By Patti Murphy and Dale S. Laszig
Interchange is a critical component of the bankcard business. Originally designed to compensate card issuers and bankcard networks for the cost and risk of clearing transactions, it has evolved into a marketing tool for card brands and merchant service providers. Today's interchange grid encompasses hundreds of individual rates that vary by merchant category, card types and authorization methods and other factors.
"In the beginning of this business, there was one price. My buy rate was 1.59 percent and 20 cents, and I marked it up accordingly," said Richard Wactlar, Chief Executive Officer at The Business Link in Clifton, N.J. "Today we have 700 rates."
While complex and potentially intimidating, today's varied interchange structure creates significant opportunities for ISOs and the feet on the street. When Visa and Mastercard introduce new interchange categories they "seed the market," establishing new avenues of growth for merchant portfolios, said Todd Ablowitz, President of the research and consulting firm Double Diamond Group LLC.
Understanding and demonstrating how these pricing strategies benefit merchants isn't simple, however. "For many people it can seem overwhelming," said Anne Mellin, Division Sales Director at Beyond Inc. "Most of the time, [merchants] get glassy eyed and confused. All they really want to know is what the bottom line is."
Mark Dunn, President of the bankcard consulting firm Field Guide Enterprises LLC, concurred. Dunn, who trains merchant level salespeople (MLSs), said one mistake many MLSs make is trying to explain interchange to merchants, when all merchants really want know is what it will cost them to accept cards: the effective cost.
"Explanations of interchange are where sales go to die," said Dunn, who sometimes tags along and observes clients on sales calls. "I've seen reps launch into discussions of interchange, and the sales just evaporate."
Allan Lacoste, bankcard consultant to Pivotal Payments Inc., said he counsels agents to "stick to the basics" when discussing interchange with prospects. Lacoste trains agents to keep conversations about interchange and merchant statements short and informative.
Most merchants understand they have little to no control over what interchange rates apply to their transactions, Dunn added. "The most important consideration is that they buy from somebody who can answer questions directly and provides a good competitive [merchant discount] rate," he said.
Dave Holman, Division Sales Director at Beyond, believes understanding prospects' and clients' businesses and needs is crucial to sales and ongoing service. "We want our merchants to understand that we're advocating for them, just like an attorney or doctor would," he said.
Providing good pricing need not be a race to the bottom. Seasoned agents understand the strategies that drive interchange pricing and evaluate prospective customers accordingly, Wactlar noted. For example, with some businesses (particularly in emerging markets like schools, government agencies and child care providers), card-not-present transactions are assessed the same interchange rates as swiped transactions. Agents need to understand these types of intricacies. "If you're not picking the right category [for those businesses] you're not using interchange to your advantage," Wactlar said.'
Experienced MLSs understand that interchange pricing is based on merchant categories and industry codes, and can be a valuable resource when evaluating prospective customers. Misrepresenting interchange categories to give merchants unfair pricing advantages or make them look better than they should can cause problems.
Mike Ackerman, President of DigiPay Solutions Inc., related a story involving one merchant whose incorrect designation as a restaurant resulted in an expensive Visa audit. "Incorrectly classifying a merchant account can have harmful consequences for everyone involved: for the agent, ISO, issuing bank and merchant," Ackerman said.
Visa defines the Merchant Category Code (MCC) as a four-digit number that describes a merchant's primary business based on annual sales volume. According to the Card Acceptance Guidelines for Visa Merchants, assigning an accurate MCC "assists in the analysis of merchant sales, performance, assessment of levels of risk, and the development of programs that are the most useful to clients, merchants, and cardholders. MCCs can also be used to help in recognition of a transaction if the merchant name is not familiar to the cardholder," which can reduce cardholder inquiries and requests for receipt copies.
Merchant payment processing performance and bottom-line success are directly tied to how merchant businesses are identified when they sign with acquirers. "Merchant name and MCC description clarity and accuracy are key to avoiding cardholder transaction recognition issues and misclassification of the nature of your business," Visa stated in its guide. "Keep in mind that the purpose of the merchant name is to identify the merchant to the cardholder. Work with your acquirer to ensure your name is clear and discernible to cardholders when they read their statement."
Merchant names must also be consistent with store signage, advertisements and brochures, telephone directory listings, and MCC descriptors.
Mastercard and Visa impose higher rates and stringent underwriting guidelines on high-risk merchants, which include furniture stores, health clubs, Internet businesses and card-not-present (CNP) businesses. Underwriters may require additional information with high-risk merchant applications, such as website URLs, marketing materials, merchandise samples and return policies. Some even review business plans.
According to the Visa Global Acquirer Risk Standards, acquirers must additionally "identify the service provider(s) the merchant uses to process, transmit, or store cardholder data and whether the service provider is compliant with the PCI DSS."
Card brands are also wary of free trial offer business models, which are deemed to pose heightened risks of chargebacks. Many consumers don't understand the terms and conditions of free trials or may dispute the automatic billing that occurs at the end of a product or service trial. Visa's risk standards require additional controls and oversight with merchants that use free or discounted trial periods. "Acquirers that fail to properly supervise merchants and agents that abuse free trial periods may be included in Visa's merchant chargeback and fraud monitoring programs and subject to the imposition of Member Risk Reduction Measures," Visa stated.
