Downgrades are rates changes that occur when merchants do not meet major credit card company requirements for a credit card sales transaction. The transaction is moved to a lower level of interchange, which requires the merchant to pay a higher rate for the downgrade.
The percentage rate that merchants pay per credit card transaction varies greatly, is divided amongst three tiers – qualified, mid-, and non-qualified – and is influenced by numerous factors, such as how the credit card is processed and the type of credit card. When a credit card transaction falls into one of the higher rate categories, the transaction is ultimately considered a downgrade.
The largest factor in determining the discount rate paid on a specific transaction is fraud risk. Merchants that magnetically swipe credit cards generally qualify for a much lower discount rate than merchants that key transactions. When a merchant swipes a credit card, that merchant must also check the signature and identification of the cardholder, something that reduces the risk of fraud. The possibility of chargebacks or disputed transactions is also greatly reduced such swiped credit card transactions, since the customer cardholder can actually see and feel the product when buying, instead of simply relying on a description or online image on a merchant website.
A transaction is keyed when a merchant manually enters a transaction by using the keypad on a sales terminal, POS software, telephone or an online payment gateway resource. Internet, mail order and telephone merchants are examples of merchants that typically key transactions. Since the majority of keyed transactions are processed with a credit card not being present at point of sale, merchants pay a higher discount rate in order to offset the higher risk associated with these types of credit card transactions.