What Is An On-Line Payment Gateway?

When asking what is an online payment gateway, think of it as a virtual service used to process credit cards for your business through an internet connection rather than a traditional phone line dial-up system. It acts as the electronic communications link between your ecommerce business, your bank and the cardholder’s bank to process real-time credit card authorizations.

In other words, an on-line payment gateway is used to submit and process your credit card payment requests. It functions much like a point-of-sale terminal used to swipe and transmit card-present credit card transactions. It collects your buyer’s credit card information and transmits it for processing. This process takes just seconds, depending on the speed of the internet connection, and provides a secure way to transmit credit card data.

Who Should Use An On-Line Payment Gateway?

When considering what is an online payment gateway, remember that it will allow you to integrate your online shopping cart with the payment gateway to connect with the processor. Online payment gateways are typically used for e-commerce merchants which allows them to integrate their online shopping cart in to their payment gateway to connect to their processor. The online payment gateway can store customer data in a vault for future billing, can offer recurring billing features, and provide different levels of risk mitigation when accepting credit cards online. An on-line payment gateway is a good alternative for start-up or small on-line businesses because it can provide a cost effective alternative to purchasing equipment. In addition, some businesses integrate an on-line payment gateway into their traditional merchant account and use both the online gateway and point of sale equipment to collect credit card data. This is useful if a business accepts orders over the telephone or uses subscription billing models.

On-line payment gateways make processing credit cards quick and easy:

1. You, or your customer, will input the credit card data.
2. Your payment gateway accepts your customer’s card information and sends it to your bank.
3. Your bank sends the information to the credit card association for authorization.
4. The card association forwards the information to the issuing bank.
5. The issuing bank determines if there are sufficient funds to cover the transaction.
6. The issuing bank sends an authorization code or decline code to the payment gateway.
7. The payment gateway sends the response code to you, and if the transaction is approved, you send your customer his merchandise.
8. After batching out, your payment gateway transmits your daily receipts and receives payment from the issuing bank and sends it directly to your bank.

Merchants asking what is an online payment gateway should realize that it is a quick, convenient and safe method that allows customers to buy from your ecommerce site from anywhere in the world, 24 hours a day, 7 days a week, and get almost instant confirmation of their purchase!

When shopping for an on-line payment gateway service, ask about all the features available with their plan. For example: some payment gateways have an integrated shipping program; some have an integrated tax calculation program; some offer smartphone processing; some restrict the products you can sell on-line; some require you have a traditional merchant account as well; most offer detailed reporting services and customer confirmation emails; and all the gateways should offer fraud screening tools so your transactions are safe and PCI compliant. The plan that’s best for your business should provide your customers with a fast, secure checkout experience with minimal risk, time, and cost to you.

What Does It Cost?

There are cost considerations when asking what is an online payment gateway , as it is a service that charges a fee per transaction. Fees vary. Some gateways deduct a percentage of each sale and others charge a flat fee for every purchase. You may also be charged a set-up fee, charge-back fees, even a customer complaint fee. Be sure you read your quote carefully and ask questions if you don’t understand what a fee is for, when it’ll be charged, and most important, if it’s negotiable.

What is a Merchant Discount Rate (MDR)?

Processing credit cards is a service, and, like any service, there is a cost involved. When asking what is MDR consider the fee charged by the bank that manages your merchant account to process your credit card transactions.

Your merchant discount rate is a fixed percentage based on pertinent aspects of your business such as:

• Volume of business.
• Average amount of sale.
• Whether you process card-present transactions or card not-present transactions,
  or a combination of both.
• MCC (Merchant Category Code)

In addition, the merchant discount rate includes dues, assessments, and interchange fees, all charged by the card brand associations for the privilege of processing their card brand. Also included in your merchant discount rate is the mark-up added on by your credit card processor for the part they play in handling your credit card processing. So basically, when answering what is MDR, it is the percentage the acquiring bank (the bank that manages your merchant account), the issuing bank (the cardholder’s bank), the credit card associations and your processor keep from each credit card transaction you process for your goods or services.

How Do They Come Up With The Percentage Rate?

Each of the points mentioned above make up the risk factors involved in processing your credit card transactions. For example, the discount rate for a business that processes most of their credit card transactions with a swipe of the card through a point-of-sale terminal will usually be lower than the rate for a business that processes a higher number of card-not-present transactions from on-line and telephone sales. Why? Because there is a much higher risk of credit card fraud in card-not-present sales transactions.

