Interchange and Scheme Fees

Interchange is the fee that the acquirer pays to the issuer on every card transaction, and it is the largest component of the merchant discount rate. The card networks set interchange rates, which are published in interchange tables that list a different rate for each card type, transaction channel and merchant category. The fee compensates the issuer for the cost of issuing the card, bearing the credit risk, funding the interest free period, and paying for fraud losses and rewards. A merchant cannot negotiate interchange directly, because it is set by the network and applies to all acquirers, although a large merchant can negotiate the acquirer margin that sits on top of it. Interchange categories change the rate significantly, so the same purchase can cost a different amount depending on how it is made. A card present transaction at a supermarket, where the card is tapped or inserted and the merchant category is grocery, may carry an interchange rate of 0.9 percent. The same card used online for an electronics purchase may carry 1.8 percent, because the fraud risk is higher when the card is not present. A premium credit card, such as a Visa Infinite or Mastercard World Elite card, carries a higher interchange rate, often 2.2 percent or more, because the issuer funds airport lounge access, rewards and insurance from that fee. These rates are for unregulated markets such as India; in the EU and UK interchange is capped by law at 0.2 percent for debit and 0.3 percent for credit. Source: Regulation (EU) 2015/751, Interchange Fee Regulation, retained in UK law. A debit card usually carries a lower rate than a credit card, and a commercial card used by a business carries a higher rate than a consumer card. Scheme fees are the fees that Visa and Mastercard charge for running the network, and they are charged to both issuers and acquirers. They include an authorization fee, a clearing fee, a settlement fee, a cross border fee when the issuer and acquirer are in different countries, and a brand fee for use of the Visa or Mastercard logo. A typical domestic scheme fee might be 0.06 percent of the transaction value plus a fixed fee per transaction, while a cross border transaction may add a further 1 percent. Scheme fees are small compared with interchange, but they are not negotiable for a single merchant, and they appear on the acquirer invoice as a separate line. A worked example shows the split on a real transaction. A customer pays 25,000 rupees online with a Visa Signature credit card at a travel merchant. The merchant discount rate is 2.3 percent, so the total fee is 575 rupees and the merchant receives 24,425 rupees. Of the 575 rupees, about 460 rupees is interchange paid to the issuer, because a premium card used online carries a high interchange rate of about 1.84 percent. About 25 rupees is scheme fees paid to Visa, and the remaining 90 rupees is the acquirer and gateway margin. If the same customer had paid with a RuPay debit card in store, the total fee might have been only 150 rupees, because debit interchange is lower and the card present channel is cheaper. This is why merchants care about the card mix, not just the total sales value. The merchant actually pays the total merchant discount rate, and the split between interchange, scheme fees and acquirer margin is invisible to the customer. A business analyst who evaluates a gateway or acquirer must ask for the full fee schedule, including the rate for each card type, the cross border surcharge, the chargeback fee and the monthly minimum, and must model the cost using the merchant real transaction mix. A merchant that sells mostly premium credit cards online will pay a higher effective rate than a merchant that sells mostly debit cards in store, even if both are quoted the same headline rate. The analyst should also check whether the acquirer passes through the actual interchange, known as interchange plus pricing, or charges a blended rate, which is simpler but can hide a higher margin on low cost transactions.