What is a Chargeback? (What You Need to Know for 2018)

What Is A Chargeback

Understanding exactly what a chargeback is and what to do when you’re faced with one can be your best defense as a merchant.

With knowledge in your back pocket, you will increase your odds of preventing chargebacks as well as winning those that are inevitable.

What is a Chargeback?

Put simply, a chargeback occurs when a consumer contacts their financial institution or credit card issuer, disputes a transaction, and requests a refund.

Every chargeback gives a merchant an opportunity to identify and address the root cause of chargebacks. That’s if they pay close attention to the chargeback data.

Chargebacks come in a few shapes and sizes, including various reason codes, issues, and fraud types.

Types of Chargebacks

Based on the 40+ different attributes we analyze, chargebacks can be categorized into 3 different groups.  

Chargeback Reason Code

A reason code is an alphanumeric code that describes the reasoning behind a chargeback.

Each major credit card issuer, Visa, MasterCard, American Express, and Discover, have their own unique codes.

It’s important for merchants to be familiar with these codes because it can shed light on why a consumer has filed a chargeback. These codes can indicate things like Visa’s “not as described or defective merchandise/services,” or MasterCard’s “exceeds floor limit, not authorized, and fraudulent transaction”.

Chargeback Issues

There are five common types of chargeback issues a merchant can face: operational issues, customer service issues, marketing issues, fulfillment issues and the quality of the product or service.

Chargeback Fraud

The majority of chargebacks fall under three categories, true fraud, friendly fraud and merchant error.

types of chargebacks

True fraud is exactly what it sounds like - a fraudulent charge on a person’s credit card or made to their bank account as a result of identity theft, hacking, or credit card theft.

For example, a consumer notices a charge on their credit card bill from a retailer that they don’t recognize or remember. They then contact their bank, notify them of the charge, and the bank begins to investigate the charge with the merchant in order to obtain a refund.

Friendly fraud occurs when a customer disputes a charge that they or a family member made, but are unhappy with for a number of reasons.

This could happen when a consumer orders an item and it arrives broken or not as expected, and then requests a refund for, or returns the product.

Merchant error is when a merchant makes an error during a transaction, charges a consumer the wrong amount, processes a customer's credit card twice, or fails to issue a refund.


How Does a Chargeback Work?

The chargeback dispute process includes 4 steps: 

  1. A Cardholder initiates a dispute for a transaction with their card Issuer

  2. The card Issuer sends the dispute to the Acquirer (the Merchant’s financial institution)

  3. The Acquirer receives the chargeback, identifies and notifies the Merchant

  4. The Merchant accepts the chargeback or files a response packet

chargeback process-update

Chargeback Lifecycle

The lifecycle of a chargeback is fairly straightforward.

When a chargeback happens, a merchant receives a notification via email, fax, an online portal, or physical mail. In this notification, a merchant is provided the dispute amount, the reason code, the credit card number (the first 6 digits and the last 4 digits of a credit card) to identify the transaction in dispute, a chargeback case number, the transaction amount, date, and any notes the customer provides stating the reason for the dispute.

At this point, the merchant can either acknowledge the chargeback or decide to fight it. This fight is called chargeback representment.

In order for a merchant to win the chargeback representment case, it’s necessary that they provide compelling evidence pertaining to the transaction in question. This documentation includes tracking numbers, invoices and terms & conditions.

After the merchant compiles all of their documentation and submits it to the acquiring bank, the documents are reviewed by the acquirer and then sent to the issuing bank for a decision. The issuing bank reviews the documents provided by the merchant and makes a final decision on the case. The decision can take anywhere between 10 - 30 days depending on the issuer.


chargeback representment process-update

Chargeback Liability

A chargeback’s burden of proof always lies on the merchant. The consumer filing a chargeback doesn’t have to prove anything in regard to whether or a not a product was damaged, unsatisfactory, or if fraud actually took place. While that may seem unfair, it puts the merchant in a position where the possible outcome is in their hands.

