Whoever first said “the customer is always right” obviously never dealt with chargeback fraud. Chargeback fraud, also known as friendly fraud, is an inaccurate request to reverse credit card charges and is potentially costly, can cause significant reputational damage and can lead to termination of important merchant accounts. It’s vital that online merchants and services deploy measures to counter this considerable risk.
Further complicating the situation, this type of fraud might not be intentional or perpetrated by bad actors. Instead, it might be a customer oversight or misunderstanding of how chargebacks work. So, how do you distinguish between genuine errors and intentional fraud?
What is chargeback fraud?
Chargeback fraud is when a customer asks their credit card company to reverse a charge, even though they actually did receive the purchased item.
If there’s an issue with the order, they contact their credit card company instead of dealing with the merchant or requesting a refund. Unfortunately, what for the consumer is a straightforward request to their financial institution, is also a type of fraud that negatively impacts the merchant.
Of course, there are legitimate uses for chargebacks, like fraudulent charges or the receipt of obviously misrepresented products. Having a chargeback system in place helps assure customers that it’s safe to transact and they have recourse in case of any issues.
But customers requesting chargebacks for a simple delay, unreasonable expectations, or even buyer’s remorse, triggers an investigative response from the payment chain that often goes well beyond the cost of the goods. Any payment reversal has to unwind its way back through the system. The checks and balances that keep the whole credit card payment system working need to consider each element’s trustworthiness. In effect, a chargeback is a direct complaint against a part of the system.
The costs and risks of chargebacks
The costs of friendly fraud add up. Mercator Advisory Group projected friendly fraud would reach $50 billion in 2020. Another report from Mitigator suggests that in 2019, 4.4% of the total amount of merchant account revenue was lost to chargebacks. While that is an improvement from the 7.6% in 2017, it’s still a substantial revenue hit.
When a customer files a chargeback claim, the merchant is hit with a fee; and even if the dispute is settled or the customer withdraws the claim, the merchant is still charged that fee.
If the customer requests a chargeback and keeps the product, the merchant often pays twice; they lose the product’s value and lose the transaction amount. While the merchant can dispute the chargeback, it takes time and resources to do so and can result in angry customers. As the chargeback system is made to help the customer side, merchants win rates on chargeback disputes are often low.
If the chargeback rate for the merchant is above a threshold, the merchant faces fines. If that rate continues to be excessive, the merchant account can be classified as high-risk, increasing all fees and charges. Even worse, the account may be terminated and the merchant put on a list that makes it challenging to get another account.
Preventing and minimizing chargeback fraud losses
Fortunately, there are numerous steps and best practices that a merchant can implement to reduce the chances of chargebacks.
As with most topics, a bit of education can go a long way. Not only should merchants understand payment fraud management mechanics, but they should endeavor to inform their customers of their options. The customer should have a clear understanding of:
- The exact product they are purchasing
- All costs and fees
- Shipping times
- Any delays or changes
- Return policies
- Accessing customer support
Any question or doubt by the customer can lead to a chargeback, so ensuring simple, clear communication on all purchase and fulfillment details can help alleviate any issue before it starts. It’s also worth having free and straightforward return policies, considering the potentially high costs of chargebacks.
Deploying payment technologies
In the ongoing battle against card-not-present (CNP) fraud, companies throughout the payment stack deploy various technologies, including payment fraud analytics. Detecting fraudulent activity before it appears on a customer’s invoice decreases chargeback rates and reduces the potential for customer backlash.
One technology that is quickly gaining adoption and is mandated on numerous payment networks is the multifactor authentication protocol 3D Secure, V.2 (3DS2). By adding over 150 data layers, 3DS2 offers additional fraud detection capabilities without causing significant customer friction. As these CNP transactions are usually on a web or mobile browser, information like device location and IP address enables device fingerprinting to better connect a transaction with a user.
Effective device fingerprinting enables more straightforward compliance with the EU’s Strong Customer Authentication (SCA) requirements. Importantly, 3DS2 also allows for shifting the liability of a chargeback to the issuer. According to Yitz Mendlowitz, chief executive and co-founder of PAAY, “Merchants, processors, and gateways will need to have 3DS2 implemented to take advantage of the chargeback liability shift to the issuing bank.”
Effective identity verification to establish and build trust
Note, for any authentication technology to work, there needs to be effective identity verification first. As analyst firm Deloitte notes, authentication technology solutions “tend to rely on attributes that have already been collected. These solutions provide a better experience for users and ensure that the same person is transacting each time, but it doesn’t help identify who that person really is.”
Merchants that integrate identity verification solutions are able to deter fraudsters from entering the system from the first point of entry. Wherever the liability might be, all parties end up bearing the costs of chargebacks, as the outlay gets absorbed into the overall price structure. Customers, payment networks and merchants all pay extra for every chargeback; minimizing them benefits everybody.
The factors that create a great business are the same factors that minimize chargebacks. Delivering amazing customer experiences from awareness through onboarding and fulfillment and ongoing support has always been the path to business success. While technology has expanded the opportunities, knowing and taking care of the customer will always be the primary goal.
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