UNDERSTANDING CREDIT CARD INTERCHANGE and DISCOUNT RATES

1. CREDIT CARD INTERCHANGE

Interchange is a complex process created by Visa and Mastercard to assist Banks in maintaining their credit card programs. In short, merchants pay a fee on every credit card sale they make; a portion of that fee is paid to the bank that issued the credit card.

The fee paid to the bank, called “Interchange” is set by Visa and Mastercard. The fee is calculated by applying an “Interchange Rate” or percentage to the sale amount. For example, an interchange fee of 1.5% on a $100 sale is $1.50, the merchant receives $98.50 and $1.50 is paid to the Bank that issued the credit card.

Unfortunately, Interchange has become very complex and is not well understood. Interchange has evolved from a single rate to 35 different rates today. With the introduction of Corporate cards, Points cards, Travel cards and other types of cards, Visa and Mastercard introduced a unique rate for each type of card.

To further add complexity, the amount of the fee paid by merchants is not simply the Interchange fee. Merchants pay a fee or percentage greater than the Interchange Rate. The actual fee that merchants pay is known as “Discount Fee” and is calculated by applying a “Discount Rate” to the sale amount. In short, the Discount Fee is the total of the Interchange Fee plus a fee to process transactions.

2. WHO ARE THE PLAYERS IN A CREDIT CARD SALE?

Before you can understand Interchange Fees and Rates and Discount Fees and rates, you need to understand the players that make up a credit card sale.

PLAYERS ROLE OF THE PLAYERS Bank Issue credit cards and approves Credit Card accounts for cardholders. A credit card account is a “loan”.

Processor Manages a complex network of terminals that process credit card transactions. Merchant Accounts are setup for merchants the Processor wishes to deal with.

Pays Bank a fee for each Visa or MasterCard transaction.

Merchant Accepts Visa and MasterCard. Applied for a Merchant Account with Processor to allow merchant to accept credit cards.

Pays Processor a fee for each Visa or MasterCard transaction

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3. HOW IS INTERCHANGE CALCULATED?

Interchange Rates or Percentages used to calculate the Interchange Fee are set by Visa and MasterCard and apply to all Banks. The calculation is simple; the total dollar value of the sale is multiplied by an Interchange Fee set by Visa or MasterCard.

For example: $100 sale X 1.54% results in an Interchange Fee of $1.54. This fee of $1.54 is paid by the Processor to the Bank. The Processor recovers the cost paid ($1.54 in this case) from merchants by charging them a Discount Fee.

3.1. Who Pays Interchange? All merchants pay the Interchange Fee. If Interchange is waived for a merchant, then the Acquirer must pay, Processors do not waive Interchange or price below Interchange

See Section 7 for a list of Interchange Rates

4. MERCHANT DISCOUNT RATE

Discount Fee is the actual fee a merchant pays to their Processor in exchange for the Processor agreeing to undertake the risk of processing the merchant’s transactions.

The Processor (using the example from above) has paid the Bank the Interchange fee of $1.54. To the $1.54, the Processor will add a markup to cover its cost of operating a network of terminals, computer systems, communications systems, etc. The amount of the final charge to the merchant is known as Discount Fee. All Processors have adopted a pricing structured using Discount Rate as the means of calculating the applicable fee the merchant will pay.

If the merchant is charged a Discount Rate of 1.75%, the Processor has added a markup 0.21%.

The following depicts the flow of funds on a simple Visa transaction of $100.00

MERCHANT PROCESSOR CARD ISSUER

$100 $100

Transaction Transaction

$98.25 $98.46

Settlement Settlement

Receives $98.25 Pays Merchant $98.25 Pays Processor $98.46 from the $100 sale Earns $0.21 and charges cardholder Cost $1.75 $100.00. Earns $1.54

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4.1. Who Pays Discount Fees?

All merchants pay Discount Fees. As noted above, Discount Fees include Interchange Fees therefore payment to Card Issuers occurs with every transactions processed. Processors will not price a Discount Rate that is equal to or below the Interchange Rate.

Please Note: The difference between the Discount Rate and the Interchange Rate is the markup or earnings the Processor will receive. This mark up represents the major source of earnings for Processor.

THE ABOVE IS A SIMPLFIED EXPLANATION OF INTERCHANGE AND DISCOUNT RATE. BOTH INTERCAHNGE RATES AND DISCOUNT RATES ARE INFLUENCED BY A NUMBER OF FACTORS THAT RAISE OR LOWER THE ACTUAL RATE CHANGED.

