Why Business Owners Should Avoid Cash Discounting Programs

Recently, “cash discounting” has been making waves in the credit card processing industry. Payment processors and agents have popped up claiming to save merchants thousands of dollars by encouraging the use of cash over cards through cash discount merchant services. It’s an interesting idea – what better way to eliminate credit card processing fees than by reducing the number of card transactions your business processes?

Of course, cash discounting programs aren’t that simple. While they might look promising at first glance, further inspection reveals that they can be detrimental to your business. Let’s explore why that might be.

What is Cash Discounting?

Cash discounting is a pricing strategy where customers are offered a discount for paying with cash instead of card. Customers are charged differently based on their payment method. The main goal is to offset the merchants cost of accepting a credit card, and to increase the profits of the merchant services provider.

Imagine you run a coffee shop and typically charge $10 for a cup of coffee. In a standard pricing model, the price remains $10 regardless of whether the customer pays with cash or credit card payments. However, under a cash discounting model, the price varies depending on the payment method used.

If a customer pays with cash, they receive a discount, lowering their cost. For example, with a 2.50% cash discount, the customer would pay $9.75 instead of $10. Conversely, if they pay with a card, they might be subject to a surcharge or a similar fee, which could increase their cost to $10.25. While this may seem to offer a simple choice between a lower cash price and a higher card price, the reality is more complex. The added complexity at checkout can lead to customer dissatisfaction, as many modern consumers expect consistent pricing regardless of payment method.

Why is Cash Discounting Appealing?

The appeal of cash discounting primarily lies in the promise of reducing or even eliminating credit card processing fees for merchants. Processors that promote cash discounting often market it with terms like “free credit card processing” or “zero cost to accept cards.” These programs shift the cost of card transactions onto the customers, effectively reducing the merchant’s expenses.

However, while it’s true that merchants might avoid monthly processing statements or see reduced credit card fees deducted from their deposits, this approach can lead to hidden costs. For instance, the potential for negative customer sentiment and the complexities of managing different pricing structures can outweigh the financial benefits. Moreover, the increased regulatory scrutiny and potential legal risks associated with improperly implemented cash discount programs add to the challenges of this model.

Compliance and Regulations

Overview of Relevant Laws and Regulations

Compliance with laws and regulations is crucial when implementing a cash discount program. The Durbin Amendment, part of the Dodd-Frank Wall Street Reform and Consumer Protection Act, allows merchants to offer discounts to customers who pay with cash or other non-credit methods. However, it’s essential to understand the specific regulations and laws in your state and industry.

In the United States, cash discount programs are legal in all 50 states, but surcharge programs are only legal in 40 states. Some states, such as California, Colorado, Connecticut, Florida, Kansas, Maine, Massachusetts, New York, Oklahoma, and Texas, prohibit surcharging credit card transactions.

Merchants must also comply with card brand rules, such as those set by Visa and Mastercard. These rules dictate how cash discounts and surcharges can be implemented, including requirements for signage and disclosure.

To ensure compliance, it’s recommended that merchants consult with a qualified attorney or a reputable merchant service provider who is familiar with the relevant laws and regulations.

What are the issues with cash discount programs?

There are several issues that you should be aware of if you’re considering a cash discounting processor. These points may not apply to every business, but are important to consider before signing on. Additionally, while cash payments can reduce processing fees, they also come with their own set of challenges, such as handling and security concerns.

1. In many cases, cash discounts overcompensate for the credit card processing fees.

Most cash discount rates are somewhere between 2.5% to 4%, depending on the processor you choose. Card processing interchange fees, on the other hand, range from 0.5% to 2.4%, depending on the type of the card. Given, processor margin would be charged on top of interchange, but in many cases, merchants “pay” a higher percentage of the product price to offer the cash discount than they would to process a card payment.

Let’s take that $10 coffee as an example. If you offer a 2.5% discount to a customer using cash, they’ll pay $9.75. If you instead accepted their credit or debit card (let’s say a basic rewards credit card), you could expect to pay an interchange rate of 1.43% plus $0.10, meaning your revenue would be $9.85. Even adding average processor rates of 0.15% and $0.10, your revenue would be $9.78. You’re basically losing three cents on every cash transaction by offering a cash discount.

Processors who include surcharging as part of their cash discount program will claim that the surcharge to cards will balance this out, but legally, surcharges on credit card transactions cannot exceed the merchant discount rate, which is the price the merchant pays to process the payment. This means that your surcharges will never leave any “extra” money to balance out funds lost from cash discounts.

Some processors might try to counter this by offering a revenue share from surcharges, meaning that they’ll agree to give you a cut of their markup above interchange. This really only makes sense for you if you can negotiate to receive a large majority of the markup. Keep in mind that the processor has free reign to adjust the amount of that markup, so you don’t have much leverage here.

