Interchange Plus Pricing VS Tiered Merchant Account Pricing
If you're like most business owners, deciphering exactly how merchant account fees are charged is a necessary but confusing task. Understanding the different pricing options available and which one is best for your business isn't always easy. This guide will explain the different merchant account rate structures with minimal industry jargon to provide you with a solid understanding of how fees are assessed. There is also a video that explains the key differences between interchange plus and tiered pricing here.
Merchant account rates are a complex topic that I've explained as concisely as possible in the paragraphs that follow. By the time you're done reading this article you will be able to examine your own rates to ensure you're paying the lowest merchant account fees possible, and you will be able to accurately compare rates and fees on merchant account quotes that you receive in the future.
- Merchant account fees
- Tiered merchant account pricing
- Interchange plus pricing
Merchant Account Fees
Tiered and interchange plus are two main types of merchant account pricing. I'll cover each rate structure in detail later, but first I want to discuss merchant account fees in their most basic form and touch upon how each type of fee changes between tiered and interchange plus pricing. I will also explain exactly what interchange is and how it is the basis for all processing charges. Merchant account fees can be categorized as a percentage, transaction or flat fee.
Percentage fees are the most substantial contributor to processing expenses. A percentage fee is charged as a percentage of a gross credit card transaction. How percentage fees are applied is the main difference between tiered and interchange plus merchant accounts.
As the name implies, transaction fees are charged when a merchant performs a transactions. A common misconception is that the term "transaction" refers to the act of charging a customer's credit card. In fact, a transaction is any action that requires communication with the processing bank. Clearing a batch, refunding a credit card order and other tasks are all considered transactions. Types of transaction fees don't change much between tiered and interchange plus pricing, but the amount of the fee can vary. The terms authorization fee and transaction fee are often used interchangeably but they are two different things. A transaction fee is assessed on all transactions whereas an authorization fee is assessed on authorization responses.
Flat fees are charged regardless of processing volume or transaction activity and are the same amount each time they're charged. Monthly merchant account statement fees, membership fees and contract cancellation fees are good examples of a flat fee. The types of flat fees charged won't vary much between tiered and interchange plus pricing structures.
The Exception to the Rule
It seems like there's an exception to every rule and merchant account fees are no different. A merchant account monthly minimum fee doesn't really fit into any of the three main categories, mainly because it's not really a fee. I won't go into the merchant account minimum in this article. To learn more, check out the many articles here at merchantcouncil.org that cover this fee in detail. The monthly minimum won't change much if at all between tiered and interchange pricing. This fee is set by the merchant service provider and can vary greatly from one provider to the next.
Interchange Reimbursement Fees
At the core of merchant account rates are something called interchange reimbursement fees. Before you can understand how fees are assessed, you need to understand what interchange is and how it's applied to different credit card transactions.
The card brands publish a schedule of fees referred to as interchange reimbursement fees twice yearly in April and October. Interchange fees are essentially wholesale merchant account rates for various types of credit card transactions. Notice I said "types of credit card transactions." There are literally hundreds of different interchange categories between Visa, MasterCard and Discover. You don't have to memorize this fee schedule to grasp merchant account pricing, but it is important to understand that there is no single merchant account rate.
The type of credit card being used, the way a transaction is processed, the type of business accepting the credit card, the information given about a transaction and more can affect into which interchange category a transaction qualifies. It's literally impossible to tell which interchange category a transaction will qualify to until it's been settled. Before you read any further, take a moment to follow this link to Visa's Interchange Reimbursement Fee schedule so you have an idea of what the fee categories look like.
You will hear the terms "qualified" and "qualification" used often when talking about merchant account rates and fees because they describe which interchange category a credit card transaction is assigned to. In the case of tiered merchant account pricing these terms are used to refer to the tier or bucket that a transaction falls into.
Now that you know that processing fees are based on interchange, I'm going to throw one last term into the mix. The term "Merchant discount" is used in the processing industry to describe the markup from interchange to the rate that a business pays to accept credit cards. The interchange portion of a merchant account discount fee goes to the bank that issued the customer's credit card, called the issuing bank. The other fees that comprise merchant discount are split between card association dues, the merchant service provider's fees and other charges.
When you are comparing merchant account quotes - merchant discount is what you're comparing.
