Published: October 13, 2022
Reading time: 5 minute read
Written by: Forter Team

Chargebacks cost businesses billions annually, and a rapidly growing percentage is due to chargeback fraud. But what exactly is it, and what does that mean for merchants moving forward?

What Is a Chargeback?

A chargeback is a reversal of a payment transaction by the issuing bank or payment processor, usually due to the customer disputing the charge. Some chargebacks occur because the business allows a fraudulent payment transaction to go through. Companies are charged a fee for every chargeback, even for those that are reversed. If a business decides to contest a chargeback, they typically go through a lengthy dispute process. If the dispute process results in a favorable ruling for the customer, the business must repay the customer for the charge.

What Is Chargeback Fraud?

Chargeback fraud is when an individual purposefully disputes a legitimate payment transaction through the issuing bank or payment processor, resulting in a chargeback. When people commit chargeback fraud, their primary goal is to get a refund while keeping the item(s). They will offer up an excuse for disputing a legitimate transaction. For example, they might say that they:

  • Never received the item(s) they ordered (this is referred to as “item not received” (INR) abuse)
  • Never authorized the transaction
  • Received the wrong items, or the items weren’t as described on the website

The customer deliberately initiates a chargeback instead of contacting the business where they placed the purchase, essentially stealing items from the company via the chargeback process.

Chargeback Fraud vs. Friendly Fraud

The terms chargeback fraud and friendly fraud are often used interchangeably, but they are not the same. The key difference between these two types of fraud is intent. Chargeback fraud is a malicious act, while friendly fraud usually occurs because of an honest mistake on the part of the consumer.

People who engage in friendly fraud tend to offer honest reasons for doing so, such as:

  • They didn’t recognize the company name on their credit card statement
  • They forgot they had purchased from the website or app
  • An immediate family member placed the purchase using their credit card, and the cardholder disputed the transaction because they didn’t know about the purchase
  • They were confused about the merchant’s return policy and thought they could do a chargeback instead

People who commit chargeback fraud will usually avoid contact with the company where they made the purchase. In contrast, those who engage in friendly fraud tend to communicate openly with the business, explaining why they disputed the transaction.

You Need to Keep Your Chargeback Rate Low

Companies need to keep their chargeback rate low. Otherwise, they risk getting charged high fees. Or worse, they lose the ability to accept one or more major credit cards. Maintaining a low chargeback rate is challenging for businesses because they face rising levels of chargeback fraud and friendly fraud.

Many merchants consider a 1% chargeback rate the acceptable threshold, but that is no longer the case. At the time of publication, the chargeback rate threshold for Visa is 0.9% of transactions. Mastercard requires that the chargeback rate remains below 1.5% of transactions.

» See how Forter can help resolve chargeback disputes intelligently and efficiently with Smart Claims

Major credit card processing networks like Visa, Mastercard, Discover, and American Express have different chargeback rate thresholds. Many factors go into calculating the acceptable chargeback rate, and each credit card processor calculates the rate differently. These credit card processing networks impose fees and penalties for high chargeback rates.

Businesses that are at risk of getting placed in Visa’s Dispute Monitoring Program (VDMP) can receive an early alert from Visa so that they have a chance to reduce their chargeback rate. If they reduce their chargeback rate quickly enough, they can avoid placement into the VDMP. However, businesses that immediately exceed Visa’s threshold may not receive an early warning notification. Mastercard does not offer an early warning system for excessive chargebacks at the time of this writing.

Visa’s early alert system is helpful, but it won’t help you reduce your chargeback rate or prevent chargeback fraud.

Steps You Can Take to Reduce Chargebacks

There are several things you can do to help reduce the number of chargebacks, whether they stem from chargeback fraud or friendly fraud:

1) Implement Real-Time Fraud Decisioning

Fraudsters tend to find their way around rules-based systems, which means more chargebacks for the business. Real-time fraud decisioning stops bad actors before they go through payment authorization, preventing chargebacks. And if the decisioning engine has access to a global merchant network, it can assess the identity behind each transaction, accurately predicting when transactions could lead to chargeback or friendly fraud.

2) Use Strong Authentication

Many fraudsters use phishing scams and dark web marketplaces to obtain credit card information. However, they don’t always have the security code on the back of the card. So, you should always require the CVV code when customers use a credit card to pay for orders through your website. Implementing two-factor authentication (2FA) can help prevent fraudsters from taking over customer accounts and placing unauthorized online orders. Many businesses use 3DS technology to enable 2FA on their e-commerce sites.

3) Always Communicate Clearly

Ensure your billing descriptor is clear and recognizable on your customer’s credit card statements. Create easy ways for customers to contact your business and ask about transactions. Explain your return policies on your website and automatically apply those policies before customers buy from your site. Automated order confirmations will help customers remember their transactions, so they don’t dispute them in error. Implementing a shipment tracking system allows customers to track their orders in real-time, and you can use it to help prove that customers received their items.

You Need a Modern Fraud Prevention Solution

The steps we’ve outlined above will help you reduce your chargeback rate. However, you need a modern fraud prevention solution to combat chargeback fraud that can automatically identify transactions that pose a risk to your business.

Total chargeback costs are expected to surpass $117 billion in 2023, with $79 billion of those losses coming at the hands of merchants. Luckily, with Forter, you can avoid both friendly and criminal chargebacks, meaning a significant cost reduction and increased revenue for your business.

And now, with our Smart Claims add-on for Trusted Conversions, Forter can alleviate the operational burden of disputing chargebacks by supporting merchants through the chargeback representment process. This enables merchants to streamline back office operations to resolve disputes intelligently and efficiently – improving win rates and recovering lost revenue.

5 minute read