E-commerce's chargebacks conundrum

E-commerce retailers have always faced higher risks of encountering fraud, and chargebacks pose challenges beyond mere financial implications for retailers.
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A difficult year for the world’s economy has left many individuals facing up to more testing financial situations. Sadly, research shows that when consumers encounter intense financial pressure, they’re more likely to commit fraud, according to SEON. Retailers are now beginning to feel this unwelcomed shift, with e-commerce retailers seeming particularly at risk. Unfortunately, e-commerce retailers have always faced higher risks of encountering fraud, especially when compared to brick-and-mortar retail establishments. 

This is largely due to the fact that consumers have additional avenues for recourse when contesting e-commerce transactions. This process, commonly known as chargebacks, permits individuals to request refunds directly from their bank or card issuer. Typically involving a reversal of funds from the merchant's account, chargebacks return the purchase amount to the customer. While positive aspects exist to this mechanism, it's evident that chargebacks are sometimes abused for fraudulent purposes. 

Global estimates presently suggest that the e-commerce sector loses around $20 billion annually to fraud. Friendly fraud, card testing and account takeover incidents are the primary drivers of this problem, often leading to chargebacks. Concurrently, consumers also acknowledge resorting to dishonest tactics, including false claims of poor service and fraudulent returns, when making online purchases. A recent study found 32% of consumers had fabricated claims about e-commerce orders in hopes of securing refunds. 

This alarming trend poses a substantial threat to the remarkable growth of the e-commerce sector. As indicated by Morgan Stanley, e-commerce constitutes approximately 22% of total retail sales in the world today, with this market poised for further expansion. While exciting, it’s essential e-commerce retailers begin to proactively counteract the adverse impacts of online fraud, or it could derail this momentum. In this pursuit, e-commerce retailers should consider reevaluating the need for chargebacks.

Chargeback challenge 

Chargebacks pose challenges beyond mere financial implications for retailers. Engaging in chargeback disputes demands considerable time and resources for data collection, diverting e-commerce retailers' attention from core business priorities. Moreover, merchants with elevated chargeback rates risk penalties or sanctions from card issuers. Such circumstances could abruptly disconnect merchants from the essential payment infrastructure they rely upon. 

For a considerable period, these negative consequences were unavoidable, due to a lack of viable alternatives. Fortunately, the status quo is evolving. Innovative options are beginning to emerge designed to help e-commerce merchants curtail fraud and reduce chargebacks on their platforms.

Do chargebacks cost too much? 

The inherent flaw with chargebacks is their retrospective nature — they attempt to rectify fraud after its occurrence. However, the cardinal rule of fraud prevention dictates staunch efforts to avert it from occurring in the first place. By diminishing the likelihood of fraudulent transactions, e-commerce retailers can preemptively address the issue and minimize chargeback claims. It’s a straightforward principle, but one that warrants renewed attention, particularly given the mounting chargeback challenges faced by merchants. 

Prioritizing protection in the early stages is pivotal to this effort. By harnessing the capabilities of AI and machine learning, real-time solutions can be tailored to the specific risk profiles of diverse e-commerce vendors.

As well as being accessible, early detection fraud prevention platforms, can be highly automated. This is important, as many businesses may find it impractical to employ an entire team dedicated to fraud and risk management. Instead, businesses in this realm require a dependable fraud prevention solution that can be seamlessly integrated into their operations, offering transparent insights into order acceptance or declination, particularly during peak sales periods such as year-end sales. 

Early detection for enhanced outcomes 

In the past, many of the fraud prevention platforms designed for e-commerce merchants have largely relied on black-box machine learning modules to detect potential fraud. These modules, while effective, often leave retailers devoid of actionable insights for decision-making, leading to missed business opportunities and inflated costs. Of course, many of these systems also included chargeback guarantees as a countermeasure, which fails to address the root cause of the issue.

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What’s more, the combination of a chargeback guarantee and a black-box system tends to encourage solutions to decline transactions that exhibit even a hint of suspicion. Although this strategy may diminish chargeback claims, its downside is a reduction in overall order volume for merchants. Consequently, success using this method often involves many false declines and the loss of genuine customers to competitors. In general, the opaque nature of such systems denies merchants the opportunity to fine-tune and rectify flawed risk management strategies that contribute to chargeback occurrences. 

Diverging from conventional systems, the contemporary wave of e-commerce fraud prevention solutions brings a significant departure in this regard. Solutions, which embrace the transparency of white-box machine learning, furnish merchants with lucid explanations behind transaction approvals, flaggings or declinations. Crucially, these solutions also identify potential fraud at earlier stages of the customer journey, effectively nipping it in the bud. 

Time to spend less on chargebacks 

For an extended period, the struggle against fraudulent chargebacks in the e-commerce sector has been reliant on tools that curtail retailers’ capabilities. Now, with fraud levels soaring amid worsening economic conditions, e-commerce merchants are in dire need of an innovative approach. This necessity has spurred on a new breed of solutions, which have been engineered to thwart chargebacks before they transpire and enable retailers to tackle fraud much earlier in the sales journey. 

This much-needed wave of innovation has introduced solutions geared toward alerting merchants at the earliest possible juncture about high-risk customers and transactions, along with the underlying reasons. Leveraging intricate digital footprints of customers, correlated with geolocation and delivery information, can combat various forms of e-commerce fraud. Utilizing a chargeback solution can help retailers sidestep additional fees, inventory losses and reputation erosion stemming from chargebacks.

Matt DeLauro
Matt DeLauro

About the author

Matt DeLauro is chief revenue officer at SEON where he helps the company align to the evolving fraud prevention needs across a number of industries, including e-commerce.