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Finance glossary

What is payment reversal? Definition & common types

Bristol James
5 Min

A payment reversal is the return of funds to a cardholder’s bank account. Payment reversals can be initiated for various reasons, such as fraud, out-of-stock items, funds taken out for the wrong amount, or product returns. The reversal transaction can be initiated by the cardholder, the merchant, a financial institution, or the card network.

For example, a merchant might issue a credit reversal for a product that was ordered and is now out of stock. Frequent payment reversals can indicate failing operations and poor fraud prevention policies. This can lead to a tarnished brand image and stricter controls from banks and third-party card providers.

Common types of payment reversals

There are three main types of payment reversals: authorization reversals, refund reversals, and chargeback reversals. Let’s explore each of these categories in more detail.

Authorization reversal

An authorization reversal occurs before the actual payment takes place. It can take days or weeks for the funds to be transferred from the customer to the merchant. Authorization reversals allow companies to verify that the customer has funds available on their credit card or debit card before completing the transaction.

Once the funds are successfully transferred to the merchant, the transaction will either post or be adjusted to the actual amount. For example, let’s say that you visit a restaurant and spend $25. You decide to leave a $5 tip. The $25 your card is charged will be pending. When the payment does clear, you will notice $30 show up on your bank statement.

Moreover, authorization reversals are common if there is a payment dispute or issue with the order. For example, if a customer orders $100 worth of product, but you sell out of inventory, you will issue a transaction reversal.

Pre-authorization reversals are also common, especially when dealing with travel expenses. Hotels temporarily authorize a card for any damages that occur during the stay. If there are no damages, the business reverses the pre-authorization charge. Since the funds are still pending, authorization reversals are the easiest and cheapest way to cancel or adjust a payment.

Refund reversal

Refund reversals occur after the bank or credit card company has settled the transaction, meaning the transaction has been posted to the bank statement. In a refund reversal, funds will be returned directly to the customer’s bank account. This is a completely separate transaction that can take days or weeks to land in the customer’s account.

For example, let’s say a customer orders a $50 lamp. They aren’t satisfied with the product and return the lamp. Since the original $50 transaction has already cleared both you and the customer’s account, your company will issue a refund reversal. This reversal transaction will be subject to normal fees and processing times.

Defined refund policies are the best way to deter excess refund reversals. However, refund reversals are a normal part of running a business. That being said, you should have the right payment infrastructure in place to quickly initiate refund reversals to better your customer’s experience. In this type of payment reversal, the merchant initiates the transaction.

Chargeback Reversal

A chargeback reversal happens when a customer disputes the card transaction. The customer’s bank or payment processor will request the funds back from your company. If your business does not dispute the charge, you will need to refund the customer for the original payment plus any fees from the issuing bank.

Chargeback reversals are prime targets for chargeback fraud. Fighting chargebacks requires your business to prove that the customer’s claim is inadequate. This could be providing detailed tracking information confirming that the customer received the product or other documents disproving the customer’s claim.

Even if your business does successfully win the chargeback case, you could be left with a tarnished brand image from poor customer reviews. Not to mention that your business loses time fighting the claim and high chargeback volumes could hinder your payment acceptance rates.

The turnaround time for payment reversals

The type of payment reversal you are dealing with impacts the turnaround time. Authorization reversals can be immediate, while refunds and chargebacks can take weeks, especially if there is a dispute involved. Refund reversals are quicker than chargeback reversals because they are initiated by your business.

On the contrary, chargeback reversals involve disputes between you, the customer, and the customer’s payment processor. Going back and forth can take weeks. Once a resolution is finalized, there are added payment processing times to move money around.

Preventing payment reversals

There are strategies that your business can implement to prevent payment reversals. Let’s cover a few of these options:

  • Minimize Merchant Errors – Minimizing the errors your business produces is a great strategy to prevent payment reversals. Have the proper controls in place to verify that customers are being charged the proper amounts.
  • Constantly Update Inventory – One of the main culprits of payment reversals is inaccurate inventory counts. By ensuring your inventory counts flow into your storefront, you are reducing the risk of a customer ordering an out-of-stock product.
  • Complete Payment Data – When charging a customer, be sure you have complete payment data. If you automatically accept an order without verifying the zip code or address of a customer, the authorization process could take longer.
  • Clear Charge Descriptions – If a customer doesn’t recognize the description of the charge, they could file a chargeback. Be sure that card processors recognize your business and you have a clear description to refresh the customer’s memory.

These are just a few ways you can reduce your risk of payment reversals.

Summary

  • A payment reversal occurs when funds are sent back to the customer.
  • Authorization reversals, refund reversals, and chargeback reversals are the three common types of payment reversals.
  • The reversal transaction process can take anywhere from a few days to a few weeks, depending on the scope of the reversal.
  • Minimizing merchant errors, constantly updating inventory, ensuring complete payment data, and having clear chargeback information can help you reduce your levels of payment reversals and fraud.

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