Understanding Interchange Costs & How to Manage Them Responsibly

November 18, 2016/0/0

As you talk with different merchant service providers, one of the issues that must be addressed is the interchange fees or costs that apply to each transaction. Many business owners don’t realize there are ways to manage those costs and still have excellent service and protection through a provider. Here is some information about what interchange costs are, why they exist, and how it’s possible to reduce those costs and increase the net profits for your business.

What Are Interchange Costs?

An interchange cost is a fee that is assessed on every credit or debit card transaction you process using a merchant service provider. Unlike some of the other costs associated with credit card processing, this fee is paid directly to the bank or other institution that handles the transaction.

There are regulations in place that govern how much a processor can charge as the interchange rate. From time to time, those regulations do allow for increases. Your merchant service provider will notify you when an increase is due to happen, usually within a short time after the bank or similar institution officially announces the impending increase.

What’s the Point of an Interchange Fee?

The reasoning behind the assessment of an interchange cost or fee has to do with protecting the institution that processes the debit or credit transaction. With every transaction, there is some degree of risk. Due to factors that may not be evident at first, the transaction can fail or be refused. There is also some potential for fraudulent use of a debit or credit card and the resulting loss to the institution that processed the transaction.

By assessing a fee on each transaction, the institution is creating a degree of protection from that risk. Should a problem develop and the transaction cannot be completed, the institution is in a better position to absorb the loss and move on.

Is There Any Way to Minimize Interchange Costs?

The good news for you is that there are processing strategies that allow you to reduce the amount of risk that the processor assumes. Choosing to employ those approaches typically allows you to lock in a lower interchange fee per transaction.

Level 2 credit card processing is one option you have for obtaining a more competitive interchange rate. This approach allows you to collect more details about the buyer and convey them to the processor. The fact that you have supplied more data helps the processor determine if moving forward with the transaction involves less risk.

The information collected as part of a Level 2 card transaction includes the name of the client, the amount of the transaction, any taxes that apply to the total purchases. This type of processing also requires the date that the transaction takes place, the purchase order number that the client wishes to associate with the purchase, and the ZIP code associated with the card.

In order to provide this type of processing option, you will likely need to invest in a standalone terminal for processing a customer’s credit card. This approach can also work with hosted gateway that is set up to process these types of transactions. That’s good news if you happen to operate an online store as well as a traditional retail location.

Another approach that you should consider is known as Level 3 processing. This approach is better suited for businesses with higher sales volumes and a larger client base. Every type of information that’s captured as part of a Level 2 processing action is also included in Level 3. There will also be more data that is included with each transaction.

Some of the added detail includes the ZIP code for the point of origin for the order along with the code for the shipping address. An invoice number that’s assigned to the order is also part of the detail provided. Level 3 processing also includes specific information about the items ordered. That will include product or commodity codes, a description of each item ordered, the quantity of each item, and the extended cost for those quantities. If there is any type of volume discount applied to the order, that is also captured.

If you are shipping some type of product to the customer, the detail will also include the freight or shipping charges as a separate line item. Should the item be slated for shipping out of the country, any duty charges that apply will also be recorded as part of the transaction.

Are These Transaction Options Worth the Time and Effort?

You don’t mind paying an interchange fee on each transaction, and it doesn’t seem to be that much anyway. With that in mind, does it make sense to go to the trouble of setting up a method for Level 2 or Level 3 processing? The answer is yes.

It’s true that the interchange rate that’s applied to each individual transaction is low. What you need to focus on is how much those tiny fees per transaction add up over time. Identify the current interchange cost that you pay and then multiply it by the average number of credit and debit card transactions you initiate each month.

Now take that figure and multiply it by 12 to get an idea of how much you are paying in fees annually. Does that figure look so insignificant now? What would it mean to your bottom line if you could cut that annual cost by 25% or even by half?

Before deciding one way or the other, it makes sense to sit down with an agent from a merchant service provider. Learn more about the different processing strategies currently on the market, and focus on the ones that seem to be most relevant to the type of business volume you do.

Ask questions about how to set up the terminals and what you can expect in terms of having access to the funds sooner rather than later. Feel free to run projections based on historical order data and see what a certain approach would do in terms of saving you money. It won’t take long to identify the best strategy and begin the task of implementing the best and most cost efficient processing approach.