What Small Businesses Should Know About Chargebacks

Has your business ever processed a credit card transaction and pocketed the revenue, only to later find a reversal of the transaction without your consent? Therefore, you likely experienced what is known as a chargeback.

Read on to learn more about chargebacks for small business and how to recognize and avoid them.

What are chargebacks?

To protect consumers from unauthorized credit card charges, the Fair Credit and Billing Act of 1974 offered credit card holders the ability to initiate a chargeback, a.k.a to dispute charges.

Chargebacks for small business are similar to refunds in the sense that both result in the return of funds to your account. But unlike a refund, which a merchant reverses after a consumer comes to him with a refund request, a chargeback transaction is usually one between a consumer and a bank. The consumer goes straight to his bank with the chargeback request (in effect, going over the merchant's head), the bank refunds the consumer and then the bank reverses the transaction and withdraws the funds from the merchant's account.

There are many scenarios, some innocuous and some nefarious, in which a customer might initiate chargebacks for small business, including:

• He gets charged for a transaction that he doesn't remember or didn't authorize.
• His order never arrives or arrives in a defective condition.
• Duplicate charges incur for the same transaction.
• He incurs an inaccurate charge due to human error.
• A recurring charge on a transaction that a merchant should have canceled.
• He hopes to snag merchandise for free without paying for it. This is rarer, but it can happen.

How do chargebacks hurt small businesses?

Small businesses dread chargebacks because the forcible and unexpected recouping of funds by a bank robs you of revenue and of the opportunity to resolve a payment dispute directly with a customer. At least with a traditional disputed charge, you can process the refund for the customer, get the item back and potentially resell it.

In the case of chargeback fraud in which a customer initiates an illegitimate chargeback for a legitimate transaction and never returns the merchandise, you will also have lost the merchandise, having in effect given it away for free. Chargebacks911.com says that chargeback fraud amounts to $4 billion annually.

Can small business owners dispute chargebacks?

Merchants impacted by an illegitimate chargeback can dispute the chargeback through a process known as representment. The first time a credit card transaction goes through, information about the transaction is "presented" to the cardholder's issuing bank. Thus, a representment is a second presentation to the bank of evidence of the transaction, which might include sales receipts, tracking numbers or correspondence between you and the customer.

If the representation is successful, the bank can choose to void the transaction and re-charge the cardholder. However, the odds of winning a chargeback dispute favor the customers. Merchants reportedly win a mere 21 percent of chargeback disputes.

What else should I know about chargebacks?

It's far easier to prevent a chargeback than to successfully dispute one. Below are some measures that merchants can take to reduce the occurrence of chargebacks:

• Choose an unmistakable descriptor. A descriptor is a name that shows up on a customer's credit card billing statement for charges from your business. If you have a confusing descriptor, customers may mistake a charge from you for an unauthorized charge. You can update your descriptor with the financial institution that maintains your merchant account. You might consider including your business URL in the descriptor to avoid any confusion.
• Only accept credit cards from authorized users by asking cardholders for a valid ID.
• Swipe or dip credit cards rather than manually key in card details at point-of-sale terminals to stave off fraudulent purchases.
• Put in place an iron-clad return policy so that fraudsters cannot talk their way into obtaining an illegitimate refund.
• Have a clear shipping policy. Be upfront about how long order delivery should take so that customers do not initiate chargebacks for orders that they think have not arrived.
• Implement quality control. If defective inventory is causing chargebacks, build a quality control mechanism to ensure that customers get what they pay for.