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Street SmartsSM:
Interchange Confusion

By Ed Freedman

I am an educated man, and I've worked in the merchant services business for a decade. I understand interchange, but I have to tell you that when Visa U.S.A. and MasterCard International announced plans to increase interchange again, I was bewildered. My first reaction was "What! Are they crazy? How many basis points did they increase?" However, the issue is not as simple as an increase in basis points because Visa decided to create an entirely new category of interchange.

Visa introduced a new card type called Traditional Rewards for consumer credit cards that meet rewards thresholds. Beginning in April, Visa will view existing consumer credit cards not offering rewards as traditional cards and will qualify these at existing interchange categories. Visa will qualify the new Traditional Rewards cards at new categories that have higher interchange rates (11 basis points higher).

Visa will also modify the qualification flow for signature and infinite cards, eliminating the existing signature electronic and signature standard interchange programs. Visa will also introduce a new consumer credit and debit interchange program for utility merchants as well as modify reclassification logic for restaurant and service station transactions.

Visa made the following changes to various interchange programs, effective April 1, 2005:

  • Consumer Electronic Interchange Reimbursement Fee (EIRF) Credit will increase from 2.14% + $0.10 to 2.30% + $0.10.
  • Consumer Standard Credit will increase from 2.63% + $0.10 to 2.70% + $0.10.
  • CPS Retail Debit Tier IV will decrease from 1.05% + $0.15 to 1.03% + $0.15.
  • CPS Supermarket Debit Tier IV will decrease from 1.05% + $0.15 to 1.03% + $0.15, with a $0.35 cap.

Changes to the current Visa Interlink debit card rates include:

  • Interlink Standard will increase from 0.65% + $0.12 ($0.45 max) to 0.75% + $0.15 ($0.50 max).
  • Interlink Supermarket will increase from $0.22 to $0.24.

To further complicate matters, MasterCard also announced rate changes, also effective April 1, 2005. A few highlights include:

  • Merit III Credit Base will increase 0.09%
  • Key-Entered Credit and Merit I Credit will increase 0.05%
  • Corporate Face-to-face will increase from 1.54% + $0.10 to 1.95% + $0.00 (This follows the Visa commercial card program that does not have a lower interchange rate for swiped transactions.)
  • Corporate Data Rate III will increase 0.10%
  • Corporate T&E I and II will increase 0.05%
  • Corporate T&E III will increase 0.10%
  • No changes to consumer debit rate programs

A recent thread of comments posted on GS Online's MLS Forum addressing interchange shows just how confused we all are about this topic. Here are a few of the comments:

"It appears MasterCard is raising retail nine basis points, while Visa remains fixed. I've always priced MasterCard and Visa the same. What are your thoughts for the future and for current business? Raise both? Only charge more for MasterCard? Any thoughts?" - rosendahlb

"Visa is not remaining fixed. They are introducing the new rewards card interchange categories, which will be a disaster six months to a year from now when the issuers start feeling the heat from [American Express Co.] AmEx. The rewards card interchange category was released by Visa to enable the issuers to offer a more competitive rewards system comparable to AmEx's current program.

"These rates are dramatically higher than the current Visa interchange, especially in traditional low-risk merchants like restaurants, retail and supermarkets. To answer the nine basis points question, the best thing to do is blend the card types. Visa has a superior transaction count to MasterCard ... you could increase both card types by five basis points and more than cover yourself with MasterCard." - ubc

"Any clue what percentage of Visa rewards cards are in circulation? Paymentech sent something around claiming 38% of all Visa cards are rewards or signature, not including business or debit." - amsprocessing

"I think there will be a bit of wait and see. How many cards are in circulation? What is the financial impact to the merchant? What is the average ticket spent on the cards? Do we downgrade the rewards interchange to mid or non? And if so, how much more are we making on these cards versus losing on the CPS/Retail and Merit III categories (if we didn't raise them)?

"Merchant statements are going to be more and more complicated if 38% of all cards are rewards cards. Merchants probably won't stand for downgrades and savvy reps are probably going to try to break them out higher individually or to the mid qual category, while at the same time increasing the CPS/Retail and Merit III rates and lowering check cards. That's going to be a nice [end of month] statement." - empire

"Most ISOs are going to throw rewards into mid- and non-qual buckets and probably make a killing." - amsprocessing "Speaking of hating us more, I was talking to an executive from a large industry bank, and he was saying that he thinks it will get to the point where Visa/MasterCard might get up to what AmEx is (over 3%)." - SwipeNGo "It's funny. AmEx claimed Visa had an unfair advantage with issuing banks. These unfair advantages made it so they couldn't compete. Then as soon as the issuing doors are opened for AmEx, rates start dramatically increasing with Visa/MasterCard. It appears that sometimes a 'monopoly' does actually keep prices down. Go figure." - PaynetSystems

"PaynetSystems, you're right. Now competition is going to put the big issuers in a race for market share among the cardholders. End result: Acquirers and merchants will pay for it." - ubc

"Actually, consumers will ultimately pay for it." - scaine "Just had my friendly MasterCard customer service [rep] ask me if I wanted to add a rewards program to my card. [I] turned them down as the interest rate was 3% higher for the rewards card. [I] did not feel like going from 8% to 11% today. I think everyone will pay; who pays the most remains to be seen." - SCStevens

"The 2004 data just distributed by Visa: Visa says five out of every 10 cardholders carry at least one rewards card in their wallets. Eight out of every 10 affluent cardholders carry at least one rewards card.

