The Complete Guide to Preventing and Winning Chargebacks
If you’ve been operating for any length of time, you know that dealing with chargebacks is one of the most frustrating aspects of running a business. Originally designed as a consumer protection measure, chargebacks have become a two-edged sword that can, under the wrong circumstances, hurt your business and cost you a lot of money, time, and effort.
In a perfect world, you’d be able to take a series of proactive measures that would protect you from ever having to deal with chargebacks. Unfortunately, they’re an inevitable part of running a business that you’ll have to deal with sooner or later. For most merchants, chargebacks will only be an occasional irritant. For others, a high chargeback rate can lead to being classified as a high-risk merchant or even having your merchant account frozen or shut down. While we can’t make your business chargeback-proof, we can help you to minimize their occurrence and offer some tips on dealing with them when they inevitably occur.
This article will give you a thorough background on what chargebacks are, why they happen, and how to deal with them. We’ll also discuss the many steps you can take to lessen the number of chargebacks you’ll incur when running your business. If you’re having trouble with your current merchant account provider, we recommend that you consider switching to one of our favorite credit card processing companies.
Table of Contents
What Is A Chargeback?
At its most basic, a chargeback is a reversal of funds transferred from the consumer to the merchant. In other words, your customer “takes back” the payment they’ve made to you. Chargebacks are actually performed by the bank that issued the customer’s credit or debit card, but they’re initiated upon a request from the customer.
It’s important to distinguish a chargeback from a return, which is where the customer seeks to give the goods back to the merchant and get a refund on the money they’ve spent. Returns are relatively straightforward and don’t get the banks involved. If you have a fair, consistent return policy, you can lower your chargeback rate considerably by making things right with the customer before they feel the need to resort to initiating a chargeback.
Chargebacks represent a double whammy for merchants. Not only do you have to pay back the funds that were credited to the consumer, but you’ll also be charged a fee by your merchant services provider to investigate and resolve the chargeback. In most cases, you won’t get this fee back, even if you prevail in the chargeback investigation and get the purchase price returned to you. Chargeback fees usually cost $25.00 per incident, regardless of whether the transaction in question was for $10.00 or $10,000. We haven’t found a provider yet that doesn’t charge this fee, although some providers charge less than the industry average and a few will refund your chargeback fee if you prevail in the investigation.
If you become involved in a chargeback investigation (and sooner or later, you will), the first thing to remember is that chargeback policies are designed as a form of consumer protection. In other words, they’re intended to protect customers from unscrupulous merchants. They aren’t designed to protect you from dishonest customers – something which has become more of an issue in recent years due to increasing rates of chargeback fraud. The overall effect of these policies is that the rules are weighed heavily in favor of the consumer – not the merchant. While we strongly encourage you to defend yourself against any chargeback that you feel is unfair or possibly fraudulent, realize that the odds are against you. In fact, fewer than one in five chargebacks are resolved in favor of the merchant.
While an occasional chargeback here and there is to be expected, experiencing too many of them can seriously harm your business. Not only can they hurt your reputation, they can cost you money in several ways. Besides the cumulative expense of getting hit with multiple chargeback fees, having too many chargebacks can get you classified as a high-risk merchant, which will inevitably result in having to pay much higher processing rates and account fees to maintain your merchant account. Too many chargebacks can also result in your provider freezing or terminating your merchant account, leaving you with no way to accept credit or debit cards. While this can be extremely inconvenient to a retail business, it’s catastrophic for eCommerce merchants, whose customers will be left with no way to purchase your goods or services. Having your account terminated can get you placed on the Terminated Merchant File (TMF), making it doubly difficult to obtain a new merchant account.
To determine if your business has an excessive number of chargebacks, your merchant services provider will monitor the chargeback rate on your account. This rate is simply the percentage of all transactions that result in a chargeback. If this percentage exceeds a certain amount (usually 1%), your provider will take action. Your account may be converted to a high-risk account, or simply terminated. How aggressively your provider acts when you exceed a 1% chargeback rate will depend on the risk mitigation policies they have set in place, and these policies vary from one provider to the next. Note that if your business type is one that commonly experiences a high chargeback rate, you may be given a high-risk merchant account as soon as you sign up, regardless of your actual chargeback rate. If you’re concerned that this might happen to you, see our article The Best High-Risk Merchant Account Providers for some recommended vendors who specialize in high-risk merchant accounts.