Businesses that are classified as high-risk based on their financial stability or the products they sell or the services they offer also should be aware what is MDR. Some high-risk businesses include:

• Companies that sell adult products or provide adult services.
• Companies that provide travel services.
• On-line gambling sites.
• Companies with automated, recurring billing for annual memberships (i.e. on-line dating services, or fitness centers).

These businesses often generate a higher number of chargebacks and other credit card transaction complications, so banks tend to charge them a higher discount rate to cover their increased risk of financial losses.

Discount rates are based on risk factor and each credit card transaction falls into one of the categories that explains what is MDR:

1. Qualified Rate:

A qualified rate is the percentage rate you will pay on transactions involving a regular consumer credit card processed in a certain manner. This is usually the lowest rate quoted, and it’s offered to low risk, brick-and-mortar businesses that process the majority of their credit card transactions as card-present transactions. Internet businesses that process their credit card transactions in an approved manner with all the PCI standards in place for protection against fraud will also often qualify for this rate.

2. Mid-Qualified Rate:

A mid-qualified rate is a slightly higher percentage paid on credit card transactions where the credit card information is keyed in instead of being swiped at a POS terminal. Card brand rewards cards fall into this mid-qualified rate.

3. Non-Qualified Rate:

Any transaction that doesn’t fall into the qualified or mid-qualified rate becomes subject to an even higher non-qualified rate. Specialty rewards cards and cards with no address verification fall into this category, as well as transactions that are not batched out to be settled within a set amount of time.

The way you will be processing the majority of your credit card transactions, answers the question what is MDR . When you process a card that does not fall into your qualified rate, your transaction is downgraded to the next rate. Amusing, isn’t it? You are “downgraded” to a higher rate. But it’s no laughing matter! Be sure you understand the rates attached to each type of transaction to control your credit card fees.

What Is A Billing Descriptor?

A billing descriptor is simply the way your business name appears on your customer’s monthly credit card statement. So, you’re probably saying to yourself, “No need to read on…a billing descriptor is just the name of my company. What else do I need to know?” Actually, there’s a lot more to know about choosing your billing descriptor, and what you don’t know could cost you money. So read on…

Types of Billing Descriptors

Besides your company name, your phone number will appear with the billing information on your customer’s statement. This basic information about your company can be presented in two ways.

1. Default Billing Descriptor: This is the name you choose and authorize your processing company to use on every transaction. It appears on your customer’s statement once the transaction has been settled. That seems easy enough. But there are several things to consider. The company name you used to set up your merchant account may not be the name you use in your ads, or on your business card, or even on the sign that hangs above your door. And your business name is hardly ever used as your website name.

It should be easy to identify your company from your billing descriptor. As an example, a company that might advertise and do business as Mom & Pop’s Cleaning Service might actually be registered with the state as MPC, Inc. or maybe M&P, LLC. Neither of these names really give any indication of what the company does or sells. It’s simply the legal name of the business.

When reviewing their monthly statement, your customer is checking to see if all the charges are correct. In most cases you have space for 25 letters + your phone number to identify your company and your charge. A simple descriptor is always the best. And it should reflect your DBA name if it is different from the registered name.

Mom & Pop’s Cleaning Svc 111-222-1212 $50.00

With just a glance, your customer will recognize your name, and what the charge was for.

2. Soft Descriptor: Does your company provide more than one service or do you have more than one product line? Check with your credit card processor to see if they offer a soft descriptor. A soft descriptor, sometimes referred to as a product descriptor, can be customized to describe the service or product your customer purchased. This detail can be helpful when your customer is trying to identify a charge on their credit card statement.

For example, say you own a company called Original Quality Tires. Well, not only do you sell tires, but you also do oil changes and repair work. Imagine the confusion when your customer, who brought his vehicle in for an oil change, sees this default billing descriptor on his statement:

Original Quality Tires 111-222-1212 $32.85

That could have your customer scratching his head and wondering who bought tires with his credit card! That’s when a soft descriptor would be more useful:

OQT* Oil Change 111-222-1212 $32.85

This descriptor abbreviates the name of the company, but clearly indicates what service your customer paid for and how much he paid.

3. Dynamic Descriptors. Depending on your credit card processor you may have the ability to specify a unique description for each transaction at the time it is being processed. So, say your customer comes into your store and buys 4 tires. He could see this on his billing statement:

OQT* Tires 111-222-1212 $279.00

Or “OQT* Auto Repair” if he brought his car in for some service.

