In today’s digital economy, the surge in card-based transactions has amplified the significance of interchange fees, significantly impacting the cost dynamics associated with credit and debit card transactions. As businesses aim to fine-tune their financial strategies, navigating these fees has emerged as a formidable challenge.
Understanding the intricacies of interchange fees and identifying pathways for optimization has become imperative for organizations. If you haven’t delved into the calculation or purpose of these fees, it can be overwhelming. This post serves as your guiding light into this arena.
This guide will go over: What exactly is an interchange fee, why they hold such relevance in modern transactions, how interchange fees are calculated, what constitutes interchange fees and how merchants can optimize interchange fees.
Interchange fees are charges imposed on merchants for processing card transactions. These fees, set by card networks, compensate issuers and facilitate seamless transactions. Credit card interchange fees comprise the bulk of merchant interchange fees for processing card transactions.
Whenever a customer utilizes card-based transactions while making transactions, the merchant incurs a fee called a payment processing fee. This fee is charged for processing related services that are provided by different stakeholders such as the card issuing bank, merchant acquirer bank, card network, payment processors and gateway. The payment processing fees enable the various stakeholders to cover the cost of
There are three major fees that cumulatively sum up the payment processing fees.
This makes up the bulk of the processing fee comprising almost 70-90% of the processing fee. The interchange fee is determined based on the interchange rate decided by the card network. The interchange fee is received by the cardholder issuing bank for services related to general operating costs, risks of bad debt and fraud. The interchange fee varies based on many factors such as the type of cards used, payment processing method, merchant category and more factors. Interchange fees are non-negotiable,
This fee is charged by the card network (Visa, Mastercard, American Express, Discover) whenever a card using their network is used to make a transaction. Similar to interchange rates, assessment fees are also pre-decided by the card network based on factors such as the type of card used,type of payment method and many other factors and are non-negotiable.
Markup fees are charged over interchange fees and assessment fees and various factors determine the markup. While it is the merchant-acquiring bank that receives the markup, the markup fees are distributed among the various stakeholders involved in payment processing other than the card-issuing banks and card networks.
This includes the merchant acquiring banks, payment processors,payment gateway and software providers. Together these stakeholders facilitate the transaction for which they charge in the form of markup. While all markup fees cannot be negotiated some of them can be negotiated by the merchant.
The interchange fee charged varies depending on many key factors which ultimately decide the interchange fee for each transaction. These factors include.
The most important factor is the card network as each card network has its own interchange rate that lays the baseline for the interchange fee charged. The four major card networks are Visa, Mastercard, American Express and Discover.
Most card networks regularly review their interchange rate, and this is updated twice a year during April and October. Visa and Mastercard publish their interchange rate publicly while American Express and Discover do not publish them. Visa and Mastercard interchange fees are generally lower as compared to American Express.
While many factors further determine the final interchange fee charged the average interchange rate of the card networks are:
American Express – 1.80% to 3.25%
Discover – 1.55% to 2.45%
Mastercard – 1.45% to 2.90%
Visa – 1.30% to 2.60%
The type of card used plays a key role in calculating the interchange fee. Debit cards have a lower interchange fee as compared to credit cards. This is mainly because the risks are much lower in the case of debit card transactions as the banks need to authenticate the transaction by checking the cardholder’s account owner’s amount available.
In the case of credit card transactions, the risks are much higher as the bank pays the amount with the expectation that the cardholder will pay the amount in the future.
Interchange rates for debit and credit card transactions vary depending on whether the card is physically swiped at a sales terminal or if the card information is manually entered, as in the case of online transactions. Rates are comparatively lower for card-present (CP) transactions, such as point-of-sale (POS) purchases where the card is physically swiped.
Conversely, rates are significantly higher for card-not-present (CNP) transactions, like online sales or telephone orders. This discrepancy is due to the elevated risk of fraud associated with CNP transactions compared to CP sales.
