Consumers’ ability to dispute charges on their credit card bills and have them quickly and easily removed from their accounts is great for those individuals, especially in this day and age of identity theft. But it’s creating problems for merchants, especially online businesses, which are losing money as a result.
An Expensive Problem
That’s because some people who purchase and use products and services offered online either don’t recognize the charges once they receive their credit card bills and then call to dispute those charges, or – worse yet – fraudulently tell their credit card companies they never made the purchases or never received the products in an effort to have the charges removed. This practice is known as chargeback, or friendly fraud, and it’s becoming a growing problem for organizations that do business via the Internet.
Visa estimates $11.8 billion was lost to friendly fraud in 2012, and notes that online merchants are at greater risk of suffering the adverse affects of chargebacks because their transactions don’t involve a physical component.
“An e-commerce merchant can be held financially responsible for a fraudulent
transaction, even if it has been approved by the issuer,” according to the Visa E-Commerce Merchants’ Guide to Risk Management published in 20013. “This is because
there is a greater chance of fraud due to the absence of a card imprint, no cardholder signature, and no individual present.”
Chargebacks for services are more common than chargebacks for physical goods, for which there are shipping records, says attorney Gregory T. Parks, partner and co-head of the retail practice group at Philadelphia law firm Morgan, Lewis & Bockius LLP.
Friendly Fraud Roadkill
Indeed. Chargebacks became so prevalent for online computer support company Elfinam Technology that its owner, international serial entrepreneur Madhu Sethi, was forced to shutter the Boca Raton, Fl.-based business and release its 10 employees less than a year after launch.
He took this extreme measure after running through a string of merchant banks, which each dropped him because of Elfinam’s high rate of chargebacks. Elfinam had more than 90 chargebacks totaling $40,000 (30 percent of its total sales) in the last year, and it did not win one of those disputes with its merchant banks.
“The moment you lose your merchant bank, you’re out of business,” he says.
While there are no specific laws or guidelines of what is acceptable to merchant banks in terms of chargebacks, Parks of Morgan of Lewis & Bockius says if a merchant’s chargebacks are higher than 5 or 10 percent of its total transactions with the credit card company, it sends up a red flag and may lead to dissolution of that relationship.
But Sethi says that’s unfair because the rate of chargebacks in his case was completely beyond his control.
“Credit card banks do not like chargebacks, we understand that,” Sethi tells CUSTOMER magazine. “But these chargebacks are not due to defective customer service or bad product, they are to do with customers who do not want to pay and are doing fraud against us, the merchant.”
Sethi emphasizes that the Elfinam process was clear and simple, so consumer confusion is not the issue. He offered this rundown of how Elfinam worked:
• The customer sees the Elfinam website by using search engines like Bing or Google (News 
- Alert).
• The customer calls the Elfinam 800 number, we diagnose the problem (before we touch the customer’s computer), and give the customer a price.
• The customer agrees, downloads team viewer, gives us the log in information, we enter the customer’s computer and fix the problem.
• After, repeat after, the computer is fixed we ask for credit card details and charge the customer’s card through our payment gateway.
• More than 10 percent of the time people hang up or have insufficient credit on their card and we do not get paid. This is a total loss for us.
• Up to another 20 percent of customers will call their credit card company (two or three days later) to dispute the charge because they do not want to pay.
“They do not want to pay not because their computer is not working but because they do not want to pay,” Sethi notes.
“We call every customer 7, 15 and 30 days after the sale, and the ones who pick up the phone will tell us they are happy,” he adds. “The ones who do not pick up the phone are the ones doing the chargebacks and will not tell us in advance that they are doing the chargeback.”
Options to Address It
Given the prevalence of chargebacks/friendly fraud, Sethi says it’s surprising that the giants of online retail haven’t pushed for rule changes on this front.
“If there’s a death knell for the online, this is it,” he says.
Amazon, eBay (News - Alert), and Groupon did not respond to CUSTOMER magazine’s requests for comment on the chargeback issue and what, if anything, they are doing or plan to do to address it.
Parks, however, commented that while chargebacks are clearly a negative for large online retailers, these companies have put in place robust systems to “hold customers appropriately accountable.” They do that, he says, by using sophisticated front-end fraud detection algorithms that can, for example, identify questionable IP addresses. They also have extensive processes in place to verify buyers are who they say they are; that includes collecting the users’ credit card numbers, security codes, and expiration dates, and matching credit card information with users’ addresses, he says. And they keep good records so they can more effectively counter chargeback disputes when they arise.
CUSTOMER magazine also reached out to a couple of merchant banks to get a sense of how they view chargebacks. Bank of America Merchant Services responded to our email but was unwilling to offer a comment or arrange an interview. Humboldt Merchant Services did not respond.
However, CUSTOMER did speak with an a different lawyer in the payments space who said that the view at the payments networks is that making rules very consumer friendly is essential to keep credit cards as a viable and attractive payment option. If credit card companies don’t make sure it’s easy for consumers to dispute a transaction, he says, they will not do these kinds of transactions.
Rurik Bradbury (News - Alert), CMO at Trustev, suggests that the relatively fragmented retail space has little leverage with the more consolidated financial industry, which wants to keep taking its processing fees from merchants, so has little incentive to make any changes regarding chargeback rules.
“All the risk is on the merchant,” Bradbury notes. “So it’s a huge problem for the retailers.”
As a result, Bradbury says, retailers need to take another approach, and Trustev can act as a watchdog for them. Trustev offers a cloud-based service (which merchants deploy on their websites using APIs and JavaScript) that checks transactions as they happen. When a customer tries to buy something on an ecommerce site, the Trustev software analyzes thousands of data points in real time and tells the merchant whether that specific customer is genuine or a fraudster, so the merchant can block fraud. The company currently processes $1 billion a month in transactions.
Parks of law firm Morgan, Lewis & Bockius adds that credit card processors also offer the ability to handle online transactions as if they were card present transactions, although they do charge extra for it. Part of the process, he says, involves asking consumers for extra information and matching credit card information to address.
Edited by Maurice Nagle
