An entrepreneur's guide to the different forms of customer payment

Many small business owners just starting out find that banking enough sales to simply survive can provide more than enough to worry about, so concerns about the different ways customers might pay your business once you do make a sale often get overlooked. But understanding the myriad options for payment-and the advantages and disadvantages of each-can be an integral part of achieving long-term success. And make no mistake; consumers do have a lot of choices these days in how they choose to make purchases.

In fact, according to the Federal Reserve's most recent Survey of Consumer Payment Choices (SCPC), released this past January, American consumers now can choose from among nine different payment instruments for making purchases and paying bills each month. What's more, that same survey found that the average American has already adopted five of those nine options for purchases and uses four out of the five at least once a month. So, if your business's potential customers are clearly picking and choosing how they would like to pay, so too should your business think about how you'd like your customers to pay you.

Helpful Tip: To see the entire Fed SCPC survey online, go here: http://www.bos.frb.org/economic/ppdp/2009/ppdp0910.pdf or for a nice statistical roundup of the survey's data, check out http://www.allpaynews.com/blog/2008-survey

PayPal
Advantages: PayPal is of a class of new payment instruments known as EBADs (electronic bank account deduction) that lets consumers make payments electronically through a third party site. Thanks to its ease of use and ability to shield the payer's bank account information from the payee, PayPal has grown very popular online and almost any small start-up can now use it to start accepting debit or credit card payments, greatly expanding their potential customer base. Through the addition of one of PayPal's merchant account buttons to a company website--which takes about 15 minutes and requires zero setup fees--almost any business with a bank account can begin selling products or services online to almost anyone around the world, even those customers who don't have a PayPal account at the time of purchase. Best of all, PayPal's well-established name recognition and reputation for safeguarding its users' financial data means potential customers will be more comfortable doing business with you as well, freeing your company from having to invest in lots of expensive financial data management and security software.

 


Drawbacks: PayPal does extract a small fee for its services, which ranges roughly between 2.5% to 3.2% of a transaction's total (up to a $100,000 per month in sales) when using its "Standard" tier, prices that are similar to what some credit card-processing companies charge. For those small businesses looking to add both PayPal access and direct credit card-processing functionality to their website, PayPal offers a more robust "Pro" package, but this plan adds a flat $30 monthly charge in addition to the per-transaction fee. Alas, there are a couple of logistical downsides to using PayPal, however. One, potential customers must leave your company's website to complete their online purchase, which sometimes frustrates attempts to go back and add additional items to their shopping cart mid-purchase. Also, it's important to note that after each transaction your customer's money is initially deposited into a merchant PayPal account instead of directly into your small business's bank account. This setup allows PayPal to better protect against fraudulent sellers and buyers, but on occasion, disputes over a payment's legitimacy have left small businesses unable to access funds that came from a completed sale.

 


Helpful Tip: For more on PayPal's merchant services and to view its customer ratings on the Better Business Bureau website, check out http://merchant.paypal.com/ and http://sanjose.bbb.org/Business-Report/PayPal-Inc-210387

Credit Cards
Advantages: Credit cards have become a staple of American consumers and each year their growing acceptance nudges the economy one step further away from the notion of currency as a physical object that one must carry around. Indeed, in an era when even micro-transactions like vending machine purchases can now be done with credit cards, it's clear that the marketplace is trying to appease consumers who want the best of both worlds. Or, as the Fed's recent SCPC survey noted in its conclusions: "Security and ease of use are the two most important characteristics of payment instruments to the U.S. consumer." Perhaps not coincidentally, in that same survey, paying by credit card was ranked highest among consumers for ease of use--even higher than using cash or debit cards--and second highest in terms of transaction security--just behind EBADs. Add to these findings the knowledge that, per capita, Americans now own nearly three different credit cards each and use these cards almost as frequently as they do cash and one can make a very good case for why almost any small business should accept credit card payments. Of course, for small companies whose transactions are exclusively online or via phone, accepting credit cards is something approaching a fiscal necessity. But even if you've just opened up a bricks-and-mortar retail storefront and engage in a lot of small cash transactions, accepting credit cards--perhaps with a suggested $20 transaction minimum--can be beneficial as it could both boost sales while also lending your start-up a much-needed air of legitimacy.

