Merchant Service Pricing Explained

Merchant Services Pricing

In sitting down with a business owner to discuss credit card processing it typically doesn’t take long before the number one question comes up.  “What is your rate?”  I know it sounds bad, but I never answer that question without asking questions back.  Questions such as “Who and what type of customers do you have? Are they consumers or business to business? How do you process your credit cards? Do you have a credit card terminal or are you running them online? Do you swipe or key your transactions?  All of these questions are factors on determining the right rates for any merchant account.

Interchange Processing Rates Explained

First, understand that Visa, Mastercard and Discover have rate categories (aka Interchange) for every type of credit card that is released into the marketplace. These rates are assessed to the merchant in the form of a percentage and a per transaction fee.  There are approximately 600 interchange rates that represent different business types, various card types, and things such as whether the card was swiped or manually entered.

These days the typical pricing method used is called interchange pricing.  Interchange is the actual percentage and per item associated with that card type.  Aka, debit card, credit card, or rewards card.  To give you an example of Interchange, the cost of a Mastercard debit card (like your personal debit card from your bank) is 1.16% + .17 per transaction.

When talking to a merchant account agent sometimes they’ll say something like Interchange plus which refers to interchange plus some basis points over the true cost from Visa, Mastercard and Discover.  The basis points or plus are the above costs that go back to the company you are doing business with.  Basis points are set by the agent and can be anywhere between .10 to .50%.  Now you might think that is what your agent makes off of your account but that is not the case and a whole different article could be written for that.

Tiered Pricing Explained

Tiered Pricing used to be the most common, but these days isn’t really used anymore.  Although how many of you have received a phone call stating a low 1.59% or something similar?  Well I will be honest with you, there is a good possibility you will NEVER see that rate.  Yes I said NEVER.

For Tiered Pricing it is a bit different.  All of those interchange rates mentioned have to be distributed between three tiers:

The first tier is a Qualified rate.  They are your basic credit cards that are swiped face to face.   This is the rate that is typically disclosed.  I have seen rates quoted from 1.49%  to 1.80%.  For our examples we will use 1.70%.

The second tier is the Mid Qualified rate.  A large portion of credit cards fall into this category if your customer is using rewards/sky mile cards (very popular) or if the sale is keyed rather than swiped.  This tier is assessed a downgrade fee (aka surcharge).  Agents don’t typically disclose this rate.  You need to ask for it.  They will either tell you the full rate or they will only tell you the downgrade fee.  If they tell you the downgrade fee is .50% you must add that rate to your Qualified rate (1.70% + .50 =2.20%).  A Mid Qualified rate can be anywhere from 1.99% to 2.50%.

The third tier is the Non Qualified rate.  Your cost of taking cards in this tier is from business cards, corporate cards, address or zip code provided doesn’t match the card holder’s on file, certain cards that are keyed into a terminal, international cards, etc.  Again, this tier is assessed a downgrade fee that agents typically don’t disclose.  You will need to ask for it.  If they tell you the downgrade fee is 1.50% you must add that to your Qualified rate (1.70 + 1.50 = 3.20%).  A Non Qualified rate can be anywhere from 2.94% to over 4%.

This is where deceptive practices come into play.  Every agent is willing to tell you that best rate. Notice I didn’t say best Qualified rate!  They don’t disclose everything!  Their best rate might be a rate you will never see?  Are they telling you what the downgrade fees are?  Technically they aren’t lying; they just aren’t DISCLOSING all the fees to you.

Interchange plus basis points vs. tiered pricing

Let’s break down a few different types of credit cards. From the example above, for the Mastercard debit card, we know the cost plus basis points is 1.16%.  And let’s say the agent is quoting Interchange plus 20 basis points. (1.16% + .20% = 1.36%)  That card would be considered a Qualified card on a Tiered plan.  So if we use the example rate for the Qualified tier above it would be 1.70%.  As you can see, the difference between 1.36% and 1.70% is vast.  Especially if you are processing a lot of transactions or significant volume.

Let’s look at another example.  This time I’ll use a Visa Card Not Present where interchange cost is 1.89% +.20%.  Using the Tiered pricing this credit card would be a mid-qualified card so the downgrade fee will apply.  Using the example pricing for our qualified rate 1.70% and the example downgrade fee .50% the mid qualified rate would be (1.70%+ .50%) =2.20%

These are just two examples, but you can see the rate differences between the two pricing plans.  It’s all how the agent prices your merchant account.  These are just the basics that come into play and that is why rates are not “one size fits all”.

If you are a hair dresser or coffee shop you might take more debit cards or retail cards.  However, if you are keying all your transactions or accepting payments via a website or over the phone then your needs are completely different.  That is why agents ask for processing statements.  It’s not only to see if they can beat the rate, it’s to look at how your transactions are processed and what type of cards you typically see.  Finding out what kind of cards you’re taking and fees you’re paying to price you properly is what you want at the end of the day.

So how do you know if you’re saving money? The easiest way to find out how your doing is to do the math to get your effective rate.  To find your effective rate just take your fees and divide them by the volume processed.  For example, if your fees were $500 and your volume was 20,000 then 500/20000 = .025.  Move the decimal point and your effective rate is 2.50%.  This is something you want to keep an eye on as an effective rate of 4.00% is not good.

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