Granted these are simple examples, but you can see how a dynamic descriptor can help your customers identify charges from your company. And as an added bonus, if your company provides several services to another company, their bookkeeper will have the information at hand to know where to expense the charge.

Choose Your Billing Descriptor Wisely

So now that you know how to come up with a good company billing descriptor, let’s talk about what makes this so important.

Think back to a time when you reviewed your own – or your company’s – credit card statement and found a charge you didn’t recognize. Maybe you thought about it for a while but still couldn’t identify the company name or the amount of the purchase or service. What was your first thought? Probably that your card had been compromised. And your second thought: I need to call the credit card company and make a report.

Well, your customer is going to react the same way. He’s going to call his issuing bank and tell the customer service representative there’s a charge on his statement that he doesn’t recognize. This call will trigger a chargeback and start a process that is time-consuming for you to correct, and can be very costly. Not only will you lose the income from the sale while the chargeback is being disputed, you’ll also incur some chargeback fees that you can’t reclaim.

A good billing descriptor serves to remind your customer of the details of their purchase. And including a phone number in your descriptor gives customers a way to contact you directly to question the charge. Often all it takes is a phone call from your customer to clear up any confusion. That’s why merchants qualify for lower interchange rates if they include a phone number with their descriptor.

So at the very least, your billing descriptor should include your company name and a contact phone number. But if you look at all your options and decide on the right billing descriptor, you can feel confident you’ve done what you can to reduce the risk of confusion that leads to costly chargebacks.

How Can I Accept Gifts Cards For My Business?

It’s simple really. As long as you have a merchant account, you can accept gift cards from your Point-Of-Service terminal, or through most ecommerce processing programs. But before we cover the specifics, you have to understand how the different types of gift cards work. There are basically two types of gift cards:

The difference between the two types of gift cards is clear. One can be used anywhere, and the other can only be used at the named business, or any one of its outlets. Though there’s a distinct difference between where these types of gift cards can be redeemed, the process for how they are redeemed is essentially the same.

All gift cards are processed through the merchant account provider that handles your credit card transactions. That said, there is one basic difference in the set-up process for redeeming self-branded gift cards. Let’s take a closer look.

How To Redeem a Card-Branded Gift Card.

Card-branded gift cards are similar to debit cards in that the amount of the transaction is automatically deducted from the balance available. There is no need to add any program to your POS terminal since these cards are issued by the credit card associations and can be processed like any debit card, and they have the lowest processing transaction fees. However, these gift cards do not come with a PIN. If your customer is swiping his card at your point-of-purchase terminal, be sure he pushes CREDIT on the keypad, and signs the sales receipt to complete the transaction.

Card-branded gift cards are sold with different cash values. When the card is swiped (or the information is input), your acquiring bank sends the transaction to the issuing brand association for authorization and payment. If there’s enough balance to cover the purchase, the transaction is approved and the amount is deducted from the card balance. If the balance is not sufficient to cover the purchase, the amount that is left goes toward the purchase, and your customer must use another method of payment to complete the transaction.

How To Redeem a Self-Branded Gift Card.

Self-branded gift cards have some definite advantages for merchants. Obviously, they’re a good marketing tool because they’re self-promoting and they encourage customer loyalty. As with card-branded gift cards, self-branded gift cards are processed through your credit card processing terminal. However, you will need to add gift card program software to your POS terminal or ecommerce payment process in order to track your gift card purchases. This program can be setup and monitored through your credit card processor or can be managed by a third-party company that specializes in designing gift card programs.
Processing is simple.

1. 1. Your customer purchases your self-branded gift card. This card can be paid for with cash or with a credit card.
2. 2. By swiping the card in your payment terminal you activate the card and add the purchased amount to the card.
3. 3. Then, when the recipient of the gift card uses it to pay for a purchase at your business, the program deducts the amount from the card and prints out a receipt for you and one for your customer with the information about the sale and the balance left on the card.

Why Do Merchants Benefit From Accepting Gift Cards?

There are several major benefits to accepting gift cards, especially self-branded cards. Customers rarely spend the face amount of the card. Remember the last time you received a gift card for some special occasion. Let’s say you received a $75.00 gift card for your birthday. Did you go into the store and spend $75.00 on a pair of athletic shoes, which would get you a decent pair, right? Or did you splurge on that high-end name brand that cost $100.00, spending more than you would otherwise spend if you were paying the whole tab yourself? You got the name brand you wanted and only had to pay a small portion of the total cost.

