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Overview of Credit Card Processing
From the consumer's point of view, most of what happens after you present your card for payment is invisible. You swipe, maybe punch in a PIN (Personal Identification Number), or sign; and the amount of your purchase is deducted from your bank account (via a debit card) or added to your balance (via a credit card). Easy.
You can't process any transactions without hardware that reads the card, transmits the data, receives data back, and generates a receipt for the customer and a record of the transaction stored in a database. You also need the software to route and store all these transactions. Where can you get this equipment? You guessed it-the credit card processing company.
Can you buy equipment the credit card processing company doesn't use from manufacturers? Probably, in most cases. Do credit card processing companies accommodate the equipment of several different manufacturers? Yes. Does it make more sense to buy the hardware and software from the OEM (Original Equipment Manufacturer) and just let the credit card processing company do its own thing? Possibly.
The equipment you'll need includes such items as a card reader, a pin pad, a manual card imprinter, and possibly a cash register. If you can buy the same equipment from the OEM that the credit card processing company is using, there shouldn't be any problem. On the other hand, if the processing company uses proprietary software, you'll need to determine whether it's compatible with the hardware you have.
The more common question is whether you should buy or lease the equipment. Leasing may be attractive as a way to minimize initial cash outlay, but check to see whether the lease is cancellable and whether there are any fees to cancel. Leasing generally costs more in the long run, but there may advantages to take into consideration.
Credit card processing companies charge a bewildering number of fees to merchants who use their services. Complaints about credit card processing charges can be found all over the Internet, leading to legislation in the United States, Canada, and other countries requiring more transparency on pricing by credit card processors. Following are some of the items credit card processors charge for.
First, there's the account setup charge to open a merchant account, and there's usually a monthly account charge to maintain the account. You often have to buy or lease equipment from the credit card processor, and there are fees for doing so.
Then there's a transaction fee that is a percentage of the amount charged. This is sometimes called the "discount rate," which is even more confusing, since you aren't actually receiving a discount-you're being charged. Generally, discount rates for small businesses range from 2.25% to 3% for Visa and MasterCard, and are slightly higher for American Express and Discover.
And those are just some of the fees merchants are charged. Let's take a closer look.
- Paying the piper. Actually, several pipers. One fee can turn into multiple fees before you know it. For example, the merchant pays a fee to the bank that issued the credit card and a fee to the brand that's on the credit card (e.g., Visa) for the use of their network, and another fee to the credit card processing company. The fee the credit card processing company is charging you is a combination of all those fees that are deducted as part of an overall transaction fee. As if all those fees aren't bad enough, the fee your business is charged will vary considerably based on factors such as:
- How long you've been in business.
- Percentage of telephone sales.
- Percentage of Internet sales.
- Your personal credit rating.
- Average amount of daily sales.
- Total sales per month.
- Paying the piper, part II. Ask for a breakdown of all the fees you'll be charged, because there are more than just transaction fees. Non-transaction fees may include such things as service fees from other third-party providers the processor uses, statement fees, compliance fees, and more. The brand of credit cards you accept will also determine your fees. American Express and Discover usually charge merchants more than MasterCard and Visa, so some merchants refuse to accept them.
- Are you qualified? Most credit card processing companies set rates according to tiers, with three-tier pricing being the most common. The tiers are qualified, mid-qualified, and non-qualified. Basically, a qualified rate is when the sale is made in person and you swipe the customer's actual card. This is the lowest fee. A mid-qualified rate is charged when data from the card is manually entered instead of a swipe. It also applies to most phone and online sales. The non-qualified rate is the highest and goes into effect if you don't settle your daily batch of transactions within 48 hours, if you manually key in card information but fail to enter all the required fields, or if you don't perform address verification for the card.
- What's your tier? What's more confusing than a three-tier pricing system? How about a six-tier pricing system? Debit cards with a Personal Identification Number (PIN) can be processed outside of the Visa and MasterCard networks. To get that business back, Visa and MasterCard lowered their interchange rates for debit cards significantly below that of credit cards. So, if you process a PIN-based debit card on a Visa or MasterCard network, there's a separate qualified rate, mid-qualified rate, and non-qualified rate that is lower than the same rates for credit cards. You need a checklist to keep track of all these charges. We suggest you use the one below.
