When you look at a small business from the outside, it looks like there’s really not that much to do. You order stock, you fill the shelves, you open at the right time, and you make sure you have enough change in the register.
That is, of course, if you’ve never stopped to consider what really goes on behind the scenes.
Which is something I didn’t do before I bought my first corner store (Yes, a strong move. I know). I thought there was nothing to do other than have a good time and make some money. It wasn’t till I got into the other side that I saw everything that needed doing.
How do you decide what brand of milk you’re going to carry this season? How many apples should you order on Thursday given there’s a public holiday on Monday and you’ll be closed? What kind of floor cleaner is the best for your new vinyl tiles? My mind literally went into meltdown trying to wrap my head around all the basic decisions I had to make.
And then, if that wasn’t enough, once I got all the basics down, then I had to find a credit card processor! No, it’s not as simple as just choosing a random one out of a hat and signing up. There’s a LOT more to consider than who just has the best fees.
So, after months of research, below is a BIG breakdown of everything I found and what I’ve learned. Hopefully, it saves you at least a few hours of your time so you can dedicate it to getting the right shade of purple lipstick for your makeup counter 🙂
Table of contents
- Basics of credit card processing
- What is payment processing
- How to get the cheapest rate
- What type of buyer are you?
- How they process fees
- Understand the lingo
The Basics Of Credit Card Processing
Let’s start here: There are four parties involved with every credit card transaction:
- The merchant;
- The customer;
- The acquiring bank that provides the merchant’s processing services;
- The issuing bank that issued the customer’s credit card or debit card
The role of payment processors and payments gateways differ, yet each is a vital component in accepting payment online.
What Is a Payment Processor ?
A payment processor executes the transaction by transmitting data between you, the merchant; the issuing bank (i.e., the bank that issued your customer’s credit card); and the acquiring bank (i.e., your bank). A payment processor also typically provides the credit card machines and other equipment you use to accept credit card payments.
Versus a payment gateway securely authorizes payments for e-commerce websites. Think of it as an online point-of-sale terminal for your business. When you sign up for a merchant account, your provider may or may not offer a payment gateway.
How You Get The Cheapest Rate
Credit card processing fees are not as confusing as many processors would like you to believe. To prove the point, we have summarized the key to the lowest credit card processing fees in one simple sentence:
“Get your business’s fees as close to the sum of interchange and assessments as possible.”
Don’t worry if this sentence doesn’t mean anything to you right now; this guide will show you how to harness its cost-cutting power for your business.
The best way to get the lowest total fees is to find a credit card processor that offers “interchange plus” pricing. Interchange is an amount that your credit card processor must pay to Visa, MasterCard, or Discover to process a transaction. Interchange makes up the bulk of the credit card processors cost to process a transaction.
Interchange is a set of rates that varies depending on the card type and method of acceptance. For instance, credit cards have a higher interchange fee than debit cards; and online payments have a higher interchange fee that in person. Certain fraud prevention measures also lower the rate of interchange.
Some credit card processors quote very low rates, but these rates only apply to certain card types. They are the lowest rates you will ever pay, but not necessarily typical rates. Sometimes this leads to very high fees that are difficult to decipher. Interchange plus prevents this from happening. With interchange plus, you pay the actual interchange fees (plus other association fees), plus a easily comparable rate. Depending on volume and risk profile, Interchange plus rates typically vary from 0.10% to 1.00% plus $5-$10 per month.
The interchange rates are published on the web sites of Visa and Mastercard.
What Type Of Buyer Are You?
Generally speaking, the providers with higher monthly fees are able to offer the lower merchant discount fees (the % they charge on each of your transactions) and vice versa. Therefore, if you expect to do very high volumes of transactions and/or large dollar values per transaction you might want to consider a provider with a relatively high monthly fee in exchange for the lowest discount rates possible because this will result in the lowest total fees paid per month.
If you are a coffee shop you’ll probably be doing the opposite (aka small dollar transactions and medium transaction volume) meaning you might want to lean towards a plan with a lower or no monthly fee and settle for slightly higher discount rates. You’ll still want to do some back of the envelope calculations (or rigorous calculations if you have reliable sales estimates) to choose between relatively comparable fee structures.
