You Just Experienced your First Chargeback. Now What?

Companies of all sizes were affected by the pandemic, especially small- to mid-size businesses (SMBs). Merchants in particular had to quickly shift from in-store sales to online and learn how to accept payments digitally. According to Salesforce’s Small and Medium Business Trends Report, 71% of SMBs say they navigated the pandemic through digitization.

Concurrently, the summer of 2020 brought the highest number of new business applications in the past 15 years, and this trend has continued, with Americans filing a record 1.4 million applications to start new businesses through September 2021. Given the ongoing shift in consumer shopping preferences, many of these new businesses will be digital-first companies.

As businesses adapt to today’s digital economy, many are coming face-to-face with the reality that they lack an ecommerce fraud strategy. Some may not think about creating one until they experience their first chargeback.

But what is a chargeback? How is it triggered? And how can businesses prevent fraudulent chargebacks in the first place? These are questions many newly online SMBs are asking themselves. Let’s unpack the most common fraud challenges and how SMBs can address them.


What is a Chargeback?

A chargeback occurs when a customer disputes a transaction and their issuer (the bank that provided them with the card) reverses the transaction — essentially charging it back to the retailer. There are several reasons why a customer might dispute a payment, such as receiving faulty goods, being charged for items they never received, a merchant duplicating a charge by mistake or a technical issue mistakenly causing the charge. These can all be categorized as customer service-type chargebacks.

There are also fraudulent chargebacks, which come from two sources:

  • From transactions that are made with stolen credit card information, when the true owner realizes their card details were stolen.
  • From cases of friendly fraud, where a customer disputes a legitimate transaction as fraud — resulting in a chargeback to a merchant. This is sometimes done knowingly by the cardholder, but is also increasingly the result of transaction confusion, where cardholders simply can’t recall a charge on their bank statement and end up assuming it’s fraudulent.

Chargebacks pose severe financial losses for SMBs. As more transactions happen digitally (i.e. card-not-present transactions), there is greater potential for more purchases to be charged back. These chargebacks are automatically deducted from merchants’ accounts, leading to lost revenues, sunk shipping costs and potential merchandise shortages. Fraud on even just a few big-ticket items has the potential to wipe out the profit margin for a small business.

In addition, the merchant’s bank may charge a fee for each chargeback on top of the refund it issues to the customer to cover administrative expenses of processing a refund. A large number of chargebacks — even on small purchases — can erode a merchant’s bottom line.

Chargeback fraud also imposes another cost to merchants: the time it takes to dispute fraudulent chargebacks and recoup lost income. However, successfully fighting chargeback fraud is difficult because the burden of proof falls almost entirely on the merchant, minimizing the chances of getting a charge reversed.

Who is Behind Fraudulent Activity?

In the early days of digital fraud, it was committed mostly by hackers acting independently. But over the years, fraud has become a more organized effort, with large groups acquiring payment credentials and customer data and targeting physical goods sold online to make real money. Today, fraud has accelerated and grown even more sophisticated due to the rise of ecommerce and mobile payments. Many of the same technologies that companies rely on to innovate and rapidly introduce new products and services (such as cloud computing and machine learning) are also being adopted by fraudsters.

When fraud tactics were more basic, merchants could often overcome them by conducting simple reverse address or zip code searches to determine if the person trying to make a purchase was real. Sometimes, they even called customers directly. But this is a tedious and time-consuming process that doesn’t scale as online order volume increases.

Thankfully, there is a better way.

How can you Prevent Fraudulent Chargebacks in the First Place?

One strategy merchants can adopt to limit chargebacks is to implement a more formal identity review system. This is the process of evaluating data to determine if an individual behind a transaction is who they say they are. Identity review is not synonymous with reverse searches; reverse searching is merely a rudimentary form of identity review.

Some technology platforms can perform these evaluations at scale, quickly and easily providing a risk assessment for each transaction. They look at data points such as name, email, phone number, physical address, IP address, biometrics, device data, etc. to provide merchants with a full picture of the identity behind a purchase. This enables SMBs to investigate fraud, prevent chargebacks before they happen, and feel confident about the orders they are processing. And digital identity verification happens quickly, behind the scenes, without customers having to lift a finger.

There are also collaborative solutions that can help merchants respond to disputes before they become a chargeback, regardless of why or where they are originating from. If a purchase is disputed by a customer, issuers can alert merchants in near-real time for them to respond to it directly. This normally involves stopping an order or service and refunding the purchase, effectively preventing the need for a chargeback altogether.

Going digital for the first time can be an overwhelming transition for small merchants. In addition to the usual focus areas of business operations and supplier relations, merchants also have to figure out how to protect themselves and their customers online. It’s essential to understand how chargebacks work and how to prevent them, especially once order volumes increase to the point where manual approaches to identity review become impractical. While technology is the reason more merchants are being pushed online, it can also be the answer to navigating their digital-first businesses confidently.

Jordan Reynolds leads the eCommerce and Marketplaces verticals at Ekata, which supports the largest global retailers and over 650 merchant customers. Reynolds brings 10+ years of software-as-a-service sales, product and go-to-market experience. As an early member of Ekata’s team, Reynolds helped pioneer cutting-edge identity verification use cases for risk decisioning with Ekata’s top customers and most technically advanced users.

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