Interchange Fee: Who Pays for a Card Payment, and How

A card payment is paid for out of the business's side of the sale. The payer hands over the price on the receipt and nothing more; the business is credited with less. The whole deduction is the merchant discount rate. Interchange is the slice of it that travels towards the bank that issued the payer's card. Every level and every ceiling on both belongs to the Reserve Bank of India.

A reader arriving at this subject usually wants a number. There is no number to be had, and the absence leaves a reader better off rather than worse. Follow one sale from end to end, watch what happens to the money, and the whole subject cracks open.

A tea stall outside an office gate rings up a sale. The board says Rs 40/-. The customer taps a card, the machine chirps, everybody is satisfied, and the stall gets on with the next customer. By evening the stall looks at the account the machine pays into and finds that the sale of Rs 40/- arrived as something a little smaller. Nobody took anything extra off the customer. The customer paid Rs 40/-, exactly as the board promised. So the difference between what the customer handed over and what the stall received did not come out of the customer's side at all; it came out of the stall's side, and that is the whole answer to the question in the title.

Who actually pays for a card payment?

Everybody has an intuition about this and most people's intuition is that somebody, somewhere, added something on. A payment feels as though it must cost the person making it, the way a courier charge sits on top of a parcel. Follow the sale and that intuition dissolves. Two amounts exist and they are not the same size. The first is what the payer parted with: the price of the sale and not a paisa more. The second is what reached the business, a smaller amount.

Nothing else happened. No third party knocked on the payer's door afterwards. The payer's statement will show the price of the sale, the receipt will show the price of the sale, and the two will agree. The gap opened up on the other side of the transaction, quietly, between the moment the payment was accepted and the moment the money landed in the business's account.

The gap has a name, each of its parts travels in one direction, and each part ends with a named party. Rates change and the shape of the gap does not, so a reader who can trace the pieces of the gap understands card payment charges better than most people who quote rates at each other.

What is the merchant discount rate, and who does it come out of?

The whole of that gap has a name. The merchant discount rate is everything taken out of the business's side of one card sale, expressed as a rate on the value of that sale, so a business receives the value of the sale less that amount. The merchant discount rate is not one party's charge. A business can only be billed on a single figure, so the total, the sum of what several parties take between them, is quoted as one.

Half the confusion on this subject starts with the name itself, so the words are worth pulling apart. Nothing is discounted for anybody. No shopper gets a reduction, no business gets a concession, and there is no sale on. The word discount is doing something older and narrower: the business is credited at a discount to the price it charged, in the way that a bill of exchange has always been discounted, meaning bought for less than its face. The name describes what the business receives rather than an offer to anybody, and read that way it stops misleading.

Think of a wholesale vegetable trader who takes produce on behalf of a grower and settles up at the end of the week. The grower's crop sold for a certain sum at the market; what reaches the grower is that sum less what the arrangement took to run itself. Nobody in that chain would say the grower got a discount, and yet that is exactly the grammar the card version uses. The idea is ordinary. Only the label is strange.

Which way does interchange travel, and to whom?

Here is the fact that more readers have backwards than any other on this subject. Interchange is the portion of that deducted amount which travels to the payer's bank, meaning the bank that issued the payer's card. The money travels away from the sale and towards the payer's side of it.

Each of the three negatives that follow is a wrong answer somebody has already given confidently, so say all three out loud. Interchange does not travel to the business. Nor does it travel to the business's bank. And the payer is not charged for it. The surprise in that last one is real: the money moves towards the payer's bank while the payer's own statement shows nothing but the price of the sale.

Draw the arrow once and it will stay drawn: interchange runs from the business's side of the sale towards the bank sitting on the payer's side. Six months on, the arrow is the part still worth having. Directions do not get revised, and everything on this subject that does get revised sits on top of that arrow rather than replacing it.

Why does any money travel towards the payer's bank at all?

Learn the direction and the next question arrives within seconds, and it is a good question. Why should the side that made the sale send anything towards the side that made the purchase? Surely the business did the work.

