Why Restaurants Should Avoid Tiered Credit Card Processing Rates
An explanation of how tiered credit card processing rates work and why tiered pricing isn't the best option for restaurants.
In the past, we’ve covered how credit card processing works and the differences between Interchange Plus and Flat Rate credit card processing. In this article, we’ll take a look at tiered pricing, a third type of credit card processing with a well-deserved reputation as one of the more expensive pricing models for restaurants and other businesses.
What is Tiered Pricing for Credit Card Processing?
The way tiered pricing works is by taking all debit and credit card transactions and assessing them depending on what “type” of transaction they are. Transactions are bucketed into one of three categories or tiers:
Qualified: Generally applies to debit card, non-reward-based credit card, and swiped or chip-inserted transactions.
Mid-Qualified: Generally applies to membership rewards card, loyalty card, and manually-entered transactions.
Non-Qualified: Generally applies to corporate card, high-reward credit card, and card-not-present transactions.
After assessing which category the transaction falls into, the payment processor then quotes a different two-part rate — for example, 2.0% + $0.10 per transaction — for each tier, resulting in three possible rates that a transaction can fall under. The qualified tier is often the least expensive, and the non-qualified tier is often the most expensive. Mid-qualified falls somewhere in the middle. According to Value Penguin, the rates can range from as low as 1.4% to 4%+.
Why Does Tiered Pricing Have a Bad Reputation?
While one could make a fair argument for any of the other credit card processing models, the debate around tiered pricing is pretty one-sided — light on pros and heavy on cons. The one benefit of tiered pricing is that its rates and fees are structured in an easy-to-understand tiered system, but this system has its flaws and can be misleading.
Below, we break down the cons of tiered pricing and how it can be detrimental to restaurants.
When processors quote tiered rates to restaurants and businesses, they often only quote the lowest rate, and sometimes even try to pass the pricing model off as a Flat Rate model, with one simple flat fee, to lure business owners in.
As a result, many business owners enter into a tiered pricing processing agreement believing that all card transactions are going to only have one (and conveniently, the lowest) rate.
But what processors aren’t telling you is that this low rate will only apply to a small number of transactions that’ll take place in your restaurant. It can come as quite the shock that other, higher rates are involved in the pricing model, with only a small portion of cards being bucketed into the cheapest qualified rate.
Disapproval from Card Brands
The entire tiered pricing model is a construct of credit card processors, without approval from many major credit card brands. In fact, Visa and Mastercard don’t recognize the tiered credit card processing model because it’s so opaque and disadvantageous to businesses.
Non-Disclosure of Tier Details
Tiered processors purposefully do not disclose which credit and debit cards fall into each of the three pricing tiers. This means that a debit card, which should theoretically be the least expensive class of card, can be arbitrarily placed within the non-qualified tier, the most expensive tier, which turns a cheap transaction processing fee into a highly expensive one.
Processors design the tiers to ensure that most transactions will fall into the mid- and non-qualified tiers, resulting in high effective rates for business owners and inflated revenues for the processor.
With a tiered pricing processing model, how much a merchant pays to processor each month depends exclusively on card mix and how the processor defines each tier. Because the card mix can significantly fluctuate month to month, businesses on tiered pricing models often can’t accurately forecast processing costs.
If tiered processing didn’t seem confusing enough, the processor can also change their tier criteria at any time, without notifying business owners. Plus, processing rates and the fees associated with each tier change frequently. It’s not uncommon for businesses to receive a message like this from their processor like this one, with little-to-no advance notice:
Changes like these aren’t driven by any fluctuations in the actual interchange rates; they’re completely and autonomously applied by the processor alone.
Rates Fluctuate from Processor to Processor
Because the individual processor sets the rates and the criteria that determines which transactions fall into each pricing tier, tiers are inconsistent across different processors. As a result, it’s nearly impossible to compare rates from different processors, particularly because processors generally don’t disclose this information. A standard rewards credit card, for instance, might fall under the qualified tier with one processor but be categorized within mid-qualified with another processor.
Applying Tiered Pricing to a Real-World Example
To illustrate how perplexing the tiered pricing model is, let’s apply its principles to a concrete, everyday example: buying groceries at the grocery store.
Imagine walking into a grocery store where there are no prices listed on any of its products. All you know is that when you go to check out with your items, each item will be assigned one of three price points: $2, $5, or $20. But the sign on the front of the store advertises “All items as low as $2,” so you think you’ll be getting a great deal.
While shopping, you pick out three items: a nice steak, a loaf of bread, and a half-gallon of milk. You arrive with your items at the cashier, who begins ringing the items up.
The steak: $20. Okay, $20 for a high-quality steak seems reasonable.
The loaf of bread: $5. Maybe a bit pricier than the norm, but $5 isn’t totally unreasonable.
A half-gallon of milk: $20. That’s where you raise your eyebrows and wonder, “How can milk possibly be $20?”
When you ask the cashier if there was a mistake, the cashier tells you, “Nope, the milk is $20.” Then you find out that the transaction is already final, and there’s nothing you can do to recoup the $20, with no way to know the milk went for $20 before you checked out.
This example illustrates how tiered pricing works — promises of low prices followed by wildly expensive fees on what should be low-cost transactions.
What Can You Do About Tiered Pricing?
Because tiered pricing is created and controlled by individual credit card processors, there’s little chance of improving the system. The best solution is to avoid the tiered pricing system, or abandon it entirely. Find a credit card processor that doesn’t operate on a tiered pricing model, and aim for one that uses flat rates.
Make sure that you do your own research to determine which rate structure and processor is the best option for your restaurant. If you need a helping hand, a member of the Toast team will be happy to discuss credit card processing with you to ensure that you understand processing fees and how they impact your restaurant. Set up time with a restaurant technology expert at Toast to learn more.
DISCLAIMER: This information is provided for general informational purposes only, and publication does not constitute an endorsement. Toast does not warrant the accuracy or completeness of any information, text, graphics, links, or other items contained within this content. Toast does not guarantee you will achieve any specific results if you follow any advice herein. It may be advisable for you to consult with a professional such as a lawyer, accountant, or business advisor for advice specific to your situation.