When you use your credit card or debit card for a transaction, another transaction takes place behind the scenes. The bank whose credit card you are using (the issuing bank) gets paid a certain amount by the bank, which processes the payment on the merchant’s behalf (the merchant or acquiring bank) for every transaction. The fee paid by the merchant bank to the issuing bank is called the interchange fee.
The merchant pays a fee to the acquiring bank for processing every customer payment. A large part of this fee is actually paid to the card issuing bank as interchange. It normally comprises of 70 to 90% of the total fee that merchant pays to the acquiring bank.
The exact nature and value of this fee is decided collaboratively by credit card associations, which include the issuing and acquiring banks along with the network managers like Visa and Mastercard. These fees range from anywhere between 1 to 5% and are usually around 2% for most transactions. You can see this as a service fee paid by one bank to another in lieu of getting a customer to make a purchase at a merchant and processing the payment from his or her account.
The interchange fee differs for different types of cards and is usually higher for credit cards and lower for debit cards. The following somewhat depicts the descending order of the value of the interchange fee charged on different transactions:
– Premium credit card offering rewards
– Regular credit card
– Signature debit card
– PIN debit card
– Sales done through a card over the internet or phone
The collective price determination of interchange fee has in recent times, been the subject of much controversy. Merchant groups have often voiced the opinion that the interchange rates are much too high. The interchange fees have more than doubled in the past decade despite the fact that the payment processing technology has advanced over the years reducing the costs for the banks and the networks.
Merchant groups and issuing banks are at loggerheads on this issue. The merchants claim that interchange fee ultimately harms the consumer, as the merchants have no choice but to pass on the increased cost of purchase to the customer. On the other hand, issuing banks argue that lowering the interchange fee would cause them to increase interest rates on cards and possibly also require them to levy other fees on card customers.