Reasons For Chargebacks
Chargebacks can occur for a wide variety of reasons. Almost all of these reasons will fall into one of the following broad categories: (1) clerical or technical error, (2) customer dissatisfaction, or (3) fraud. Here are just a few examples of the possible reasons you might experience a chargeback:
Clerical Or Technical Error
Between you, your merchant services provider, and the customer’s issuing bank, there are plenty of opportunities for someone to make an honest mistake or for a computer glitch. These kinds of errors include the following:
- Expired credit or debit card
- Accidental duplicate billing
- Incorrect amount billed
- Refund authorized, but never credited back to the customer
- Issuing bank error
If the customer isn’t happy with how the transaction turned out, they might request a chargeback without contacting you first. Customers can be dissatisfied for any number of reasons. Here are some of the more common ones:
- Item (or services) not as described, poor quality, etc.
- Item not delivered within the specified delivery window
- Item (or services) never received
- The customer attempted to return an item, but claims to have been refused
- The customer doesn’t recall authorizing the transaction
Fraudulent transactions account for well over 50% of all chargebacks and are a common source of inconvenience to merchants and customers alike. Fraud can take one of three forms:
- Fraud on the part of the customer (i.e., claiming not to have placed an order when they actually did).
- Fraud on the part of a third party (i.e., the card was stolen, or cardholder data was obtained illegally).
- Fraud on the part of the merchant (i.e., using the customer’s card data to make additional, unauthorized transactions). Note that chargeback policies and procedures are primarily designed to protect consumers from this type of fraud.
When a chargeback is initially investigated, the issuing bank will assign a reason code to explain to the merchant why the customer is disputing the transaction. All the major credit card associations, including Visa and Mastercard, Discover, and American Express have their own set of chargeback reason codes, so you might want to look them up if you experience a chargeback and receive a code with no further explanation. Because chargebacks are a consumer protection measure and the reason codes are issued before the bank has had a chance to investigate the situation fully, reason codes are issued with an assumption that the customer is telling the truth.
Every chargeback is investigated and resolved following a standardized process, regardless of the issuing bank or credit card association that sponsored the card involved in the dispute. This process consists of the following steps:
- Initial filing: In almost all cases, the customer must request a refund from the issuing bank to initiate the chargeback resolution process.
- Initial review: Based upon information provided by the customer (and assuming the customer is telling the truth), the issuing bank will review the circumstances surrounding the disputed transaction and file a reason code to categorize the assumed reason for the chargeback.
- Investigation: The issuing bank investigates the customer’s claims and any other available evidence. It then decides whether the claim is valid. If it is, it issues a credit to the customer and removes the disputed funds from the merchant’s bank account. If, on the other hand, it decides that the claim is not valid, the chargeback is voided, and no further action is taken. Note that this decision is not final.
- Processor review: The merchant’s processor reviews the chargeback. If the processor has evidence that the chargeback is not valid, it will act on the merchant’s behalf to invalidate it. Otherwise, it will levy the chargeback fee and pass along all information it has to the merchant.
- Merchant review: The merchant now has the opportunity to review the chargeback and present any additional evidence that could affect the outcome. Note that this is usually the first time in the chargeback resolution process that you will be informed of the circumstances surrounding the chargeback.
- Re-presentment: The processor re-presents the chargeback based upon any additional evidence offered by the merchant.
- Final decision: The issuing bank reviews all evidence presented and issues a final decision. If the chargeback is invalidated, funds are returned to the merchant. Most processors, however, will not refund the chargeback fee even in cases where the merchant prevails in this process.
