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Interchange for Dummies

Blog Post created by gjsissons on Sep 12, 2018

A Primer on Card Processing Fees

 

For developers who have worked mostly with gateways, coding to a payment processor can be a different experience. The interfaces can feel a little more complicated, but it turns out that understanding arcane topics like interchange fees, assessments and discount rates vs. interchange plus is worth the effort - especially as payment volume scales. If you’re wondering why this is, read on - you’ve come to the right post!

 

Interchange

 

interchange

 

In payments, interchange refers to the fees that are paid by the merchant’s bank (or the acquirer in industry lingo) to the cardholder’s issuing bank. These fees are set by the card brands and compensate the issuer for going to the trouble of qualifying consumers, issuing cards, handling transactions and taking on the risk involved in offering a line of credit.

 

The money moves from the acquiring bank (the bank handling the front-end of the transaction) to the issuing bank (the bank issuing the card), but fees are ultimately passed on to the merchant.

 

The card brands usually update interchange rates twice per year, and at the time of this writing, the links to latest fee structures for VISA and MasterCard are provided below:

 

 

A casual look at these schedules will confirm what you probably suspect – the policies are complex, and every transaction is potentially different subject.  Rates charged by the card brands depend on a variety of factors:

 

  • Card present vs card not present
  • Type of card, and nature of associated reward programs
  • Merchant performance thresholds – minimum volume, chargeback ratios and the like
  • Industry, type of business, purchase location
  • Various fee programs (Commercial Level III, Commercial CNP, GSA Large Ticket)

 

Swiping your basic VISA card at a large, well-known supermarket (at the time of this writing) costs 1.15% plus 5 cents per transaction.  Swiping your VISA Infinite card at a restaurant results in interchange fees of 2.4% + 10 cents per transaction (more than double). Interchange rates can dramatically affect a merchant’s costs.

 

Assessments

 

In addition to the interchange fees described above, card networks charge an assessment fee for each transaction.  The point of an assessment fee is to provide a source of funding for the card networks to maintain their infrastructure.  A quick Google of “VISA Assessment Fee” shows an assessment rate is 0.13% for credit and debit cards. Assessment fees can change with time, vary by jurisdiction and be different for different card brands. Assessments are paid by the payment processor/acquiring bank, and like interchange fees, these costs are passed onto the merchant.

 

Payment Processing Fees

 

As you’ve probably realized, interchange fees and assessments don’t benefit the payment processor.  They only benefit card companies and card issuing banks.  Typically, payment processors contract with the merchant for additional  processing fees. Usually these fees are per-transaction and may vary by transaction type.  The processor may also include additional fees for value-added services you elect to use, such as account updating or enhanced security offerings that can benefit merchants in other ways, such as reducing chargebacks, or minimizing declined authorizations.

 

Discount Rates vs Interchange Plus

 

Most of us are conditioned to appreciate a good discount, but in payments the story is more complicated. Processors determine discount rates by examining a number of factors, including MCC, average ticket price, and risk factors among others. From this info, processors negotiate with you a discount rate that accounts for the mix of interchange, assessments, and other fees, along with their profit margin. For example, imagine an internet gateway charging a discount rate of 2.9% + $0.30 per transaction  On a hypothetical $100 card purchase, this would cost the merchant $3.20 as shown below:

 

gateway_pricing_model.PNG

Now imagine the same transaction subject to an interchange plus fee structure.  In interchange plus, the processor passes through interchange, assessments, and other network fees without change. The processor then adds a per transaction fee, as well as any fees for value added services you elect to use. In this second scenario, the actual costs of interchange fees will vary with every transaction, but a typical transaction might look like the following:

 

processor_pricing_model.PNG

This is not to say that one pricing model is better than the other, or that an interchange plus fee structure will always be less expensive, but the approaches are different.  Payment providers who offer a discount rate, are providing merchants with simplicity and predictability, but arguably at the price of transparency.  Interchange fees and assessments still apply behind the scenes, and the payment provider is taking a risk because they could potentially lose money on some transactions. When offering a discount rate, the payment provider earns their margin on the difference between the discount rate offered to the merchant and the actual underlying fees they pay to facilitate the payment including interchange, assessments and processing fees.

 

While discount rates are simple, they are not transparent to the merchant. The merchant understands their total cost, but they don’t have visibility to how much of the cost is due to interchange, assessments or earnings retained by their gateway providers or processors.

 

To gain transparency, larger merchants often prefer interchange plus pricing schemes.  While they can be more complex to understand, they do allow merchants to analyze their payment transactions and understand the cost components of each transaction in detail.  With visibility to all sources of cost, merchants can take steps to avoid excessive fees including understanding what types of transactions are the most or least costly and taking steps (including coding applications differently) to reduce costs where possible.

 

Processing fees matter

 

To state the obvious, processing fees matter. For a small business transacting $5M annually, a 50-basis point reduction in average fees can yield $25K to the bottom line – enough to hire a part time employee or lease a couple of vehicles.  For a national retailer, analyzing and understanding fees is even more consequential.

 

Because the amounts are so substantial, larger merchants will often negotiate for lower discount rates, or prefer interchange plus pricing where they have visibility to their fees.  With visibility to fees, merchants can take steps to address sources of cost including coding transactions differently.

 

How does this impact the developer?

 

the way you code payment transactions can affect your business's bottom line.

 

Basically, how you code payment transactions matters because decisions you make can affect Interchange rates for a particular transaction.  Following card brand rules is essential to not only minimizing fees, but reducing instances of fraud and chargebacks as well. As examples:

 

  • For card not present transactions always perform an AVS (Address Verification System) check. Simply performing an AVS check can result in better interchange and also acts to deter fraud.
  • Providing detailed metadata in payment transactions (like industry types, terminal types, electronic indicator codes and commercial card IDs) can also help merchants obtain more favorable interchange rates. If this information is not provided, card brands will err on the side of caution, defaulting to higher rates.
  • For B2B applications, collecting and passing data fields required for Level II or Level III transactions can help reduce interchange rates further.

 

For developers, to minimize merchant costs, it is important that their payment SDK or API provide the ability to accept and pass on as much of this supplementary metadata as possible. Worldpay’s triPOS and Express APIs for card present transactions are good examples, as both allow for extensive metadata collection including things like freight, duty, taxes, ship-from and destination zip codes, and a variety of other items that affect interchange fees.

 

To learn more about Worldpay APIs for point of sale developers including the triPOS and Express platforms described above, visit our Point of Sale Integrations resource page.

 

For similar resources for card not present and mobile payment integrations, check out our developer eCommerce resources.

 

Thanks to Tom Boumil and Dan Ourada for their valuable contributions this this article.

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