The Types of Cards You Are Processing Matter
Another thing to think about is the type of cards you expect people to want to use in your store. If you’re in an affluent area people are more likely to be swiping mileage rewards, corporate and other premium credit and charge cards. I won’t get into the reasons, but these cards carry higher fees for you as a merchant than any other type of card. .
On the flip side, the lowest fees are associated with debit cards specifically when the customer keys their PIN in at at the point of sale (POS). If you think your customers would be willing to do this it might be worth the investment in a POS terminal that is built for customers to type a PIN.
Talk about Durbin amendment
Also, the fees don’t just vary based on the type of card and how it is entered but also on the type of business that the card network (VISA, MasterCard, etc.) classifies you in.
How Credit Card Processors Charge Fees
You know from the last section that interchange fees charged by issuing banks and assessment fees charged by card brands are the same regardless of the processor you use. What is not consistent among processors is how each one passes these fixed costs to your business.
Processors use one of two pricing models to assess charges to a business. The first is called tiered pricing (or bundled), and the second is called pass-through pricing (interchange- plus). The name of each pricing model describes the method the processor uses to pass interchange and assessment fees to a business.
Processors are able to select a pricing model on a per-case basis. So, any given processor will charge some businesses using bundled pricing and others using pass-through pricing.
As we will outline below, pass-through pricing is the model you want, and bundled pricing is not.
With pass-through pricing a processor bills interchange fees charged by banks and assessment fees charged by card brands directly to a businessat cost with no markup. Essentially, these fixed costs are “passed through” to the business.
The processor makes money by charging its markup as a single flat rate and a single transaction fee. For example, 0.25% of sales volume plus a $0.10 fee for each transaction is a typical pass-through markup.
The image below illustrates the flow of fees on a pass-through pricing model. Notice how the business essentially pays fees to the issuing bank, the card brands and the processor directly.
The table below provides a few examples of how the components of cost are reported and charged on pass-through pricing.
|Interchange Rate Charged by
the Issuing Bank
|Assessment Charged by
the Card Brand
|Pass-Through Rate and Fee
Charge by the Processor
|Consumer Credit Card||1.51% + $0.10||0.11%||0.25% + $0.10|
|Reward Credit Card||1.65% + $0.10||0.11%||0.25% + $0.10|
|International Credit Card||1.10% + $0.00||1.06%||0.25% + $0.10|
|Business Credit Card||2.25% + $0.10||0.11%||0.25% + $0.10|
Notice how all rates and fees are clearly visible as an individual component of cost, and how the processor’s markup stays the same regardless of the interchange rate charged by the issuing bank and the assessment charged by the card brand.
By separating the fixed costs of interchange fees and assessment charges from the processor’s markup, pass-through pricing:
- Is less expensive: The processor’s rate remains the same regardless of the underlying interchange rate charged by the issuing bank resulting in a consistent, low markup.
- Eliminates surcharges: There are no mid-qualified and non-qualified surcharges with pass-through pricing. (More on this in a moment).
- Is 100% transparent: The three components of cost are reported separately on month-end statements, allowing a business to see a complete picture of fees.
With bundled pricing a processor pays interchange fees to banks and assessment fees to card brands on behalf of a business. The processor then charges the business based on its own set of qualified, mid-qualified and non-qualified rates.
The qualified rate of a bundled pricing model is the lowest followed by the mid-qualified rate and finally the non-qualified rate. For example, rates of 1.69% qualified, 2.25% mid-qualified, and 2.99% non-qualified each with a $0.25 transaction fee are a typical example of bundled pricing.
The processor effectively “bundles” interchange fees, assessment fees, and its markup into its own rates, thereby completely concealing the fixed cost of interchange and assessments from unsuspecting businesses.
To make matters worse, the processor gets to choose which transactions are considered qualified, mid-qualified, or non-qualified. The ability to route a business’s transactions to the rate of its choice allows a processor to increase the business’s cost without having to increase its rates. All the processor needs to do is route more of the business’s transactions to its higher mid and non-qualified rates.
The final nail in the bundled pricing coffin is that it makes it impossible to accurately compare rates among processors. Even if several processors quote the same exact rates, one processor may route certain transactions to its lowest qualified rate that another will route to its highest non-qualified rate.