At the time of this writing the vast majority of merchant accounts operate on a tiered rate structure. All tiered merchant accounts have a base rate called the qualified rate and anywhere from one to several additional tiers that carry a surcharge that is added to the qualified rate to arrive upon the final rate for that tier. Most tiered merchant accounts have two additional tiers referred to as mid and non qualified. However, some tiered merchant accounts have as many as 12 or more additional tiers in addition to the lowest qualified discount rate. For example, the rates for three and six-tier accounts would look like this:
Three Tier Merchant Account Rate Structure
- Qualified Discount Rate (lowest)
- Mid Qualified Surcharge (Qualified discount + Mid Qualified Surcharge = Final rate)
- Non Qualified Surcharge (Qualified discount + Non Qualified Surcharge = Final rate)
Six-Tier Merchant Account Rate Structure (Credit and debit transaction are separated)
- Qualified Credit Discount Rate (lowest)
- Mid Qualified Credit Surcharge (Qualified discount + Mid Qualified Surcharge = Final rate)
- Non Qualified Credit Surcharge (Qualified discount + Non Qualified Surcharge = Final rate)
- Qualified Debit Discount Rate (lowest)
- Mid Qualified Debit Surcharge (Qualified discount + Mid Qualified Surcharge = Final rate)
- Non Qualified Debit Surcharge (Qualified discount + Non Qualified Surcharge = Final rate)
Although hardly ever seen, it's possible for a tiered merchant account to have twenty or more tiers. This could happen in a situation where each card brand is given an individual rate structure and credit and debit transactions are assign their own tiers.
Payment professionals refer to the different tiers as "bins," "rate buckets" or simply "buckets." This is significant because it has to do with an industry term that is vital to understanding how interchange charges are applied on a tiered account.
How the Charges are Determined on a Tiered Rate Structure
Think back to the interchange fee schedule that you had glanced over earlier in this article. If you recall, there were far more than three, six or even twenty different rate categories - and Visa's interchange schedule represents only a portion of all interchange categories. You may be wondering how all of those different interchange rates and fees get packed into as little as three different rate categories or buckets.
Individual merchant service providers (acquirers) maintain a qualification matrix that dictates which rate bucket the various interchange categories will qualify to. This makes it impossible to accurately compare rates and fees from different providers unless you know how each provider will be qualifying the various interchange categories. It's often the case that a business gets multiple merchant account quotes with nearly identical rates and fees and one of the accounts costs hundreds of dollars less than the others each month.
If you have a lot of mid and non qualified surcharges each month, it's time to call your merchant service provider and ask them to rearrange your buckets, or add more tiers to your account so that you transactions qualify to the lowest tier possible. Or better yet, switch to an interchange plus or flat rate credit card processing pricing model and save yourself substantially each month in processing charges.
Merchant accounts that operate on an interchange plus pricing structure may sound more intimidating, but they're actually much more transparent and less expensive than tiered accounts. On an interchange plus pricing structure, the merchant pays the exact interchange fee in addition to a flat markup to their merchant service provider. This eliminates inconsistent buckets and overpaying for inflated tiers.
Unlike tiered accounts that can have several different rate categories, interchange plus accounts only have two rates - the interchange markup percentage and a transaction fee.
For example, a business with an interchange plus merchant account with a rate of 0.35% and an authorization fee of $0.15 would pay the wholesale processing rate for every transaction plus 0.35% and $0.15 per transaction. The percentage part of interchange plus pricing is referred to as basis points. A basis point is equal to 1/100th of a percent.
Until recently interchange plus pricing was only available to businesses that processed high volumes of credit card sales each month - usually $25,000 or more. Increased competition in the industry has begun to make interchange pricing available to low volume and even new businesses. Web sites like CardFellow offer nothing but interchange plus and flat rate pricing quotes - even to new businesses with no prior processing history.
We've received a number of emails from industry professionals questioning why we often portray interchange plus as the best pricing model when tiered, enhanced recover reduced (ERR) and other pricing models can be just as cost effective.
First of all, it's not specifically interchange plus that we're saying is the best pricing model. More accurately, we're promoting pricing models that pass interchange directly to merchants in one form or another, opposed to models that generalize categories or act upon them in the background.
While it's true that other pricing models can be just as cost-effective as interchange plus, much of the value of this pricing model comes from the pass through of interchange that results in a consistent, easily deciphered markup. The direct pass through of interchange makes for clear, consistent pricing across all categories.
Therefore, clarity combined with the potential to be the most inexpensive model is why interchange plus is promoted in much of the content on this site.
On April 21, 2009 MerchantCouncil said:There have been a lot of searches missing the mark on this valuable information because interchange-plus pricing has many different names including pass-through-pricing, pass through, cost plus pricing and cost plus.
On June 27, 2010 Mitchell Bythewood said:Thank you for this very informative article. I currently work for a small business owner who has asked me to research other merchant card services and this article has helped me tremendously. I knew absolutely nothing about how credit card transactions worked, but now feel I have a descent grasp of the concepts put forth here. I will certainly make others aware of your website.
On August 27, 2010 Mike said:What a great article! I just started working in the payment card industry, and you nailed it right on the head! Our biggest challenge is merchants who want to know our "rate". Like you said, there is no specific rate that can be quoted, and trying to compare an interchange plus (we call it interchange pass through) rate to a tiered or bucket rate is immpossible unless you know how the other acquirer set up those buckets.
Keep up the good work.
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