July 26, 2016, 3:49 PM

How to turn friendly fraud into customer loyalty

Understanding the various kinds of fraud allows a merchant to strengthen ties with honest shoppers who make a mistake.

Lead Photo

True fraud, friendly fraud, and chargeback fraud will cost e-commerce merchants $6.7 billion this year, according to data from LexisNexis and eMarketer. The culprit behind the majority of these massive losses are not identity thieves pillaging retailers with hoards of stolen credit card information. Instead, 71 percent of losses to fraud are a result of friendly fraud and chargeback fraud.

Chargebacks are a form of consumer protection from fraudulent activity. Consumers savvy enough to sign for debit card transactions or choose to use credit cards, almost always enjoy zero-fraud liability protection from the card networks. The cardholder is completely protected whether the fraud is committed by a merchant or an individual who unlawfully obtains and uses their card.

Most chargebacks are submitted by the issuing bank to the network as true fraud. As such, merchants often choose not to respond. Instead, it’s assumed that fraud filters need to be adjusted to prevent more chargebacks. However, this couldn’t be further from the truth. Merchants that always respond to chargebacks with comprehensive transactional data are able to analyze reason codes against win/loss data to decipher the actual rates of true fraud, friendly fraud, and chargeback fraud.

Chargeback Responses Reveal Fraud Variations

Responding to a chargeback ultimately results in one of two outcomes: a merchant win or a merchant loss. A merchant win would indicate the chargeback was not valid, while a merchant loss represents a legitimate chargeback based on either true fraud or product/service issues. A chargeback proven to be invalid suggests that the customer either committed friendly fraud or chargeback fraud.

True Fraud

True fraud, or unauthorized use, is the result of compromised payment card information. Fraudsters obtain payment card information from things like data breaches, card skimming, database hacking, identity theft, and whatever else they can scheme up to get their hands on payment card information.

Whether the fraudulent purchase is identified by the issuer or disputed by the cardholder, the card account is immediately closed and the cardholder is issued a new card with a new account number. But it’s not just existing payment card information at risk. Account-creation fraud, where criminals use stolen information to gain control of consumer accounts to open new accounts under their own names, doubled last year alone.

Merchants can choose from a variety of front-end fraud prevention solutions. From basics like AVS matching, CVV, and geolocation, to 3D secure tools, device fingerprinting, and real-time transaction tracking tools, there are plenty of technologies to utilize to prevent true fraud.

While it’s imperative to have these in place as a first line of defense from organized fraud rings and large-scale losses; once in place, front-end fraud losses become 29 percent of fraud losses. The remaining 71 percent must be addressed through the chargeback response process.

Friendly Fraud

Friendly fraud represents cardholders who unintentionally misuse their chargeback rights. The hallmark of friendly fraud is the absence of malicious intent. The cardholder did not recognize a transaction on his statement, so he filed a chargeback. With friendly fraud, there is no scheming criminal behind the transaction. The purchase could have been made by the cardholder himself, but innocently forgotten. Similarly, a family member could have authorized the transaction.

Merchants need to remember that consumers who commit friendly fraud create an opportunity to win a customer for life. Opening a line of communication with the customer can reveal opportunities to improve product descriptions, merchant descriptors, customer service, and overall communication in the future. This customer should not be blacklisted. There’s no need to jeopardize the customer acquisition costs and other resources that contributed to this legitimate and successful transaction.

Chargeback Fraud

Chargeback fraud is the intentional misuse of chargeback rights by a cardholder, with the goal of retaining the product or service and the amount initially paid. The transaction had no reason to trigger any front-end fraud prevention solutions, as it was not fraudulent.

For most cardholders, disputing a transaction is as simple as logging into an online banking portal and clicking a few buttons. From the merchant perspective, responding to the chargeback is not simple. Merchants need to gather comprehensive and correct compelling evidence to present to the card network.

When a customer commits, or attempts to commit, chargeback fraud, it’s up to the merchant how to proceed with the relationship. It is reasonable to blacklist or ban a customer who tried to commit fraud against your business.

How to Differentiate Between Friendly Fraud and Chargeback Fraud

It’s all in the win/loss data. If you win a chargeback, it means that the customer committed either friendly fraud or chargeback fraud. In order to delineate between the two, it’s necessary to reach out to the customer who initiated the dispute. Let them know you won the chargeback, but are committed to ensuring they and all future customers enjoy the best purchase process possible. As a result, you’re reaching out to understand the situation and see how you can improve things moving forward.

The content of the customer’s response allows you to determine whether or not malicious intent was present. If the customer is still adamant that true fraud occurred, you can be fairly certain that chargeback fraud is afoot.

Recovering Revenue

The most critical difference between true fraud, friendly fraud, and chargeback fraud is this: Revenue lost to true fraud is sunk, revenue lost to friendly and chargeback fraud is recoverable. That’s a big deal considering the bulk of fraud losses, 71 percent, are attributable to friendly fraud and chargeback fraud. That means of the $6.7 billion ecommerce merchants will lose to fraud in 2016 $4.8 billion could and should be recovered.

Will your business take back your share? If so, set yourself up to collect metadata (transactional data from payment service providers, shopping cart platforms, customer service portals, etc.) in a central location that can be mined when chargebacks happen. That way, you can always respond quickly and comprehensively. The resulting win/loss data and the associated chargeback reason code will help you understand your rate of true fraud vs. friendly/chargeback fraud. That will allow you to loosen fraud filters and help reduce false positives.

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