Chargeback Fraud: The Silent Killer of E-commerce Businesses, and Here's How to Stop it
Chargeback fraud is a significant problem for e-commerce merchants, costing them billions of dollars each year. Chargebacks occur when customers dispute transactions made with their credit/debit cards, resulting in refunds. There are different types of chargebacks, including actual fraud, merchant errors, and friendly fraud.
Introduction
E-commerce makes it easy for merchants to reach out to a wide range of customers and deliver their products or services. However, one challenge they face is fraudulent activities like chargeback fraud which has ended a lot of businesses and it can affect anyone who doesn't take appropriate steps to prevent it.
In this article, you will learn all you need to know about chargeback frauds and how you can stop them from happening.
According to Juniper Research, chargeback fraud costs sellers over $20 billion in 2021 and report from Mastercard says that approximately 80% of chargebacks are fraud-related which includes both criminal fraud and friendly fraud.
What is Chargeback?
A chargeback is a transaction reversal process which is being initiated by a credit/debit card holder through their bank or credit/debit card issuer. Chargeback makes it possible for customers to request a refund for unauthorized transactions made with their credit/debit card.
It is a charge that is returned to a customer after disputing an item on their account statement or transaction’s report. It serves as a consumer protection tool against fraudulent or unauthorized transactions, as well as disputes over purchased goods or services.
What are the Types of Chargebacks?
Some forms of chargeback experienced by e-commerce merchants are:
1. Actual Fraud:
This is the most common type of chargeback as it occurs when a fraudulent customer uses the information of a legitimate card owner to purchase from an e-commerce merchant. After the product has been delivered to the fraudster, and the legitimate owner of the card notices a charge they did not incur, they file for a chargeback and get a refund.
2. Merchant Errors:
This results from errors in the process of purchase or return. It occurs when:
- The e-commerce merchant does not ship out the order.
- The order is defective or different from what the customer requested.
- The customer accidentally pays extra for a purchase.
- The customer returns an item but the payment is not refunded.
3. Friendly Fraud:
This occurs when a customer requests for a chargeback without a legitimate reason. It may be done accidentally or intentionally.
The reasons why customers may commit a chargeback fraud intentionally are:
- They want the product but they do not want to pay for it.
- They are aware that they are not supposed to request for a chargeback but they still want their money.
What is Chargeback Fraud?
Chargeback fraud occurs when a customer performs a transaction with a debit/credit card and then submits a transaction dispute to the bank, with the claims that they did not authorize or receive the services/goods paid for or they are not satisfied with it.
The most common case of chargeback fraud in e-commerce occurs when a fraudster uses a debit/credit card that was illegally obtained, to perform a legitimate transaction, then the card owner files for chargeback with the claim that they did not authorize the transaction.
Once the dispute is approved by the bank, the financial transaction is canceled, and the money is returned to the customer. The e-commerce merchant then loses the revenue, the product or the service, and often a fee or penalty is added. This has made e-commerce businesses lose a huge amount of revenue yearly.
Top Chargeback Fraud Statistics
- "By 2023, the average cost of a single chargeback is expected to be $190, based on a $90 average transaction value" – Chargeback911
- "In a 2021 survey to online merchants across the globe, 75 percent of participating organizations reported a net increase in fraud attempts since the beginning of the COVID-19 pandemic. Furthermore, 72 percent noted a net rise in fraud rate by revenue over the same period" – Statista
- "The average chargeback rate is 0.60% across all industries. This means 6 out of every 1000 transactions will be a chargeback" – Clearly Payments
- "Each year, the global average cost of chargebacks accounts for around 0.47% of total merchant revenue" – European Business Magazine
- "Consumers who successfully file a chargeback are 9 times more likely to do it again" – Chargebacks911
- "Chargebacks are growing at alarming rates, increasing at an estimated rate of 20% per year and eating up $4 billion in revenues from merchants across the world" – Chargeback Gurus
- "Although a reported 72% of merchants respond to chargebacks, the average net win rate is slightly under 9%" – Chargebacks911
What are the Consequences of Chargeback Fraud?
Chargeback fraud significantly impacts e-commerce businesses in several ways, including financial losses, increased operational costs, damaged reputation, and potential account restrictions or penalties from payment processors.
1. Card Transaction Charges
On every transaction made by a cardholder, e-commerce merchants deduct a specific percentage of the total amount. If the cardholder files for a chargeback on the transaction, the card processing fee is not returned to the merchant. They would lose the money and the cost of the merchandise.
2. Chargeback Fees
Just like the card transaction charges, when a cardholder requests a chargeback, the merchant acquirer also adds extra charges for their participation in the mediation processes. This could cost between $15 to $100 and is calculated according to the level of associated risks, i.e.: the number of chargebacks received by the merchant within a fixed period. The chargeback fees are non-negotiable, you would pay the same amount when you win or lose the dispute.
3. Excessive Chargeback Penalties
Banks and card networks have fixed merchants’ chargeback rates, they always ensure they do not exceed established thresholds as there are consequences.
4. Brand Reputation Damage
Aside from losing revenue, products, and services, chargebacks also cost e-commerce merchants brand equity. This factor makes disputing e-commerce chargebacks expensive as most individuals and companies would lose trust in the brand.