You’re happy and so is the store owner. The merchant gets the value of the gift card, whether from the original sale of the gift card or from the bank that issued the card, and another $25.00 from you to complete the sale. In fact, studies show that shoppers often spend as much as 30% more when they have a gift card to pay for their purchases. As the merchant, that’s profit you can’t afford to miss out on.

Studies also show that a number of shoppers don’t use the whole balance of their gift card. Maybe they put it away to use to make a purchase another day and forget about it. Or maybe they’re just not motivated to go looking for something that only costs a dollar or two to use up the balance. That money represents clear profit for the merchant.

Gift cards can generate brand awareness and increase your customer base. They can promote customer loyalty and increase sales. They eliminate cash back for returns and encourage customers to return to spend their credit. And best of all, gift card transactions have low or no credit card processing charges, while tracking sales and providing you with important marketing information. Accepting gift cards is no longer a marketing strategy reserved for large businesses. When it comes to accepting gift cards for sales transactions, it’s now a simple process with tremendous benefits to companies large and small.

What Are Decline Codes?

A decline code is just that: the response you get when your customer’s issuing bank turns down a payment transaction. The most widely used decline code is 05, though sometimes is appears with a letter or more zeros in front of the 5. Code 05 is the generic bank decline code for Do Not Honor this card. This is just one of a list of decline codes, and although each code defines a different reason denying payment, they all end the same way – your customer’s payment won’t go through and the sales transaction ends.

“Why Was My Card Declined?”

That’s the obvious question your customer will ask when you tell him his credit card payment has been denied. Typically, most credit cards are declined for one of these reasons:

• • Insufficient Funds: This purchase puts the credit card over its limit.
• • Address Verification or Denied for AVS: The numerical portion of the address that was keyed in for verification does not match the information on file at the issuing bank.
• • CVV Code Match: The 3-digit code on the back of the credit card (or in the case of an American Express card it will be the 4 digits imprinted on the front of the card) is not available or does not match the information on file at the issuing bank.
• • Expiration Date Invalid: The card has expired.
• • Restricted MCC Code: MCC stands for Merchant Category Code. This code is assigned to your merchant account and identifies your type of business. Some credit cards are restricted for use at certain kinds of businesses. A customer’s issuing bank may decline a transaction if the card is being used for a purchase where it is not accepted.
• • Another User Deactivated The Card: Do you operate a business near a college campus? Maybe Mom or Dad got tired of seeing so many charges for meals or clothes on a credit card they gave their student for emergencies. If the cardholder makes a change to the authorized users, when the card is presented it will be declined.
• • Terminal Configuration Error: In this day and age, we can never discount technology as the reason for an error code. If you’re getting too many declined transactions, your terminal may be the culprit and not your customer’s credit card.

But there are many other reasons why your customer’s credit card payment may be declined. And while some are basic, other reasons are not so obvious.

Account Frozen, Cannot Transfer Funds
Activity Limit Has Been Exceeded
Card Not Permitted For Foreign Currency Transactions
Pick Up Card/Reported Lost
Pick Up Card/Reported Stolen
PIN Tries Exceeded
Invalid Card Number
Invalid Account Number Length or Format
No Such Issuer

And then there are the decline codes as a result of a discrepancy within the merchant’s account or equipment:

Invalid Merchant Number
Limit Exceeded / Per Transaction Limit / Monthly Limit
Acquirer Not Authorized for Foreign Currency Transactions
Invalid Amount Entered
Stop Payment Order
Cardholder Requested Payment of Specific Recurring Transaction Be Stopped
Authorization Center Not Available
Card Type Not Processed By Authorization Center

Most decline codes come with some explanation. If you’re still confused about why your customer’s payment was declined, check with your credit card processor. Generally, the decline code you receive through your credit card processing company is the actual response from the customer’s issuing bank. However, some gateways and third-party transaction services (for example, shopping carts) have their own set of decline codes. It is important to have a list of these codes handy as a reference for your employees.