You’ve probably concluded by now that the chargeback resolution process is not designed to work in your favor. While the process definitely favors customers, it’s not entirely one-sided. Nonetheless, your odds of prevailing if you dispute the chargeback are pretty low. Your best bet is to avoid getting into this situation in the first place. Here are the steps you should take to help prevent chargebacks from happening:
Communicate with your customers. Many chargebacks can be easily avoided, or even rectified, if there is open communication between the consumer and the merchant. This works both ways: consumers should always at least attempt to resolve the situation through communication with the merchant before resorting to requesting a chargeback. This step is particularly important for eCommerce merchants, who never get to meet their customers in person.
Clearly describe your product or service. As a merchant, make sure you give clear descriptions of your products and service policies so that liability is more likely to fall on the consumer for dissatisfied purchases. Again, this step is especially important for eCommerce merchants, as the customer will have to make a purchasing decision without seeing the product in person.
Set clear, straightforward return policies. While no one likes to have to process a return, it’s far less expensive and inconvenient than having to deal with a chargeback. If a consumer is truly unhappy with their purchase, having an easy return policy can drastically lower the likelihood that they will pursue a chargeback.
Confirm the expiration date of all credit/debit cards. Obviously, you should never accept an expired card.
Get the customer’s signature for magstripe-only cards. As you may have heard, the major credit card associations are phasing out the signature requirement for credit card purchases. However, this change only applies to the use of EMV (chip) cards, which are far more secure than the old magstripe-only cards. While most customers now have chip cards, there are still some magstripe-only cards in circulation, and you’ll still need a signature to process them.
Provide your company contact info. Card processing errors can easily be fixed by providing consumers with your contact information, whether on the receipt or on your website, so they can reach you directly and have the error corrected without initiating a chargeback.
Optimize your billing descriptor. Chargebacks often can be a matter of a misunderstanding, specifically because the consumer is unclear about the transaction details that appear on their credit card statement. Be sure to let the consumer know what business name will appear on their statement. If they cannot recognize the name of your business because of a DBA, the consumer may begin the chargeback process.
Keep detailed records of all transactions. Chargeback fraud by consumers is becoming more common all the time. It’s all too easy to make a purchase (especially online) and then report it as a fraudulent transaction to the issuing bank. Every year, merchants lose billions of dollars in lost merchandise, transaction reversals, and chargeback fees, all caused by unscrupulous consumers who purchase items and then claim they never did. On many occasions, these cases are lost by the merchant for lack of providing simple and clean records.
Ensure your sales receipts are complete and legible so that they can be clearly understood by the consumer, as well as a valid piece of proof during a chargeback dispute. A clean receipt should be the first step in fighting a chargeback.
Save all receipts. The statute of limitations for issuing chargebacks vary from provider to provider. However, it can be anywhere from 180 days to three years following a transaction. We recommend that merchants retain their receipts and records in an organized fashion, so they can quickly and accurately provide information upon request.
Set clear shipping expectations. Often a consumer will issue a chargeback when they pay for an item but have yet to receive it. As a merchant, make sure all merchandise has shipped before depositing a sales receipt. If a customer doesn’t have an item but sees it on their credit card statement, they may decide to request a chargeback.
Clearly communicate the expected shipping time and any known delays in delivery. A chargeback for “services not provided/merchandise not received” can be corrected with shipping details, carrier confirmation, and evidence of delivery, such as a signed delivery receipt. This is often referred to as “proof of delivery.” If the shipping timeframe has not yet passed, and you have clearly stated on your website or cash register to allow a specified number of days for shipping, presenting that information to the investigating bank can stop the chargeback.
If the customer claims he or she returned the items, but never received a credit, let your merchant bank know that you haven’t received the returned merchandise (or the services have not been canceled by the cardholder).
Follow card processing protocols. Chargebacks can often be prevented by strictly following basic credit/debit card processing protocols. If a card is swiped or dipped and authorization is denied, do not try to run the card a second time. Swiping or dipping multiple times in an effort to authorize a transaction, manually keying in an entry, or calling for credit approval can all result in a chargeback.