Look at what the payer's bank actually did in the seconds around that tap. The payer's bank made the decision. Somebody it knows, holding a card it put into their hands, wanted to spend, and it said the instruction could proceed. The decision it made is called the authorisationThe moment a bank says an instruction may proceed. What has to reach it before it can say so, and how quickly it must answer, are worked through separately on this platform., and it is a judgement the business had no way of making and no right to make. Then it funded the payment. The business gets paid whether or not the payer has yet handed over a single rupee of it. And then it carries what follows if the payer never pays at all.

Three things, then, all of them sitting on one side: the decision, the funding ahead of collection, and the exposure afterwards. The side carrying those three is called the issuerThe bank that put a particular card into a particular person's hands and keeps the account behind it. How a card is issued, and what a cardholder is then charged by that bank, are separate subjects worked elsewhere. in most conversations on this subject.

Money travels towards the party carrying the decision and the exposure, and that shape recurs in every arrangement where one side acts on another side's behalf. None of that says the amount is right, or fair, or well set. The claim is only that a reason for the direction exists, a different and much smaller claim. The level is a separate question, and the Reserve Bank of India settles it.

Where does the deducted amount end up?

One amount leaves the business's side and it does not go to one place. The amount goes to three places, and those three names are the most useful map of the subject.

The first is the bank that issued the payer's card, and that portion is the interchange just followed. The second is the party that signed the business up in the first place and presents its instructions to be paid, usually called the acquirerThe party a business contracts with so that it can take card payments at all, and which puts that business's instructions into the chain to be paid. Its own role is worked in its own right elsewhere.. The third is the card networkThe arrangement whose shared rules and messages a card instruction travels on, so that two banks that never negotiated with each other can still complete a payment. Covered in its own right elsewhere on this platform., whose rules the instruction ran on and whose messages carried it.

One amount comes out of one side and lands in three places. The Reserve Bank of India fixes how it divides between them, and the division moves. An honest description of the subject stops exactly there. The description is also, and this is the part worth sitting with, considerably more than most people who quote a rate actually know.

Why can no rate be printed at all?

Every level, every floor and every ceiling on any of these amounts belongs to the Reserve Bank of India to fix. Not one of them is a single number sitting still, waiting to be looked up. The levels differ by the kind of instruction, by the kind of business, and by how the instruction was given, and every one of them is revised.

Two situations sit side by side. In the first, a reference prints a level, the level is revised the following month, and a reader who memorised it walks into a conversation with a figure that is not merely old but wrong. In the second, a reference prints no level and prints instead the row it would have gone in, the label above the row and the address the value lives at, and the reader walks into the same conversation knowing exactly what to ask and where the answer is kept.

A reference that printed a level does not go quietly stale on the day that level moves; it goes flatly wrong, and a reader walking about with a wrong figure is in a poorer state than one walking about with no figure at all. The address is the more useful of the two things a reference can hand over.

The same logic runs through anything with a moving requirement behind it. Nobody sensible memorises a train timetable and then argues with the station. A sensible traveller learns the station, the board and how to read it, and that knowledge outlasts every timetable change. The board is drawn below with nothing written in it.

What can a business work out without knowing a single rate?

Rather more than might be expected, and this is the practical heart of the subject. Four things, and not one of them needs a number.

The first is which side it comes out of, now settled: the business's. The second is where it goes, also settled: three destinations, named. The third is what shape it is, meaning whether what a business pays is struck as a rate on the value of the sale, as a fixed amount for each instruction, or as both of those together. And the fourth is what the quoted number is actually quoted on, meaning whether the figure a business has been handed covers everything deducted or only some part of it. A full quote covers everything deducted; the other kind is a blended quoteOne figure standing in for several separate charges rolled together, which is why it cannot be set against another figure of unknown coverage. What is inside it has to be asked for; the number itself will not say..

The third and the fourth of those are questions to ask rather than facts to look up, and between them they decide more about what a business ends up paying than the level ever does. A level gives how much comes off one sale. A shape gives how what a business pays behaves across every sale it will make next year, a much bigger thing to know and a much cheaper thing to find out.

Why does the shape of a charge outweigh its size when payments are small?

One number does belong here. Setu Payments Limited is an invented payment system, and what it puts out for one stated year runs to two figures and stops: 1,200 crore instructions between them carrying Rs 3,60,000 crore of value. One division follows. Rs 3,60,000 crore across 1,200 crore instructions works out at Rs 300.00/- apiece, the average instruction on that system.