Though at the time a decline code may seem like just a lost sale, really they are meant for your protection. Today’s technology allows issuing banks to spot inconsistencies in spending patterns. So, for example, when a credit card registered to a cardholder who lives in Berlin is used several times in one day at restaurants and shops in NYC, the issuing bank is going to become suspicious and decline the card. Although these may all be legitimate charges by a German tourist enjoying the sights and delights of NYC, it could also be a thief using a stolen credit card. Take advantage of this protection from fraudulent spending. Never override a decline code unless authorized by the issuing bank.

How To Handle A Declined Charge

When your customer’s credit card payment comes back with a general declined code, you have several options:

1. 1. Run the card one more time. A slip of the finger when keying in the transaction or a verification number might have been the problem.
2. 2. If it’s a card-present transaction, advise your customer that their card has been declined and ask for a different form of payment. If the purchase was made on-line, you will have to contact your customer for this information.
3. 3. Suggest your customer contact their issuing bank to learn exactly what problem triggered the decline code and how they can resolve the problem. Sometimes that can be done right from the point of purchase, and if the problem can be resolved, the issuing bank may give you a code to override the decline and force the transaction through.

A declined transaction often creates an embarrassing situation for your customer and can be awkward for your salespeople. Train your employs on the proper way to handle the situation. Be discrete, and understanding, and your customer will feel comfortable and encouraged to return to your store or ecommerce site to make future purchases.

What Is The Best Credit Card Processor For A Small Business?

Mirror, mirror on the wall, who’s the best small business credit card processor of all?

It would be nice if it were that simple…

Choosing a credit card processing company can be confusing at best, but it can become very costly if you don’t look at all your options and choose wisely. Before you start shopping for a merchant account, take the time to review your business model and your sales history, or your projected sales, and answer some questions:

1. 1. Are all your sales card-present transactions?

   Why: Card-present transactions usually have the lowest risk for fraudulent use, and so they usually have the lowest transaction fees.

2. 2. Will you or your sales or service representatives need to process transactions in the field?

   Why: If so, you may want to apply for a mobile credit card reader account. There are processing companies who service mobile card readers that attach to your smartphone or other mobile device. You simply swipe your customer’s credit card and the information on the magnetic stripe is relayed through your processor to the issuing bank for payment authorization. There are also apps for mobile devices that let you manually input credit card information. These services may be a better fit for you if you transact most or all of your business on the go.

3. 3. Do you own and operate an on-line business and process card-not-present transactions?

   Why: By their very nature, card-not-present transactions carry a higher risk of fraud, and therefore have higher transaction fees. When processing card-not-present transaction you’ll need to gather the information necessary to pass address verification and other security measures provided by credit card issuers to detect suspicious credit card usage.

4. 4. Do you run a high-volume, low ticket business (i.e. a busy restaurant with an average bill of $10.00 or less) or do you high-priced items but with less frequency?

   Why: Most credit card processors charge a set fee per transaction. If your $8.00 lunch special is a big hit with your customers, you’re going to see a big hit on your monthly credit card processing statement. So, if you run a business that processes a large number of small transactions, you want a plan with a small cost per transaction, even if the overall percentage fee is higher. On the other hand, if you own a business where you process fewer but higher dollar transactions, try to find a processor with a fee structure with a low percentage fee, even if your per transaction fee is higher. Or check into credit card processing companies that have a plan with a set monthly fee with no added transactions charges.

5. 5. Do you have more than one terminal in your physical location or do you have more than one location?

   Why: You are required to rent or purchase each payment terminal. And as credit card processing evolves, you will have to update or purchase new terminals. For example, there is a new standard for processing credit card payments, known as EMV, that is being adopted around the world based on embedded-chip technology verses the old credit card magnetic stripe. Once the standard is fully in effect, you will have to update your payment terminals to be compatible with credit cards embedded with these microchips. And what will they think of next?

6. 6. What is your merchant category code?

   Why: A merchant category code (MCC) is used to classify your business by the type of goods or services you provide. Certain businesses are classified as higher risk for chargebacks. A chargeback is issued when a customer contacts his credit card issuing bank to dispute a charge on his credit card statement. There can be many reasons for a chargeback, for example, the customer who claims he has cancelled a subscription or membership but continues to be billed. Not only are the initial transaction fees higher for companies at risk, but there are other costs involved to dispute a chargeback.

7. 7. Do you own and operate a seasonal business?

   Why: You may think you can save money by terminating your credit card processing service during the months you shut down, but cancellation and start-up fees may cost more than you might save in recurring monthly fees.

What To Look For When Researching Credit Card Processing Companies.

