What Are the Three Types of Payment Reversals?

Quick Hits:

• Payment reversal is when funds are returned to a cardholder’s bank. 
• There are three payment reversals: authorization reversal, refunds, and chargebacks. 
• Payment reversal is when funds are returned to a customer before a transaction is completed, while refunds are when funds are returned to a customer after a transaction is processed. 

What Does Payment Reversal Mean? 

Payment reversal is when funds from a transaction are returned to a cardholder’s bank. This reversal is also known as credit card reversal or reversal payment. A payment reversal can be initiated by a cardholder, merchant, acquiring bank, issuing bank, or card brand. Additionally, there are various reasons why a reversal is initiated. 

Common Reasons for Payment Reversals: 

• The merchant charged the wrong amount for a product. 
• The customer was accidentally charged twice for a transaction. 
• The product description was misleading or inaccurate. 
• The item was damaged, lost, or stolen. 
• The customer decided they didn’t want the product after making the purchase. 
• The product was out of stock or on backorder.  
• The transaction was fraudulent. 

 Three Types of Payment Reversals 

There are three common types of payment reversals, which will be discussed below. 

1. Authorization Reversal 

Authorization reversal occurs when a payment is quickly reversed before it’s fully processed (e.g., before settlement and funds are withdrawn from the cardholder’s account). This payment reversal is considered the quickest option and involves less hassle for merchants and customers than the other two options.  

A typical example is when a customer or merchant discovers an issue with a payment, which they can contact the cardholder’s bank to stop the transaction from being processed. The issuing bank receives an electronic communication sent through the merchant’s payment processor that requests it to reverse an authorized transaction. Another example occurs when merchants accidentally charge incorrect amounts but can usually swiftly remedy the mistake by reversing the charge without the customers knowing about the error. 

When possible, it’s preferred to issue an authorization reversal because merchants don’t have to pay interchange fees like they do with refunds. Quickly giving customers their money back can improve merchants’ customer satisfaction.  

2. Refunds 

Refunds are the reversal of funds after a transaction has been processed but before a customer files a payment dispute. Typically, customers request this payment reversal when they are dissatisfied with the product or service they received. To start a refund, a customer contacts the business via phone, email, or chat. The acquiring bank reimburses the cardholder, a quick but inconvenient process for merchants. Not only do merchants lose a sale, but they also have to pay interchange fees and possibly return shipping fees for every refund, which adds up. 

Unlike the first option, refunds are processed as new and separate transactions that remove the funds from the merchants’ accounts and send them to the customers’ bank accounts. These transferred funds are equal to the total amount from the original transactions.  

3. Chargebacks 

Chargebacks occur when a customer contacts their bank to file a dispute against a transaction, and the first two options are not possible. Common reasons customers request chargebacks include believing it’s a fraudulent purchase, never receiving the product, or even wanting a free product (friendly fraud). This payment reversal is the most inconvenient type because merchants suffer financial and reputation losses. 

Merchants that receive chargebacks deal with: 

• Sales revenue loss 
• Merchandise loss 
• Interchange fees 
• Return shipping costs – depends on your return policies. 
• Chargeback fees – banks charge this fee to cover administrative costs. 
• Dispute chargebacks 
• Reputational damage – increases the likelihood of additional chargebacks. 
• Sustainability risks – if businesses are flagged for high risks due to frequent chargebacks, banks could cancel businesses’ merchant ID numbers and lose their merchant accounts. Without a merchant account, companies would no longer be able to accept credit card payments.  

Payment Reversal vs. Refund 

Payment reversal is a broad term describing when funds from a transaction are returned to a cardholder’s bank after making a purchase. Refunds are a type of payment reversal. Specifically, payment reversal occurs when funds are returned to a customer before a transaction is completed, while refunds are when funds are returned to a customer after a transaction is processed.  

Can ACH Payments Be Reversed?  

Yes, automated clearing house (ACH) payments can be reversed. Merchants can reverse an ACH payment if they find any issues, as the ACH network makes it easy to transfer money from one entity to another. These payments may be reversed for various reasons, such as duplicate payments, incorrect payments, or payment dates earlier or later than expected. Businesses have a limited timeframe to send payment reversals back to the cardholder’s bank and must follow specific NACHA guidelines.  

Need Help with Chargeback and Fraud Prevention? 

While it’s impossible to avoid chargebacks and card fraud, there are prevention steps that your business can take to increase payment security, such as implementing multifactor authentication and 3-D Secure (3DS). 3DS is a security layer that authenticates customers making card-not-present transactions (card and customer aren’t typically physically present during a purchase). This security protocol can help prevent payment fraud, hinder unauthorized transactions, and reduce chargebacks.  

3-D Secure consists of a three-step process to verify a cardholder’s identity before an online credit or debit card transaction is authorized. Merchants that use 3DS can shift the liability for fraudulent transactions to the issuing banks. Businesses can avoid paying chargeback fees if fraud occurs. TokenEx is a leading 3DS provider dedicated to helping clients build a holistic payment security solution that combines 3DS with network tokens and Kount fraud protection.  

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