The cost businesses pay for convenience

7/31/2024

In 2024, accepting credit cards as a small business is a no-brainer. According to a Capital One Shopping Research study from June, 81% of shoppers prefer to pay with cards over cash. Credit cards make up 41% of in-store transactions, and cash stands at 12%. Not to mention, shoppers spend up to three times more with credit cards. Merchants who accept cards see a more efficient cash flow, increased sales and an improved customer experience. However, accepting credit cards opens the door to the complex and costly world of credit card processing fees. 

 

Credit card processing fees explained

There are three main players when processing credit cards: the merchant’s payment processor, the cardholder’s bank and card networks like Visa, Mastercard, Discover and American Express. When a card is used, the transaction is run through all three players. This whole process includes a variety of fees to ensure money is transferred safely and securely. However, the costliest fee is the interchange fee. This is paid by the merchant and goes to the bank that issued the credit card. The rate is set by the card networks. There is a network or assessment fee that goes to the card networks. And, there is a processing fee that goes to payment processors like PayPal, Square or Stripe. 

Merchants end up paying 1.15 – 3.15% per credit card transaction, according to the Merchants Payment Coalition. The average family paid $1,102 in fees in 2023; meanwhile, credit card companies in the U.S. accrued $135.75 billion from merchants. Oftentimes, some profits go back to the cardholders in the form of card perks, miles or other benefits, but it comes at the expense of small businesses.

Credit card processing fees are a burden felt by all small business owners. While the expense will continue to be incurred, business owners can implement a few different methods to help address the challenge. 

 

Raising prices across the board

At the beginning of 2022, Josh Eike, owner of Wood Duck Landscapes, raised his prices across the board by 2.5% to account for credit card processing fees. He made the decision after looking at his books and realizing he was paying anywhere from $40,000 to $50,000 a year in credit card fees. This way, his customers help cover the expense, and his business returns to its normal margin. 

“It was the perfect storm in 2021 and 2022 because there was so much inflation,” Eike said. “To add (a 2.5% increase), nobody noticed it really.” 

Eike operates on a bid basis. He began to offer the option to pay with credit cards about five years ago. What used to be a $0 expense now significantly cuts into his profits. But there is no way around it. Eike sees about 50% of his customers using credit cards. He also gets paid more quickly this way.

 

Surcharge

Eike could have added a surcharge for credit card transactions. Like many restaurants do, a 2-4% fee could have been added as a separate line item. Like most states, in Iowa, merchants can surcharge credit card transactions up to 4%. However, this option comes with a lot of pushback.

“I, as do many other folks, get really annoyed when I see it as a separate added fee on my bill,” Eike said. “I’m not afraid to pay a few extra dollars when I know I’m getting some airline miles or some cash back, but I just feel like I’m getting nickel and dimed when I see a separate fee on an invoice.”

While Eike agrees that customers who pay with cash, a funds transfer or a check should reap the benefits, it is his full expectation every time that he will be paid with a card. 

“I’ve had no pushback when I built it into my price.”

 

Cash discount

Cash-paying customers buying a fifth or more at Central City Liquors at 1460 Second Ave., Des Moines, receive a 10% off coupon. Card-paying customers receive 7% off. This helps the business absorb credit card fees and give back to customers. These discounts are not publicly displayed in the store, but Brian Duax, Central City Liquor’s wholesale manager, believes consumers are so numb to the charge it does not make a difference. 

“It’s a very competitive business,” Duax said. “That may mean you don’t get to make the profits you want to on certain things to get people in the door… I don’t want to have my employees sitting up there dusting shelves.” 

Central City Liquors has always offered a cash discount since they began accepting cards in the early 2000s. But, back then, there were not as many card-paying customers. Five years ago, Duax saw a 70/30 split between cash and cards. Now, it is closer to 50-50. Duax recognizes the convenience of cards and the reality that consumers will continue to use them. However, Duax wants consumers to know that it forces businesses like his to make a decision.

“We have to incur that cost unless we pass the cost on to the customer,” Duax said. “And not just small businesses, Hy-Vee, everybody has to incur that cost of using the credit card. So, what is happening is more and more people are going to pass that percentage on so we still get to make whatever percentage our retail market is.”

That is why Duax is considering a move to another method of tackling credit card fees at Central City Liquors: dual pricing.

“We’re talking about getting away from the cash discount and making it a cash price,” Duax said. “There would be a cash price on the shelf. There would also be a credit card price on the shelf.”

The switch would require a new point-of-sale system that has two prices for every in-store item. When customers check out, they can choose to pay a lower price with cash or a higher price with a card. 

 

Emerging technologies

“I think that a lot of merchants just kind of shrug their shoulders and just say (credit card processing fees are) just a cost of doing business, and interchange is confusing. And that’s why I think cash discounts are such a big thing right now because there’s a way through it,” Frank Pagano, co-founder and executive sales director of VizyPay in Waukee, said. 

VizyPay is a payment processor that charges small businesses monthly subscriptions to run their card transactions. But what they believe sets them apart is their implementation of a technology-forward cash discount program. 

This model allows business owners to incorporate card processing fees into their pricing. Business owners determine a discount percentage they want to give to cash-paying customers. Then prices are raised across the board to help offset that discount. When a customer arrives at the terminal and pays with cash, the POS technology applies an automatic discount. Meanwhile, card-paying customers always pay the listed price. This method ensures merchants are making the same profit margin on each sale regardless of payment method. VizyPay promises to offset up to 100% of processing fees with its cash discount program. 

The savings brought by some of VizyPay’s customers have allowed them to put more money toward their bottom line. Businesses have bought additional inventory or equipment or, in one case, a muffler shop was able to take all of their employees on a trip to Hawaii. 

Pagano admits businesses can implement their own cash discount program or raise prices but finds these companies will just continue to chase their own tails. 

“You could raise it… forget 4%, go 10% or 20%. If you think your customer base will pay it, you can charge whatever you can charge,” Pagano said. “At the end of the day, you’re just processing more dollars through the platform. You’re just paying more interchange cost, so you can never really get ahead of it.”

This program addresses two problems presented by other methods: a surcharge item and customers finding out about it.

“Let’s say, for example, you have someone that goes in and buys a cup of coffee every single day,” Pagano said. “They spend three dollars on a cup of coffee every single morning, and then, tomorrow morning, your coffee is now $3 and 12 cents. I mean, is that going to stop you from buying? Maybe. I think, generally speaking, most customers aren’t going to necessarily know, nor would they care.”

 

Finding a solution

There is no one-size-fits-all approach to credit card processing fees. It depends on the business; quantity, size and type of sales; customer experience; and a solution that makes financial sense. Credit card processing fees will continue to be a major burden, especially for small businesses. In 2023, a bill was introduced in the U.S. Senate that would prohibit credit card issuers with assets more than $100 billion from restricting the number of networks that process credit cards. The Credit Card Competition Act would have opened the doors for small businesses to have more say as to how their transactions could be processed and negotiate for lower fees. But until action is taken, businesses will be forced to implement creative solutions to manage an ever-growing pain point. ♦