- Magstripe cards may, after several years of use, wear down to the point where the information on the card can no longer be read by your credit card machine. If this happens and you are forced to manually enter the card data, make an imprint of the embossed card numbers on the back of the receipt. A chargeback done on a manual entry can be lost if there is not an imprint on the receipt.
- If you have to call for authorization, be sure to record the authorization code, date, time, credit representative’s name, and transaction dollar amount authorized.
- Never estimate transaction amounts. This problem is more likely with tip inclusion in restaurants and other industries where tipping is common.
- To avoid duplicate transactions, make sure they are only entered once, and then completely voided if they are incorrect, prior to reprocessing.
- When submitting sales receipts to your bank, ensure that only one copy is submitted. Also, don’t send a copy to two different banks. Multiple copies of sales receipts can result in duplicate billing and (obviously) a chargeback.
- Ensure that your credit card transaction receipts are deposited promptly. Consumers should see the debit on their account within a reasonable time after the sale, not several months later.
- When necessary, use the Address Verification System (AVS). This is particularly important for eCommerce, mail order, and telephone sales. Note that many providers charge a small fee every time you use AVS. However, it’s a fraction of what a chargeback will cost you.
- For card-not-present transactions, ensure that you collect the CVC2 and CVV2 card verification numbers. This is the three-digit security code on the back of the customer’s card.
Responding To Chargebacks
When responding to a chargeback, it’s imperative that you act as quickly as possible. There is a time limit in each step of the chargeback resolution process, and delayed action on your part can result in a chargeback loss. Remember that you’re already starting behind the power curve, as you will be the last party involved in a chargeback to receive notice that it has occurred.
A quick response can also resolve consumer misunderstandings. For example, if a customer says he or she never received credit for a return, you can quickly provide proof of the specific day the credit was issued. This action can resolve a chargeback in your favor or even prevent one from being filed if you can communicate with the customer before they resort to filing a chargeback.
While we recommend responding quickly to all chargebacks, we don’t believe you should fight every chargeback tooth and nail. Remember that the rules for chargebacks are deliberately slanted in favor of consumers, and you’re likely to lose over 80% of the time. If you can tell from the circumstances surrounding the chargeback that you’re not likely to prevail, it’s better not to waste time and money fighting what will surely be a losing battle. Save your efforts for the situations where you know you can prevail and have the evidence to prove your case.
Lastly, if you know you’ve made a mistake, own up to it and accept the chargeback. We are all human, and people make mistakes. If you receive a chargeback for a non-matching account number and you know you keyed the number in incorrectly or wrote it down wrong on a telephone order, accept the chargeback. The same can be said for an incorrect dollar amount. As a merchant, you want to maintain an honorable reputation. This may occasionally involve admitting when you’re wrong and conceding the chargeback.
While merchants are probably never going to like chargebacks due to their added expense and the effort required to respond to them, they make sense from a public policy perspective. Consumers need to be protected, and as a merchant, remember that you’re often a consumer, too. Chargeback rules encourage merchants to be honest and have fair return policies. They also discourage merchants from selling sub-standard goods or services. This is particularly important as more and more commerce is conducted online, where the consumer doesn’t have the opportunity to physically inspect goods before making a purchasing decision.
At the same time, chargeback fraud on the part of dishonest consumers is a growing problem. It’s currently too easy for a dishonest customer to claim that they never authorized a purchase, while quietly keeping the goods they’ve essentially received for free. As a consumer protection measure, the current chargeback system doesn’t adequately take the possibility of customer-based fraud into account. With consumer-based fraud on the rise, however, we can only hope that the credit card associations will modify their chargeback policies in the near future to deal with this problem.
Until that happens, your best bet is to avoid suffering a chargeback in any way you can. The steps we’ve outlined above will help you minimize the possibility of a chargeback resulting from an error on your part. We also encourage you to keep an open line of communication between your business and your customers. Let them know that they should come to you first before resorting to contacting their credit card issuer for a refund. While having at least an occasional chargeback is an unavoidable part of doing business, you should be able to minimize the frequency of chargebacks you have to deal with by following the preventative steps we’ve outlined above. Good luck!