Why is a merchant account a line of credit?
- The way merchant accounts are underwritten
- Charge backs
How is a merchant account underwritten?
When a business applies for a merchant account they indicate the volume (dollars processed via credit card) they would like to be approved for. For our example we’ll use $50,000 a month as the volume being applied for.
The bank/processor underwrites the account much the same way banks underwrite any loan application. A credit risk profile is generated based on the volume requested and ultimately determines whether or not the business is approved for the merchant account.
It can be confusing as to why a “credit” risk profile drives a merchant account approval. After all, the business is collecting funds directly from the customer who purchases good and services with their credit card. Credit risk is between the credit card issuer and customer. Why is the business scrutinized for credit liability for the customer’s use of a credit card? In order to answer this question it’s important to understand the concept of a charge back.
What is a charge back?
A charge back occurs when a customer contacts their credit card issuer and disputes a charge on their statement. When this occurs the card issuer refunds the money to the customer and then investigates the claim to determine if the customer deserves to keep their money. All customers have the ability to institute a charge back on any credit card and on any purchase that has occurred over the previous 18 months.
Now, let’s relate this back to application for $50,000 a month in processing volume and why the merchant account is a line of credit. When the business is approved for the merchant account they have the ability to collect $50,000 a month in credit card payments from their customers. Funds collected from customers are typically deposited the next day into the businesses bank account. So at the end of the month the business has collected $50,000.
Now, worst case scenario, all customers charge back the following month. The bank refunds the money to the customers and is on the hook for that money until the investigation completes. At that point if the customers “win” the bank must recoup the funds from the business. The $50,000 becomes a line of credit extended to the business on behalf of the bank.
So in conclusion, a merchant account is a line of credit because of the credit liability associated with possible charge backs.
If you would like help opening a merchant account please contact our friendly and helpful staff at (800)917-8026.