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Payment Processing Fees

The costs incurred by business owners when processing payments from customers

What are Payment Processing Fees?

Payment processing fees are the costs that business owners incur when processing payments from customers. The amount of payment fees charged to a merchant depend on various factors such as level of risk of the transaction, type of card (reward, business, corporate, etc.), and the pricing model preferred by specific payment processors.

 

Payment Processing Fees

 

Usually, only a small percentage of people carry cash to pay for goods and services. A large number of buyers prefer to pay with credit cards due to the convenience of carrying plastic money rather than actual hard cash. Businesses that accept credit cards and online payments are charged a small fee per transaction, which is referred to as the payment processing fee.

 

Quick Summary

  • Payment processing fees refer to fees charged to merchants for processing credit card payments and online payments from customers.
  • The amount of payment processing fees depends on the pricing model preferred by the payment processor, as well as the level of risk of the transaction.
  • High-risk transactions such as e-commerce transactions and over-the-phone transactions come with higher processing fees than low-risk transactions such as physical swiping at a payment terminal.

 

Factors that Affect Payment Processing Fees

The amount of fees that merchants pay to accept credit card payments depend on various factors. The factors include:

 

1. Interchange rate

An interchange rate refers to the amount that the credit card issuer (such as Discover, Visa, and Mastercard) charge the receiving bank every time a customer pays using a credit card. The purpose of the interchange fee is to help the issuing bank cover handling costs and the risk of approving the sale, as well as any fraudulent transactions that may occur.

The interchange fees are set by each network, and they will vary depending on the issuer. The interchange rate is also affected by the type of card, the risk level of the merchant’s business, as well as how the merchant accepts the payment (swipe, online, or typing into a terminal).

 

2. Merchant account provider fee

For a business to process credit card payments, it must interlink the credit card network to a merchant account. A merchant account lets a company accept credit card payments, and the merchant account provider deposits the payments in the merchant’s bank account at regular intervals.

The merchant account provider charges a small fee on top of the interchange fee depending on the volume of transactions and type of business. In addition to the per-transaction fee, it may also charge a monthly maintenance fee and an additional fee for transactions that are disputed by customers.

 

3. How the card is processed

The amount of payment processing fees will also depend on how the card is processed. Usually, customers can make in-store transactions by swiping their card, over-the-phone transactions, online transactions, etc. and they all carry different levels of risk.

Payments made by swiping a card at the cashier are less risky, and therefore, are charged lower fees. Online transactions and over-the-phone transactions carry a higher risk since fraudsters may use stolen or lost cards to make purchases, and therefore, attract processing fees.

 

Types of Fees Included in Payment Processing Fees

 

1. Flat fees

Flat-rate fees are payment plans where the payment processor charges the fee for all transactions, regardless of the type of card, brand, or whether it’s an in-store or physical purchase. Flat-rate fees are charged as a percentage of the transaction amount or as a percentage of the purchase plus an additional fixed fee.

Flat-rate fees are preferred by new businesses that do not handle large volumes of transactions that allow them to negotiate a fee with the payment processor. Also, the business is aware of the fees they will incur every time they process a payment.

 

2. Interchange plus pricing

With interchange plus pricing strategy, the payment processor charges an interchange fee plus a fixed fee or percentage per transaction. For example, a processor may charge 0.5% + 15c per transaction above the interchange fee. Interchange plus plans are more complicated to understand than flat-rate plans, and it makes the bank statement more difficult to understand.

 

3. Tiered fees

In a tiered pricing model, the processor takes the different interchange fees and groups them into three categories, depending on the level of risk associated with the transaction. The categories include qualified rate, mid-qualified rate, and non-qualified rates. The different tiers are discussed below:

  • Qualified rate: For a transaction to be placed in the qualified rate tier, it must meet all the processor’s requirements for processing. For example, transactions swiped in-person at a physical terminal with a standard credit card fall in this category, and carry the lowest risk and the lowest rates.
  • Mid-qualified rate: Transactions that do not meet all the requirements of payment processors are downgraded to the mid-qualified or non-qualified tiers. Keyed-in transactions such as phone and direct mail orders where the credit card is not physically available face a high risk of fraud, and therefore, businesses pay a higher rate to cater for the increased risk of fraud.
  • Non-qualified rate: Transactions that do not qualify for the qualified and mid-qualified tiers fall into the non-qualified rate category. Some of the transactions that fall into this category include e-commerce transactions, reward card transactions, and signature card transactions. The non-qualified tier charges the highest fees.

The downside with tiered plans is that the payment processor itself determines the specific tier that each sale falls into, and, therefore, the business cannot be sure the specific tiers that each customer transaction falls into.

 

More Resources

CFI is the official provider of the global Financial Modeling & Valuation Analyst (FMVA)™ certification program, designed to help anyone become a world-class financial analyst. To keep advancing your career, the additional resources below will be useful:

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