There's a Fee for That: Pros and Cons of Surcharging Credit Cards

When businesses accept credit cards, they have to deal with the constant headache of credit card processing fees. Confusing pricing models, changing regulations, and new technology often mean expenses that eat into your bottom line.

To help defray these costs, more businesses are turning to surcharging – adding payment processing costs to customers' purchases. The surcharge is an extra amount charged for credit card transactions only – not cash, check or debit card purchases. Because surcharging offsets payment processing fees, it's sometimes called "zero-fee" or "free" credit card processing.

While surcharging can benefit a business, there are also some downsides. We'll explore the pros and cons of credit card surcharging, as well as some surcharging alternatives. 

What are the pros of surcharging?

The obvious benefit of surcharging is that the burden of processing expenses no longer falls on you. By passing merchant credit card fees to your customers, you'll reduce business expenses while still allowing customers to choose credit cards as their payment type. For businesses with thin margins, any cost reduction can be a big help.

Did you know? Surcharges must appear on the customer's receipt as a separate line item in addition to being disclosed at the point of sale.

What are the cons of surcharging?

While offsetting credit card fees is a huge advantage for businesses, surcharging has some distinct downsides. 

1. Customers don't like surcharges.

One of the most significant potential drawbacks to surcharging credit cards is customer opinion. Your customers may dislike surcharging so much that they'll opt to patronize other businesses instead of yours. An American Express survey, as reported by CreditCards.com, found that 86% of American Express cardholders said that if a business they patronize often started charging a surcharge, they would stop shopping there, and 78% of people surveyed said they think it's unfair to pay extra because of their payment method. 

Consumers resent it when businesses pass along the cost of doing business, at least in such an obvious way. When a business surcharges, 7 in 10 customers feel it doesn't appreciate them.

Consumers may adapt to your surcharges after some initial complaints, but if there are convenient alternatives, such as a nearby business that doesn't surcharge, you could end up losing customers.

2. Surcharging raises your effective prices.

If most of your customers pay with a credit card, a surcharge effectively increases your prices, putting your business at a competitive disadvantage. For businesses that compete in a price-sensitive market, surcharging can hurt your bottom line, since customers may decide to buy from your competition.

Be honest with yourself about the competitive landscape. Ask yourself these questions:

• Are you alienating your customers?
• Are there other businesses nearby that offer the same goods or services you do?
• How will you compete with those businesses if your prices are higher due to a surcharge?

It's particularly important to consider customers' alternatives if you compete against online retailers that offer free shipping and fast delivery. If your products aren't items that customers must purchase in person, you could be costing yourself business by adding an obstacle to purchasing from you.

What are the steps to start surcharging?

If you decide to surcharge credit cards, contact your credit card processor to enlist its help. It will need to reprogram your credit card machine because surcharges must be listed separately on customer receipts. You'll also need to contact the credit card brands and ensure you're following Visa and Mastercard rules. 

These are the basic requirements for surcharging:

• Surcharges may only be applied to credit cards.
• The surcharge cannot be more than 4% of the transaction total or your actual cost to process cards, whichever is lower.
• You must inform Visa and Mastercard of your intent to surcharge cards at least 30 days before imposing surcharges.
• You must post signage informing customers of surcharges.
• Signage must be located at entrances to stores and points of sale.
• Surcharges must be clearly labeled as a line item on a receipt.

Additional restrictions may apply. Contact your credit card processing company before you begin surcharging to ask about their requirements. 

Did you know? Transparent pricing, low rates and minimal fees are some features of the best credit card processors.

How do you assess the impact of surcharging?

To accurately assess the impact of surcharging on your business, track and analyze all variables once you begin surcharging. Look at sales totals before and after the surcharge to ensure you aren't alienating customers and hurting your bottom line unintentionally.

If you begin surcharging and find a strong negative effect, you can reverse the decision and stop surcharging. Still, it can be hard to change a customer's negative perception. Carefully weigh the pros and cons of surcharging and consider all angles before making your decision.

What are some surcharging alternatives?

Surcharging isn't the only way you can reduce credit card processing fees. Consider the following alternatives.

1. Offer cash discounts.

Instead of charging more to use credit cards, consider offering a cash discount for customers who choose not to pay with plastic. Price your goods or services as if everyone will pay with a credit card, and then you'll have wiggle room to offer a small discount for using cash.

While a cash discount has the same basic effect as a credit card surcharge, customers are generally less averse to a discount than a fee. By offering a cash discount, you're rewarding cash usage instead of punishing credit card usage.

2. Establish minimum purchase amounts.

Requiring a minimum purchase amount can encourage customers to use cash for at least some purchases, or to buy more so they can use a credit card. For businesses whose credit card processor charges a percentage plus a flat fee for each transaction, excluding small purchases from credit card payments can reduce overall processing fees.

The downside of this method is that customers without cash may choose to go somewhere else. According to a Travis Credit Union survey, only 16% of respondents said they always carry cash, while 37% said they sometimes carry cash. Millennials are the least likely to have cash in their wallets, so if they make up a large part of your customer base, you may not want to institute a minimum purchase amount.

3. Charge convenience fees.

Businesses can charge a convenience fee when customers use a nonstandard payment form or pay differently, such as when paying with a credit card by phone or online. Convenience fees are typically between 1.3% and 3.5%. The rules regarding convenience fees vary by card type.

These are Visa's rules for convenience fees: 

• They can't be charged for in-person transactions.
• They can't be charged for general acceptance of Visa cards.
• They must be disclosed before purchase completion.
• They must be a flat or fixed fee, not a percentage.

These are the rules for Mastercard's convenience fees:

• They must be disclosed as a separate fee for using the payment channel.
• They may be used for in-person, phone, online, kiosk or mail payments.
• They can't be higher than other card-based payments.

American Express has these rules for convenience fees: 

• They must be disclosed to the customer.
• They must be the same for all forms of payment in that payment channel (such as phone, online or mail).
• They may be used for in-person, recurring and installment payments.

4. Raise prices.

Although raising prices can result in higher credit card fees, it can also increase your profit margin and avoid the negative backlash of customers who don't feel appreciated. To some extent, customers expect prices to go up over time because of inflation, so raising prices can effectively mitigate credit card fees. However, only use this strategy if your customer base isn't price-sensitive, if you have an exclusive product, or if competition is scarce.

Did you know? You're not allowed to surcharge when a customer uses a debit card, even when they use it without the PIN as a credit card.

5. Use a credit card processor with interchange pricing.

Not all credit card processors charge the same way. While all credit card processors charge the interchange rate (the amount set by the card brands Visa, Mastercard, American Express and Discover), some processors make their money with a flat monthly fee instead of adding a percentage on top of interchange. 

If your credit card volume is high, using a credit card processor with interchange pricing can be a good way to minimize costs. 

Tip: Read our review of Payment Depot and our Stax review to learn more about two credit card processors that use the interchange pricing method.

Where are surcharges prohibited?

Ten states prohibit credit card surcharges: California, Colorado, Connecticut, Florida, Kansas, Maine, Massachusetts, New York, Oklahoma and Texas. Puerto Rico prohibits them as well. If you do business in one of those states or territories, you may not surcharge credit cards in that location, although the laws in California and Florida have been challenged and currently cannot be enforced.

Ellen Cunningham contributed to the writing and research in this article.