Chargebacks vs. Refunds: What Every Merchant Needs to Know

Product returns are a fact of life for merchants, but not all returns are created equal. When a customer requests a refund directly from your business, you have the opportunity to make things right and perhaps even salvage the relationship. But when a customer disputes a charge with their bank, resulting in a chargeback, it can cost you more than just the lost sale.

Consider this: Chargebacks cost merchants a staggering $19 billion in 2017 alone. Add in the 14.5% of revenue retailers lost to product returns in 2023, and it's clear that payment disputes can quickly eat into your bottom line.

But here's the kicker: 8 in 10 shoppers admit to committing "friendly fraud"—requesting a chargeback instead of a refund, even when the merchant isn't at fault. In other words, you could be doing everything right and still get hit with costly chargebacks.

So what's a merchant to do? The first step is understanding the key differences between chargebacks and refunds. In this article, we'll arm you with the knowledge and tools you need to protect your business from the high costs of payment disputes. Let's dive in.

What Are Chargebacks and Refunds?

While chargebacks and refunds both involve returning funds to a customer, they work in very different ways. Understanding these differences is crucial for merchants looking to manage payment disputes effectively.

Chargebacks: A Forced Payment Reversal

A chargeback, or "friendly fraud," is a transaction reversal initiated by the customer's bank. Here's how the chargeback process typically unfolds:

1. The customer contacts their bank to dispute a charge on their statement.
2. The bank immediately removes the funds from the merchant's account and returns them to the customer.
3. The merchant is notified of the chargeback and given a chance to contest it by providing evidence that the charge was legitimate.
4. If the merchant doesn't contest the chargeback or their evidence is deemed insufficient, the funds are permanently returned to the customer.

Throughout the chargeback process, the merchant has little control or ability to communicate directly with the customer. It's the bank that makes the final call.

Refunds: A Merchant-Initiated Return

In contrast, a refund is a voluntary return of funds initiated by the merchant at the customer's request. A typical refund process looks like this:

1. The customer contacts the merchant to request a refund.
2. The merchant assesses the request based on their refund policy.
3. If the request is approved, the merchant initiates the refund and returns the specified amount to the customer's original form of payment.

With refunds, the merchant has full control over the process and can work with the customer directly to resolve any issues before resorting to a return.

Key Differences between Chargebacks and Refunds

While both chargebacks and refunds result in funds being returned to the customer, there are several key differences:

• Initiation: The chargeback process is initiated by the customer's bank, while refunds are initiated by the merchant.
• Merchant control: With chargebacks, the merchant has little control over the process, which involves the credit card issuer. With refunds, the merchant can work directly with the customer.
• Timeframe: Chargebacks can take weeks or even months to resolve, while refunds are typically processed much more quickly.
• Cost: Chargebacks come with additional fees and potential penalties for the merchant, making them more costly than refunds.

As we'll explore in the next section, these differences have significant implications for merchants.

Why Chargebacks Are Worse than Refunds

While no merchant likes to see funds leaving their account, there's a world of difference between processing a refund and being hit with a credit card transaction chargeback. Here's why chargeback disputes are far more damaging to your business:

Lost Merchandise

When you process a refund, you typically have the opportunity to recoup some of the loss by reselling the returned product. But with chargebacks, the customer often gets to keep the merchandise in addition to receiving their money back. You're out both the product cost and the sale amount.

Higher Fees

Chargebacks don't just cost you the original transaction amount. Payment processors and banks often tack on chargeback fees ranging from $20 to $100 per instance to go along with standard processing fees. And if your chargeback ratio (the percentage of your transactions that result in chargebacks) climbs above certain thresholds, you could face additional fines and penalties.

Damage to Your Reputation

Speaking of chargeback ratios, breaching the acceptable thresholds doesn't just result in fees and dissatisfied customers. It can also land you in the dreaded chargeback monitoring programs run by major card networks. These programs come with their own hefty fees and can even lead to you losing your merchant account entirely if your chargeback-to-transaction ratio gets too high.

Time and Resources

When a customer requests a refund, the process is usually quite straightforward. But contesting a chargeback dispute involves gathering extensive documentation as evidence, crafting a compelling rebuttal, and following the specific (and often complex) representment procedures outlined by the card issuers. The dispute process is a significant drain on your team's time and resources.

Consider this: Chargebacks911 estimates that the true cost of each fraudulent chargeback is anywhere from $20 to $100 over the original purchase amount in dispute. For a $50 chargeback, that means a merchant could be losing up to $150.