There are plenty of credit card processing companies that would be happy to have your business. Some claim to be easy to set-up, some claim to be easy to use, some claim to have low per transaction fees, some claim to have no contract. But no matter what they claim they CAN do for you, you really need to know what they WILL do for you.

Are There Other Ways To Accept Credit Card Payments Besides Contracting With A Credit Card Processor?

Yes, there is. You can work through a third party company that accepts credit card transactions on behalf of your company, processes the transaction through their merchant account, and pays you the proceeds of the sale minus a commission. There are no transaction fees, monthly statement fees, minimum monthly transaction fees, contract fees or cancellation fees. Third party processors usually charge quite a bit more per sale than credit card processors, so as your business grows you will want to upgrade to a credit card merchant account, but it’s a good way for a new or small business to test the credit card processing waters.

So, What Is The Best Credit Card Processor For A Small Business?

The answer to that question is still not simple, but it does boil down to this: Whether you operate a big business or a small business, the best credit card processing company for your business is the one that offers you the best options at a price you can afford.

What Is An Issuing Bank?

Basically, an issuing bank is a bank that issues consumer credit cards. These banks are members of credit card associations, such as MasterCard and Visa. Credit cards are not issued directly from the credit card associations. They are issued through these member banks, known as issuing banks.

But that’s just the beginning of the relationship between an issuing bank and its cardholders. When an issuing bank approves a credit card application, they’re actually giving the cardholder a line of credit. So the issuing bank also acts as the lender for the cardholder during credit card transactions. If the cardholder fails to make his credit card payments, his issuing bank also assumes a portion of the liability for the charges he made on the card. So an issuing bank actually issues credit cards, manages their cardholders’ accounts, and takes on liability for the debts incurred by their cardholders.

There Are Two Sides To Every Story…

… and, there are two parties to every sale: the seller and the buyer. As you can see, the buyer’s interests are managed by an issuing bank. As the seller, your interests are represented by your acquiring bank, the bank that manages your merchant account and processes your credit card transactions. So how do these two banks interact during a credit card transaction?

When a buyer makes a purchase from your place of business and uses a credit card to pay for that purchase, it starts a process that transfers the money for the purchase from your buyer’s account to your account. When your buyer swipes his credit card at your point of sale terminal, or inputs his card information into your on-line shopping cart, the information is transferred to your acquiring bank, either directly from your terminal or through your credit card processing company. Your acquiring banks transmits the information to the bank that issued the credit card. If there is enough balance to cover the cost of the purchase, the particular card brand associated with the card and the issuing bank approve the purchase. Within seconds, this approval is transmitted back to your acquiring bank, and you can complete the sale. But you still don’t have your money, and neither does the issuing bank.

When the transaction settles, the cardholder’s issuing bank transfers payment to the seller’s acquiring bank and then bills the cardholder. Essentially the issuing bank is the intermediary that loans the buyer the money to pay the seller, and then bills the buyer for this amount. Provided the cardholder honors his part of the deal, and makes enough payments to cover that transaction (and nothing is returned for credit), the life cycle of the purchase is closed. The issuing bank got back the money they loaned on behalf of their cardholder, and you got paid for the sale.

But if the cardholder defaults on his payments, the issuing bank shares that loss of income with your acquiring bank. And just like your acquiring bank, issuing banks collect a fee for each credit card transaction they handle to cover their part in the transaction process, and to cover the risks they take as money lenders. The partnership between the card brand associations and card-issuing banks determines these fees, as well as other operational guidelines that apply to your acquiring bank and credit card processing companies.

So you see, there are more players than you might have realized along the path that leads between you and your money from credit card transactions. The more you know about the key players in this process, the better prepared you’ll be to manage your credit card transaction expenses.

What Is A Merchant Reserve?

By definition, a reserve is an amount of something set aside to meet some expected or unexpected future need for it. In the credit card processing industry, that unexpected need comes in the form of chargebacks, returns, and processing fees that become the responsibility of the credit card processor if a merchant does not have the cash flow to pay them.

In simple terms, you may be required to maintain a cash reserve that functions as an escrow account to protect your processor from the possibility of future losses. A set amount, or a percentage of each month’s credit card proceeds, are held or flagged by your processor until a certain amount is accumulated. This amount, and the length of time you may be required to keep this amount in escrow varies based on a risk assessment of your company. This is usually determined when you first apply for a merchant account, though changes in your business after your merchant account has been approved could result in the need to establish a cash reserve.

