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A merchant’s bank account must pay an interchange fee to the card-issuing bank each time someone uses a credit or debit card to purchase something from their store. The interchange fees help pay for fraud, bad debt costs, the overall risk in approving the payment, and general handling costs.
What is an interchange fee composed of?
Merchants pay an interchange fee, or technically, interchange fees, on each transaction in their store. The interchange fee includes the percentage-based fees charged by card-issuing banks, credit card payment networks, payment gateways, payment processors (which could be the issuing bank), and the merchant's bank on every transaction. These charges are usually bundled and presented to the merchant as one interchange fee, even though that fee comprises roughly 300 different fees rolled up into one.
How do interchange fees work?
What is an interchange fee calculation? The answer is complex. Fees depend on several factors. Credit card companies try to simplify this by charging merchants an interchange fee that is a flat rate plus a percentage of the sales amount with taxes included. The interchange rate runs merchants roughly 2% of the total sales amount on average.
Several variables may impact the interchange fee amount, including:
Business type: A business’ size and industry can impact the interchange fee. It’s generally easier for larger merchants to negotiate down rates with credit card companies and banks. Industry can make a difference, as some industries pay higher interchange fees than others simply because of the nature of the business.
Payment card type: Debit cards with PINs are less risky than credit cards, so they have lower interchange fees. Each credit card company also charges a different rate. Rewards cards, for example, recover some of the costs of offering perks to cardholders by charging businesses higher interchange rates. Interestingly, cards with perks often prompt more customer spending, which can rack up more interchange fees for merchants.
Transaction type: Like card type, transaction type can lower or raise interchange fees. Less risky transactions – like point-of-sale (POS) ones where the card is present – mean lower interchange fees for merchants. Riskier transactions, like card-not-present, aka mail-order-telephone order (MOTO) or online transactions, face higher fees.
What’s an example of interchange fees at work?
Let’s say a customer walks into a bookstore and makes a purchase. She presents the book to the clerk, who rings up the sale and tells the customer the amount owed.
The customer pulls her Visa card out of her wallet and dips the card into the POS reader. Behind the scenes, the interchange fee is calculated based on the bank that issued the woman’s credit card, the merchant’s bank, Visa (since that is the type of card used in this transaction), the company that owns the card reader, and the payment processor.
The total fee will take into account that the merchant is a small, independent business. It will also consider that this is a low-risk card-present transaction. In sum, the merchant will likely pay close to 2% of the purchase amount of the woman’s book in interchange fees.
Interchange fees, sometimes called “swipe fees,” cover the costs of accepting, authorizing, securing, and processing card transactions. They are also negotiable, so merchants can compare merchant services providers to find pricing that works for their business.
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