What Constitutes Credit Card Risk?

If you’re hoping to establish a merchant account so you can accept credit card sales, you may be concerned about the application and approval process. Learn what constitutes credit card risk and what other factors merchant companies take into consideration.

All credit card risk refers to the risk of the merchant to incur “charge backs” or disputes, from their customers. Charge backs are not related to charges or credits, but instead refer to unhappy customers initiating a dispute of a charge that has shown up on their statement.

Most of these disputes consist of the customer indicating that the charge was false, or that their card number was misappropriated by another individual and used for purchases that were not approved. Sometimes the charge back isn’t initiated by the individual cardholder but instead by the card-issuing bank. Once a charge back is initiated, the merchant is generally sent a “retrieval request” which is just a request by the card acquiring (or underwriting) bank for the proof of the sale. This proof would usually consist of copies of the signed receipt and any other signed corroborating documents that the merchant might have. The merchant’s proof is weighed against the cardholder’s dispute and then the banks will determine whose position is more valid.

Another common reason that cardholders initiate charge backs is when they indicate that the merchandise purchased was of less quality than what was promised. If the merchandise is a custom built item or a service, the customer generally knows that they cannot return it and receive a credit. So instead they will initiate a charge back to attempt to get their money back. It is important to remember that anyone can initiate a charge back for any stated reason, but this doesn’t mean that they will win.

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When evaluating a prospective business for charge back risk, the underwriting bank will usually look at as many factors as they have access to. This would include the industry type, the history of the business itself and any personal information that they can discover about the people owning and running the business.

Different industry types are of higher risk than are others. For example, any business in a nonswiped environment would be considered high risk. That is because when in a swiped environment, the magstripe on the card is read indicating that the physical card is in the merchant’s hand and the signature can be compared. These fraud risk tools are not available when the sale is conducted over the phone or the Internet. The only tools that the merchant has to indicate whether the card number is stolen are AVS (Address Verification System) and CVV2 (Card Verification Value 2). Other industry types that would have a high ratio of charge backs include custom furniture stores and any business providing future service (such as a gym with annual memberships). This is because many times a customer who has already purchased a custom item or future service might start feeling buyer’s remorse before they can take possession of the item or complete the service and so might attempt to recover their funds with a charge back.

When evaluating the particular business, the bank will contact whichever trade references are given in order to ascertain if the business pays their vendors in a timely fashion. The time in business and the length of time left in a location lease is also important because it demonstrates history and stability. The owner’s personal credit is also important because it demonstrates the manner in which that individual conducts their personal life and probably the way that they would run their business. Bad personal credit also many times will give the bank a clue as to who might have a high probability for conducting fraudulent business (i.e. being a criminal).

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