There Are Three Types of Reserve Accounts.

1. 1. Up-front reserve.
   Often new merchants with no earnings history will be required to pay a set amount of money as an up-front fee to begin processing. This sum may be collected by holding back that amount from your sales transactions, but it’s often collected when you sign your merchant account contract and held in an escrow account.
2. 2. Accrual reserve.
   A set amount is accrued out of your sales transactions to satisfy the reserve requested by your merchant account provider. For example: a $10,000 reserve will be accrued at 10% until the total amount is collected.
3. 3. Rolling Reserve.
   The rolling reserve is the most common of the reserve accounts. With a rolling account, your processor will keep a certain percentage of your monthly sales transactions for a pre-determined period of time.

For example, let’s look at a 10%/6 month rolling reserve. Ten percent of each month’s processing payouts will be held in a reserve account for 6 months. On the seventh month, your processor will release the amount held from your first month’s sales transactions. In the eighth month, they will release the second month’s reserve, and so on. This rolling reserve insures that the processor will always have a reserve to draw from in the event you do not have enough income to cover your processing fees on any given month.

Why Do Credit Card Processing Providers Ask For A Merchant Reserve?

The whole credit card industry is actually based on borrowing and loaning money. By signing that charge slip, your customer is only agreeing to pay for that transaction. No cash has exchanged hands yet, has it? Let’s follow the money trail of a credit card transaction:

But not all credit card transactions are so tidy. When a customer isn’t happy with your product or service and requests a refund, the issuing bank requests that money back from your processor, and your processor takes that amount from your merchant account. But what if there’s no money left in that merchant account?

Say you run a small landscaping business and your customer pays for a big job by credit card. Once the transaction processes and the money is in your account, you pay your guys and your monthly bills, and move on to the next job. But your customer’s newly sodded lawn turns all brown and dies, and he wants his money back. Now what? You’ve spent the money, you won’t have much money in your account again until after you get paid for your next job, and your credit card processing company wants the money back so they can pay the issuing bank who is demanding the money from them. That’s where a merchant reserve comes into the picture.

Who Is Required To Maintain A Cash Reserve?

So, a reserve account protects the processor if a company goes out of business or doesn’t have the funds to cover refunds and other processing company fees that come up later. Reserve accounts are usually imposed on high-risk merchants like:

This money still belongs to the merchant and is often released within 6 to 12 months. It’s simply set aside for this period of time as a safety net for the processing company.

Now that you have a clear picture of the lifespan of a credit card transaction, it’s easier to understand why your credit card processing company might ask to hold some capital in reserve. On your part, you need to review your monthly operating figures and determine if you can run your business without that cash flow. If not, you may need to look into other payment methods until your company is stable enough to qualify for a merchant account with no restrictions.

What Is A Merchant Category Code (MCC)?

A merchant category code, or MCC, is a four-digit number assigned to your business that defines what products or services you offer. If you do not already have a number assigned to your business, you will be assigned one by the credit card associations when you’re approved for a merchant account and begin accepting credit card payments.

Merchant category codes actually have an interesting history. These codes were originally created in 2004 as a way to sort businesses by market segment for IRS tax purposes. This distinction is important because the IRS does not require you to report the purchase of goods for your business, even if the goods are not for resale. But you are required to report payments made for services.

For example: if you purchase cleaning supplies for your office, you don’t have to report that purchase. But if you contract with a maintenance service to come in every evening and clean up your office, you are required to report those payments to the IRS on a year-end 1099 form.

At year end, a quick review of the MCC’s of the companies you have made payments to will help you determine which business purchases are exempt from taxes and which payments must be reported. The implementation of assigning merchant category codes has certainly simplified 1099 reporting. But how and why are they used in the credit card processing industry?

The How.

Credit card processing companies and other merchant account providers use merchant category codes to identify high-risk businesses. A business can be classified as high-risk for several reasons, including the financial stability of the business and/or owners. But they use MCC’s to determine if a business is high-risk due to the nature of the business, based on their products and/or services.

Some high-risk businesses include:

• • Companies that sell adult products or provide adult services.
• • Companies that provide travel services.
• • On-line gambling sites.
• • Companies with automated, recurring billing for annual memberships (i.e. on-line dating services, or fitness centers).
• • Telemarketing companies.
• • Companies that only sell a few high ticket items.

The Why.

