Interchange Basics: How does it work, and where does the money go?

Have you ever wondered what interchange is, and why you’re charged fees for it? Here’s what you need to know.

What is interchange?

When a customer makes a purchase using a credit or debit card, your business pays a fee to a credit card processor. That fee is made up of three separate parts: processor markup, assessments and interchange. Interchange makes up the biggest part of that fee, and it’s an essential part of the system that transfers the customer’s funds from their account into yours.

How does interchange work, and why is a fee necessary?

Interchange is the small charge paid by your bank (the acquiring bank) to the cardholder’s bank (the issuing bank). Because many cardholders use their entire interest-free grace period to repay the cost of their purchases, the issuing bank loses interest. Interchange started as a way of reimbursing them for that lost interest. In addition, while your business benefits from accepting card and electronic payments, the issuing bank bears some risk when they advance cardholders funds. Interchange compensates the issuing bank for that risk.

Interchange also helps make electronic payments possible. Governments are therefore another party in the interchange system, since they benefit from being able to issue electronic support and benefit payments to citizens.

Who sets interchange fees?

Interchange fees are set by the major card companies, like Visa and Mastercard. Interchange fees are typically lower for in-store transactions, because these are less risky than online or card-not-present (CNP) transactions. Here are some other factors that affect the exact amount of interchange fees charged:

  • The card type (i.e., basic credit card, rewards, etc.)
  • The type of retailer
  • The processing technology used by the retailer
  • The region or country where the retailer is located
  • The type of product sold
  • The cost of the product sold

Setting the right interchange fees can be a balancing act: if interchange fees are too high, merchants may decide not to accept card payments. But if they are too low, issuing banks may decide that the risks of issuing payment cards outweigh the benefits.

To make things simpler, credit card companies usually calculate interchange as a flat rate, plus a percentage of the total sale (including taxes). The average interchange rate is approximately 2% of the total sale. That can change, however, depending on the type of card used in the transaction. Basic credit cards will have lower interchange fees. Higher-tier cards, such as rewards cards, will have higher interchange fees, and the card companies use those fees to fund the higher customer rewards.

Although interchange fees aren’t usually up for negotiation, larger merchants do sometimes benefit from lower fees. It’s also worth paying attention to your interchange fees: Visa and Mastercard typically update their interchange fees every six months, in April and October.

Where do the fees go?

Because interchange fees are collected by your payment processor, you might think that’s where the fees end up. But instead, your payment processor is collecting interchange fees on behalf of the issuing bank, and the money is sent directly there.

Interchange fees are an essential part of being in business, and over time, the value gained by accepting card payments will more than offset the interchange fees. While we have no say in setting the interchange fees your business pays, our payments experts are here to answer any questions you might have. Call us at 1-800-747-6883 or email us at [email protected].