Finexio’s Head of Product Jon Edelstein talks through the different types of pricing charged by merchant processors, and how businesses can use this fee structure to their advantage.
Let’s talk about fees, what they are, and what businesses can do to drive adoption of payments via card in their business. There are a few different ways in which merchant processing is sold and priced. The first is something called flat pricing. In flat, bundle type pricing, the merchant simply pays one fee, irrespective of the type of card or type of transaction; perhaps that fee might be 3.5% percent. So, whether that transaction is done by a consumer or a business, whether that transaction and the card behind it is a debit card or a corporate card, they pay that same 3.5% fee. When companies first go out to get the merchant services, they usually opt to get this flat pricing; they’re usually uncertain about the various rates that are available to them. It can be very complex, and that complexity scares them, and as a result, they opt for something that they can control and understand. But that 3.5% fee is very expensive and puts them at a disadvantage. Flat pricing overall, is the most profitable for the processors and certainly we’d recommend all companies to avoid flat pricing wherever possible.
Second is bucket pricing. Bucket pricing promises to isolate the merchant from the multitude of interchange rates that they would otherwise have to deal with and understand by distilling all those rates into 3 to 5 buckets. And all the cards that they are processing are charged in bucket one, two, three, four, or five. One very well-known warehouse club sells merchant processing this way and when you see their advertising, it’s something like 1.1%, plus ten cents per transaction. And you look at that and think “wow, that’s really great, can’t get any cheaper than that.” The truth is, when you look at the fine print, the number of actual cards that can qualify that pricing is very small and most of them get paid a far higher rate than that otherwise.
The third rate, which is the rate that people go to once they’re ready to take off the training wheels, is something called interchange plus. And interchange plus, basically says: you will pay the actual interchange, plus a certain percentage which is our profit margin on top of that. So, there’s a lot more clarity, and this happens to be a lot more daunting to a lot of customers because now they will typically get statements that could be many pages in length. But if one knows what to look for and is careful about the ancillary fees they might be paying, such as fees for terminals and fees for a permit, this turns out to be the most effective way to get access to all the benefits that the card networks provide in processing B2B payments.
So, let’s talk about exactly what interchange is. And for this example, I’m going to say, a $100 payment. So, going into a store and paying one hundred dollars, let us assume that the overall fee paid by the merchant, using this interchange plus pricing, is two dollars. So, that means they’re actually getting from that transaction, ninety-eight dollars. So, where does the two dollars go to? Well, more or less, the money is split as follows: about a dollar sixty-one of that, is what is actually deemed the interchange. Strictly speaking, interchange is the fee paid by the business’s merchant processor to the issuer of the credit card to settle that transaction. So, if I go into my store with my Citibank card and I pay one hundred dollars, out of that one hundred dollars, Citibank, the company that issued the card, is getting the bulk of that interchange, one dollar and sixty-one cents. Another ten or eleven cents of that goes to the card brand, usually something called the network field dues and assessments. It’s a minor fee for the transmission of the information across their network. And the remainder of the twenty-eight cents goes to the merchant processor, the company that processed the card on behalf of the business. So again, that one hundred dollars, two dollars taken out of it, the merchants ending up getting ninety-eight dollars, about twenty- eight basis points, .28%, going to the merchant processor. That’s their profit over and above the interchange. The interchange itself going to Citibank, the company that issued the card and that eleven basis points is more or less what’s called a network fee and is the smallest component of the transaction.
Check back in next week, when we publish the final video in this educational series on how payments made via card benefit both sides of the buyer/supplier transaction.