Chargeback prevention: addressing false and legitimate claims

As businesses increasingly embrace online sales, they are also struggling with the growing challenges tied to card not present transactions.

For consumers, it’s all about convenience, speed, buy now, pay later offers, and other perks that come with paying online. But these benefits also come at a cost. Greater online business also leads to chargebacks, whether it's from humble merchant error, fraudulent transactions, or refund requests for undelivered goods.

When such chargebacks happen, merchants have to undergo a costly process to determine the validity and defend their business. In worst-case scenarios, too many chargebacks can also lead to penalties from card networks.

• Explore different chargeback scenarios, helping you differentiate between fraudulent and non-fraudulent cases.
• Gain insights into the solutions tailored for each scenario, ensuring you have a clear roadmap for your chargeback prevention strategy.
• Learn about methods for reacting promptly to payment disputes, minimizing the risk of chargebacks.

First, let's discuss the situations that fall under "friendly fraud". This term is used to refer to circumstances where the original payment was made by the legitimate cardholder, as opposed to identity theft, account takeover, and other types of fraud.
That said, there are situations where the customer does or does not have malicious intent. These can both be responded to or outright prevented.

Friendly fraud with bad intent

Commonly known as "chargeback fraud", this type of chargeback occurs when legitimate customers make a purchase, receive the products or services in question, but then request their money back through their issuer.
They can claim, for example, that:

• The purchased goods were not received.
• They had not been informed about subscription costs or other terms and conditions.

In these instances, the issuer seldom questions the reasons, leaving the merchant business to defend itself. When it comes to the delivery of physical goods, there is typically a wealth of physical proof, and companies can use the likes of sign-on-delivery confirmation for added protection.

But while companies can use records to prove the delivery of goods, this is not a complete measure of safety. It doesn't solve the high risk of card not present transactions, as issuers can still put fault on the merchant for accepting transactions without proof of the cardholder.

Friendly fraud with no bad intent

We can also identify situations where customers have a legitimate reason to issue a chargeback. There are a number of reasons a customer might do this, including:

• They don't recognize the name of the company listed in their bank statements, as it differs from the online brand.
• The transaction was carried out by someone else using their card, such as a family member, without their knowledge.
• They simply don't remember making the purchase. It's easy to make mistakes, and the convenience of online merchants also makes it easier to forget online transactions.

Like the previous situations, available data can prevent many chargebacks, but this still costs time and money to do so. And once again, card schemes and banks will pressure the seller due to the cardholder not being present.

Merchants need to prevent chargebacks when and where applicable rather than simply dealing with them. The latter still leads to additional costs (and penalties), regardless of the outcome. The most effective approach is to use prevention tools and active monitoring programs to authenticate the cardholder.

Verifi's Order Insight, for example, is a tool designed to enable near real-time communication between issuers and the merchant. It deflects and resolves disputes before they are processed by the card scheme.

In order to do this, merchants need to record and track data that meets Visa's Compelling Evidence 3.0 protocol. The specific requirements of this include:

• A minimum of two transactions that are at least 120 days old, but not older than 365 days of the given dispute. These payments must also not have any active disputes or fraud reports themselves.
• Include at least two matching data elements. At least one of these must be the customer's IP address or Device ID / Fingerprint, but the other can be a User ID or Shipping Address.
• The payments must also be from the same merchant, as well as paid via the same card.

In short, if the data on the current transaction has enough matching points with two previous transactions, Visa accepts that merchants have done their best to monitor for suspicious activity and ensure customers' identities are authentic. 
This process also resolves many of the above issues. By building a bridge between the merchant and the issuer through extensive data records, it reduces inconsistencies in the bank statement information. This proactive approach plays a key role in reducing deliberate fraud since it documents and validates customer information, including the IP address, Device ID/Fingerprint, User ID, and Shipping Address at the time of the order, creating a thorough reference for any further inquiries. 

We have prepared an article on how to take the most benefits from Visa Compelling Evidence 3.0 and make the whole process less time-consuming. 

In the next group of chargeback situations, we cover examples where the fault lies in either confusion between the customer and merchant business or is born out of errors and mistakes that happen after a legitimate purchase is made.
For example, imagine a situation when:

• The customer paid for a product or service that was not delivered. When the fault lies between the shopper and the business, both sides can assume the bad intent of the other. For example, the merchant store will see a confirmed transaction and records of goods sent from their warehouse, while the customer only has lost money and no products to show for it.
• The customer is still charged for a service or subscription that they previously withdrew from. Due to a glitch, they are still charged.

In both of the above situations, it's understandable that the consumer will issue a chargeback. And this often leads to complicated situations, as the merchant business both disputes the chargeback and tries to determine what happened to its own lost inventory.

These situations are sometimes referred to as "merchant error chargebacks," but that doesn't necessarily mean the merchant is to blame. It implies that the chargeback is centered around an issue concerning the merchant's side, like a problem during the shipping process, for example.