The stakes are simply too high to brush off chargebacks as a cost of doing business. In the next section, we'll explore some of the most common reasons customers file chargebacks over requesting refunds—and what you can do about it.

Common Reasons for Chargebacks Over Refunds

So why do customers file chargebacks instead of simply requesting a refund? There are a few common scenarios:

Unclear Billing Descriptors

If your billing descriptor (the name that appears on the customer's credit card statement) doesn't clearly match your business name, customers may not recognize the charge. Rather than investigating further, they may assume it's fraudulent and file a chargeback.

Difficulty Contacting the Merchant

If customers can't easily find your contact information or get in touch with your customer service team, they may get frustrated and turn to their bank for recourse instead.

Fraudulent Transactions

In cases of true fraud, where a bad actor makes a purchase with stolen payment information, the real cardholder will almost always file a chargeback when they discover the unauthorized transaction.

Perceived Convenience

Some customers simply find it easier to let their bank handle a credit card transaction dispute rather than working with the merchant directly. This is especially common with digital goods and services, where the customer doesn't need to return a physical product.

Double Refund Chargebacks

To make matters worse, merchants sometimes find themselves hit with "double refund" chargebacks. This occurs when a customer requests a refund from the merchant and then also files a chargeback with their bank.

There are a few potential causes:

• The customer doesn't recognize the refund on their statement due to the time lag in processing, so they assume the merchant never issued it.
• The customer is confused about the process and thinks they need to request the chargeback to secure their refund request.
• The customer is deliberately trying to game the system and get their money back twice.

Regardless of the reason, getting hit with a double refund chargeback means losing the sale amount twice over plus getting slapped with chargeback fees and other potential penalties. It's a costly nightmare for any business.

Strategies to Reduce Chargebacks and Refunds

While you can't eliminate friendly fraud or refunds entirely, you can take proactive steps to minimize your risk of chargebacks and customer disputes:

Clear Communication

• Provide detailed product descriptions and high-quality images to ensure customers know exactly what they're purchasing.
• Use clear, recognizable billing descriptors that match your business name.
• Make your contact information easy to find on your website and include it in all customer communications.

Quality Control

• Carefully vet your suppliers to ensure you're selling high-quality products.
• Implement strict quality control measures to catch any defective merchandise before it ships.
• Partner with reliable shipping providers to minimize delays and damage in transit.

Accessible Customer Service

• Offer multiple channels for customer support, including phone, email, and live chat.
• Respond promptly to all customer inquiries and complaints.
• Empower your service reps to issue refunds and resolve issues without escalating to a chargeback.

Fair and Flexible Refund Policies

• Clearly state your refund policy on your website and in your terms of service.
• Consider offering extended return windows and/or free return shipping to encourage customers to request refunds over chargebacks.
• Be willing to make exceptions to your policy in extenuating circumstances.

Fraud Prevention

• Require CVV codes and use AVS (Address Verification System) on all transactions.
• Implement fraud detection tools that can flag suspicious orders for manual review.
• Require signature on delivery for high-value orders to prove the customer received their item.

How to Handle Chargebacks and Refunds

Despite your best chargeback management strategies, you'll likely still face the occasional chargeback or refund request. Here's how to handle them effectively:

Refunds

1. Assess the request against your refund policy.
2. If the request is valid, process the refund promptly to the original form of payment.
3. If you need to deny the request, clearly explain your reasoning to the customer and try to find an alternative solution, like offering store credit or a partial refund.

Chargebacks

1. Carefully review the chargeback notification to determine if you have grounds to fight it.
2. Gather compelling evidence, such as delivery confirmation, communications with the customer, and proof that the product was as described.
3. Submit your rebuttal and evidence through the formal chargeback representment process with the card issuer.
4. If you win the dispute, the funds will be returned to you. If you lose, you can choose to accept the chargeback or pursue arbitration (though this is rarely worth the additional chargeback fees).

Start Building Your Chargeback and Refund Action Plan

Friendly fraud chargebacks and refunds may be an unavoidable part of doing business, but that doesn't mean you're powerless to protect your bottom line. By understanding the key differences between these two types of payment disputes and implementing smart chargeback management strategies, you can decrease your likelihood of chargebacks and keep more of your hard-earned revenue where it belongs—in your bank account.

Remember, every chargeback and refund you prevent is money saved—and in the competitive world of e-commerce, every dollar counts. Don't let payment disputes derail your success. Contact PayKings to take control of your chargeback management strategy today.