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Interchange Untangled - Part 1

This is the first in a series of articles written in response to numerous reader requests for definitions of the various interchange levels. We are working on a series of articles with the help of several industry experts to explain the interchange "buckets" and how transactions are assigned to the processing levels. If you have a specific question regarding payment processing, please send your inquiry to or post it online on the MLS Forum in "Ask The Green Sheet."

Question: I would like to know what the different downgrades are, what causes them, and maybe even what they mean per MID- and NON-qualified category. Let me re-word that. What subcategories are within MID- and NON-qualified transactions? Also, what is the fee directly billed from Visa/MC (pass thru) for these downgraded transactions?

Answer: It would be best to first clarify the scale of Interchange as it relates to the conditions surrounding the sale transaction and also to the card product presented at the point-of-sale. Retail merchants, as a general rule, are priced by an acquirer to assume that they will qualify for the best Interchange rate, generally given to the lowest risk transaction. The parameters that dictate Interchange, at a very high-level view, are consumer card product, face-to-face sale, card present with mag stripe read and batch transmission by the merchant the same day as the transaction.

If a transaction deviates from these conditions in any way, the transaction is considered to "downgrade" from the lowest Interchange rate available. Where the transaction ultimately falls is determined by which of those conditions has varied; i.e., key-entered, corporate card, batch timeliness, etc.

The base of any discount rate is always calculated by the Interchange category in which a transaction falls based on the "condition" of the card product presented and the "behavior" consummating the transaction.

In commercial card products, there is a separate scale that also takes into account the level of data (i.e., I, II, or III) that has been entered along with the transaction. Level III requires the highest amount of data, including line-item detail. This is, in essence, a product-by-product listing of the purchased items. If any of the required data is missing, the transaction is downgraded to II or I, depending on the specific data included with the transaction.

The processor and the acquirer determine how Interchange is expressed to a merchant and therefore "billed." The most explicit form of pricing, which is frequently used in processing very large merchants, is called "Interchange plus."

In this scenario, the merchant actually sees the pricing by the various Interchange categories of the merchant's transactions, as Visa and MasterCard define them. When the terms mid- or non-qualified transactions are used, they are referring to how a processor or acquirer has aggregated categories of Interchange into fewer groupings to make it easier to manage.

The most basic of these simplified "pricing options" is called "tiered" pricing. However, what one company includes in qualified vs. mid or non is highly individualized and is not mandated by any definition by the Associations. The acquirer or ISO, depending on the options offered by their processor, sets these up. These Interchange groupings are created when the parameters are set up on the processing system.

For example, some companies price in two tiers, qualified and non-qualified. Qualified is generally referring to the best available rate for both Visa and MasterCard. Anything other than that is billed at a higher rate termed to be non-qualified.

What the service provider has done in this case is develop a rate based on its general experiences of the categories where its transactions clear; thus, this "non-qualified" rate covers the service provider's cost and profit margin for all other transactions.

Three-tier pricing similarly aggregates Interchange categories but provides a median category so that certain Interchange rates that are between the highest and the lowest can be billed at a median combined rate. This system gives the merchant and the acquirer protection from any significantly different portfolio of transactions, outside of the norm, from causing an over- or underbilling from the general expectation.

Another form of "pricing option" is a rate billback. In this scenario, an expected rate is determined on the front end for certain Interchange categories. Anything that deviates from that mix is "billed back" to the merchant at the end of the month. Another important factor to remember in pricing is whether the Interchange is taken from the deposit daily (i.e., net daily) in some combination of categories or whether all of the "variations" in clearing are handled once a month at settlement.

To the degree it is possible, merchants should be counseled to understand how conditions that they may create at the point-of-sale (failing to clean the magnetic card reader heads in their terminal, clerks punching in numbers rather than using the mag stripe, the merchant not batching out every day, not putting data into the commercial card data prompts, etc.) can create a higher rate for them.

While some variations of price cannot be controlled (a customer purchasing items for business using a corporate card rather than a personal card, for example) others are within the merchant's control and can be easily managed.

One of the most important questions that Merchant Level Salespersons need to ask their sponsoring organizations is how their pricing is determined.

If the sponsor prices in tiers, what rates has it defined in its tiers? If it nets Interchange daily from the deposits daily, does it assume that everything is qualified on the front end and, if so, when and how does it determine the amount of a billback and when is that charged to the merchant?

Does the provider charge net or gross; i.e., is the discount priced on the net amount deposited, sales less credits (the issuing bank returns Interchange to the acquirer on a credit, but many acquirers do not give that back to the merchant), or is there another fee charged on top of what was previously paid on the sale to process a credit?

The nuances of pricing are so varied, you should closely study both Interchange and the sponsoring providers' pricing setup to adequately and completely disclose pricing terms and conditions so that they are understandable to the merchant.

Notice to readers: These are archived articles. Contact names or information may be out of date. We regret any inconvenience.
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