Each merchant is assigned a Merchant Category Code (MCC) based on the nature of their products or services. This four-digit code categorizes businesses according to their industry. The MCC serves as an indicator of the risk level associated with the industry, subsequently influencing the cost of the interchange fee. Industries deemed higher risk generally incur higher interchange fees.
Business and corporate cards usually have a higher interchange fee as compared to individual cards. Further reward cards such as air miles and cash back have a higher interchange fee due to the cost of additional services that cardholders enjoy and the bank incurs.
Interchange fees differ based on the country of transaction. Cross-border transactions generally incur higher interchange fees compared to domestic ones, where the issuing bank and the merchant are in the same country. This is mainly because when the acquiring bank and issuing bank are based in different regions and jurisdictions there are further added complexities in payment processing.
Merchants adopting increased transaction security measures can get the advantage of incurring lower interchange fees. With the escalating risk of fraud in card-not-present transactions, prominent credit card processors are introducing innovative tools like tokenization to mitigate these risks.
Major credit associations have now implemented a pricing structure where merchants using tokenization and other transaction security measures are charged lower bank interchange fees, while those not utilizing such measures face higher interchange fees.
The interchange fees basically comprise a percentage of the transaction value and a fixed flat rate or transaction fee. They are generally denoted as
X Percentage + Transaction Fees
Interchange fee example
The Visa interchange fee for e-Commerce card transactions is 1.65% + $0.15
Here $ 0.15 is the transaction fees
This rate varies based on various factors such as the type of card used, merchant category and transactional parameters.
Interchange fees are calculated as a percentage of the total transaction amount in credit or debit card transactions. These rates are determined by credit card networks like Visa, Mastercard, American Express, and Discover. The interchange rates are the basis for the fees imposed by payment processors, with interchange fees comprising the majority of these charges.
As an interchange fee example, Visa’s interchange rate for an e-commerce transaction stands at 1.65% + $0.15, where $0.15 is a fixed rate. The payment processor supplements the interchange rate with an additional service fee to arrive at the processing fee.
The payment processor collects the complete processing fee, retains its service fee, and forwards the interchange fee to the bank that issued the customer’s card.
Here’s an example of the interchange-plus processing fee:
So, if the total transaction value is $1000, and the customer chooses to use their Visa credit card. then the interchange fee charged would be as follows:
Transaction value (sales price) = $1000
Interchange fee with payment processor fees = 0.0215 * 1000 + 0.24= $21.74
So, the seller needs to pay the card issuing bank $21.74.
The amount received by the seller for the sale after interchange fee deductions= 1000-21.74 = $978.26
Please note that in the example above we have taken the scenario of interchange plus fee. However, based on the processor there are different methods of determining the final processing fee depending on how the processor is charging the markup.
For any credit card transaction whether it’s a card present transaction or a card not present transaction, to process the transaction the merchants need to pay a credit card processing fee. With multiple stakeholders involved in processing a transaction, the credit card processing fee includes different fees charged.
Most of the processing fees comprise credit card processing interchange fees and assessment fees. Together these are often referred to as base fees and make up for almost 75-90% of credit card processing fees. The other component of the processing fee is markup that is charged by the processors.
Credit card processing interchange fees depend on the credit card interchange rates and are non-negotiable. Each card network has its own credit card interchange rates which are dependent on various factors such as transaction type, merchant category and type of card such as reward cards etc.
Credit card interchange rates are higher as compared to debit cards due to the added risk associated with it. Here the card issuing bank authorizes the transaction while handling credit risk and risk related to bad debt.
This is determined by the credit network as well and this component is received by the card network. This is also a non-negotiable component of the credit card processing interchange fee.
This component is received by other stakeholders such as the acquiring bank, payment gateway, payment processor and software provider for their services in facilitating the transaction. While the markup rate is negotiable to some extent, organizations should note that not all components under markup are negotiable.
Markup greatly varies based on the processor selected as well as the pricing model selected. The pricing model denotes how the markup is added to the credit card processing interchange fees.
Example of credit card processing interchange fee
Let us assume that you are an IT service provider and the transaction value of the service provided is $5000.