"Visa currently estimates that $300 billion in credit volume resides on rewards-based products (including Visa signature volume). They have a major marketing program in the works. Hopes this helps. They went over this information in-depth at the Visa Acquirer conference." - ISOqueen

As you can see, interchange increases weave a web of confusion. Why is this happening? How can Visa and MasterCard get away with this? Will Visa and MasterCard start charging as much as AmEx charges?

I believe that the general consensus is that Visa impelled this latest interchange increase, but MasterCard also wants to keep ahead of its new competitors. Yes, I just used the word "competitors" in regard to the industry that these two card Associations have essentially controlled.

The Wal-Mart lawsuit and the recent lawsuit that AmEx won in order to have banks issue AmEx-branded or other types of credit cards will have an impact on us and our merchants.

Visa and MasterCard now need to stay competitive with interchange rates offered to banks. Banks can now do business with companies such as Amex and Discover Financial Services. So in order to stay competitive, Visa has opted to create a new category of card, the Traditional Rewards card, and increase its rates for its "best" rewards card, the signature card.

MasterCard kept it a little simpler and only raised its rates in almost the same amount without creating an additional type of rewards card. Either way, the cost to the merchants just went up again.

As a merchant level salesperson (MLS), you might need to explain the differences in credit cards to your customers. Merchants use personal credit cards. They likely have cards in their wallets that have no rewards (traditional cards) as well as some that do offer rewards (traditional rewards or signature cards).

Merchants understand that there's an additional cost for these rewards programs. However, they might be surprised to learn that the card issuers have very little interest in paying for these rewards programs.

Instead, they'd rather see the merchants pay for them. You have to hand it to issuers; it's a pretty creative approach.

In my opinion, merchants will eventually get angry enough to stop accepting Visa and MasterCard. We're not there yet; however, if these price increases continue, the merchants will figure out a way to revolt, such as by only accepting PIN-based debit cards or Discover cards. At this point, the jury is still out.

Then there's the question of what will your ISO partner or processor do? I received the following information from someone at Global Payments Inc. Visa provided some expected volumes on the breakdown between traditional, rewards and signature:

Credit Card - all merchant category codes (MCCs):

  • 19% Signature
  • 18% Rewards
  • 63% Traditional

Credit Card - 5812 MCC:

  • 22% Signature
  • 17% Rewards
  • 60% Traditional

Everyone wants to know how much of the Visa sales volume will fall into the new "Rewards" category noted above. It looks like about 30% of the credit card sales volume, excluding signature cards.

This means that about 40% of credit cards have some type of rewards program (20% signature plus 20% traditional rewards) and about 60% have no rewards program (traditional cards).

When you do an analysis, consider whether you're doing a proposal for a specific merchant or simply trying to create general minimum rates that apply to your portfolio.

From a portfolio basis, based on its mix, we use 70% Visa and 30% MasterCard and 80% credit and 20% check cards. If you use these assumptions, then the interchange rates for retail/restaurant processing merchants increase approximately seven basis points for "qualified" transactions.

In addition, the Associations will likely downgrade more transactions to mid-qualified as well as make several significant increases to bigger interchange categories (specifically, Visa EIRF: 16 basis points; and MasterCard Merit I: five basis points).

My guess is that we'll see a few different approaches. Some people will only raise the qualified discount rate from nine to 11 basis points.

Some people will raise the qualified rate from seven to nine basis points and then make other increases to mid- and non-qual surcharges. We might even see some give out two different retail rates: one for traditional cards and another one (likely 11 basis points higher) for traditional rewards cards.

They'll also continue to downgrade the signature cards. The best approach depends on how much detail MLSs want to give their merchants.

Merchants that are larger and do more sophisticated processing might require a full explanation on all different types of credit cards and the cost of accepting them.

Smaller merchants will more likely need to know that the cost of accepting credit cards just increased another x basis points.

Now you know why the title of this column is "Interchange Confusion." If you're still confused, I don't blame you. I recommend that you take time to reread this article. I also recommend that you ask your ISO partner what its plans are in response to the interchange increase.

The funny thing is that as MLSs, you will probably bear the brunt of merchants' anger. You'll hear: "How dare you raise my rates again!"

My advice is to tell your merchants, "Please don't shoot the messenger" and explain the reasons behind the card Associations' latest actions.

My next article will be my final offering to "Street Smarts" before I turn over the column to a new host. As always, your comments are invaluable. Please send them to .

"Today, if you are not confused, you are just not thinking clearly."
- U. Peter

See you next time where the rubber meets the road.

Ed Freedman is founder and President/Chief Executive Officer of Total Merchant Services, one of the fastest growing credit card merchant account acquirers in the nation. Freedman is the driving force behind all business development activity as well as the execution of Total Merchant Services' marketing plan, including recruiting and training independent sales offices and establishing strategic alliance partnerships with leading vendors, so that Total Merchant Services can provide its customers with the highest quality and most reliable services available. To learn more about Total Merchant Services, visit the Web site at . To learn more about partnering with Total Merchant Services, visit or e-mail Freedman at .

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