The Chargeback Lifecycle

As we continue the journey through the payment lifecycle, it’s important to stop and talk about customer financial disputes, also known as chargebacks. At the very basic level, chargebacks occur when a cardholder claims they aren’t responsible for a charge and files an official dispute with their card-issuing bank. Issuers can also initiate chargebacks for various processing errors, but here we will focus on cardholder-initiated chargebacks and the chargeback lifecycle. 

Keep in mind, disputes can also be non-financial events. Non-financial disputes can be referred to as inquiries, retrievals, or RFIs (request for information), and we will cover them in more detail in a future post.

We’ll start with a refresher of the key players from the card payment lifecycle, as they are key players in the chargeback lifecycle as well:

• Issuing bank

• Cardholder/Customer

• Merchant

• Card brand(s)

Next, we’ll introduce a new key player: Acquiring banks

An acquiring bank—also known as an acquirer or merchant bank—is a bank or financial institution that's licensed as a member of a card brand and provides merchant accounts for payment processing. While acquiring banks are inherently a participant in the larger offering of a payment processor, they operate as a standalone entity in the chargeback lifecycle, assuming all liability for the risk associated with transaction processing. While merchants are technically responsible for chargeback liability and any associated fines and penalties through their contractual agreement with an acquirer, that acquirer is ultimately accountable to the card brands, issuing banks, and cardholders if merchants aren’t able to satisfy that liability. Given their risk and responsibility for chargebacks and related costs, the acquiring banks are an important part of the chargeback lifecycle.

I included a simple representation of the chargeback lifecycle above. You can see that it follows much of the same flow of the card payment lifecycle. Essentially, a cardholder can contact their issuing bank to initiate a chargeback against a merchant for a wide variety of reasons, such as fraud or damaged goods. The issuing bank then generally gives the cardholder a provisional credit on their account equal to the amount of the disputed charge and submits the chargeback to the acquiring bank. The acquirer will resolve the chargeback if possible, or forward it to the merchant—which includes debiting the amount of the chargeback and associated fees from the merchant’s total settlement. The merchant will then either accept or defend against the chargeback to the acquirer in a process known as representment. The merchant must provide compelling evidence in accordance with card brand rules to successfully defend the dispute and reverse the chargeback. 

Historically, the acquirer then reviews the evidence provided and—if they agree with the merchant’s conclusion— submits the defense to the issuer. The issuer can either accept the evidence and debit the chargeback from the cardholder’s account (thereby initiating the process of crediting the merchant for the disputed amount), or stand by their original decision. Additional remedy processes exist through card brand rules for the issuer or cardholder to dispute the transaction again if they disagree with the representation from either the acquirer or merchant. We will expand on these processes in a future blog post.

Why this matters

Understanding chargebacks and the chargeback lifecycle is the first step towards better interpreting and critically assessing your own chargeback rates. Kount, a market leader in digital fraud prevention, generated a report titled Digital Payments in 2021: Opportunities and Chargeback risks after conducting a survey among 508 adults in the United States working for companies processing over 500 digital transactions monthly. In this report, we see companies experiencing significant changes to their chargeback rates in the 12 months following March 2020. Specifically, 58% of the survey pool said their company’s chargeback rates had increased; 47% estimated a chargeback rate between 0.6%-1%, and 33% estimated a rate exceeding 1%. 

These ratios may seem small and possibly irrelevant to some, but they ultimately represent lost sales and cost of goods sold to a business. Additionally, each time a business must go through the chargeback process, they experience compounding tangible (fees) and intangible (time) losses. Depending on the company, the fee expenses and cost of lost business could amount to millions of dollars. 

How Pagos can help

So, now that you have an understanding of chargebacks, how do you assess their impact in your business? It all starts with data. To mitigate your business’s disputes-related losses, you need to understand the volume of chargebacks you’re receiving, along with the chargeback reasons (and chargeback reason codes) assigned to them by the issuing bank. Looking at the number and dollar amount of chargebacks broken down by these reason codes is an ideal first step in your investigation. 

Pagos can help in this investigation by acting as a primary service provider for the data intelligence necessary to design an effective mitigation strategy. Our data aggregation, visualization, monitoring, and detection services through our Peacock and Canary products could offer you the tools you need to identify the contributing factors within and outside your business that may be driving your chargeback volume. Contact us today and let us show you how!