Merchants Bracing for Higher Reserve Requirements From Acquirers

The economy is slowly thawing from its Covid-19 freeze-up, but many card-accepting merchants are struggling with more chargebacks stemming from canceled trips, non-delivery of goods, or other reasons. And some of them also are dealing with demands from their merchant acquirers for more cash to fund reserve accounts.

Payments and fintech attorney Darvin R. Davitian, counsel at the Washington, D.C., office of Perkins Coie LLP, estimates 15% to 20% of his merchant clients recently have received notices from their processors that they want to at least discuss the possibility of adding to their reserves. He didn’t have figures on how many actually have had increases.

Davitian and two of his Perkins Coie colleagues recently wrote a blog post about reserves, a sensitive topic for both merchants and payment processors nowadays. Many merchants, especially brick-and-mortar retailers and well as restaurants, hotels, and others in the travel-and-entertainment industry, have experienced devastating declines in sales since mid-March. That affects their processors, which face financial exposure from chargebacks and related merchant problems.

Merchant processor and business-management software provider Square Inc. increased its provision for transaction losses by 300% in the first quarter to $79.3 million from $19.8 million a year earlier, according to a recent Square regulatory filing.

Actual or anticipated transaction losses can trigger processors to demand more cash for reserves. “The merchant may not be in a position to do that,” Davitian tells Digital Transactions magazine for an upcoming article about chargebacks. “It puts the merchant in a real pickle.”

The Perkins Coie post lists eight reasons for so-called reserve triggers: excessive chargebacks; material deterioration of a merchant’s financial condition; default under the processing agreement; the merchant entering into a chargeback-monitoring program; violations of payment card network rules; an increase in the merchant’s time between taking payment and fulfilling orders; compliance violations; and the processor’s determination of a merchant’s insecurity or risk.

In the wake of stay-at-home orders and other governmental measures to limit the Covid-19 pandemic’s spread, processors are citing excessive chargebacks, deteriorating merchant finances, and non-delivery of goods as the most common reasons for wanting higher reserves, according to Davitian. “It’s industry-specific,” he says.

T&E merchants are dealing with more chargebacks stemming from canceled trips in which the cardholder and merchant can’t agree on a refund or credit. Retailers are encountering slower online-order delivery times because of higher order volumes, causing some customers to file chargebacks. And countless businesses have weaker balance sheets than they did three months ago.

Agreements on the amount of a reserve and when the processor can demand an increase vary widely. As usual, small merchants have less clout than big ones. “Basically the processor can just pick a number,” Davitian says.

Reserves often are based on a multiple of the merchant’s average chargeback volumes over a period of time, or set against broader criteria. When the processor wants to raise the reserve, a traditional practice has been for acquirers to give the merchant just three to five days’ notice to come up with the cash, according to Davitian. If the merchant can’t, the processor might hold back settlement proceeds.

But in the Covid-19 environment, Davitian senses more processors are willing to negotiate with their stressed merchants in order to address financial risks. “No matter what the rights of processors are, or no matter what the rights of merchants, it’s really in their best long-term interest to sit down and have a conversation,” he says.