Ecommerce merchants rely on many financial partners to ensure their businesses run smoothly. You may see the service provider relationship as a one-way street, but that’s not the case in the payments world. You need a bank that wants to work with you. Many merchants don’t realize this until their relationship with a financial service provider changes.
Oftentimes, that change comes down to one thing: your company’s chargeback ratio. It’s one small number that can have huge repercussions for merchants if unusually high. Don’t let yourself find out the hard way. Read on to learn about chargeback ratios, why they matter and how to keep yours within acceptable limits.
Your chargeback ratio is the percentage of your transactions that result in chargeback cases. It may also be referred to as a chargeback rate, a chargeback-to-transaction ratio or a chargeback-to-sales ratio.
We’ll explain how to calculate your chargeback ratio later, but let’s cover the essentials first. Your ratio is always determined by the number of chargebacks in relation to the total number of transactions, regardless of the dollar amounts involved. A chargeback over a $1.99 purchase will affect your chargeback ratio the same way a chargeback over a $1,999 purchase would. And your chargeback ratio counts every payment dispute filed against your business, regardless of the outcome of any representment case. If a chargeback was filed, it’s included in the ratio.
Banks use your chargeback ratio as a shortcut to determine your reputation as a merchant. Financial services providers manage risk very carefully, and they don’t want to be associated with companies that will pass material or reputational risk on to them. Chargebacks serve as an indication of risk because they are typically filed either when a customer has an irresolvable issue with their order or sees an unauthorized charge on their bank account.
The first scenario is a red flag for banks as it suggests a merchant may not be serving their customers well. Perhaps customers can’t return or exchange an unwanted item, receive merchandise that was not as advertised or never receive their package at all. Of course, all companies have perpetually unsatisfied buyers. But a pattern of customers who aren’t satisfied with the resolution of their complaint may suggest the seller is careless.
The second scenario, in which a high chargeback ratio is caused by fraud, signals a company is not doing enough to prevent purchases made with stolen credit cards or credentials. Because credit cards and many other digital payment methods come with fraud protection, card issuers are the ones who are most hurt by fraud. They either must eat the cost of the fraudulent charges themselves or spend time recovering that money from the merchant who processed the fraudulent transaction.
A company that struggles with either (or both) of these issues is not a desirable partner for a payment processor. Most financial services providers don’t bother to look at why a company’s chargeback ratio is high before making a judgment on whether to work with that business. Therefore, it’s important for merchants to keep their chargeback ratio low so banks will continue to work with them.
Merchants who have a high chargeback ratio may struggle to find financial partners and will almost certainly end up paying higher fees. They may also have to work with resource-intensive restrictions. Sellers who reach the threshold for “excessive” chargebacks will be categorized as high-risk.
These businesses will have to find payment processors willing to open a high-risk merchant account for them. A high-risk account typically charges higher interchange and chargeback fees. You may also have to pay a monthly fee and participate in costly risk monitoring programs.
If your chargeback ratio gets high enough, you may simply have your merchant account closed and your merchant ID revoked. It’s very difficult for ecommerce merchants to come back from this, since even high-risk financial services providers won’t open accounts for companies that have reached this point.
Each card issuer sets its own thresholds for what’s considered high-risk. Visa requires companies that have received at least 100 chargebacks per month and have a chargeback ratio of .9% to enter its standard Visa Dispute Monitoring Program. A chargeback ratio of 1.8% paired with a record of at least 1,000 chargebacks per month is considered excessive. Companies in this position will pay higher fees and may lose the ability to process Visa payments if they don’t manage to reduce their chargeback ratio below the standard level.
Mastercard gives sellers a bit more leeway. Merchants aren’t placed in the excessive category unless they have more than 100 chargebacks filed against them each month and a chargeback ratio of 1.5%. Its threshold for high excessive chargebacks is 1,000 per month and a rate of 3%. Businesses in either of these categories must pay monthly fines that start at $1,000. Like Visa, Mastercard may stop processing payments for your company if you spend too long in the high excessive category.
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Your chargeback ratio is easy to calculate: Just divide the number of chargebacks filed against your company in one month by the number of transactions you processed that month. However, the number you get from this formula won’t be exactly what card issuers are looking at.
Each card issuer looks only at the sales made on its network. Therefore, if you made 500 sales and received four chargebacks, you’d have a ratio of .8% — below the threshold for both Visa and Mastercard. However, if 350 of those sales and all four of those chargebacks were on Visa cards, Visa would calculate your chargeback ratio as 1.1%. Mastercard, meanwhile, would believe your chargeback ratio was 0%. In this case, your chargeback volume wouldn’t be high enough to trigger action from Visa, but higher-volume sellers with an acceptable overall chargeback ratio may find themselves breaching a card’s threshold because of this variation.
There’s one other quirk in this calculation: Mastercard looks at the number of chargebacks filed against you this month, but the number of sales you made last month. That means businesses with high fluctuations in sales volume may see their chargeback ratio skyrocket when entering a period of rapid growth after a spell of stagnation.
Chargeback prevention is most important for sellers who are already at or near a chargeback ratio threshold, but all ecommerce sellers stand to benefit from these efforts. Chargeback fees can add up quickly, even if you’re not paying an increased price as a high-risk merchant. Plus, because chargebacks are filed by unhappy consumers, steps to prevent them will necessarily improve your customers’ experience.
Make the following practices and tools standard at your company to reduce your chargeback ratio:
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