Handling of Convenience Fees

If you want to implement convenience fees within your payment software system or payment gateway, this article is for you. In payment card industry context a convenience fee is a fee charged for card processing. It allows the merchant to pass the cost of card processing to the cardholder. Some more information on convenience fees can be found in our previous articles here and here.

The purpose of this article is to analyze the technical aspects of adding convenience fee handling functionality into a payment system.

Fundamentally, there are two approaches used for convenience fee implementation.

Convenience fee handling approaches

The first approach can be applied when merchant funding is handled by the payment gateway or PSP (i.e. by the system that processes the transaction). The second approach can be applied when funding is not handled by the system that processes the transaction (i.e. by the processor).

The main difference is that under the first approach convenience fees can be withheld at the time of funding, while under the second approach they can not, since the funding is handled elsewhere. Consequently, under the second approach, convenience fees have to be processed in a particular way at the time of processing.

Let us compare the two approaches based on a simple example.

Before describing the example, we should note, that in most cases a convenience fee is a surcharge, which is, generally, kept by the service provider that facilitates the payment (payment gateway, processor etc) (some part of that fee might be shared with the a reseller). The primary part of the transaction (100% of the original amount) is, naturally, deposited back to the merchant.

Example

For example, if a $100 payment is made and $5 convenience fee is charged, the cardholder actually pays $105, of which $100 go to the merchant and $5 are withheld by the service provider. The surcharge includes the actual cost of transaction processing and an additional markup.

Under the first approach, the entire transaction (primary transaction amount and the convenience fee) can be processed as a single transaction using the same MID. At the time of funding the principal amount can be funded to the merchant and the convenience fee – withheld by the payment service provider (who facilitates the funding process and, therefore, can hold the funds).

Under the second approach, the PSP or payment gateway relies on some underlying processor to handle funding. In this situation if both the primary payment and the convenience fee are processed as a single transaction (as in the first case), all $105 will go directly to the merchant. Therefore, it is necessary to process two separate transactions ($100 payment and $5 convenience fee) using two different MIDs.

Peculiarities of the two approaches

First approach: MID and MCC

We should stress, that every MID is associated with a certain merchant category code (MCC) used for classification of products and services the merchant provides. Convenience fees are allowed to be processed only under certain MCCs (for instance, supermarkets are not allowed to charge convenience fees, while utility companies are).

Consequently, if you choose to implement the first of the two approaches, you need to use the MID (and the respective MCC) which allows you to charge convenience fees (sometimes a separate MID with a different MCC may be required to charge them).

Second approach: critical aspects

If you choose to implement the second approach, you need to think about several particular aspects.

  • When will convenience fee be charged? Will it be charged on successful payments only or on declines as well?
  • What should be done when a payment is not authorized because there are no funds on the card?
  • What should happen if the primary transaction succeeded but there are no sufficient funds to process convenience fee?
  • How to handle the situation when the primary transaction is voided or refunded back to the cardholder? Should convenience fee be refunded in such cases?
  • What descriptor should be used on the MID through which convenience fees are processed? How to ensure that the cardholder understands that it is related to the original payment?

These and similar questions must be addressed as part of your planning process.

Calculation of convenience fees

Calculation of convenience fee amount is another important aspect. Convenience fee is usually calculated in one of three ways.

  • It can be a fixed amount.
  • It can be a certain percentage of the principal transaction amount.
  • It can be a combination of the two.

It is desirable for the amount of convenience fee to be derived from the actual cost of transaction processing (include the actual cost plus bring some revenue). In order to achieve this, one of the several approaches can be used (similarly to transaction pricing strategies).

  • Unified “blended” rate. Same rate is used to calculate convenience fees for all transactions. However, handling of different cards may have different price, so some more sophisticated and flexible techniques might have to be used (allowing you to differentiate the fees, depending on card processing costs, instead of charging everyone maximal rates).
  • Buckets or tiers. Under tiered pricing, the fee can vary, depending on card type and transaction amount.
  • Customized logic. You can develop some customized logic, which will calculate interchange amounts based on card types and industries (e-commerce, retail etc), and define convenience fees based on interchange amounts. The technique is the most complicated one; however, it provides greater flexibility.

Conclusion

If you want to add convenience fee handling functionality to your payment system, you need to decide, how and when the amount of convenience fees are going to be calculated, as well as how and when they are going to be charged.

PINless Debit Card Networks

The purpose of this article is to familiarize the key merchant services industry players with the advantages of integrating with PINless debit card networks.

The largest credit card associations, such as Visa and MasterCard, maintain large card networks through which payment card transactions can be processed. When a card transaction is processed, card network charges a certain interchange fee for handling of the transaction (more detailed information on transaction processing cost models and structure can be found in our respective article).

