn from a merchant’s account after a transaction and returned to the customer. Chargebacks tend to affect eCommerce sellers much more than brick-and-mortar, and they carry numerous consequences for merchants. Lost sales revenue, merchandise, and shipping costs, and greater threats to long-term business sustainability are all the result of chargebacks.
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With either a credit or debit card chargeback, even though a transaction is overturned, the merchant does not recover the cost of the interchange fee. Given that chargebacks are projected to cost merchants roughly $22.5 billion in 2017, that translates to over $300 million in lost interchange fees.
Now imagine the added costs once interchange fees revert to pre-2010 levels.
Red-Hot Rise of Costs
Merchants lost $16 billion in 2015 due to chargebacks.
Chargeback rates increase by roughly 41% every two years.
Without proper chargeback management, merchants could easily be shelling out close to $1 billion in unnecessary interchange fees by 2020. Every business operating in the eCommerce space will need to act and ensure that they’re not paying out more than necessary in interchange.
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