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Understanding Credit Card Interchange Fees

When a merchant processes a debit or credit card based transaction, they are charged with a fee. The merchant pays this fee to the credit card processor. It usually has three parts to it: Interchange, assessments and processor markup. The most considerable amount of the fee is interchange fees, and it has to be paid to the bank that has issued the card. This fee is non-negotiable. To cover the costs of providing the card services, to cater for fraud security and the risk that is incorporated in payments, the issuing bank demands an interchange fee as compensation.

What exactly is an Interchange Fee?

Upon conduction of a credit or debit card transactions, the funds have to be transferred from the bank that issued the card to the acquirer’s bank or the payment processor of the merchant in other terms. Card associations, such as Visa and Mastercard, aid the transactions and collect a fee for their service that is termed as the interchange fees. The fee consists of a percentage of the transaction plus a fixed amount, while it is being calculated; they are paid to the bank that has issued the card. The associations, therefore, collect a network fee in the time being that is much lesser than the interchange fees, about 0.05% of the transaction. 

The interchange fee that occurs on a debit card is way lesser than that of a credit card transaction. On a debit card, the merchant has to pay 0.3% while on a credit card, it averages around 1.81%. Visa and Mastercard post their interchange fee tables, and merchants can calculate their interchange fees by merely looking at the table and the type of card used for the transaction. American Express, however, does not charge an interchange fee. It charges a discount rate, even though differently termed, has the same functionality.

Transactional Factors Influencing Interchange

Interchange fees vary for different types of transactions. Some have a much higher interchange rate than others based on the type, area, and amount of the transaction. Three factors affect the interchange rate that a merchant has to pay on their transaction:

    • The first one is the type of card that is being used for the transaction to take place. Debit cards assigned with a secret PIN code that is known only to the debit card owner have a significantly lesser interchange rate than that of a credit card. This is because the risk factor involved in debit card payments is markedly reduced due to the added protection. Also, some card companies offer reward cards to their customers, which provide perks to the cardholders in exchange for a higher interchange rate for the businesses. But these reward cards tend to make the consumers a little more extravagant.
    • Secondly, rates also vary based on your business and which sector it is operating in. an excellent example for this is that supermarket merchants have to pay a lot more in interchange fees than gas station owners have to. Another interesting way larger business owners can get their interchange fee to drop is by having influence over the banks and credit card companies and effectively negotiating their rates down to a minimum, unlike smaller businesses.
    • Thirdly, there is a difference between card-present and card, not present transactions. In CP transactions, the card and the cardholder are present. The merchant can verify the transaction through the magnetic stripe on the card or the EMV chip. This accounts for a much safer transaction than a CNP transaction. Therefore it has a lower rate. For CNP transactions, the card information has to be entered without the magnetic stripe or EMV chip’s aid. This is usually done on online payments or through the phone when the cardholder or the card cannot be present for the transaction. They, on account of the security risk involved, have a much higher interchange rate.

What is Padded Interchange?

This term indicates a very sneaky tactic your payment processor uses to make more money off of each of your transaction essentially. What the merchant services provider does in this scenario is they add a little more to the interchange rate that is originally enlisted by the card brand. Furthermore, to mask the fact that they have added their fees, they list it just as an interchange. As we discussed earlier, the interchange fees are non-negotiable. The merchant believes that is the complete non-negotiable part of the fees. You cannot detect padded Interchange directly as you are already paying for Interchange indirectly. For that, you will have to look up the interchange rates of the card supplier and see if the rate you are paying is the same.

Sadly, this is not an illegal way for payment processors to make money. There are very few regulations on debit and credit card-based transactions, and padding interchange is not forbidden. However, it is fightable in court if the contract you signed states that the processor should not include it.

What can You do about Interchange?

Interchange fees are something any business that needs to process credit/debit cards has to pay. Seeing your business lose profits over sales can be disheartening. Still, the benefits of accepting card-based transactions are way more than paying the cost of interchange fees. What you can do, however, is to optimize your business to minimize Interchange.

This is not negotiating for lower interchange rate in a particular category, rater adjusting the way transactions occur at your business to make sure you are liable to the least fee possible for any credit or debit card-based transactions. Merchants can do that by categorizing the types of cards that they need to process for a transaction. 

There are three major categories that a merchant can hold cards into. They are enhanced data, target interchange and downgrades. Downgrades are categories that have insufficient or the least data available, making the transaction risky and therefore costing more on interchange fees. Target interchange is the category with all the basic data and mediocre interchange rates. In contrast, enhanced data has the most data, is the most secure, therefore has a very safe transaction leading to the least interchange rate. You can talk to your payment processor to make sure most of your sales lie in the target or enhanced data category to make sure you don’t have to pay extra for compromised information.