As a business owner, you’re painfully aware of the numerous overhead expenses necessary to keep your business afloat. To remain “in the black” it is imperative that your profits exceed your overhead. These expenses include, but are not limited to, accounting fees, indirect labor, supplies, taxes, rent, travel, utility costs and more.
You’ve probably gone over each cost with a fine toothcomb. However, there may be some overhead expenses that sneak beneath your radar. These are usually the ones that end up costing you hundreds, if not thousands of additional dollars each year if left unattended.
One such expense – if you accept plastic for goods or services – is your merchant account. Although you are probably well aware of this business expense when you open your statement each month, it is difficult, if not downright impossible to accrue the best deal if your merchant account provider (MAP) does not keep you in the loop regarding associated costs. Ask yourself these two important questions.
- Have you been informed about qualified versus mid or non-qualified fees and how these fees affect your monthly statement?
- Are you aware that a relatively new pricing program is available – known as “Interchange” Pricing – that could potentially save you a pretty penny over the standard “3 Tier Pricing” program quoted by most MAPs?
Word to the wise when it comes to merchant accounts: What you don’t know can hurt you.
3 Tier Pricing Program Explained
When obtaining a merchant account, many business owners are not informed of Interchange rates, which are credit card processing fees imposed by Visa and MasterCard, representing the amount the merchant or acquiring bank pays to the card-issuing bank for each transaction. Such fees are tantamount to the MAP’s “buy rate” or cost per transaction.
Instead, the merchant is presented with a single base rate known as the “discount rate” which can be anywhere between 2 to 4 percent of the transaction. Most MAP’s generally showcase a very competitive “discount rate,” especially those that do not disclose other, higher processing fees.
Adding to the confusion, especially if attempting to make heads-or-tails out of your merchant account statement, is the fact that the “discount rate” (also known as the qualified rate) has two less popular sidekicks, the mid-qualified rate and the non-qualified rate. This is where the 3-tier system comes into play.
The 3-tier system is a means to simplify the 125 plus (and growing!) interchange categories that have different fees attached based on such factors as type of credit card used, how the card is processed, and the nature of the merchant’s business. Instead of applying over 125 plus different fees, the fees are categorized into one of three tiers, Qualified, Mid-Qualified or Non-Qualified. Once placed into a particular tier, the fees are averaged out with a margin added. This is essentially how a fee is derived for each tier.
- The qualified rate (discount rate) is the best rate available and the one usually quoted by most merchant account providers.
- The mid-qualified rate is higher than the qualified rate and includes transactions that are keyed in (not swiped), even swiped transactions where the customer uses certain rewards cards, and transactions that are not batched out within 24 hours after a sale has been initiated.
- The non-qualified rate is the most expensive of the three rates and includes transactions that do not fall under the qualified or mid-qualified rate such as International, government, corporate or particular consumer rewards cards. A transaction can also be downgraded to this rate if the Address Verification System (AVS) is not used, there exists an AVS mismatch where the customer’s billing address does not match the address associated with the customer’s card, or a transaction is not batched out within 48 hours after processing a sale.
Fees can vary dramatically, so before selecting a MAP (if you have not done so already) make certain to know not only the discount rate, but also the mid and non-qualified rates. In addition, ask the MAP if there is any way to avoid credit cards from downgrading to the more expensive tiers. (For example, perhaps you can employ level 2 or level 3 processing for business or government cards respectively.) Your wallet will be glad you did.
Interchange Pricing: Making the Right Choice for your Business
Within the last few years, a new pricing program has evolved that in many instances would be more cost efficient than the more widely used – and quoted – “3 Tier Pricing” model. Simply known as “Interchange” Pricing, this newer pricing scheme involves taking the “real cost” charged on each card type (the Interchange rate), plus a “set profit margin” negotiated between the merchant and the merchant account provider.
Why would this pricing scheme be less expensive in the long run? In a nut shell, if a fair proportion of a merchant’s sales fall under the mid to non-qualified rates – which are substantially higher than the quoted “discount rate” – in most instances, using the Interchange Pricing model would be substantially less.
For clarification purposes, I’ll use an example.
We have two companies, A and B. Company A has a 3-tiered merchant account and Company B has the Interchange Pricing model.
Let’s assume both companies make a sale with the customer using a rewards card. Company A has the card downgraded to its non-qualified rate of 3.25%. Company B is charged the “real cost” of the card 2.5% (the Interchange fee + dues and assessments) plus a small markup of say 15 basis points or .15%. For this one sale, Company B is charging the merchant 2.5% + .15 or 2.65% of the total transaction whereas Company A is charging 3.25%.
It doesn’t take a math wiz to determine that 2.65% is less than 3.25%, which over a period of time can cost Company A’s merchant the proverbial “arm and leg”. In most instances, the Interchange Pricing scheme is more cost efficient than the 3-tiered model as long as the established markup isn’t substantial, negating any potential savings.
You may be asking yourself, is the Interchange Pricing model right for my business? This is where it is imperative that you reflect on your customers’ payment preferences. If most of your transactions fall under the qualified rate – and your discount rate is stellar – then the 3-tiered model may be the most cost efficient alternative for you. However, if a large proportion of your sales are categorized as mid to non-qualified, the Interchange Pricing scheme could potentially save you a bundle. Please note that more and more credit cards, particularly rewards cards, are downgrading so it’s likely that you’ll need to “upgrade” to a better pricing model.
Also, don’t be misled by the assumption of many that the Interchange Pricing model is reserved only for large companies. Small businesses can also benefit. It’s just a matter of locating a merchant account provider that will work with you. There are so many merchant account providers to choose from that you should settle for nothing less than the best pricing scheme for your business, no matter its size.