There is no doubt that accepting credit cards is a necessity in today’s world of plastic and mobile payments. Certain types of transactions such as “card not present” transactions can push the cost of a transaction up simply because the card was not present and increases the chance of a fraudulent claim.
While a credit card processing company may provide you a quote for what is considered “the best rate”, it might only be the “best rate” if ideal conditions are met. Performing a phone transaction is less than ideal, and even doing a transaction by phone you might end up paying much more if you don’t collect and enter the proper data. When shopping for a credit card processor you need to be knowledgeable about the way credit card processing fees work to completely understand what is negotiable and what is not.
Is It Really The Lowest Rate?
Most merchants looking for the best rate will call around and ask credit card processors what their lowest rate is. If they decide to go with the lowest rate quoted they may be in for a surprise down the road. The assumption that the lowest rate is the best rate doesn’t always work out. The lowest quoted rate could end up costing you more money in the long run. Let’s say that you are quoted a rate of 1.59 percent. When you review your statement at the end of the month you might find that you are really paying 3.10 percent in what is known as an “effective rate”. You would probably be upset but the truth is, the lowest rate applied really is 1.59 percent but that rate only applies to “qualified transactions” each month. Based upon your processing history, types of cards you accept and the way you accept them, you most likely will not “qualify” very often. There are many rates for different types of cards and transactions that contribute to the overall effective rate. Never sign a contract that locks you into a long term relationship with a credit card processor. If you see significant spikes in your processing fees, you need to go shop elsewhere. A reputable processing company doesn’t do long term contracts. They provide the best rates and don’t feel there is a need to lock in a merchant to a three-year contract.
Cost vs. Rates
You might be inclined to believe that a low processing rate would equal low processing costs. That’s not really true and here is why:
The cost to process a credit card transaction is comprised of four separate parts:
#1 - The card issuing bank’s cost
#2 – The card brand’s (Visa, Mastercard) cost
#3 – The back end processor’s cost
#4 – The client facing service provider (Merchant services provider’s cost)
Card-issuing banks (such as Chase, Capital One, Wells Fargo) along with the card brands such as Visa and Mastercard set the price for each type of transaction through something called the “interchange rate”. The issuing banks collect the “interchange rate” as their piece of the pie. The credit card companies (Visa, MasterCard) set an additional price for each transaction which is known as dues and assessments. This is their piece of the pie. The “back end processor” (such as First Data, charges the reseller of their services a small fee to utilize their network and platform. The service provider you have the relationship with and do business with (Independent Sales Organization (ISO) or Merchant Services Provider (MSP) such as Chosen Payments) then charges a small fee to maintain your account which is on top of the other three fees. There is no way around this no matter who your provider is.
It’s one of the most common myths that your service provider is the one controlling or collecting the bulk of your fees. However, in the below example we will illustrate that is not the case at all.
Using an effective rate of 3.0% here is an example of where that money goes:
- 50% - Card issuing bank (Wells Fargo, Citibank etc.)
- .20% - Card Brand (Mastercard, Visa etc.)
- .15% - Back end processor (First Data)
- .15% - Merchant Service Provider (Chosen Payments etc.)
These interchange and assessment rates, the first three categories are relatively the same for all credit card processors and resellers. Think of this as the wholesale cost of the transaction. No wiggle room. It is what it is. Obviously, you want your fee to be as close to wholesale as possible.
There are literally hundreds of interchange “categories” than can apply to an individual transaction. You can visit the interchange rate and card brand assessment schedules below:
You can view card brand assessments by following this link:
What To Ask For
When obtaining a quote from a processor, ask the processor to quote fees based on a pricing model called “interchange plus”. Interchange plus separates the processor’s markup from the wholesale cost described above. “Interchange plus” quotes do not need to meet any type of minimum sales volume and this is the most transparent way for the provider to bill a merchant. This does not mean it’s always the cheapest but it is most often the cheapest and definitely the most fluid.
