Friendly fire: is the UK’s chargeback problem getting out of hand?

Online shopping has never been more convenient, but retailers are being caught out by a rise in chargeback fraud perpetrated by their own customers


The last few years have been promising for card-not-present retailers. According to recent reports from Visa, transaction volume surged by an impressive 51% from 2019 to 2021, likely fuelled by successive lockdowns and increased demand for convenience.

Unfortunately, disputes have also begun to climb, growing 29% over the same period, from just under 6 million disputes filed in 2019 to nearly 8 million in 2021.

As the cost-of-living crisis continues, customers are eyeing every opportunity to ease the squeeze on their finances. The stage is set for an upsurge in policy abuse and friendly fraud.

Over the coming months, retailers will be hard-pushed to avoid getting caught up in a stubborn cycle of chargebacks. The question is: what can be done?

Friendly fraud, or first-party fraud, occurs when legitimate customers dispute legitimate online purchases with their issuing banks. They may do this for any number of reasons, but the consequences for retailers are the same. If the bank sides with the customer, the dispute becomes a chargeback, with inescapable cost implications for the retailer.

The ‘friendly’ moniker comes from the notion that the perpetrator could be somebody who’s been a good customer all their online purchasing life. They’ve likely never committed fraud before. But as Simon Vallis explains, this behaviour is far from chummy.

Vallis is the head of international partnerships at Kount, an Equifax Company and a provider of fraud and dispute management solutions. “‘Friendly fraud’ is a term that the industry is trying to shed,” he says. “It’s often carried out by people who don’t even classify it as fraud.”

He continues: “Someone may come home to find a parcel containing a £200 pair of trainers left on their doorstep. This opens up a window of opportunity for the consumer to make a claim stating their goods weren’t received. It’s a classic example. They won’t see it as committing fraud, but rather teaching the retailer or the delivery company a lesson.” It’s a problem that Vallis says is costing retailers an enormous amount of money, and it’s not slowing down.

Unlike a refund, where the goods are returned and can be resold, in this scenario, the retailer will refund the item without ever getting it back. Beyond that material loss, there are the added operational costs of conducting a manual review of the incident, looking into the order in more detail, and contacting the courier company. Even if they can gather the evidence to prove the transaction was not fraudulent, the chargeback fee is non-refundable to the retailer.

“We’ve calculated that for an online business selling and shipping physical goods, with an order value around the £30 mark and a margin of between 50% and 60% on the item, once a chargeback is raised, they would have to resell that same product up to eight times to recoup the cost of that chargeback,” says Vallis.

The impact doesn’t end there. The company needs to be aware of its chargeback rate, which is calculated by dividing its number of chargebacks by its sales volume. If a retailer’s chargeback rate exceeds 1%, they are put on a Visa or Mastercard chargeback monitoring programme, which will result in fines and increased fees. Unless they can reduce the rate to less than 1% within a given time period, the merchant’s ability to process payment card transactions could be revoked altogether.

“The problem is that 40% of consumers say if they’re declined at the point of payment, they will go to a competitor. So the retailer is also at risk of losing the value of that checkout for the lifetime value of a customer who may never come back to them,” says Vallis.

Within the new regulatory framework of PSD2 for the UK and EEA, if retailers want to avoid friction and possible basket abandonment, they will need to leverage exemption, he explains. But many retailers need support to apply exemptions while meeting the mandatory requirements set out by regulators. Kount has built a set of tools to aid retailers struggling to meet these demands while preventing disputes from progressing to chargebacks unnecessarily. This support system allows retailers to implement a complete strategy to protect themselves from pre- through to post-authorisation. 

Previously, all the power in these situations sat with the customer, but now it’s tipping in favour of the merchant

And more help is coming. Given the severity of the chargeback challenge, Visa and Mastercard have updated their policies to help retailers fight back against friendly fraud and reduce the associated costs.

Mastercard’s Collaboration allows retailers to rectify disputes before they become formal chargebacks, as participating acquirers can alert retailers of a pending cardholder dispute in real time. The retailer can simply refund the cardholder and stop the fulfilment of any purchases not already provided.

Meanwhile, Visa’s Compelling Evidence 3.0 initiative offers a means of preventing disputes progressing to a formal chargeback. If retailers can prove that the same data elements involved in a current dispute - the device ID or fingerprint and IP address - are also associated with two previously undisputed transactions, the fraud claim will be denied, and the chargeback prevented. 

“However unless the retailer is using a tool like Kount, which scrapes that information from transactions and sends the data to issuers in real time, the retailer may not be able to provide the evidence they need,” Vallis concludes. “At the heart of an effective solution is the capability to identify and track a digital identity. Retailers should be scaling up their fraud prevention techniques to protect them from the risks of this type of fraud.”

Before these developments, all the power in these situations sat with the consumer, but now it’s tipping in favour of the retailer, according to Vallis. Nevertheless, he argues that retailers also need a clear-cut strategy for collecting the evidence they need to successfully prevent disputes from evolving into chargebacks.

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