- Interchange. Twice a year, the major credit card companies publish an Interchange Reimbursement Fee Schedule. This is what the credit card company (Visa, MasterCard, Discover, etc.) charges credit card processors to use their cards. Your credit card processing company deducts this charge before crediting funds to the merchant. The exact charge depends on the particular tier of the transaction-whether it's qualified or non-qualified, using a credit or debit card.
- Interchange Plus. When you start talking about applying interchange rates to tiers, and all the various permutations that can affect both rates and tiers, it gets pretty confusing. Interchange Plus is a more transparent, and less costly, alternative to tiered pricing. The merchant pays the exact fees published in the Interchange schedule plus a flat markup. That's it. Up until recently, Interchange Plus was available only to businesses with large volumes, but is now available to businesses with lower volumes, and even new enterprises with no volume history.
- Enhanced Recover Reduced (ERR). A combination of tiered and Interchange Plus pricing. The credit card processing company quotes two standard tier rates for qualified transactions (qualified debit and qualified credit). Those transactions that fall outside of these two rates are charged an unqualified rate plus the difference between the fixed qualified rate and the Interchange rate. The system supposedly reduces and simplifies rate calculations for small businesses.
- Read the fine print. Since credit card processing plans are complicated, go over everything carefully before you sign.
- Don't pay cancellation fees. Buried in that fine print might be a cancellation fee running from a couple hundred dollars to thousands of dollars. The whole point of such fees is to keep you trapped in a long-term contract. You can usually ask to have the cancellation fees removed, but if you don't look for them, you can't get them waived.
- Interchange Plus. This may be the best pricing plan for small businesses, as it's the most transparent, with no tricky fees or hidden costs associated with tiered structures.
- What are the account policies? Most credit card processing companies require you to maintain an account with their bank; this way it's easy for them to transfer funds. Other considerations include whether there are monthly account fees, whether you can access your account online, and if there are any restrictions on minimum balances or withdrawals.
- Comparison shop. There are numerous vendors to consider. The following checklist will help you compare services and features.
Some of the key factors you should take into consideration when comparing vendors are listed below.
Glossary of Terms
- Annual Fee: Charge to maintain a merchant's account-sometimes charged quarterly rather than yearly. Can range anywhere from $79 to $399.
- Authorization Fee: Charged each time a transaction has to be approved; applied whether the transaction is approved or not.
- Batch Fee: Charge to settle and sort the day's sales, sent to the processor as a batch; this fee usually increases if a batch is sent later than 24 hours.
- Chargeback Fee: The bank is responsible for all merchant transactions and, as some protection against loss, assesses this fee when merchant transactions are disputed and settled in favor of the customer. A typical chargeback is $15 to $30, plus the cost of the transaction and the amount processed. Visa and MasterCard limit to 1% of dollar volume that chargebacks can be assessed; above 1%, fines are assessed to the processing bank that are ultimately passed on to the merchant.
- Customer Service Fee: A charge for maintaining the merchant account.
- CVV2 (Card Verification Value): The three- or four-digit number on the back of the card that is not embossed on the magnetic strip. It ensures that the purchaser actually has possession of the card.
- Durbin Amendment: Legislation passed in 2011 as part of the Dodd-Frank Wall Street Reform and Consumer Protection Act that lowered the debit card Interexchange Fees charged by Visa and MasterCard.
- Payment Card Industry Data Security Standard (PCI DSS): Data security controls criteria to reduce credit card fraud for any organization or business that handles credit, debit, pre-paid, bank ATM, and POS cards.
- Point-of-Sale (POS): The physical location where a purchase transaction takes place.
- SSL (Secure Socket Layer): An encryption protocol used to protect financial information transmitted over a computer network.
- Statement Fee: Charge to generate a monthly statement for the merchant, whether that statement is paper or electronic.
- Transaction Fee: Assessed when the merchant accepts an authorization.
- Pin Pad: The keypad on which a customer enters a PIN number for debit card transactions, or signs for credit card transactions. Usually includes a card reader (swipe).
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