Your client makes a payment using a credit card to make the payment. Let us assume it is a Mastercard credit card. Now let us consider that the Mastercard interchange fee is 1.43% + 0.10.
Transaction Value= $5000
Credit Card Interchange Rate= 1.43% + 0.10
Credit card processing interchange fee= $71.6
Assessment fees= 0.11% + $0.195
Assessment fees paid to Mastercard= $5.695
Markup fee= 0.40% + .10
Markup fee paid to receiver= $20.1
The amount received by merchant (IT service provider) for the transaction = 5000-71.6-5.695-20.10 = $4902.6
Interchange rates and assessments are non-negotiable so when it comes to optimizing interchange fees organizations can look into a few strategies related to processor markups to optimize processing fees.
However, organizations should realize that using techniques such as encouraging customers to shop offline to ensure card present transactions and encouraging them to use debit cards to lower interchange fees will not be fruitful as it can impact customer experience and overall sales.
A few ways to optimize interchange fee are:
The processing fee is composed of interchange fees, assessment and processor markup. Many processors offer different pricing structures that organizations can select based on what is optimum for them. These fee structures are:
Interchange plus pricing- This is one of the most used pricing structures. Here the organization gets a completely transparent view of the interchange fee, assessment and processor markup.A lot of organizations often face the challenge of not getting an overall overview of their credit card processing fees.
Interchange plus pricing addresses this issue by offering a high degree of transparency. This pricing structure can be beneficial for large organizations with huge sales volumes as they can negotiate the processor markup rate based on transaction volume.
Tiered pricing: Here, based on factors such as the type of card used, transaction type, and sales category the processor will have different tiers. Each tier then will have a designated price fee. In this model, it is difficult for the organization to gauge how much is the interchange fee and what is the markup.
This lack of transparency can lead to organizations often paying higher than the interchange rate. In a few cases, organizations with large sales volume whose sales mostly fall in one tier category can negotiate for lower tier fees.
Blended pricing- This includes a processing fee and a fixed markup fee. The markup fee remains the same irrespective of the processing fee. In this structure, the organization is unable to get a full overview of the costs, especially about the interchange fee and assessments.
This has a more basic structure and is good for smaller businesses that are just starting to accept credit card payments. However, in a few cases, blended pricing can be more expensive than the interchange rate.
Businesses can enhance their interchange fee optimization through the adoption of best practices in payment processing. This involves leveraging technological solutions to ensure transactions qualify for the most favorable interchange rates. A key factor in reducing interchange fees lies in enhancing transaction security. In the United States, the address verification service and card security codes stand out as widely used tools for fraud prevention.
However, with the rise of fraud in card-not-present transactions, major credit card processors are actively developing innovative tools, such as tokenization, to minimize risks. Notably, as of April 2022, major credit associations have introduced a fee structure that incentivizes merchants using tokenization with lower rates, while imposing higher rates on those not adopting this security measure.
Achieving efficient transaction processing and minimizing chargebacks can positively impact interchange fees. To mitigate chargeback risks and associated costly fees, businesses can implement secure payment gateways and fraud detection systems.
The payment network establishes crucial payment criteria, including specific authorization and identity verification procedures, vital for securing transactions and attaining lower interchange fees. Non-compliance with these card network requirements by a merchant can lead to transaction downgrades, subsequently causing an increase in interchange fees.
Common reasons for transaction downgrades encompass the absence of Address Verification Service (AVS) for authenticating the cardholder’s identity, malfunctioning POS terminals, and insufficient provision of additional required data. Organizations should take measures to ensure that they fulfill these payment criteria that are set by the card networks.
Merchants may find it advantageous to supply more information than is strictly required for a transaction. Some transactions qualify for lower cost interchange rates when additional details, referred to as enhanced data, accompany the transaction.
This is particularly relevant for corporate credit cards, purchasing cards, and government cards. If commercial cards constitute a significant portion of a merchant’s transaction volume, it is crucial to ensure proper optimization for enhanced data.