Interchange represents the wholesale price of acquiring a merchant transaction; it's the largest contributor to a merchant's discount and approximately 70 to 80 percent of the per-transaction fee. Actual all-in costs, however, vary considerably.
One reflection of this variability is the use of different pricing models by acquirers and ISOs to assess the all-in cost of transactions (the merchant discount rate). Holman suggested some pricing models clearly benefit acquirers. "The more creative they are, the easier it becomes to charge more than they possibly should," he said. Examples of pricing models include interchange pass-through, interchange plus, interchange plus-plus, tiered and blended.
Blended pricing was one of the earliest models to emerge. "It was pretty easy to understand," said payments industry consultant Paul Martaus. That's because every transaction gets priced the same, regardless of interchange. An acquirer/ISO calculates the blended fee based on a merchant's mix and number of transactions. Blended pricing has fallen out of favor with acquirers and ISOs, however, as frequent changes in interchange rates and market conditions rendered it tough to manage. Today blended pricing is primarily used by companies like Square and PayPal.
Tiered pricing (also known as bundled or bucket pricing) is perhaps the most complex pricing model in bankcard acquiring. It typically employs three pricing tiers/buckets – qualified (applied to standard credit cards), mid-qualified (key-entered transactions) and non-qualified (rewards and other specialty cards). It's also common to find numerous other buckets with different rates that kick in when transactions are downgraded for processor/acquirer-specific reasons.
With interchange pass-through, a flat per-item charge and a flat basis point surcharge gets added to the assigned interchange rate and associated dues and assessments that are levied by the card brands. "This represents the most honest and straightforward pricing method out there. It's completely transparent," Martaus said.
Interchange plus is similar to pass-through and a more commonly offered pricing model. It's a flat markup, regardless of the type of card used. The markup consists of a fixed percentage (for example, 50 basis points) of the total value of card transactions processed in a given month, plus a fixed amount (usually expressed in cents) per transaction.
"Interchange plus-plus is the latest variation on the interchange-plus theme," Martaus said. It adds more than just basis points and pennies to the cost of interchange, by introducing other assorted fees and markups of things like dues and assessments. Also contributing to pricing variability are charges assessed by acquirers, such as one-time setup fees, recurring account maintenance fees and PCI-compliance fees.
The existence of hundreds of interchange rates, and acquirer-specific models for marking up these wholesale costs, has rendered statement analysis a critical component of the merchant sales process. A careful, line-by-line analysis of a merchant's monthly processing statements will reveal a true, effective per-transaction rate inclusive of marked-up dues, assessments and other fees, experts stated.
It's an educational process, said Dave Yohe, Vice President of Marketing at BillingTree. Educating clients and prospects about factors that impact rates – such as card data entry, access channels and integration partners – is a critical part of the business relationship. "We work with clients to educate them about the differences between published interchange rates and what they see when their statements come in," Yohe said.
Mellin said it's not uncommon to find inflated fees on statements, particularly among ISOs and acquirers that advertise very low effective rates. "For some, the only way they can make money is by padding everything," she said.
Steven Feldshuh, President of Merchants Choice Payment Solutions East, said, "Assessments typically range from .12 to .14 percent, but are priced at .15 to .19 percent. Another area of assessments is something called a MC NABU fee or Visa Access fee, which normally falls into the range of $0.0195 to $0.0155, but is frequently marked up. When assessment fees are doubled, the amounts may be small, but everything adds up."
Greg Mallin, Business Development Consultant at BillingTree, emphasized the importance of helping clients understand their statements. "We try to help them understand how different things impact the pricing model," he said. Such determinative factors are the technologies merchants are using, Payment Card Industry Data Security Standard compliance, their integration partners, etc.
Feldshuh said one of the biggest challenges working with prospects and reviewing their statements comes down to matching interchange categories and descriptions with published rates. Processing statements that bundle fees into a single total are simple enough to analyze, but others make it nearly impossible to determine true effective rates, because they carry over fees from previous months or fail to break out related costs.
"The payments industry needs to regulate pricing disclosure and standardize merchant statement reporting," he said. "Some acquirers have clear, transparent pricing guidelines, but others sell interchange-plus, hiding additional mark-ups in fine print in their merchant applications."
Debit network fees can also be misleading, Feldshuh noted. Many merchants view PIN debit as less expensive than swiped signature debit; however, a host of ancillary costs and switch fees can make PIN debit transactions more expensive than swiped signature debit transactions, he added.
This is especially true for cards that qualify for interchange caps. The Durbin Amendment to the Dodd-Frank Act instructed the Fed to cap interchange on transactions initiated using debit cards from the largest issuers, or about 80 percent of all debit cards in circulation. That cap ranges from 21 to 24 cents per transaction.
Bottom line: no simple formula for pricing bankcard card acquiring exists, but armed with knowledge about pricing practices and statements, as well as the business and its industry sector, merchant services providers can offer real value to prospects and clients.
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