Chargeback vs refund

Before we move on, it's worth noting there are key differences between chargebacks vs refunds.
The latter - refunds - occur when money is handed back. In other words, the payment is reversed. This is the case, for example, when items are returned to the store. The most important aspect here is that the consumer gets in touch with the merchant, so there is no payment dispute to be processed by the card scheme provider.

Chargebacks, on the other hand, only occur when the charge itself is disputed. They specifically occur when the cardholder initiates the dispute through their bank or card issuer. The issuer then notifies the merchant, who can either accept or dispute the chargeback.

When the customer is correct, tools that can prevent chargebacks and the associated implications with the card issuer will still be beneficial to your business. Refunds are the correct course of action when a customer's claim is valid. However, they should be processed swiftly, before the claim escalates into a chargeback.

It's important to note that, in many of the situations we’ve given, the cardholder is correct in issuing the chargeback. Companies should consider these situations as inevitable, and instead implement processes that mitigate the damage. Specifically, the objectives here should be to:

• Identify these legitimate cases from fraudulent transactions, described previously.
• Resolve disputes quickly, often without the card scheme's involvement, to avoid further penalties.
• Ensure the customer is happy with a quick resolution, to prevent lost revenue from poor customer service.

It's better to invest in preemption solutions. Specifically, businesses should invest in automated tools that actively monitor and engage when a chargeback process is about to begin.

Our Nethone Alerts, for example, provides a means to issue customers refunds as quickly as possible, directly from your business, rather than the long and costly process of going through the issuer.
In addition to fraud prevention logic to identify potentially malicious activity, our system works with chargeback prevention specialists Ethoca and Verifi, who can resolve the chargeback with the card issuer. This way, we prevent chargebacks, whilst also swiftly resolving the issue at a much faster pace.

As a result, the customer is happy because no money was lost, and they have faith in your business's refund policies. And things are great on your end too, as you avoided the costly fees and potential penalties with card schemes, and you were able to automate a previously challenging part of your business operations.

At this point, you may be asking why your business shouldn’t simply rely on a chargeback guarantee. After all, there are many fraud prevention services that offer to reimburse merchants for fraudulent chargebacks. At a glance, this seems like a win, but on closer inspection, there are a number of worrying aspects to consider.
There are two main issues here: the costs of such a system and the knock-on effects that their protection has. Let’s quickly cover both.

Differing priorities

The first and foremost is that your business and the guarantee provider have very different goals. Your chargeback prevention strategy aims to enable as many legitimate customers as possible, while the prevention service is looking to minimize as many chargebacks as they can, even if this means overzealously blocking legitimate customers.

It’s a question of math. You pay a subscription rate to such a provider, and in turn, they refund your business in the case of fraudulent purchases. To make a profit, they need to ensure the latter value stays well lower than the first.

There’s no good answer for your business. If the provider is able to make a big profit, it means the service itself is not very effective for the price that you’re paying. But if the provider is losing money, you can absolutely expect the renewal fees to be much higher as a result.

The real impact on your business

The hard truth is that blocking transactions hurts your business. A lower acceptance rate leads to less revenue and a damaged reputation from annoyed would-be customers. In such situations, 1 in 3 people will likely not return to your business. 
Global surveys suggest that 2.6% of all online orders were false positive declines, compared to the 3.4% that were genuine fraudulent transactions. And if we consider that the number of false declines could be much higher for an individual business with an overactive chargeback guarantee service, the net result could be that the prevention service is turning down significant amounts of genuine business, potentially higher than the actual fraud being prevented.

The best business model for chargeback prevention needs to look at the overall situation. Specifically, there are two sides that need to be considered.

For payment disputes that are not valid, you can protect your business with Order Insights, along with Visa CE3.0. Doing so opens a path to working with the issuer, with promising results. Julie Fergerson, CEO of the Merchant Risk Council, claims that over 52,000 chargebacks totaling over 8 million USD have been deflected thanks to CE3.0 already.

Nevertheless, these standards are relatively new, and their implementation involves several steps and essential data requirements. Merchants need a way to simplify this process towards dispute deflection, and Order Insight with Visa CE3.0 provided by us can help in this matter. Merchants can send their transaction details to us, and we’ll send further the qualifying data on their behalf.

On the other side of things, companies also need to accept that some disputes may be valid, and implement an effective path for them in their own business model. In these cases, tools such as Alerts will enable more refunds, rather than increasing your chargeback ratio and risking your standing with card schemes. Working with Verifi and Ethoca, we also offer the added benefit of a streamlined process, using automation for near real-time results vs the typical 3-month path. We also offer a ‘no-code’ self-onboarding option for those interested in faster enrollment with no integration or development costs.

Contact us to learn more about how to implement the right chargeback prevention tool according to your own use case.  

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