Be careful about what that figure is. The average is a quotientA number produced by dividing one quantity by another. It describes the pair it came from and does not describe any single member of the group, which is why nothing about any individual case follows from it., a value divided by a count. The quotient says something about the system taken whole and nothing whatever about any one payment made on it. A count and a value between them contain no middle, no spread, no largest and no smallest, so nobody can say from the pair that a typical instruction is Rs 300.00/-. Exactly this figure would come from a system carrying nothing but small instructions, and it would come again from one where a few enormous instructions sit among a great many minute ones, and those two systems are nothing like each other.

The average does license one thing: a comparison of shapes. Anything struck once for each instruction lands on that Rs 300.00/- of value however small or large the sale actually was. Anything struck as a rate on the value, which is what ad valoremA Latin phrase meaning according to the value, used of any charge or tax set as a proportion of what something is worth rather than as a set amount. It is general vocabulary and is not particular to payments. means, is the same proportion of every sale it touches, large or small.

Now put an anchor at the other end for contrast. Rs 3,00,000/- is one thousand times Rs 300.00/-, and the same Rs 3,60,000 crore of value spread at that average would need 1.2 crore instructions instead of 1,200 crore. A charge struck once for each instruction is a serious matter across the first system and very nearly invisible across the second, and it never changed at all. Two charges of the same size on an average sale behave completely differently across a spread of sales, and a business that knows only the size of what it pays cannot tell which of the two it has agreed to.

One line of arithmetic makes this drawable without a single level, and it repays following slowly. Take a charge struck once for each instruction, whatever its amount. As a share of a sale, it is that amount divided by the sale. Measured against the same charge's share of an average sale of Rs 300.00/-, that share is the same amount divided by Rs 300.00/-. The amount appears in both halves of that ratio and cancels out completely, leaving Rs 300.00/- divided by the sale. No level whatsoever is needed to compute it. On a sale of Rs 30/- the answer is 10.00, meaning ten times the weight it carries on an average sale. On Rs 3,000/- it is 0.10. On Rs 3,00,000/- it is 0.001. A proportion of the value is a proportion of the value, so the value-struck shape, measured the same way against itself, is 1.00 at every sale size there is.

Read the columns rather than the rows, because the columns are the teaching. One column runs from 10.00 down to 0.001, a ten thousandfold fall, without the charge behind it changing by one paisa. The other column does not move. Neither column is a level and neither can be turned into one: each figure says how heavy a shape is against itself on an average sale of Rs 300.00/-. The two columns are never set against each other, and which of the two shapes is the larger does not follow from either of them.

Who ultimately bears what a business pays?

Accounts of this subject usually overreach at exactly this point. A business that pays something out of every sale has to cover it somewhere, and the ordinary possibilities are short. The amount might sit in the price, and then the payer meets it without ever seeing a line for it. Or it might sit in the margin, and then the business meets it. Or it might be some mixture of the two, differing from one business to the next and quite possibly from one month to the next inside the same business.

The idea that a cost borne by a business reaches the price a payer pays has a name, pass-throughThe general notion that a cost falling on a seller works its way into what buyers are charged. Whether it does, and by how much, is an empirical question about actual sellers rather than something that follows from the idea itself., and the name is as far as the idea can be taken here. Pass-through is not a law and not an assumption that comes free. Whether it happens, and to what extent, is a question about a great many real businesses in real markets.

Where it lands is not decided by the mechanics of the deduction: a payer may meet it in the price, a business may absorb it in the margin, and the direction the money travels picks neither. A confident answer would be a claim about an enormous number of businesses at once. A reader who leaves knowing that the question is open is better equipped than one who leaves with a firm answer somebody made up.

How does a small business actually use any of this?

Who sets these charges and every ceiling on them?

Four conditions have been circled here, and the Reserve Bank of India fixes every one. Every one gets revised. The sheet below carries a label on each row and nothing at all in the value column.

Knowing that a ceiling exists, whose ceiling it is and at which address it gets published survives every revision; knowing what its value stood at last year survives not one of them. The difference is between a sheet that is useful while empty and a table that quietly rots. The middle column is written by carrying the sheet to the address standing in its own rows; one sitting will do it, and what is written there will be current in a way a printed reference can never be.