Some banks also created their own card networks called debit networks. For instance, every US-issued card, including those, carrying Visa or MasterCard logo, can be processed through at least two debit networks. Generally, a logo of a debit network, which can be used with a given card (for example, Plus, Interlink, etc.), can be found on the reverse side of the card. ATMs often work through debit networks as well, and usually, logos of supported debit networks are shown on the ATM.

Traditionally, there was an advantage for a merchant to integrate with PINless debit card networks, for several reasons, including funding delays. The primary reason, however, was considerable saving on the interchange cost as compared to the cost of equivalent transaction processed through Visa or MasterCard network.

In 2011, after Durbin Amendment (initially designed to reduce the burden of fees imposed by processors on merchants) was adopted, Visa and other associations were required by law to reduce the maximal interchange rate which they were allowed to charge for debit card processing.

If previously Visa could charge 2.5 to 3 % of transaction’s amount for debit card processing, after the Amendment the maximum interchange amounted to 0.95 %. After the Durbin Amendment was adopted the price difference for merchants integrating with PINless debit card networks versus regular card networks would only represent 10 to 20 basis points. As a result, some merchants, who were previously interested in and considered the prospect of PINless debit card network integration, changed their minds and lost their interest, because potential savings of 10 to 20 basis points could not provide a sufficient incentive (especially, for small and medium-sized merchants).

Although for small and medium-size merchants the advantage of PINless debit card network integration became really insignificant, on large processing volumes even 10 basis points still make a difference, especially in view of pricing wars, witnessed by modern merchant services industry.

Another advantage of debit networks, which still remains relevant, is that there is no policy around chargeback handling in PINless debit networks. If the transaction is processed, the funds cannot be charged back and the transaction cannot be disputed. Consequently, many companies (of all sizes), experiencing problems with high chargeback rates can still find integrations with PINless debit card networks. Even if transaction processing through PINless debit networks does not yield significant additional revenues, the option is still more relevant than processing through Visa and MasterCard networks. As we mentioned in some previous articles, 1 % of chargebacks can put the merchant into the Terminated Merchant File (TMF), and out of business. If some of the cards are processed through a PINless debit network, chargeback rates (as well as percentage of chargebacks resulting from transactions processed through regular Visa and MasterCard networks) decrease.

Conclusion

In spite of the limitations, imposed by the Durbin amendment, if you are a merchant, experiencing problems with high chargeback rates, and\or if you process significant dollar volume, PINless debit card network integration might still be a good solution for you.

Payment Gateways: Reporting Services

The purpose of this article is to discuss availability of financial reporting services as a criterion to be considered during payment gateway selection.

If this is the first time you are reading our “Selecting a Payment Gateway” mini-series, please, start with the Introduction to improve your understanding of this post.


Irrespectively of business size, it is very important for every merchant to deal with a processor whose payment gateway software includes elaborate financial reporting services. A business involved in credit card processing requires reporting services around the aspects listed below.

Reporting services evaluation criteria:

  • transactions activity – to reconcile transactions sent to the payment gateway and responses received from it. This information needs to be available by activity date (when the transaction was authorized) and by settlement date (when the transaction was settled). Since authorization and settlement date may differ, having the ability to analyze transactions by either of these dates considerably simplifies overall reconciliation process
  • funding – to reconcile bank deposits made by the processor for the transactions processed
  • chargebacks and ACH returns – to reconcile respective deductions from the account
  • processing costs – to analyze the costs charged for processing and the types of cards that the business is dealing with
  • commissions (for resellers only) – to understand residual revenue\commissions that are paid by the processor to the reseller for the business it generated.

It is important to verify that the reports are available not only in summary format (by date or by merchant), but also as a detailed version (on the level of individual transaction). It is particularly useful to have a detailed report listing all types of the transactions processed (including approvals, declines, blacklists, errors, chargebacks and ACH returns) with processing costs (interchange and assessments) available for each.

When a business considers potential partnership with a payment gateway, it should ensure, that the abovementioned data is easily accessible through payment gateway software’s reporting module, as this information is extensively used in transactions and bank deposit reconciliation processes.

Merchant perspective

The ability to dissect and analyze data by various criteria (authorization date, settlement date, merchant ID – especially when multiple MIDs are used) is crucial for a merchant.

Example

It is common for a multi-location fitness club chain to maintain a separate MID for each location to track all the funds coming in and out. Any health club, which has multiple locations, will be routinely dealing with reconciliation process across different MIDs and credit card processing terminals. Availability of a summary\aggregate report across all MIDs with drilling capability for an individual MID will be of great value under such circumstances, and can save a lot of time and money.

Conclusion

To reduce potential reconciliation overhead, it is important for a merchant to deal with a processor that provides aggregate and detailed reporting services at all levels of the merchant’s business structure (company level, MID level, terminal level).

Reseller perspective

Resellers have the same reporting concerns and considerations as independent merchants, but require two additional features: reports around commissions and reports on transactions across different merchants in its portfolio.