Chargeback Liability for Retail Merchants

The recent introduction of EMV chip-based credit cards made true fraud a bit more difficult during card-present (CP) transactions (transactions in which a person is actually in-store). It is challenging to clone an EMV chip-based credit card compared to cloning a magnetic strip credit card. If a customer uses an EMV chip card in a retail store, the liability automatically goes to the issuing bank (not the acquirer), as long as the merchant uses an EMV chip readable terminal for the transaction.

The merchant is not responsible for any chargeback liability arising due to true fraud. But they will be liable for chargebacks arising due to other issues such as customer service issues and merchant errors. That said, if the merchant is not capable of processing credit cards using EMV chip readable terminals, and the customer has an EMV chip card, the merchant will be liable for the chargeback if a dispute arises.

Chargeback Liability for Card-Not-Present Merchants

For card-not-present (CNP) transactions, like those made online or over the phone, the merchant is liable for all disputes until proven innocent. But, if an e-commerce merchant uses 3D Secure Technology, and if the transaction is 3D secure verified, the issuing bank is liable for all chargeback disputes that are claimed as not-authorized or fraud. The merchant will still be responsible for chargebacks arising due to customer service or merchant errors. 3D Secure Technology cannot be used by phone-order or mail-order merchants since the customer is not entering the order details in the system.

Chargeback Thresholds

A card network sets a chargeback threshold for merchants to ensure that they follow ethical practices when processing transactions. The threshold can vary depending on the nature of the business, payment processor and the card type accepted.

The ratio is calculated by dividing the total number of chargebacks per month by the merchant’s total number of transactions for that time period.

chargeback thresholds calculation

These thresholds serve as a way to hold merchants accountable so that they continue to run a reputable business.

Merchants that exceed their thresholds will either receive a warning from their payment processor or even lose their ability to further accept credit cards.

Just like chargeback reason codes, each credit card issuer has their own threshold.

True Cost of a Chargeback

A chargeback is a lost sale.  However, chargebacks can cost significantly more once you factor in the cost of goods, the customer acquisition cost, the transaction fees, operational fees and chargeback fees. When considering all of these, chargebacks can no longer be considered a cost of doing business.

It is estimated that businesses can lose up to 3 times the transaction cost when a chargeback happens.

Chargeback Myths

There are many myths surrounding chargeback representment that can easily send merchants into a panic. The three common myths are...

Myth No. 1: If I fight a chargeback, I will earn a bad reputation.

Merchants often think that a chargeback will automatically lead to a bad review from a customer due to their desire for a refund. This isn’t necessarily true. As long as you conduct an honest business, have efficient operations, and provide quality customer service, you will maintain your good name.

Myth No. 2: I cannot win a chargeback dispute.

You can! Chargebacks are not just the cost of doing business. You can always recover money that was lost, provided you submit the right compelling evidence to your payment processor at the right time. You have a 50% chance of winning a dispute if you fight a chargeback case. An acquiring bank, by default, takes money out of a merchant's account once a chargeback is filed by a customer. If the customer is at fault though, the money will be returned to you. If you don’t respond to a chargeback, you automatically lose the ability to win the dispute.

Myth No. 3: I cannot prevent or manage my chargebacks.

If you pay closer attention to the chargebacks by analyzing the data points and identifying the root-causes of chargebacks, you can take precautionary measures and proactively prevent up to 60% of your chargebacks. Chargebacks can be easily prevented by either analyzing the chargebacks in-house or by hiring third-party providers who can help you gain visibility to your vulnerabilities.

Can chargeback representment (a.k.a chargeback fighting) make sense?

Absolutely! Believe it or not, 70-75% of chargebacks can be won by a merchant if they take action and present all the correct documents. Merchants can see anywhere between 2 to 10 times the ROI if they know how to properly represent the chargeback.

