What is a Payment Reversal and How Does it Work?

Many consumers as well as merchants can easily be bewildered by a payment reversal, and it may cause a stream of questions regarding why this happened and how they work. In case a merchant is wondering if there different kinds of payment reversals are, the answer is yes, there are three different kinds of payment reversals. These include authorization reversal, refund or return and chargebacks. There are some additional types of reversals, however, for this article, we’ll discuss these three, as some other types may be specific to the payment provider or card issuer and may not apply to all payment methods. We’ll explore what is a payment reversal, how a payment reversal works, the different kinds of payment reversals, and how they work. Finally, we’ll look at ways merchants can mitigate the risks and impact of payment reversals.

What is a payment reversal?

A payment reversal is a transaction that cancels or reverses a previous transaction. This usually occurs because of three distinct reasons: the customer is requesting a refund, a dispute has arisen between the customer and merchant, or fraud has been detected. Specifically, a payment reversal is a return of the funds from the original transaction to the customer’s account, and the merchant’s account will be debited for the reversed transaction. 

Various parties, such as the customer, the merchant, the card network, the issuing bank, or the acquiring bank, can initiate payment reversals. Different types of payment reversals exist, with varying impacts on the merchant’s bottom line. The three different kinds of payment reversals are:

• Authorization reversals – This type of reversal occurs when the merchant cancels a transaction before it is processed.
• Refunds – this type of reversal occurs when the merchant agrees to return the funds to the customer after the transaction has been processed.
• Chargebacks – This reversal occurs when a customer disputes a charge and requests their bank to investigate it. Chargebacks are typically the most costly and can harm the merchant’s business in multiple ways.

Applying authorization reversals or refunds at the right time can minimize the problems to revenue and reputation that payment disputes can cause. Merchants must understand what is a payment reversal and how different kinds of payment reversals have other impacts regarding customer disputes, reputational damage, and processing fees. Understanding what is a payment reversal will allow the merchant to make informed decisions at the right time.

What is an Authorization reversal?

An authorization reversal is when the merchant cancels or voids a previously authorized transaction. An authorization reversal transpires when a customer cancels or returns a purchase or when a merchant needs to correct a mistake made during the original transaction. With the initiation of an authorization reversal, the funds that were previously authorized and held for the transaction are released to the customer’s account.

An authorization reversal is the best scenario from all the different payment reversals since they are initiated by the merchant rather than the customer or the issuing bank. Authorization reversals are different from chargebacks, as we’ll discuss in-depth below since an authorization reversal is a voluntary action taken by the merchant to correct an error or cancel a transaction before the customer disputes it.

It’s important to note that authorization reversals can only be done for transactions that have yet to be settled. If the transaction has been settled, the merchant can either wait for the chargeback process to be completed or take another voluntary action and issue a refund.

What is a refund?

A refund in the context of merchant account services refers to the process by which a merchant returns money to a customer. This can occur when a customer cancels or returns a purchase or when a merchant needs to correct a mistake made during the original transaction. The refund process typically involves the merchant issuing a credit to the customer’s account, which the acquiring bank then processes. The customer’s issuing bank receives the refund, and the corresponding amount is credited to the customer’s account.

It’s important to note that refund processing time varies depending on the merchant and acquiring bank. Some merchants may have a policy of immediate refund, while others can take some time to process it. A refund is the second best option for the different kinds of payment reversals. It wasn’t initiated before the transaction was settled, but it was done because the customer reached out to the merchant to rectify the issue. That is better than the customer reaching out to the issuing bank, resulting in a charge bank. Yes, the merchant lost out on the payment processing fee and will still have to incur restocking fees and cost of service fees for the item. However, there are no additional charges as there are for chargebacks.

What is a chargeback?

A chargeback is a dispute in which a customer questions the legitimacy of a charge on their account. The issuing bank will release funds to the merchant once the dispute is resolved. The outcome of the dispute depends on the bank’s investigation, and funds will be released if the bank finds in favor of the merchant. However, if the bank rules in favor of the customer, the charge will be reversed. The chargeback process can be lengthy and requires extensive documentation and recordkeeping.

A chargeback can have significant implications for a merchant. First, it results in the loss of the sale, even as the cost of goods or services has already been provided. Additionally, on top of the payment processing fees already paid on this sale, which will not be reversed, chargebacks also result in additional fees charged by the bank or payment processor, known as the chargeback fees, which can be a heft amount. Furthermore, if a merchant consistently receives a high number of chargebacks, it may be classified as a high risk account by the issuing bank. It can even lead to account termination. 