Excessive chargebacks may lead to penalties from banks and payment processors which may also lead to account suspension and/or termination. Banks wouldn't want to work with such merchants as they would consider their brands risky and this can make it hard for merchants to continue accepting online payments.
5. Operational Disruption
Dealing with a case of chargeback fraud requires merchants to divert their attention from their regular business activities. Providing evidence to dispute chargeback and communicating with payment processors and banks will distract the merchants from other important tasks like sales, marketing and customer support because disputing chargeback is labor intensive.
How Can E-commerce Businesses Detect and Prevent Chargeback Fraud?
Chargeback fraud is slightly different from other types of frauds because it happens after the purchase has been concluded. Therefore, preventing measures against chargeback fraud needs to be put in place by securing the marketplace’s purchase and return processes so that chargebacks do not happen at all since chargeback fraud cannot be stopped when chargeback has been filed.
To effectively prevent chargeback fraud, e-commerce merchants should adhere to the following procedures:
1. Customer Details Validation:
Customer details validation is an important procedure which needs to be taken by e-commerce merchants to detect and prevent chargeback fraud. This procedure involves verifying the information given by customers to ensure the legitimacy of transactions and reduce risks of chargeback fraud.
Customer details validation includes the following processes:
- Data Validation: E-commerce merchants should make use of Data Validation Services to ensure that the contact information they get from customers are accurate and up-to-date. These services use advanced algorithms and machine learning techniques to verify email addresses and phone numbers as fraudulent users make use of false information, such as invalid email addresses and phone numbers, in order to conceal their identities while committing chargeback fraud.
- VPN/Proxy Detection: One of the major challenges for e-commerce merchants is detecting customers who make use of VPN or proxy servers to hide their location during the transaction. VPN/Proxy Detection Tools helps e-commerce merchants to detect and block customers that use VPN/Proxy servers, therefore mitigating the risk of fraudulent transactions and chargeback fraud.
- Credit or Debit Card Verification: Fraudsters use stolen credit card information to carry out chargeback fraud. Therefore, merchants should make use of the BIN Lookup or BIN Checker Tool which provides accurate information about payment cards based on their BIN numbers. BIN lookup ensures that the payment information provided by customers is valid. E-commerce merchants are advised to combine BIN Lookup with other investigation methods (like using VPN/Proxy detection or any other type of fraud detection tools) in order to get accurate results in detecting fraudulent activities as legitimate customers may have a card issued by another country.
E-commerce merchants should also make use of 3D Secure Authentication which is an additional layer of security implemented in online payment systems to reduce the risk of fraud. The 3D Secure adds an extra step to the online payment process by requesting cardholders to verify their identity through an authentication process and authorize each purchase by sending an OTP to the actual card holder in order to proceed with the transaction. - Payment Fraud Services: E-commerce merchants should also make use of this service which is designed to help merchants detect fraudulent activities in payments. This service utilizes advanced technology to identify and prevent fraudulent transactions, thereby, providing financial security to the merchants.
- IBAN Validation: International Bank Account Number (IBAN) validation is the process of verifying that an IBAN is correct and valid. IBAN Validation Service addresses the problem of inaccurate or invalid IBANs by thoroughly verifying the integrity and validity of the IBANs which fraudsters may provide. By making use of this service, e-commerce merchants can minimize transaction failures, improve efficiency and ensure compliance in international payments.
Blocking a fraudulent transaction before it happens is much easier than negotiating a chargeback with an affected customer.
2. Post-Purchase Verification:
This involves confirming the legitimacy of a transaction and ensuring that the customer’s information and intentions are genuine to mitigate the risk of fraudulent chargebacks and enhance the overall security of their transactions. Some key aspects of post-purchase verification are:
- Order Confirmation: Merchants should send an order confirmation email to the customer’s provided email address immediately after a customer completes a purchase. This confirmation serves as a receipt and verifies that the transaction took place. It also provides an opportunity for customers to review the details of their purchase and report any concerns.
- Address and Contact Information Validation: Merchants should validate the shipping and billing addresses provided by their customer to ensure they are accurate and verifiable. This can be done by comparing the customer’s information with databases especially for high-value or high-risk transactions.
- Delivery Confirmation: Sending delivery notifications and requiring signatures upon delivery will be essential for confirming that purchased items reached the intended customer. Delivery tracking systems can serve as proof of successful product delivery in case of dispute.
Conclusion
Chargeback fraud is a major challenge for e-commerce merchants as it leads to both financial and operational losses to the victims which later lead to bankruptcy for some e-commerce merchants. All e-commerce merchants must take preventive measures against chargeback fraud as prevention of fraudulent transactions is easier than negotiating a chargeback with affected customers.
Constant monitoring and adaptability to evolving technologies are crucial to ensure the security and sustainability of e-commerce businesses, therefore, the tools mentioned in the article to prevent chargeback fraud are to be implemented by e-commerce merchants to mitigate the risk of chargeback fraud.
References
- The Complete Chargeback Guide for Merchants and Consumers
- Chargeback Fraud: How It Works, Common Types, & How to Prevent It
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