How to Respond to Chargebacks

When responding to a chargeback, timing is of the essence. Respond to a filed dispute ASAP. If you wait until the end of the deadline and experience a delay getting the information to the issuing bank, you automatically lose the chargeback. Plan a buffer of 2-3 days following the issuing of a chargeback, as you will need time to compile all of the relevant documents.

Relevant is the key word for documents. For example, if you have terms and conditions for purchasing on your website, do not send all of the terms and conditions; only send the section that is relevant to returns, refunds and cancellations. Make it easy for the bank to find the correct information.

A rebuttal letter must be included that summarizes the entire case. All merchants should provide a rebuttal letter that lays out their case, explaining why they think the chargeback is invalid. This letter should be short and to the point. Always send your documents in black and white font so that they are legible to the bank on the receiving end.

Cost of Disputing Chargebacks

Consider all the costs when disputing a chargeback. Think about the time it’s going to take for an internal team to fight the chargeback. In most instances, the teams that merchant's have putting together chargeback documentation are administrative workers as opposed to those in accounting. Does it make sense for them to work on a chargeback case they may not fully understand? What percentage are they recovering when disputing chargebacks?

Merchants often don’t know that third-party companies can represent their chargebacks professionally and streamline the representment process without them lifting a finger. Having a competent representment company on a merchant's side could be beneficial if their internal team is not able to create ROI or have the tools to prevent/control chargebacks. 

Possible Outcomes of a Chargeback

You’ve compiled all the right documents, you’ve sent them to the issuing bank. Now what? The decision process moves to pending. From there, it could take between 15 and 60 days for the bank to make a decision. A merchant will be notified of the outcome via fax, email, online portal or a physical letter. It’s always in your favor to stay on top of the case if you don't hear back from your payment processor within 30 days.

While winning or losing a chargeback case may seem simple on the surface, there is actually complicated logic behind it. If the customer is a highly valued customer of the bank, no matter how solid your supporting documentation is, the bank may side with them to not lose their business. However, if an issuing bank does not see the customer as a valued customer, they may rule in a merchant's favor after reviewing the submitted compelling evidence. If the issuing bank identifies multiple chargebacks from the same customer, the decision may be swayed in the merchant’s favor even with low documentation.

Methods to Recover Chargebacks That Were Lost

If you lose a chargeback, but you know you did everything right on your end, you can then move to arbitration. Arbitration can seem like a costly option at $500. However, if you win you do not have to pay the arbitration fee.  

The next option is to hire an attorney if you feel that you need to take legal action. Before doing this, do your research and learn the specific laws that could affect your case in the state where your customer resides. Frequently, sending a legal letter to the customer noting that you plan to take legal action will encourage them to pay for the transaction that you lost in dispute.

Heading to a collection agency to recover a lost chargeback is never recommended. Collection agencies are known to be rude and abusive and this can quickly earn you a bad reputation by customers and your industry alike.

Simple Steps to Prevent Chargebacks

The best strategy for handling chargebacks is to prevent them. While some fraud may be more difficult to avoid (friendly fraud), there are still ways that you can adapt your company culture to protect yourself and consumers.

  • Always set realistic expectations so that customers know you are an honest and ethical merchant. This in turn will reduce the risk of a chargeback.
  • Maintain efficient operations and production timelines so that consumers believe that you are aware of their concerns and are working to issue their refund if necessary.
  • Provide excellent customer service. Make it easy for your customers to reach out to you and opt for a refund or cancel their recurring billing if they wish to.
  • Deliver prompt fulfillment when it comes to orders, returns or refunds. Always send your order with a tracking number.
  • Be proactive and on the lookout for errors in your system so you can find solutions quickly or refund a consumer BEFORE a chargeback can be filed.

Ideally, as a merchant you can take advantage of a multitude of tools and strategies to prevent chargebacks from throwing a curveball into daily operations.

Download the Chargebacks 101 Guide to learn more about the causes of chargebacks, and how the overall process works, so you can fight customer chargebacks and prevent them in the first place.

Get the guide, Chargebacks 101: Understanding Chargebacks & Their Root Causes