Even worse, the bank may be added to what is known as the MATCH list or VDMP initiative. Both the Visa Dispute Monitoring Program (VDMP) and the Mastercard’s Alert to Control High-Risk Merchants (MATCH) are programs that aim to identify and mitigate the risk of fraud and other illegal activities associated with specific merchants identified as high risk and subject to additional monitoring and reporting requirements, as well as other restrictions on their ability to accept payments on the Visa and Mastercard networks.

These programs aim to help protect consumers and financial institutions from fraud and maintain their payment systems’ integrity. They attempt to do this by detecting and preventing fraudulent activities by identifying and monitoring high risk merchants, particularly those with a history of chargeback disputes, focusing on the underlying causes of chargebacks and disputes, and ensuring that merchants follow the card networks’ operating guidelines.

What is a Retrieval?

Retrievals and chargebacks are similar in that they both involve disputes over transactions, but they differ in who initiates the process and the fees associated with them. One key difference is that the merchant initiates the retrieval process once a customer has disputed a transaction. In this situation, the merchant does not agree that a refund is warranted and requests a copy of the customer’s sales receipt from the card issuer to verify the purchase. If the card issuer finds in favor of the customer, the funds will be reversed, a retrieval fee, and there is usually a fee, anywhere between $10-15, charged to the merchant’s account. 

Chargebacks, on the other hand, are a different story. The card issuer initiates them at the behest of the consumer. Typically, chargeback fees can start at a $15 fee but are usually between $20 and $40. Some merchants may also have additional costs associated with chargebacks, such as a chargeback investigation fee. It is essential to check with your payment processor or bank for specific fee information.

Additionally, retrievals are only available for a limited time after the transaction, while chargebacks can be filed up to 120 days after the transaction.

How can merchants control different kinds of payment reversals?

Merchants can prevent authorization reversals by ensuring they follow proper authorization procedures, such as obtaining a valid signature or authorization code, and by verifying that the card being used is not expired or reported as lost or stolen. 

Additionally, merchants should promptly ship or provide the goods or services purchased and should clearly communicate any refund or return policies to the customer. This is likely to help the customer get their ordered goods on time, limit potential dissatisfaction due to late delivery, and minimize the potential of refunds. 

Furthermore, to avoid refunds, merchants should promptly ship or provide the goods or services purchased and clearly communicate any refund or return policies to the customer. If a customer disputes a charge, the merchant should respond promptly and provide any relevant documentation to support them.

Merchants can also work on understanding what is a payment reversal and the different kinds of payment reversals that exist. They can focus on preventing the most egregious forms of it, chargebacks, by ensuring that they are following proper authorization procedures, such as obtaining a valid signature or authorization code, and by verifying that the card being used is not expired or reported as lost or stolen.  

Also, merchants can implement fraud detection and prevention measures, such as using AVS (Address Verification Service) and CVV (Card Verification Value) checks, monitoring for suspicious activity on customer accounts, and implementing strict return and refund policies.

Another excellent step for merchants to take is to have good transaction descriptors. Merchants should clearly outline the business’s name, what was bought, and a contact number for the transaction descriptor. A transaction descriptor is a brief description of a transaction displayed on a customer’s credit or debit card statement. It typically includes the merchant’s name, phone number, and a reference or invoice number for the transaction. The transaction descriptor is intended to help the customer identify the transaction and understand what it is for. Merchants and payment processors also use it to track and identify transactions. The merchant typically provides the descriptor and sends it to the payment processor along with the transaction details. Some payment processors may have specific formatting requirements for the descriptor, so merchants need to check with their payment processors for guidelines on how to format their descriptor. 

A good transaction descriptor is helpful in that it can minimize the possibility of friend fraud. Friendly fraud is a particular form of chargeback fraud. It refers to when a customer disputes a legitimate charge on their credit or debit card statement because they cannot recognize that charge.

Conclusion

Setting up a merchant account and navigating the realm of choosing the best payment processor can be bewildering enough on its own. Adding another layer of complexity to an already nuanced industry are payment reversals. A payment reversal is a transaction that cancels or reverses a previous transaction. There are three main types of payment reversals: chargebacks, refunds, and returns. Chargebacks are typically the costliest payment reversal for merchants and can harm their business in multiple ways. On the other hand, authorization reversals and refunds can minimize the problems that payment disputes can cause. Merchants need to understand the different types of payment reversals, their impacts, and how to handle them to make informed decisions and minimize any potential damage to revenue and reputation.

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