Debit or Credit – Do Merchants Have a Choice?

If your merchant account is set up to accept only credit cards (i.e. you are on online merchant or you do not have the ability to accept PIN-based transactions), then the answer is simple – you can only accept credit card transactions at this time. If you accept POS (Point of Sale or in-person) transactions, you can offer your customers the option. That is, if your processing system is set up to accept PIN-based transactions. So, if you have that option – of offering debit or credit – what’s the difference you ask? Merchants have different motivators for their choice, as do cardholders. Each method goes through different transaction processing networks, so varying cost structures exist for merchants and issuing banks. The benefits and risks of each method also vary for all parties involved.

First, the only cards that provide this debit or credit option are debit cards with a credit card company logo – also called check cards or electronic checks. Online (not to be confused with ecommerce) debit transactions require a PIN authentication (like an ATM transaction) and are processed through debit networks (i.e., NYCE, CIRRUS). Offline debit transactions require a signature and are processed through card association networks (i.e. Visa or MasterCard). All transactions from a debit card are tied to the cardholder’s bank account.

The Bank Side

Card issuing banks earn most of the revenue when their cardholders use their cards, whether they are debit or credit. Some banks entice customers to use their check card by offering incentives, such as rewards and cash back. Most rewards programs require the consumer to use the credit/signature option, which enables the bank to collect interchange fees from the merchant, helping to offset the cost of the rewards. Acquiring banks also earn revenue when either the credit or debit option is used.

Overall, card issuing banks prefer PIN-based debit transactions, hands down. Even though they pay debit transaction fees, banks save money by not paying fees to the card associations.

The Consumer Side

Consumers like using debit cards mostly to avoid writing paper checks. Many brick and mortar retailers no longer accept checks and banks are following suit. Banks in the U.K. decided to phase out their check clearing process by 2018, citing cost savings.

As stated above, consumers can be enticed with rewards. With Bank of America’s ‘Keep the Change’ program, check card purchases (using the PIN or credit option) are rounded up to the next dollar and the difference is transferred into the account holder’s savings account. The bank then matches the transfer amounts up to $250 a year.

Using funds that already exist (i.e. in a checking account) for purchases instead of buying on credit also helps keep the cardholder out of future debt. The cash back option is free with debit purchases and the funds are also deducted immediately from the cardholder’s account – instead of a few days later for credit card purchases. For cardholders who monitor their bank accounts closely, this option is best for them. However, banks do charge fees for insufficient funds on debit transactions.

From a fraud perspective, PIN-based transactions are the most secure. However, cardholders are not protected from fraudulent debit transactions as they are with credit card transactions. If a thief uses a cardholder’s debit card and cleans out their bank account, the cardholder will likely not be able to recover those funds (aside from legal action). If a cardholder uses Verified by Visa, an optional service requiring a personal password, the cardholder is protected under the Fair Credit Billing Act when making purchases online.

By choosing the credit option, as with normal credit cards, cardholders also have the right to do a chargeback if there are issues with a return, fulfillment or satisfaction with a purchased product or service.

“…cardholders are protected under the Fair Credit Billing Act”

The Merchant Side

Merchants prefer PIN-based debit transactions for a few reasons. Debit network fees are lower, there is an instant guarantee of funds and funds settle faster into the merchant’s bank account.

Merchants, particularly ecommerce, like offline debit transactions since they are able to tap into consumers who receive prepaid debit cards or payroll cards or are unable to obtain credit cards. For those consumers, card branded debit cards are the only option for electronic payments. Meanwhile, settlement takes a little longer with offline debit transactions, but usually only by a few days.

While consumers can often make larger purchases with credit, there is always the chance that the customer will do a chargeback. Unfortunately for merchants, chargebacks are allowed with offline debit cards, since transactions are processed through the credit card networks and cardholders are therefore protected under the Fair Credit Billing Act.

The Card Associations and Merchant Processors Side

Offline debit card transactions are processed through the card networks so the card associations, like Visa and MasterCard, prefer this option – for obvious reasons. Merchant processors earn revenue from either option, but there could be more revenue for them with offline debit transactions (depending in the pricing structure). For this reason, some processors fail to offer the PIN-based option to merchants. Sometimes it may be due to an inexperienced salesperson, or the processor not fully understanding the merchant’s processing abilities. While other times, the merchant processor does not even offer the option, hoping the merchant will be none the wiser.

Merchants’ Choice

What merchants do have is the choice to be able to offer PIN-based transactions (again, if their processing system is enabled to accept PIN-based debit) and thereby incurring lower processing fees. Some merchant processors don’t offer this option, so merchants may need to ask. PIN-based debit transaction fees are typically less than for credit card transactions, but PIN pad equipment is required. Hopefully soon, some form of PIN-based option will be available for eCommerce as well.

In the end however, if the option is there, it is still up to the consumer to choose. Even if a POS system defaults to debit or credit, a merchant cannot dictate which option the consumer is to use.

This blog refers to debit and credit transactions in the U.S. currently. Fees and acceptance rules vary in other countries.

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