What To Compare
The fees you pay above the interchange or wholesale rate is the markup paid to the credit card processor. The most competitive credit card processor is the one that will offer the lowest markup, not the lowest rate. Some credit card processor have logic and history built into their business model in which they can assist their clients in obtaining a lower interchange rate. This is where it is important to do business with a provider that really understands your industry as it can have a huge impact on your bottom line.
Savings Quoted Don’t Always Materialize
Make sure that you don’t simply accept promised savings as a guarantee but shop based upon total markup. Since each separate transaction is subjective, one rate cannot be assumed for all transactions. Tiered pricing conceals the actual interchange cost so a prospective processor doesn’t actually know how much its cost would be by looking at a tiered pricing statement from your current processor. You must ask how much each category of qualified, mid-qualified and non-qualified transactions will cost. However, as addressed, the most important factor is to consider is not how the watch was built but learning to tell what time it is. We use this analogy to say: Your effective rate should be the guide in which you use to see your overall costs, savings, fees etc.
Take your monthly sales volume and divide that by your total monthly fee. If the rate you come up with is lower with a new processor than your previous processor, you’re in good shape. If not, you need to have a discussion about the proposed rates.
An Example of Manipulation
Let’s say that you processed $10,000 in credit card sales last month and paid $300 in total fees. Your current processor provides you with a statement of tiered or bundled transactions. The majority of your transactions involved commercial and reward cards, which have a higher interchange or wholesale cost. In this case, let’s say the interchange and other “fixed” cost was $200, which means the current provider’s markup was $100.
A competing processor comes in and offers you a lower rate based upon an assumption that the majority of your transactions involve signature debit and core credit, which have a lower interchange rate or wholesale cost and quotes you based on this assumption and estimates the interchange or wholesale rate to be about $100. That would assume the mark-up of your current processor was $200. If they propose a mark-up on the same volume without knowing what type of cards were processed it would be easy for them to quote $100 less and claim a savings of $100 per month. However, since there is no way to actually know the true cost of each transaction until it is actually processed you could easily end up paying way more than you were quoted if the majority of your transactions are deemed “non-qualified” and you are not comparing apples to apples in the pricing structures.
This is an important reason for developing a relationship with your credit card processor rather than simply seeing them as a utility for your business. It is also wise to use a credit card processor that is endorsed by any state and national association you may belong to such as OADA. When processors connect and specialize with a particular industry they become more tuned to what type of transactions the industry generally conducts and can more accurately quote based on statistical data of the entire group.
Simple Might Prove Foolish
There are very simple ways to process credit cards such as PayPal and Square but that simplicity may cost you in the long run. These companies are not processing companies but known as “aggregators”.
Aggregators provide flat rates that might appear attractive and easy to use but in the end, they will cost you more than a genuine credit card processor such as an industry endorsed provider. This is not only due to the rate but mainly a lack of knowledge of your particular industry. Lack of support causes you to spend more time than necessary on this aspect. They also have a lack of connections in areas that help grow your business and overall you are treated as a number rather than a true client with a dedicated account representative.
Square charges a single rate of 2.75 percent for all swiped transactions while the online processor Stripe charges 2.9 percent + 30 cents. Remember that the wholesale cost remains the same no matter what company you use to process. All processing companies must pay the same interchange and assessment fees. Your goal is to pay the lowest cost for processing and it doesn’t make good business sense to process a qualified transaction through Square. Your goal as a business is to pay the lowest possible markup over the processor’s cost. Why would you pay 2.9 percent on a qualified card transaction when you could be paying 1.59 percent to process the same transaction?
When shopping for credit card processors, avoid common pitfalls that can cost you in the long run.
- The closer you pay to wholesale, the lower your costs will be.
- Be wary of quotes that look too good to be true.
- Ask for the cost of processing different types of transactions processors other than simply the qualified ones.
- Ensure that you are comparing apples to apples.
- Ensure the processor has solid references within your industry.