Every merchant deals with chargebacks at some point in their business. But when the ratio of chargebacks to transactions is too high, it can be disastrous for the merchant. Acquirers and card networks avoid working with such merchants and use the merchant’s changing monthly chargeback ratio to determine the appropriate course of action for their relationship.
While not every chargeback is a merchant’s fault, the chargeback ratio (also known as chargeback rate or chargeback-to-transaction ratio) reveals a lot about the business. It is important to understand how this ratio is calculated, what it says about the business and the consequences for having it too high.
Here’s a breakdown of what you need to know.
Chargeback ratio is a simple equation
Chargeback ratio calculation is based on a simple formula: dividing the total monthly chargebacks by the total monthly transactions. For instance, if you had 8,000 transactions in February and received 80 chargebacks, the chargeback ratio would be 1 percent.
Visa, American Express, and Discover use this standard chargeback ratio formula. Mastercard also takes the same approach, but instead of dividing total chargebacks with total transactions in the same month, they use total transactions recorded in the previous month.
Using the previous example, if a merchant had 7,000 transactions in January, Mastercard’s chargeback ratio in February would be 1.14 percent, i.e., 80/700 = 1.14%
Although Visa, Amex, and Discover use the same formula, the ratios are different since each card network only factors in transactions in their network.
It’s not only about chargebacks
Chargeback ratios are good key performance indicators for merchants. Analyzing data based on the cardholder’s geographic location, the issuing bank, or merchandise in dispute gives a clear picture of the cause and course of chargebacks. Merchants can use this data to make informed business decisions.
For instance, if a merchant receives high chargeback ratios from a specific country or region, they could take this as an indicator of higher fraud in the region and opt to stop doing business there. If a particular product gets the bulk of disputes, the merchant might discontinue it.
Many merchants base their chargeback ratio analysis on reason codes. But this is often a bad idea since reason codes can be inaccurate, especially if the merchant is suffering from a large degree of friendly fraud.
Consequences of a high chargeback ratio
Card networks have chargeback ratio limits, which, when breached, attract fines, higher processing costs, and eventually account closure. Since these limits are different for each card network, it’s possible to breach the threshold with one network and be under it with another.
Visa’s standard chargeback ratio limit is 0.9 percent and an “excessive” limit at 1.8 percent.
In comparison, Mastercard has a limit of 100 chargebacks per month and a chargeback ratio of 1.5 percent to reach its Excessive Chargeback Merchant status. Those who exceed 300 chargebacks each month and a 3 percent chargeback ratio are placed in the High Excessive Chargeback Merchant program.
If your chargeback ratio is over the limits, you become a high-risk merchant and enter into a chargeback monitoring program like VDMP (Visa Dispute Monitoring Program). In this program, merchants incur higher processing costs as they attempt to remedy their ratio problem.
If the merchant doesn’t improve their chargeback ratio, their payment service provider or acquirer might drop them. Consequently, a merchant cannot process transactions from that card brand, leaving high-risk merchant accounts as their only option.
Reduce your chargeback ratio
With so much at stake, keeping your chargeback ratio low is crucial. To do this, adopt best practices that’ll help prevent chargebacks:
- Request for authorization – adhere to issuer rules on authorization codes
- Leverage fraud detection tools like address verification services (AVS), card security codes, and 3D Secure
- Watch out for potential fraud triggers
- Make sure cardholders know how they can reach you
- Double-check your advertising for accuracy
Chargeback protection for merchants comes in different forms, but the best practices for your business are unearthed through chargeback data analysis. This goes past the reason codes to determine the true cause of disputes. Once you figure out the problem, you can take specific actions to address the vulnerabilities and prevent similar disputes in the future.