credit card transactions

Staying Alive

The struggles of a business trying to survive.

Starting on Tuesday morning, I am going to publish a series of posts about my search for an honest and affordable processor of credit card transactions. It was not an easy search, but I learned a lot — much of which I never wanted to know but some of which I think may be helpful to other business owners.

As a warm-up to the series, I offer this primer on card-processing basics. I think this background information will be helpful if you read the series or, more important, if you, too, have struggled to arrange credit card processing. My own search began when I was tipped off that I was paying more than necessary for my transactions. Many years ago, I agreed to let my bank handle them, and since then, I had given the topic little thought.

I wrote about my issues with my bank in a previous post, including my feeling that my credit card processing — also known as merchant services — was costing me too much. That feeling was set off by a cold call last spring from a processor that was interested in seeing whether it could lower my transaction costs. That prompted me to do some research.

I soon learned that there are four parties involved with every credit card transaction: the merchant receiving the payment (“merchant”), the bank that the merchant uses to provide processing services (“acquiring bank”), the bank that issued the card to the customer (“issuing bank”) and the customer (“customer”).

The money in the transaction is lent by the issuing bank to the customer, who will either pay off the debt within 30 days or add it to a balance and pay interest on it. Technically, as I will explain in a moment, the acquiring bank is also making a loan to the merchant. Fees are deducted by both the issuing bank and the acquiring bank, so that the amount of money that ends up in the merchant’s account is less than the amount charged the customer.

The issuing bank’s fee is called the interchange fee. The acquiring bank’s fee is called the discount rate, and it might be supplemented with other fees. Both the interchange fees and the discount fees are expressed as percentages of the transaction, although a small fixed amount may be associated with each transaction.

Many banks issue credit cards to customers and act as issuing banks. These banks hand out cards of a certain brand, with Visa, MasterCard and Discover the most common. American Express is a little different — it acts as both the issuing and the acquiring bank and charges a single fee directly to the merchant but will administer the transaction through the acquiring bank so that a merchant can process American Express transactions through the same terminal as the other cards.

Those interchange rates are published information — you can see Visa’s fee structure here and MasterCard’s here. The exact interchange fee charged to the acquiring bank (and the merchant) is determined by several factors: whether the card is present at the transaction, what type of card is used (a rewards card? a card used by the government for purchasing?) and what type of merchant accepts the card.

Yes, the type of business you are in can affect the interchange rates. This is because the issuing bank wants to be compensated for the risk of the dreaded chargeback, which happens when a customer disputes a charge successfully. When a customer complains about the product or services you have provided, chances are good that the money you were paid by the acquiring bank, plus additional fees, will be taken out of your account. You can appeal this, but it will take a while and you will probably lose.

Some businesses are more likely than others to provoke chargebacks. The safest transactions, from the point of view of both issuing banks and acquiring banks, occur when the cardholder is physically present to swipe the card and sign the receipt and when the goods are inexpensive and unlikely to provoke complaints. Merchandise and services that are standard and used quickly are the safest, which is why gas stations, restaurants and car rental agencies get favorable rates.

The riskiest transactions are those that are done over the phone and Internet, especially if the transaction is large and the business is of a kind that tends to generate complaints. That’s why an important part of applying for merchant services is revealing what kind of business you are. To make sure everyone is speaking the same language, the processors employ MCC Codes, four-digit numbers issued for a wide variety of businesses as defined by the federal government. If you wade through the MasterCard interchange document I linked to above, you will see special interchange rates associated with different MCC codes. Visa works the same way.

If you need to accept credit cards for your business, you have to deal with the acquiring bank. It is common for the responsibilities of the acquiring bank to be split between two entities. The first, commonly called the merchant service provider, is in constant contact with the merchant. When a sales representative shows up at your door to try to sign you up for credit card processing, or when you interact with a Web site (such as Square) to investigate a deal, you are dealing with the merchant service provider, which can be an arm of a bank or a smaller independent company.

In every deal I looked at, standing behind the merchant service provider was another company. I’m not sure if this is the correct term, but I’ll call it the processing company. This entity actually executes the mechanics of the transaction: transmitting information among the merchant, the issuing bank and the acquiring bank. In my dealings with four merchant service providers, I found it difficult to tell exactly how the duties of the acquiring bank were divided between the merchant service provider and the processing company. The sales representatives clearly worked for the merchant service provider. The monthly statement could come from either the merchant service provider or the processing company. The card readers were provided by the processing company. And somewhere in the middle were the underwriters.