Merchant interchange fees can be minimized by integrating Level II and Level III data into each transaction submission. This plays a crucial role when it comes to B2B interchange fee transactions. Level 3 processing is instrumental in ensuring B2B transactions qualify for a reduced interchange rate.
This processing level provides an extensive array of supporting information, including details such as the merchant’s industry (which may impact rates), shipping locations, invoice numbers, and line-item specifics of the invoice. Furnishing additional transaction details assists the issuing bank in assessing the transaction’s risk level, contributing to a potential reduction in fees.
Organizations should regularly review their processing fees to understand the interchange fees that they are being charged. For this organizations require a high degree of transparency in their processing fees. Further, as card networks review and update their interchange rate twice a year, organizations should ensure that the transactions reflect the revised interchange rates.
Reviewing credit card processing fees also ensures that organizations can understand their transaction patterns and identify strategies regarding how they can manage these fees more effectively.
Based on where the organization is based, and regulations organizations can levy a surcharge on the transactions. The surcharge covers the cost of interchange fees and hence it is the customer here who is paying for the interchange fees.
However, surcharge is not allowed in Europe and in the UK though allowed, it is rarely used. Each state and card network has its set of rules pertaining to surcharges and organizations need to meet these requirements. So, organizations need to take a lot of perspectives, and compliance with legal requirements and regulations in mind if they plan to leverage surcharge programs.
Settling the transaction amount every day results in lower interchange fees as compared to a batch settlement. To qualify for the lowest interchange rate organizations need to settle the transaction within one day of authorization.
At HighRadius, our B2B payment solutions are meticulously designed to streamline payment processing, offering organizations a means to significantly reduce processing costs. The Interchange Fee Optimizer supports over 30 payment processors, each with unique data and API requirements. This guarantees the inclusion of essential invoice data for optimizing interchange fees in every payment transaction request, tailored to the processor, transaction type, and card product.
Empowering organizations to slash card processing fees by up to 90%, our solution leverages Level 2/3 processing, large ticket coding, surcharge management, and alternative payment options. We address challenges associated with multiple invoices, as well as header and line-item reconciliation, by seamlessly auto-transmitting invoice data, SKU details, and tax information to the processor, tailored to the processing level required.
Through our Interchange fee analysis solutions, organizations gain access to comprehensive reports and dashboards, delivering transactional-level visibility and a high degree of transparency regarding their card processing fees. This level of insight enables organizations to identify cost-saving opportunities effectively.
Card networks, such as Visa, Mastercard, American Express and Discover determine the percentage of interchange fees. They specify an interchange rate based on various factors.
The average interchange fees vary by card network, transaction type, and other factors but generally range from 1% to 3% of the transaction amount.
B2B (business-to-business) transactions typically involve Level II and Level III interchange rates, which are lower than standard consumer rates, but the specific charges can vary based on factors such as transaction volume, industry, and card type.
Interchange fee litigation involves legal disputes over the fees charged between banks for processing credit and debit card transactions.
B2B interchange fees are transaction costs paid by businesses for the processing of business-to-business credit card transactions.
The payment card interchange fee settlement refers to a legal resolution determining fees paid between merchants and card-issuing banks in a class-action lawsuit.
Interchange fees are typically calculated as a percentage of the transaction amount plus a fixed fee, determined by the payment card network, and are paid by the merchant to the card-issuing bank for processing credit or debit card transactions.
Bank interchange fees, also known as credit card interchange fees, are charges that a merchant’s bank (acquiring bank) pays to a customer’s bank (issuing bank) for the acceptance of credit or debit card transactions.
An interchange fee calculator is a tool that helps merchants estimate the interchange fees associated with processing credit or debit card transactions, taking into account factors such as transaction amount, card type, and other variables that impact the fees set by card networks and issuing banks.
Merchant interchange fees are charges imposed by card-issuing banks to merchants for accepting credit or debit card transactions. These fees contribute to the overall cost of processing payments and are set by the card networks (such as Visa, Mastercard, etc.) in collaboration with the issuing banks.
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