5. FACTORS INFLUENCING INTERCHANGE RATES

Visa and MasterCard have established multiple Interchange Rates based upon various factors such as risk, industry types, etc. The actual list of unique Interchange Rates has grown in Canada from the original 2 to 40 plus today and will continue to grow. The Rates have a complex pricing structure which is based on:

a. Card type (Corporate, Premium, Infinite, High Spend, etc.) b. Method the card was processed (swiped, key entered, on-line, phone order) c. Industry segment (Small Business, Grocery, Oil & Gas, etc.)

6. FACTORS INFLUENCING DISCOUNT RATES

Discount Rates also have a complex pricing structure that takes into account factors that directly influence the degree of risk a merchant represents to the Processor. It is important to understand the Processor bear the risk of paying all Chargeback’s that are received from a Card Issuers. In the case of a chargeback, the Processor will attempt to reclaim the funds from the merchant, but if the merchant is fraudulent, is bankrupt or simply closed business, the Processor will take the loss.

Discount Rates are based on: a. Credit rating of the merchant b. Credit rating of the business owner(s) c. Industry type of merchant (Travel Agency is higher risk than a Convenience Store) d. Average ticket size (merchants with an average sale amount of $1,000 is a higher risk than $10) e. Total Monthly sales volume (annual sales volume of 1 Million dollars typically receives a lower rate than an annual volume of $2,500)

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7. INTERCHANGE RATES

The following is a partial list of commonly applied Visa and Mastercard Interchange Rates.

7.1. Visa

Visa Interchange Category Proc Method % Rate Non-Chip Elect -- Consumer Swiped 1.54% Non-Chip Standard – Consumer Keyed 1.65% Chip Electronic – Consumer Chip Read 1.54% Chip Standard – Consumer Keyed 1.65% Infinite Card Swiped Swiped 1.80% Standard – Infinite Keyed 1.85% Chip Electronic – Infinite Chip Read 1.64% Chip Standard – Infinite Keyed 1.75% Non-Chip Elect -- Corporate Swiped 1.90% Non-Chip Standard – Corporate Keyed 2.00% Chip Electronic – Corporate Chip Read 1.80% Chip Standard – Corporate Keyed 1.90% Non-Chip Elect -- Business Swiped 1.90% Non-Chip Standard – Business Keyed 2.00% Chip Electronic – Business Chip Read 1.80% Chip Standard – Business Keyed 1.90% Non-Chip Elect -- Purchase Swiped 1.90% Non-Chip Standard – Purchasing Keyed 2.00% Chip Electronic – Purchasing Chip Read 1.80% Chip Standard – Purchasing Keyed 1.90% Supermarket Chip – Consumer Chip Read 1.26% Supermarket Electronic-Consumer Swiped 1.36% Supermarket Chip – Infinite Chip Read 1.46% Supermarket Electronic-Infinite Swiped 1.56% Supermarket Electronic-Corp Swiped 1.85% Supermarket Chip – Corporate Chip Read 1.75% Service Station Chip – Consumer Chip Read 1.11% Srvc Station Electronic–Consumer Swiped 1.21% Service Station Chip – Infinite Chip Read 1.31% Srvc Station Electronic-Infinite Swiped 1.41% Service Station Chip – Corporate Chip Read 1.70%

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7.2. Mastercard

MasterCard Interchange Category Proc Method % Rate CAD Domestic Electronic Cons Swiped 1.59% CAD Domestic Standard Cons Keyed 1.72% MC Dom Electronic High Spend Swiped 2.00% MC Dom Standard High Spend Keyed 2.13% MC Dom Premium High Spend Swiped 2.25% MC Dom Standard Premium High Spend Keyed 2.65% MC Dom Electronic World Business Swiped 2.25% MC Dom Standard – World Business Keyed 2.65% CAD Corp Domestic Swiped* Swiped 2.00% CAD Corp Domestic Keyed* Keyed 2.00% Corporate Purchasing - Swiped Swiped 2.00% Corporate Purchasing - Keyed Keyed 2.00% Int'l Corporate Swiped Swiped 2.00% Int'l Corporate Keyed Keyed 2.00% CAD Domestic Supermarkets Cons Swiped 1.59% MC Dom Supermarket High Spend Swiped 2.00% MC Dom Supermarket Premium High Spend Swiped 2.25% MC Dom Sprmrkt – World Business Swiped 2.25% CAD Domestic Petroleum Cons Swiped 1.59% MC Dom Petroleum High Spend Swiped 2.00% MC Dom Petroleum Premium High Spend Swiped 2.25% MC Dom Petrol – World Business Swiped 2.25%

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