How Does Friendly Fraud Vary Across Industries?
By Keith Briscoe, Ethoca
Friendly fraud — when cardholders dispute card purchases they or someone else in their household actually made — has become a significant cost burden to merchants and issuers. But while it’s increasing across industries, certain ones have been hit particularly hard.
We recently conducted a survey of 775 businesses from various industries (including issuers), asking them to indicate what percentage of their chargebacks is caused by friendly fraud (or false claims). The results were illuminating, but not entirely surprising given what we already know about this growing threat.
Roughly 1 in 3 surveyed said that friendly fraud accounted for less than 25% of their chargebacks. This may give the false impression that this is not a serious problem, but that is far from the case. Any instance of friendly fraud is incredibly damaging to issuers, merchants and cardholders alike. False declines, customer frustration caused by unnecessary friction, and needless lost revenue and time are all the result of this now avoidable problem.
What was most alarming was the fact that roughly 1 in 5 of those surveyed stated that friendly fraud accounted for more than 88% of their chargebacks. And for many, these rates continue to increase.
What do these numbers mean when broken down by industry? Let’s look at three examples.
With 35% of surveyed businesses in this category stating that friendly fraud made up less than 25% of their chargebacks, rates may seem low when compared with other industries. However, the high price associated with every disputed ticket purchase that leads to a chargeback makes it a significant financial problem.
Consider this: A plane ticket that initially cost $830 could cost an airline $1,600 after factoring in associated expenses, such as the traveler’s refund, the inability to resell the ticket, nonrefundable airport taxes/fees and chargeback fees. Given the already tight margins in the airline industry and huge costs of chargebacks, it only makes sense that airlines work hard to prevent purchase disputes.
Digital Goods & Services
The nature of digital goods such as music and movie streaming make them particularly susceptible to friendly fraud. Consider a teenager who buys a movie online using their parents’ credit card without telling them. The parents don’t recognize the transaction so they dispute it. A lot of friendly fraud in this category is benign — meaning it’s due to cardholders disputing charges because they simply don’t recognize them. It’s important to clarify that when we say “benign,” we’re referring to the cardholder’s motivation for initiating the dispute. It comes from an honest mistake, yet the consequences have a downstream ripple effect that’s anything but friendly to the ecosystem at large.
Card issuers will often write off disputed digital goods purchases because their value is so low compared to the cost of initiating a chargeback. However, that can unintentionally exacerbate the problem because it teaches cardholders to assume they can easily and quickly erase any unwanted or unfamiliar charges for digital goods on their cards by just disputing them. The other unintended consequence of this activity is that with higher incurred losses due to write-offs, card issuers will tighten fraud rules — resulting in higher false declines. From our research we’ve seen that digital-goods businesses report some of the highest declines rates. We believe the high incidence of friendly fraud is the chief reason why.
Online Gaming & Betting
Online gaming and betting companies have reported some of the highest rates of friendly fraud, reaching 90% or more of their total fraud. And it’s often due to buyer’s remorse. An online gamer might make 200 deposits worth $5 each. When they lose all their bets, that gamer is upset and proceeds to dispute all 200 transactions — knowing full well they made the $1,000 in bets. Based on the volume of potential chargebacks alone, gaming and betting companies will take a much more hardline stance and shut down the accounts of such abusive customers. Refund policies can be generous to a point, but when it comes to outright abuse, the only option is shutting down the customer.
The other issue in this sector is similar to the digital goods’ ‘low transaction value’ problem. In many cases, card issuers will elect to absorb the transaction because it’s less than the cost of processing a chargeback. This, again, can exacerbate the problem: online gamers learn how easy it is to dispute charges — and “win” their money back. And just like digital goods merchants, online gaming companies typically also see high rates of false declines.
Opportunity: Reshaping Cardholder Behavior
Each company and industry tries different strategies to reduce friendly fraud. Some gaming companies, for example, have effectively initiated a “one-strike-you’re-out” policy in which they freeze a player’s account after one disputed transaction.
That said, those measures don’t get to the root of the problem: that so many cardholders have learned they can easily dispute any transaction they don’t recognize or want to pay for. And today’s “zero liability” policies on credit cards means issuers generally give cardholders a refund and initiate a chargeback until the outcome of the disputed transaction is decided — which can take up to five to six weeks.
A significant opportunity exists to improve the current chargeback system while reshaping cardholder behavior and fighting friendly fraud. Merchants and issuers can use real-time collaboration to significantly decrease the revenue loss attributed to friendly fraud by reducing or eliminating the need for chargebacks altogether. Essentially, such collaboration allows merchants and issuers to deploy the right tools to gather and present information to cardholders upfront. That makes it easier for them to recognize transactions on their card statements — and show the difficulties they would have disputing transactions that were clearly made by them or someone else in their household. This will ultimately prevent cardholders from filing false disputes.