 


Drawbacks: Consumer's love credit cards because it enables them to buy now but pay later. Unfortunately, the same is true for businesses that accept credit cards: they enjoy a sale today, but don't get paid until the credit card processing company, or acquirer, authenticates the transaction, which might not happen until tomorrow or several business days from today. Besides the delay in payment, the other large drawback with credit card payments involves the processing fees charged to handle the transaction. Most banks and some third-party specialized firms offer credit card processing services--usually via one to three-year contracts--and typically charge merchant fees ranging from 2.0% to 5.0% of each transaction cost. (Visa and MasterCard usually charge credit card processors 1.65% of the transaction cost, so merchant fee rates usually can't go below that.) Also, most processors charge an additional flat fee--$0.15 to $0.20--per credit card swipe. But that's not all, the credit card processing machines used in point-of-sale swiping can also cost anywhere from $300 to $800 each, if they aren't already included as a rental item in your service contract, and other fees associated with minimum usage, monthly statements, customer service, and chargebacks can commonly crop up as well. Chargebacks--refunds issued by the credit card issuer due to things like insufficient funds, billing errors, quality disputes, or potential fraud--can be particularly onerous to small business owners. That's because in addition to the zeroed-out sale, credit card processors often assess anywhere from a $10 to $35 chargeback penalty against the merchant, leaving the business losing significant money on the transaction in the end. And finally, if your business takes in customer credit card information, whether via a card swipe, online billing form, or manually over the phone, it has also taken on a pressing responsibility to safeguard that confidential information. There's no sooner way to lose a customer and ruin your business's reputation (or possibly spark a lawsuit) than to be caught negligently handling customer credit card data.

 


Helpful Tip: For an informative illustration of the chain of events that follows a revolving credit card purchase, check out MasterCard's online demonstration here: http://www.mastercard.com/au/merchant/en/how_works/index.html

 


Debit Card
Advantages: Combining the versatility of credit cards without the looming debt, debit cards are rapidly outpacing cash, checks, and even credit cards in terms of popularity among American consumers. In fact, the Fed's recent SCPC survey found that as of 2008, debit cards had far surpassed all the other major payment instruments, even cash in terms of use by consumers each month. For businesses, the advantages of debit cards mirror those of credit cards--it gives your potential customers another way to buy and, when they do, pay a price for their purchase based on available funds, not simply cash on their person at that moment. And, because debit cards are linked to already secured funds--typically to a bank checking account--customers leery of taking on too much credit card debt might be more likely to make a purchase at a business that also accepts debit cards. What's more, since debit card transactions typically take less time at the cash register and are less of a hassle to reconcile later than paper checks, both the customer and the business can benefit.

 


Drawbacks: Debit card processing, as with credit cards, is typically handled by a small business's bank or a third-party servicing firm, which will charge a small fee for every card transaction. And while the behind-the-scenes processing for debit vs. credit cards often looks the same to merchants, the differences in fees can be substantial. That's because the two major debit card issuers, Visa and MasterCard, are also the country's major credit card issuers and they have typically let their customers choose between the two when it comes to verification methods and then charged merchants different interchange rates accordingly. Up until recently, for example, an accepted $100 debit transaction paid for with a Visa Check Card could have cost a small merchant either $0.50 to $1.20 in processing fees, depending upon if the customer keyed in a four-digit PIN code or used his or her signature, respectively, to approve the purchase. This practice had driven many retail businesses that accept debit cards to rent or purchase PIN code keypads in an effort to keep processing fees down. As of April 2010, Visa will end this two-tier fee scale on its check cards, but small businesses should nevertheless remain vigilant about understanding the differing debit card fees their processing service could be charging them.

 


Helpful Tip: For a comparison of the new and old Visa Check Card processing fees, go here: http://blog.vantagecard.com/post/Visas-Debit-Rates-Converge.aspx)