The Green Sheet Online Edition
January 26, 2015 • Issue 15:01:02
Risk worth the reward High-risk: A macro perspective
Having been involved as a contributing writer and Advisory Board Member of The Green Sheet for over 13 years, I am excited to now have the opportunity to write periodically about the industry of high-risk credit card processing (versus sharing my opinions about conventional processing, which I have expressed over the past decade).
This first article about the high-risk processing industry will be more generic in form and will provide a macro perspective of the industry. In subsequent articles, I will focus on more specific features of the high-risk processing industry.
An opportune time for payment pros
The payments industry is in a state of change and commoditization – this is a pretty obvious statement as the news is inundated with stories about Apple Pay, Square, and stock valuations of Visa Inc., MasterCard Worldwide and mobile processing enterprises.
What a great time to be in the payments industry. It's also a fine time to enter the growing high-risk processing arena; however, high-risk credit card processing does not command national attention. The term "high risk" is not a dirty word and involves many variables I will discuss herein.
As risk underwriters and risk managers become more conservative in their policies and procedures and while, at the same time, more small businesses continue to open, it makes logical sense that many more businesses will now be classified as "high risk" versus years prior when they would have been considered "traditional" merchants and probably would have been automatically approved.
The Small Business Administration has gathered some enlightening facts about the small business merchant sector (businesses with fewer than 500 employees, as defined by the SBA), which I assume, based on my years in the payments industry, comprise the majority of my own customers, as well as yours.
There are approximately 28 million small businesses in the United States, and over 22 million are self-employed individuals with no additional payroll or employees. In addition, hundreds of thousands of new companies become incorporated annually. And as the statistics suggest, over 50 percent will close within three years. This rate of business failure means it is critical to continue to board new merchants to your portfolio.
With so many entrepreneurs starting businesses each month, it makes sense that a significant proportion will be deemed "high risk." If you do not have the knowledge to understand the difference between high-risk and conventional merchants, you, as ISOs and merchant level salespeople (MLSs), are reducing your pool of potential merchants to prospect.
Factors determining risk levels
Each merchant service provider has underwriters who are responsible for determining the risk factor associated with certain types of business and accounts. When determining whether a business type is unacceptable or restricted, a provider considers criteria such as:
- Target industries: The types of industries considered to be high risk are vast. Even traditional merchants, for example, neighborhood retailers and restaurants, may be considered high risk based on the credit history of the owner. Some industries commonly considered to be high-risk include adult, electronic cigarettes, medical marijuana, collection agencies, nutraceuticals, continuity, ammunition stores, travel and vacation, Forex trading, sports information, online education, and many others.
- Chargebacks: Certain business types are prone to having a high occurrence of chargebacks. Any business type that has a typical chargeback ratio of 1 percent or higher is usually considered high risk or unacceptable by most credit card processors. Businesses that use outbound telemarketing, door-to-door sales, multilevel marketing, and third-party order fulfillment are all considered by most providers to be high-risk merchants. These types of business operations all have an increased likelihood of chargebacks for various reasons.
- Credit card fraud: Credit card fraud is more common in certain industries because of the products or services offered. Any business type that has a higher than normal fraud rate will be considered high risk or unacceptable by many providers.
- Charging for future services: Merchants who charge for products or services too far into the future heighten their exposure to excessive chargebacks. Here’s a great example: one of my closest friends owns a sleep-away camp that has served multiple generations, having been established more than 75 years ago. Nevertheless, my traditional acquiring bank would not approve this deal because the payments for camp stays were due in installments 11 months, 7 months and 4 months prior to the start of camp. Subscription publications, online memberships and other similar services are most affected by this guideline.
- Type of merchant: Card-present merchants are always considered lower risk than card-not-present (CNP) merchant accounts (MO/TO and e-commerce merchants are examples of CNP merchants) for obvious reasons, as the card is being swiped at the point of the transaction, thus lessening potential fraud and risk.
- Legality: Businesses that offer services that are illegal, or are closely related to illegal activities, will be considered high-risk or prohibited by most providers.
Too many times, both sides of a business transaction do not value the other side. In short, MLSs want to submit applications and get their merchants approved for processing, and risk underwriters and banks want merchants to process on their platforms while mitigating risk to their organizations. Pretty simple, right? Too many times both sides do not appreciate the position of the other side, and deals get killed for lack of communication. Working a high-risk deal is an art.
I look forward to your emails about issues you would like me to address in future stories. Some subjects I’m already considering include:
- Best high-risk industries for prospecting
- Best techniques to meet high-risk merchants
- Definition of a reserve and a rolling reserve
- Domestic versus international processing
- Load balancing and cascading
- Gateway features
- Funding timelines for domestic and international banks
- Profit margins for high-risk versus conventional accounts
- Chargeback ratios
I hope you will send me other topics for my consideration and review.
Jeffrey Shavitz is President of Alternative Merchant Processing. Prior to starting AMP, he co-founded Charge Card Systems, a payment processing company that focused on conventional merchant processing that subsequently was sold to Card Connect. Shavitz recognized early in his career that many merchants did not fit traditional underwriting criteria and these merchants needed alternative payment processing solutions. He is on The Green Sheet Advisory Board and a former First Data ISO Advisory Board Member. Please contact him at email@example.com, 800-878-4100, or visit www.ampworldwide.com.
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