What Are Basis Points In Credit Card Processing?

Credit card processing is an essential aspect of modern business operations, allowing merchants to accept payments from customers using credit or debit cards. While many merchants are familiar with the concept of credit card processing fees, fewer may be aware of the role that basis points play in determining these fees.

In this comprehensive guide, we will explore what basis points are, how they relate to credit card processing, and the factors that affect them. We will also provide a step-by-step guide on how to calculate basis points and address common misconceptions surrounding this topic. By the end of this article, you will have a thorough understanding of basis points in credit card processing and be better equipped to navigate the world of payment processing.

Understanding the Basics of Credit Card Processing

Before delving into the intricacies of basis points, it is important to have a solid understanding of the basics of credit card processing. When a customer makes a purchase using a credit or debit card, the transaction goes through a series of steps to ensure that the funds are transferred from the customer’s account to the merchant’s account. These steps involve the cardholder, the merchant, the acquiring bank, and the issuing bank.

The cardholder is the individual who owns the credit or debit card and wishes to make a purchase. The merchant is the business or entity that accepts the card as a form of payment. The acquiring bank, also known as the merchant bank, is the financial institution that processes the payment on behalf of the merchant. The issuing bank, on the other hand, is the financial institution that issued the credit or debit card to the cardholder.

When a customer swipes, inserts, or taps their card at a merchant’s point-of-sale (POS) terminal, the transaction details are sent to the acquiring bank for authorization. The acquiring bank then communicates with the issuing bank to verify that the cardholder has sufficient funds or credit available to complete the transaction. If the transaction is approved, the acquiring bank transfers the funds to the merchant’s account, minus any applicable fees.

What are Basis Points and How Do They Relate to Credit Card Processing?

Now that we have a basic understanding of credit card processing, let’s explore what basis points are and how they relate to this process. In the context of credit card processing, a basis point is a unit of measurement used to calculate fees charged by payment processors. One basis point is equal to 0.01% or 0.0001 in decimal form.

To put this into perspective, let’s say a payment processor charges a fee of 2.5% for each credit card transaction. This fee can also be expressed as 250 basis points (2.5% x 100 basis points). By using basis points, payment processors can provide a more precise measurement of fees, especially when dealing with smaller percentages.

The Role of Basis Points in Determining Credit Card Processing Fees

Basis points play a crucial role in determining the fees associated with credit card processing. Payment processors typically charge merchants a percentage-based fee for each transaction, which is often referred to as the discount rate. This discount rate is expressed in basis points and is applied to the total transaction amount.

In addition to the discount rate, payment processors may also charge other fees, such as transaction fees, monthly fees, and chargeback fees. These fees are usually expressed in dollars rather than basis points. However, understanding the basis points associated with the discount rate is essential for accurately calculating the overall cost of credit card processing.

Factors Affecting Basis Points in Credit Card Processing

Several factors can influence the basis points charged by payment processors for credit card processing. Understanding these factors can help merchants negotiate better rates and optimize their payment processing costs. Let’s explore some of the key factors that affect basis points in credit card processing.

1. Merchant Category Code (MCC): The MCC is a four-digit code assigned to each merchant by the card networks (Visa, Mastercard, etc.). It categorizes the type of goods or services the merchant provides. Some MCCs are considered higher risk than others, which can result in higher basis points being charged by payment processors.

2. Average Transaction Value (ATV): The ATV refers to the average dollar amount of each transaction processed by a merchant. Payment processors may offer lower basis points for merchants with higher ATV, as they pose less risk of chargebacks or fraud.

3. Monthly Processing Volume: The monthly processing volume is the total dollar amount of transactions processed by a merchant in a given month. Merchants with higher processing volumes may be eligible for lower basis points, as they represent a more significant revenue stream for payment processors.

4. Business Type: The type of business can also impact the basis points charged by payment processors. Certain industries, such as high-risk businesses or those with a history of chargebacks, may be subject to higher basis points due to the increased risk associated with their operations.

5. Payment Method: The payment method used by customers can also affect the basis points charged by payment processors. Transactions made with premium or rewards cards, for example, may incur higher basis points due to the added benefits provided to cardholders.

Calculating Basis Points: A Step-by-Step Guide

Now that we understand the factors that affect basis points, let’s explore how to calculate them. Calculating basis points involves converting a percentage into its equivalent basis points. Here is a step-by-step guide to help you calculate basis points accurately:

Step 1: Determine the percentage you want to convert into basis points. For example, let’s say the discount rate offered by a payment processor is 2.75%.

Step 2: Multiply the percentage by 100 to convert it into a decimal form. In this case, 2.75% becomes 0.0275.

Step 3: Multiply the decimal form by 100 basis points to convert it into basis points. In this case, 0.0275 x 100 = 2.75 basis points.

By following these steps, you can convert any percentage into its equivalent basis points, allowing you to compare and analyze different pricing structures offered by payment processors.

Common Misconceptions about Basis Points in Credit Card Processing

Despite their importance in determining credit card processing fees, basis points can be a source of confusion for many merchants. Let’s address some common misconceptions surrounding basis points in credit card processing to ensure a clear understanding of this topic.

1. Basis Points are the Only Fees: While basis points are a crucial component of credit card processing fees, they are not the only fees merchants need to consider. Transaction fees, monthly fees, and other charges can significantly impact the overall cost of credit card processing.

2. All Payment Processors Charge the Same Basis Points: Basis points can vary significantly between payment processors. Each processor sets its own pricing structure based on factors such as risk assessment, industry specialization, and competitive positioning. It is essential for merchants to compare multiple payment processors to find the best rates for their specific needs.

3. Basis Points are Non-Negotiable: Many merchants assume that basis points are fixed and non-negotiable. However, payment processors are often willing to negotiate rates, especially for high-volume merchants or those with a strong credit history. Merchants should not hesitate to negotiate with payment processors to secure more favorable terms.

4. Lower Basis Points Always Result in Lower Costs: While lower basis points can lead to lower costs, it is crucial to consider other fees and factors that may impact the overall cost of credit card processing. Merchants should evaluate the entire pricing structure offered by payment processors to determine the most cost-effective solution.

Frequently Asked Questions about Basis Points in Credit Card Processing

1. What is the difference between basis points and percentage?

Basis points and percentages are both used to express rates or fees. However, basis points provide a more precise measurement, as one basis point is equal to 0.01% or 0.0001 in decimal form.

2. How do I negotiate basis points with a payment processor?

To negotiate basis points with a payment processor, merchants should gather competitive quotes from multiple processors and use them as leverage during negotiations. Merchants with a strong credit history or high processing volumes may have more negotiating power.

3. Can I change payment processors to get better basis points?

Yes, merchants can switch payment processors to obtain better basis points. However, it is essential to consider other factors, such as contract terms, customer support, and integration capabilities, before making a decision.

4. Are basis points the same for all card types?

Basis points can vary depending on the card type. Premium or rewards cards may incur higher basis points due to the added benefits provided to cardholders.

5. How often do payment processors change their basis points?

Payment processors may change their basis points periodically, depending on market conditions, industry trends, and competitive factors. Merchants should stay informed about changes in the payment processing industry to ensure they are getting the best rates.

Conclusion

In conclusion, basis points play a crucial role in determining the fees associated with credit card processing. By understanding what basis points are and how they relate to credit card processing, merchants can make informed decisions when choosing a payment processor and negotiating rates.

Factors such as the merchant category code, average transaction value, monthly processing volume, business type, and payment method can all influence the basis points charged by payment processors. By accurately calculating basis points and considering other fees and factors, merchants can optimize their payment processing costs and improve their bottom line.