Example

As an example of a reseller, let us consider a software company servicing a franchise of small-size fitness clubs for women. The reseller has to deal with a large number of small merchants and multiple club owners, each owning a different number of clubs and having its own processing fee structure. The ability to analyze data at corporate level, individual club level, as well as individual owner level, will be critically important for the reseller.

Conclusion

If the two reseller-specific features are not provided by the payment gateway, the process of understanding commissions will take considerable time and effort. Under such circumstances, if the number of merchants in reseller’s portfolio grows, unavailability of accurate reporting services can make reconciliation process completely unmanageable and cost prohibitive.

The next post will address chargeback information handling.

Payment Gateways: Processing Costs

The purpose of this article is to discuss credit card transaction processing cost as a criterion to be considered during payment gateway selection.

If this is the first time you are reading our “Selecting a Payment Gateway” mini-series, please, start with the Introduction to improve your understanding of this post.

Although processing cost is not the only factor to consider while selecting a processor, it is nevertheless, extremely important. Understanding the processing cost anatomy is not easy. For more information on credit card processing costs, fees and rates, refer to this article.

Processing cost components and transaction pricing strategies

To put it shortly, processing cost consists of base costs (which include interchange fees and assessments) and markups. Within card processing cost it is mostly markup that is negotiable. The three pricing strategies predominant in the industry include: “cost plus” (also called “interchange plus” or “pass through”), tiered (or bundled) pricing and blended rate. Every other pricing strategy, after closer consideration, usually turns out to be a variation of these three.

Blended rate pricing

Blended rate pricing strategy is the easiest to understand; it does not take the differences in card types and transaction costs into account at all. Under blended rate pricing, the processing fee is usually established as an average processing cost plus some fixed markup.  In other words, regardless of the card type, the same price is charged for every transaction.

So if a business has a good variety of cards it is constantly dealing with, under blended rate pricing these differences don’t matter much. But if a merchant knows that some card types are predominant in the transactions processed (for instance, the  business is dealing mostly with debit cards), then this merchant is going to consistently overpay.

Tiered pricing

Tiered pricing, in essence, is an extension of blended rate pricing model, where transactions are assigned to different tiers. These “tiers” or “levels” are defined by ISOs/processors based on transaction qualifications, card types or other factors. The problem with tiered pricing is that the processor’s scheme of transaction qualification may be really difficult to understand. And without understanding it, a merchant would often be unable to predict the cost of a transaction before it settles. At the same time, even with multiple tiers, some averaging of cost still occurs (similarly to blended rate model) and, consequently, there remains a risk of systematic overpayment by a merchant.

Cost plus

Cost (interchange) plus is the most transparent of credit card processing pricing models, because the processor’s markups do not depend on base interchange.  All markups are charged as a fixed rate fee on top of true cost, which comes from an association (Visa, MasterCard, etc) for every transaction.

Merchant Perspective

Naturally, any merchant will look for a processor offering the most cost-efficient pricing model. While considering the processing cost, it’s important to remember that different transactions cost differently. In general, some transactions (as a group) will cost cheaper to process than others. For example, debit cards would cost considerably less to process than reward cards (or credit cards with cash-back option), and swiped credit cards would qualify for a lower rate than keyed cards. A merchant would want the processing fees to be structured based on true cost. Actually, a merchant would wish the final cost to be as close to the true processing cost as possible, with the above-mentioned differences in transaction costs (interchange qualifications) taken into account.

Beside the price that the merchant gets quoted, the merchant also needs to think about the types of cards it processes (debit or reward, keyed or swiped, etc) and fee structure that is offered. Any merchant would definitely want to go with someone whose pricing model reflects the differences in card types.

Example

The health club chosen as an example is going to be dealing with a variety of cards, but might be heavier on the card-not-present side (all membership dues are collected as card-not-present). To optimize the cost it would be best for it to go with a processor providing “cost plus model.

Conclusion

In general, the advice to a merchant who wants to get a transparent and flexible model reflecting card type differences is: go for “interchange plus” pricing. The recommendation is especially relevant for those who are more on the debit cards side.

Reseller Perspective

Traditional types of resellers (such as ISOs) are generally interested in flexible and affordable pricing structure. Software companies acting as resellers might also be interested in the ability of the processor\payment gateway to combine software fees and processing fees.

Example

Usually, software companies tend to charge separate fees for software usage and separate fees for transactions processing services. For instance, a fitness software company wanting to offer merchant services to its customers could charge a certain amount in dollars per month for software (say, $100 per location) plus optional 2.5 % for processing. However, in today’s environment it might be more beneficial from the marketing standpoint (and more profitable) to offer managed processing at 5 % with software included for free.

Conclusion

In general, a reseller should prefer to partner with the processor\payment gateway offering “cost plus” pricing model, as it makes it easier to price and resell, and seems to be more appealing in today’s market.

Those resellers interested in charging their service fees as part of the processing costs should consider processors\payment gateways capable of accommodating this.

Our next installment will be dedicated to ease of integration with different credit card processors\payment gateways.