Underwriters? Is someone evaluating risk? Yup. It is important to understand that when you sign up to accept credit card payments, you are actually borrowing money. When the acquiring bank transfers cash to the merchant, it is assuming the risk that there will be a chargeback. That risk will remain until the transaction (which may, for instance, include shipping time) is completed and the warranty on the goods (which may last a long time after delivery) has expired.

Despite that risk, the acquiring bank will put the transacted funds in the merchant’s account a couple of days after the transaction is reported. The acquiring bank sees this as a loan and that’s why when you apply for merchant services, your fitness to borrow the amounts that your business generates in credit card transactions will be evaluated. Every merchant services application I have seen has required a Social Security number and demanded that all card transactions be backstopped by my own assets. My house, my car and my savings are all up for grabs if things go wrong.

And as with any personal guarantee, this one is likely to affect your credit score and your ability to borrow money outside the business. At the very least, if you shop around for merchant services, as I did, your personal credit report will show multiple inquiries — with whatever effects that might have.

Tuesday: My search for an honest credit card processor begins.

Paul Downs founded Paul Downs Cabinetmakers in 1986. It is based outside Philadelphia.

Article source: http://boss.blogs.nytimes.com/2013/03/25/what-you-need-to-know-about-credit-card-processing/?partner=rss&emc=rss

Jin Lee/Bloomberg NewsJack Dorsey, Square’s chief executive and co-founder, said the company’s offices are designed in an open-air environment to promote trust and transparency in employees.

The headquarters of the start-up Square would be the absolute worst place to play hide-and-seek. There are no offices. Executives sit in open cubicles. All of the conference rooms, large and small, are surrounded by walls of clear glass. The only real place to hide, thankfully, would be the toilet.

This openness might seem odd given what Square does. It manages more than $2 billion a year in credit card transactions made through mobile phones. But the company is set up this way by Jack Dorsey, Square’s chief executive and co-founder, for a reason: to promote trust and transparency in its employees, which it hopes will translate to its customers. Design, he believes, has the power to determine a distinct mind-set, something he needs if Square is to succeed as a mobile payment system.

If Willy Wonka built a financial institution, instead of a chocolate factory, it would look something like Square. During an interview at the company’s San Francisco offices with Mr. Dorsey, we sat at a square table, in a square glass conference room — all of which are named after a famous town squares from around the world. Mr. Dorsey was eating nuts out of a square bowl. (Don’t worry, the nuts were still round, I checked.) Employees are even referred to as Squares.

“We believe strongly that the company is going to be reflected in the product and vice-versa,” Mr. Dorsey said. “The internal matches the external and the external matches the internal, and if we can’t provide a clean, simple, well-designed experience in here, it’s not going to be reflected in our identity. It’s in our DNA.” (Mr. Dorsey also is the chairman and co-founder of Twitter, where his obsession with openness is not as extreme.)

Square also borrows metaphors from traditional institutions, including the old United States Mint building, which sits across the street from the company’s office. “It looks like something that is built to last; it looks like it will stay up forever,” he said. “So how do you build that into pixels instead of stone?”

For centuries banks were built with thick stone walls, marble slab floors and heavy metal doors, all of which gave customers the feeling that bankers were dependable and trustworthy.

Square transactions primarily occur on a small plastic plug, inserted into a smartphone’s headphone jack, through which people swipe credit cards.

A hefty chunk of marble it is not. Square’s front door to customers is a smartphone application. Square has to provide the simplest experience possible, Mr. Dorsey believes, because, along with good design, it will evoke trust and confidence in a new financial institution that lives in a smartphone.

“We need to build something that never gets in the way of our users doing what they want to do,” he said. That concern is necessary because Square lacks the money to use mass media to show people how it works. When JPMorgan Chase introduced a new mobile feature that gave its banking customers the ability to deposit checks with their mobile phones, the financial behemoth spent millions of dollars on charming television and print ads of newlyweds in bed getting their wedding haul of checks into the bank.

Square has accrued a million customers just by word of mouth. That’s a tiny portion of all merchants accepting credit cards, so it still has a lot of work to do. “Traditionally in a financial institution, you have massive barriers to working together, you have a risk-averse culture and you have a lot of fear,” Mr. Dorsey said. “It’s rare for a financial institution to focus on design first.”

While the approach sounds very New Age-Touchy Feely-California, Silicon Valley companies have shown over and over again — think Apple, Google, Intuit — that clean and thoughtful design can win converts to a new way of doing things.

Article source: http://feeds.nytimes.com/click.phdo?i=db8aa325924893af76dc35486269a190

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