The topic of chargebacks and their impact on businesses has been widely discussed. The general understanding is that chargebacks are a necessary instrument that card issuers and banks use to resolve transaction disputes between merchants and their customers. Unfortunately, chargebacks also empower bad actors to defraud merchants.
Even the card networks recognize the severity of the issue. Visa says about 20% of consumers who have initiated a chargeback have engaged in first-party fraud by making false claims to obtain a refund on legitimate purchases.
And most times, these con artists get away with the act. They call this friendly fraud, and it’s responsible for more than $25 billion in business losses annually.
But why is chargeback a two-edged sword today? That’s one of the reasons for this piece. We shall look at the basic principle of chargebacks, how the concept has evolved to date, and what you must do to protect your business from the rising chargeback threat.
Chargeback As a Consumer Protection Instrument: Historical Facts
Chargebacks are forced transaction reversals initiated by the cardholder’s bank when a consumer says they did not authorize a specific transaction or is not satisfied with a product or service received.
The term “chargeback” was first coined in the early 1970s with the advent of credit cards for buying and selling. Back then, consumers were skeptical of credit cards for fear of potential fraud and dishonest merchants raising prices or adding extra fees after payment.
These concerns prompted consumer protection agencies to lobby for a Federal mandate that’ll enable cardholders to seek remediation from issuers when they can’t reach a favorable dispute resolution with merchants. Thus, the Fair Credit Billing Act of 1974 introduced the chargeback mechanism, limiting consumers’ liability in fraud cases and allowing cardholders to contest deceptive practices.
And it worked. Consumer confidence in card-not-present transactions grew; businesses raked in explosive sales. Win-win, right? At least that’s what it seemed for the period until the rise of eCommerce and the recent industry-wide adoption of Artificial Intelligence exposed significant flaws in the system.
How Consumers Use Chargebacks to Commit Fraud
As noted earlier, chargebacks provide a critical safety net for consumers. They help protect cardholders against errors of omission or commission by merchants, unauthorized transactions, and billing issues. Because of such cardholder-centric procedure, banks and card issuers often presume merchants as “guilty until proven innocent” in the dispute process.
When a cardholder files a dispute, their bank or card issuer will initiate an outright payment reversal from the merchant’s account if they feel the consumer has a legitimate case. The burden of proof is, therefore, on the merchant to establish the validity of the transaction and potentially reverse the chargeback. Additionally, the chargeback process is outdated and regulated by policies that are unevenly enforced across the card networks.
On the other hand, banks receive a fee for every dispute that results in a chargeback. The incentive of maximizing revenue often obscures the relevance of due diligence before granting the chargeback. When this happens, merchants not only lose the sale revenue but also the overhead costs associated with the transaction such as shipping, fulfillment, and interchange fees.
That imbalance has created a $200 billion challenge for the entire eCommerce ecosystem. Consumers constantly manipulate the chargeback system to steal from merchants. Our internal data shows that most chargeback reasons are baseless. And such abuse of the chargeback system is one of the leading causes of revenue loss for merchants.
Intelligent technology tools like Generative AI has exacerbated the problem by making it easier for scammers to automate and scale up their fraudulent activities. For instance, we’ve seen cases of AI being used to bypass pre-purchase identity verifications or trick cardholders into releasing sensitive personal data. As these nefarious use-case of AI become widespread and technological advancements continue to outpace policy development in eCommerce, our fraud experts caution merchants to prepare for the worst in the coming years.
How to Protect Your Business from Chargeback Losses in 2024
To help you level the playing field in dispute mediation, let’s draw insights and best practices from Maverick Drone Systems’ efforts in recovering $92,135 chargeback revenue.
Maverick Drone Systems is a Minnesota-based business-to-business (B2B) tech company that sell tech gadgets, from robotic dogs to 190-pound drones. Their prices range from a few hundred dollars to five figures. Even at that, receiving chargebacks totaling $114,736 from a single client is a significant financial blow that resulted in additional losses for the business.
Traditionally, such high-profile cases attract fines and payment processing challenges. Maverick knew they needed to improve their chargeback management. Thankfully, the relief they needed came with the help of Chargeflow’s automated chargeback solution.
Swinging for the Fences
After analyzing data on chargeback patterns and underlying reasons, the result points to their refund policy being the leading cause of their chargeback cases. Hence, Chargeflow streamlined the process by clearly defining sales-final points and attaching policies to relevant sales tools.
Working with the sales team, Chargeflow curated photographs of customers’ experiences showing they tested the products before buying. Cross-referencing the image with buyers’ Facebook pages and other private data confirms the person featured in the picture is the same client who filed the chargeback. The team then incorporated that compelling evidence and other relevant documentation in their chargeback disputes for Maverick Drone.
The Outcome: 80% Chargeback Recovery Rate
Thirty-three days later, Chargeflow won the first chargeback worth $18,387. And 90 days later, they recovered $92,135 out of the stated $114,736. Aside from recovering revenue, Maverick Drones has also saved money on chargeback fees and fines. Additionally, their relationship with regulators is improving.
The Bottom Line
Chargebacks are a non-negotiable part of eCommerce today. Research shows they’re becoming a significant sustainability risk for merchants. For every $1 charged back, you, the merchant, stand to lose up to $3. Again, the threat is evolving with technological advancement.
Use the insights from this article to safeguard your financial future: clarify your terms, document everything, use data to thwart fraud attempts and prevent losses, be meticulous in your chargeback dispute, and ensure customers can contact you before their bank.
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About the Author: Tom-Chris Emewulu is Chargeflow’s Digital Evangelist. With 8+ years of digital marketing & venture building experience, he crafts compelling, high-converting, high-intent, data-driven, SEO-friendly articles that help the brand build a sustainable growth engine. Forbes, DW, Business Insider, Businessss2Community, and many other publications have featured his works. You can find him on Social Media via @tomchrisemewulu.