The image below illustrates the flow of credit card processing fees on a bundled pricing model. Notice how the business pays the processor and the processor pays interchange fees to the bank and assessment fees to the card brand.
The table below is in the same format as the one used to illustrate pass-through pricing in the previous section. This table provides a few examples of how the components of processing cost are reported and charged on bundled pricing.
|Interchange Rate Charged
by the Issuing Bank
by the Card Brand
|Bundled Pricing Rate and Fee
Charge by the Processor
|Consumer Credit Card||Not Disclosed/Hidden Fee||Not Disclosed/Hidden Fee||1.79% + $0.25 (Qualified)|
|Reward Credit Card||Not Disclosed/Hidden Fee||Not Disclosed/Hidden Fee||2.35% + $0.30 (Mid-Qualified)|
|International Credit Card||Not Disclosed/Hidden Fee||Not Disclosed/Hidden Fee||3.19% + $0.35 (Non-Qualified)|
|Business Credit Card||Not Disclosed/Hidden Fee||Not Disclosed/Hidden Fee||3.19% + $0.35 (Non-Qualified)|
By bundling the fixed costs of interchange and assessment fees with the processor’s markup, bundled pricing:
- Results in a high markup: The processor does not disclose what it pays in interchange and assessment fees for each transaction, so there is no way for a business to calculate the processing markup. Additionally, the processor bundles numerous interchange fees into just three rate categories (qualified, mid-qualified, non-qualified) resulting in an inconsistent markup.
- Results in hidden fees: Bundled pricing allows a processor to completely conceal the fixed cost of interchange and assessment fees making it impossible for a business to calculate its markup
Flat Rate Pricing
Eg, Square – is gaining popularity
Also recurring pricing
Understanding the lingo
- Credit Card Terminal
- Automated Response Unit (ARU)
- Payment Gateway
- Basis Point
Rates & Fees – How it works
- Discount rate
- 3-tier pricing
- First tier – Qualified rate
- Second Tier – Mid-qualified rate
- Third Tier – Non-qualified rate
- Authorization Fee
- Transaction Fee
- Statement Fee
- Minimum Monthly Fee
- Batch Fee
- Customer Service Fee
- Annual Fee
- Early Termination Fee
- Chargeback Fee
Frequently Asked Questions
Other Things To Consider
- Card Fellow –
- Marchant Maverick –
Basics of Card Processing:
*Add payment processor? – party facilitating the transaction between banks, makes for better segway into next topic
What is a Payment Processor:
*If you’re giving ex of payment processor, consider example of gateway
*virtual hardware, technically can be used for card-present and card-not-present
How you get the cheapest rate:
Seems like this could be simplified to maybe more just make a recommendation about asking for interchange plus pricing and minimizing ancillary fees:
“Get your business’s fees as close to the sum of interchange and assessments as possible.”
*could also go into rewards and business cards charged at higher rates than personal
**Note that if you are pushing Interchange Plus pricing, it will affect how much companies are willing to pay for top spots, as this is clearly not in the processors best interest revenue-wise
The Types of cards You Are Processing Matter:
*Maybe note that Interchange Plus pricing automatically accounts for increases in cost for premium cards. The charge from the card brands stays the same but your markup to your payment processor is fixed.
*Fees can also depend on your industry type and price point
How Credit Card Processors Charge Fees:
(Terminology is a little inconsistent here)
*Bundled Pricing (aka Tiered Pricing)
*Interchange Plus pricing (aka Pass-Through Pricing)
**Consider going higher for example than 0.25% + $0.10 depending on who your desired partners are and what you want to make in revenue. This recommendation will essentially cap your partners on what they can quote**
*Consider renaming 3rd column “Processor Markup”
*Could add a 4th column here, “Total Charge to You”
*Again consider increasing example tiered pricing plan at least to 3.19% Non-Qual rate as seen in example
*Not sure how much you want to bash tiered as some merchants like this structure if they want to know ahead of time exactly what their fees are. With Interchange Plus, you can get charged one of over 500 rates, and your bill can vary based on customer base that month. Tiered statements means you have a max of 3-6 rates, which makes for a simpler statement. Plus again, bashing tiered may limit who wants to partner with you.
Better to get a big MSP because they get better service.
Plus they do have good pricing.
Heartland – best of big merchant.