A Guide to Chargebacks - Part I of III

Update: Some information in this post is no longer applicable. For current information on how chargebacks work, refer to our support articles, and check out our six point guide to reducing chargebacks.

Most everyone who has a merchant account understands that a chargeback results when a customer successfully disputes a sale that has been paid by credit card. A customer can initiate a chargeback with their issuing bank based upon a wide variety of things. There are about 35 reasons why a chargeback can be initiated by a consumer. Examples include improper or broken goods, product not received, and services not as described, cardholder did not authorize transaction, error in amount, and incorrect transaction date.

What most merchants don't understand is how exactly the chargeback process works. In a three part post, I'll include the details of how a chargeback is handled by the issuing bank, Acquirer, and Association (Visa & MasterCard) from start to finish.

I. First Chargeback Phase: A Cardholder writes a letter or fills out a "Dispute Resolution Form" and submits it to their Credit Card Issuing Bank. The Issuing Bank then processes a chargeback along with the "Chargeback Documentation" (i.e. Cardholder letter) through the corresponding Association (Visa or MasterCard) and is then credited the disputed transaction amount. The Acquirer or "Merchant Bank" then receives notification of the Chargeback upon receipt of the "Chargeback Documentation" and is subsequently debited for the disputed transaction amount. At this point the Acquirer's internal database assesses the Merchant a "Chargeback fee". Acquirer's systems then run the Chargeback through a series of simple filters to check to see if the Merchant issued credit and for certain technical errors. At this point one of two scenarios occurs:

  1. If, via the filters, the Chargeback is deemed invalid, Acquirer "Reverses" the Chargeback back through the Association and eventually back to the Issuing Bank along with a debit for the disputed amount. The Acquirer is then credited for the amount in dispute. The Chargeback fee remains on the Merchant's account as this is a fee charged by the Associations as a cost for processing the Chargeback. This "First Chargeback" phase of the dispute is then considered "Resolved To the Issuing Bank" and will remain closed unless the Issuing Bank initiates a "Pre-Arbitration" notification (Visa) or a Second Chargeback (MasterCard).
  2. If, via the filters, the Chargeback is deemed valid, the Merchant's business checking account is immediately debited for the amount in dispute and a letter is sent to the Merchant the same day advising of the debit and explaining what, if any, documentation is required to "Reverse" this Chargeback. This "First Chargeback" phase of the dispute is then considered "Resolved to the Merchant" and will remain closed until the Merchant responds back to the letter sent to them.

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