The fast and easy answer is that debit cards cost less for merchants than credit cards. But that answer doesn’t include card type popularity or preference by consumers. That could be changing too, though, based on support for interchange fee adjustments for debit card use by the Justice Department.
Understanding Interchange Fees
To understand the importance of the proposed change to interchange fees regarding debit card purchases, you’ll want to know what an interchange fee is in the first place.
What are interchange fees?
Every time a customer swipes their card to make a purchase, the total amount paid for is broken down and split between you (the merchant), the bank, and card processor. An interchange fee is the fee that’s paid to the card-issuing bank.
Interchange fees vary depending on the card network. Visa, Mastercard, American Express, and Discover all have their own interchange rate.
What affects the interchange rate?
Besides varying card networks, interchange fees can vary depending on other factors. Most notably to online retailers and e-commerce business types, these fees change depending on if the transaction is made in person or not.
When making online transactions or in-person transactions with a digital wallet app, the payment processor considers these types to be Card Not Present (CNP). CNP transactions assume a higher risk because the cardholder doesn’t necessarily have to be there as the verified purchaser. For CNP credit card transactions, there is a markup for interchange fees as well as other for fees like discount rates, network fees, merchant fees and more imposed by the processing company and card brand. In contrast, card-present transactions are more secure, less of a risk for payment processors and acquirers, and have generally lower processing fees.
Can a merchant estimate the amount paid in fees each month?
Technically, yes but it’s incredibly difficult. Interchange fees for each credit card network are available online to view, but it’s not just one simple fee. The rate changes depending on what type of card is used on that network, what type of transaction it’s for, whether it’s swiped in person or entered in online, and what product or service is being purchased.
For example, the average interchange fee on the Visa network is 1.51% of the transaction plus $0.10. But this only applies to some stores and some Visa debit cards. If the customer uses a Visa Infinite card or a Visa Signature card, the rates are different.
The same goes for buying gasoline, clothing, hotel rooms, or renting a car. These are just a few examples, but each has their own rate. And on top of that, the rates are different for each card network. Therefore, it’s nearly impossible to get a true estimate of the fees you’ll end up paying. Of course, you can eliminate certain criteria if you only sell one type of product or accept one type of credit card.
Difference Between Debit Cards and Credit Cards
Though all cards look alike on the outside, debit and credit work quite differently and incur different fees and risk for merchants. We won’t explain what credit or debit cards are, rather the advantages and processing behind the two.
Advantages of Using a Credit Card
Consumers want to use credit cards —insert credit card transaction statistics—. Especially in the western world, credit is important for both businesses and consumers. Credit scores are needed to open businesses, purchase offices and homes, and so much more. Everyone’s score represents their financial security.
There are many benefits for consumers want to use credit cards to make their purchases. Many card issuers provide rewards of some kind, which businesses can take part in as well. Using a consumer credit card also affects the users credit score, so with more use they can get a better credit. It also helps break up large purchases they may not want to spend on immediately.
For these reasons, it’s important that merchants accept and process credit card payments, even if it incurs higher fees and higher rates.
Advantages of Using a Debit Card
For consumers, the advantage of using a debit card is mainly about spending money they actually have. It’s safer to use a debit card when making purchases not only because most acquiring banks deny transactions that would overdraw the account funds, but also because transactions require a PIN. That PIN also makes it safer and cheaper for merchants to process debit card payments as it lowers the risk of fraud.
Processing Debit vs. Credit Cards
From a processing standpoint, debit cards have a different set of protocols than credit cards. Merchants have to accept debit card payments if the customer requests it, whereas a minimum can be set for credit card transactions (e.g., $10 minimum purchases).
Fees are different for debit card processing depending on the size of the bank, transaction amount, and a slew of other factors. According to the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, the interchange fee for debit card transactions is limited to 0.05% of the transaction plus $0.21. The catch is this only applies to banks and financial institutions with $10 billion or more in assets—so, big banks; not credit unions.
Debit card processing is further broken down by whether the purchaser used their PIN or a signature. Primarily when making a debit card transaction, the card reader or payment gateway will request a PIN, but the cardholder can select “credit” if they prefer a signature verification method instead. PIN transactions are processed on a different network, a debit network, that usually has lower percentage fees but higher transaction fees. The opposite is true for signature transactions, applying to both credit and debit purchases. Percentage fees are higher and transaction fees are lower on this network.
It is cheaper for merchants to process PIN debit card transactions or even prepaid cards than credit card transactions, especially for higher ticket items and final amounts. That pricing changes, too, if you’re merchant account contract is based on interchange-plus pricing, tiered pricing, or flat rates.
What the US Justice Department Supporting Changes to Debit Card Interchange Fees and Routing Means
Debit card processing is already better in terms of fees for merchants. The Justice Department backing the Federal Reserve Board of Governors’ proposed rule to change interchange fees and routing make processing those transactions even better.
What exactly is the Board proposing?
The Board wants issuers to provide a choice of debit networks to process customer transactions. The rule would reduce overall transaction costs for merchants and save consumers money.
In the Dodd-Frank Act, the Durbin Amendment (Section 1075) requires issuers of debit cards to provide two debit networks or more for merchants to process transactions. The issue is that this amendment doesn’t include transactions made online or in CNP circumstances.
Combating Anti-competitive Behavior
The DOJ’s Antitrust Division made a comment filed to the Federal Reserve in support of the change, quoting that “over $1 trillion in transaction value” was made via CNP and online debit transactions. That’s a lot of money going through limited networks—not very competitive.
The Board wants the Durbin Amendment to apply to online retailers and other CNP transactions, especially given the rise in tap-to-pay and digital wallet purchases.
Another reason for the lack of competition is that banks simply haven’t performed the technological upgrades necessary to provide multiple networks for online purchases. Visa and Mastercard work perfectly fine, so why bother, right?
This lack of support by issuing banks is what the Biden administration considers anti-competitive behavior. The requests changes would combat anti-competitive behavior and make improve online purchases for both customers and retailers.
Why hasn’t the rule been enforced yet?
As a merchant, you’re probably anxious for the proposed changes to take shape. Right now, it’s just a proposal which means there’s nothing in the works just yet. But considering who is proposing it, it’s likely to come about in the near future…but maybe not how you expect.
The DOJ is in support of the change for interchange fees and routes for debit transactions by the Board, yes. But they also want the Board to reconsider the scope of the changes. Is it a future-proof tactic? Does it include all or just some card-not-present transactions? Will it single out certain retailers?
These are the questions being asked that’s slowing progress down, but ultimately should benefit merchants like yourself in the long run.