Though high-risk businesses may actually be very profitable, they often have a higher number of chargebacks, a disproportionate ratio between sales volume and available cash, or a higher risk of fraudulent charges. Any one of these complications poses certain financial risks for the credit card processing company or merchant account bank, as well as the issuing bank involved in processing their credit card transactions. Credit card processors rely on MCC’s to establish the nature of a business, and to determine if they need to charge higher transaction and service fees to cover the increased risk for any financial losses.

Merchant category codes provide positive information to credit card processors as well. The cardholder’s issuing bank can use merchant category codes to determine the types of store, restaurants, entertainment events, etc. their customer usually frequents. This information is used for marketing purposes. It also can be used to prevent fraud. Merchant category codes from businesses that are outside a cardholder’s normal selection of shopping venues may raise a red flag at their issuing bank. This early warning signal can save both the seller and the cardholder lots time and money.

If you own or operate a business that’s considered high-risk, you may have a little more trouble finding a credit card processing company or bank willing to handle your account. But there are processors that specialize in managing businesses classified as high-risk by their merchant category code. Just be prepared to pay higher fees for the service.

Why Do Credit Card Processing Companies Charge Early Termination Fees (ETF)?

There are a number of reasons given as to why credit card processing companies assess a fee if you choose to terminate your contract before it expires. This fee is referred to as an Early Termination Fee (ETF) and may be used:

1. 1. To recover some costs from the up-front fees to set up your merchant account.
2. 2. To recover some costs from the fees involved in maintaining your merchant account.
3. 3. To cover the projected cost of lost revenue on a terminated contract.

There are still a few processing companies that don’t have an early termination fee (ETF). But the majority of processors require some remuneration, even if it’s only $50, if you choose to cancel your credit card processing contract early. This fee is normally deducted from your bank account on file with the credit card processing company.

However, there’s another underlying reason why credit card processing companies have an early termination fee: If it will cost you to get out of your contract, you may think twice about canceling. There’s nothing sneaky or underhanded about this. In fact, it makes good business sense for the credit card processing companies. They want to keep your business, and when other processors come along with claims they can save you money and you’re tempted to switch, the ETF does act as a deterrent. But what your present processor really hopes to achieve with a termination fee is to get you to call them before you cancel your contract so they can try to match or beat the competition.

Charging an early termination fee is not illegal, but it is bad business when the credit card processing company does not clearly state the terms of their ETF at the time you sign your contract. So rather than ask: Why do credit card processing companies charge an early termination fee, perhaps the better question to ask is:

What Do I Need To Know About Early Termination Fees?

There are three basic types of early termination fees:

1. 1. Flat Rate ETF
   A set amount that is charged no matter when or why your cancel your credit card procession contract.
2. 2. Prorated ETF
   Some ETF’s are based on the length of the time your contract has been in effect. For example, the highest rate applies should you choose to cancel your contract within the first year of its term. However, if you terminate during the second year of your contract, it will cost less, and some companies have an even lower scheduled rate if you terminate during the third year of the contract.
3. 3. ETF Based on Lost Profit
   This option can be very costly for the merchant. Here’s why: If the credit card processor is making $100 per month from processing your credit card transactions and you choose to cancel with 18 months left on your three-year contract, your ETF would be $1,800. Considering the average fixed early termination fee is usually somewhere between $300 and $500, an ETF based on lost profits for the processor can be a substantial loss for you.

Now that you understand the different types of ETF’s, here is how you can protect yourself from paying any unwarranted or unreasonable termination fees.

1. 1. Read your contract carefully before signing it.
   Be sure you know the term of your contract and what conditions must be met should you choose to terminate early. Most credit card processing contracts run three years. Often, the merchant is only interested in reviewing the fees. But the terms and conditions of your processing contract are just as important. Ask your representative to explain all the fine print before you make any commitments.
2. 2. Most providers require written notification to cancel your processing contract. Make sure you follow the terms of your agreement to the letter. If you do, you have a better chance to negotiate the cost of early termination or get it waived altogether.
3. 3. Check your statements to see if any of your fees have been raised within the last three month. Some states have a law that says if your fees have been raised at any time during your contract, you can cancel within a certain period after the increase with no ETF.
4. 4. Some contracts waive ETF’s if you close your business before your contract expires. If this is not stipulated in your contract, make sure your credit card processing company knows the circumstances surrounding your business closing, and ask to be released from your ETF.