2. Not all cards can be surcharged.

While cash discounting programs advertise that you’ll never pay processing fees, that’s not entirely true, especially when considering the limitations of a surcharge program. By law, merchants cannot apply surcharges to certain card types, namely debit cards and prepaid cards. A study conducted by TSYS in 2017 indicates that debit cards are used in 28-54% of transactions, depending on the type of business. Business owners who see a high number of debit card transactions will be forced to pay processing fees on these transactions, which start at 0.5% but can be much higher depending on the markup rates the processor offers.

3. Setting up surcharging is needlessly complicated.

One important thing to realize: card companies don't like surcharging. In fact, they actively discourage merchants from pursuing it. “But wait,” you might say, “of course the card networks would prefer merchants take more cards! How else would they make their money?”

You're not wrong -- card networks make money when cards are involved in transactions. That's why they've set up barriers to surcharging that make pursuing it in your business a complicated and time-consuming process. Take Visa, for example. Merchants who hope to surcharge Visa cards are required to give notification to both Visa and their processor 30 days in advance. Furthermore, merchants are required to clearly inform customers of the surcharge both at the entrance to their location and at their point-of-sale. These are only the Visa requirements--each card network requires different disclosures to surcharge on transactions. Covering all of them in one place isn't really worth your time, especially if it's not saving any money.

To make matters a little more complicated, surcharging is actually illegal in several states, so it may not even be available to you depending on your location.

4. Cash discounting is unfair and unattractive to customers.

If we haven't yet convinced you to avoid cash discounting programs, let's consider the viewpoint of the customer for a moment. Say you're visiting your favorite coffee shop and order your favorite $10 coffee, only to be told that you'll be charged extra to use your card. That $0.25 might not seem like a huge amount, but it stings when you learn that you could pay $0.50 less if you pay with cash.

The fact is that most Americans don't carry cash nowadays. A recent Consumer Credit article pointed out that 80% of consumer spending in the United States is cashless, and that 80% of Americans prefer to use their debit or credit cards for daily purchases. Disallowing (or surcharging) card transactions is an uphill battle; no customer wants to be penalized for using their preferred payment method. Risking customer satisfaction and loyalty to save a couple pennies just isn't worth it.

5. Cash discounting most benefits the processor, not the merchant.

There's one more position we need to consider, that of the processor. Think about it: why would a credit card processor, who relies on processing fees to stay afloat, encourage merchants to prioritize cash transactions? The major reason is that cash discounting allows them to make a larger margin on individual card transactions.

Remember the law we mentioned earlier that restricted surcharges from exceeding the merchant discount rate? That law was put in place because processors would assess massive markup fees on card transactions, which merchants would then pass on to the customer. Nowadays, surcharges are capped at 4%, but even that allows processors to rake in a fairly large margin above interchange rates. That's money that should stay in your customer's pocket that's making its way to your processor's pocket instead.

Cash discounting programs are a clever way to package payment processing to make it appear low-cost, or even free. The truth is that these programs are more expensive than they appear, complicated to implement, and burdensome for customers.

Alternatives to Cash Discount Programs

Incorporating Processing Fees into Pricing

One effective alternative to cash discount programs is to internalize processing fees directly into product pricing. Instead of applying a surcharge or offering a cash discount, businesses can absorb these fees within their overall pricing structure. This creates simplicity and transparency for customers, who often prefer consistent, upfront pricing without surprises.

By internalizing these costs, businesses can market themselves as having “no hidden fees” or “all-inclusive pricing,” which appeals to customers seeking clarity and fairness. This approach also allows businesses to stay competitive in their market by maintaining straightforward pricing strategies.

However, it’s important to recognize the potential impact on customer perception. While the costs are integrated into the price, some customers may still be sensitive to the higher sticker prices, even if they understand the rationale.

Partnering with a Transparent, Cost-Effective Merchant Services Provider

Another smart alternative to cash discount programs is working with a payment processing consultant or merchant services provider who can offer affordable and competitive rates. Instead of passing processing fees onto customers, businesses can focus on reducing their costs through regular auditing and ongoing negotiation of processing fees. Payment consultants, like Swipesum, are dedicated to finding the best solutions tailored to the business’s needs, constantly monitoring statements to uncover potential savings.

By partnering with a transparent provider, businesses can lower transaction fees, which typically range between 2-4%, without impacting the customer experience. It's essential to choose a provider that offers clear, honest pricing with no hidden fees and top-tier customer service.

Through these alternatives, businesses can avoid cash discounting while still managing credit card processing costs effectively, delivering a better experience for their customers and keeping profit margins intact.

Still searching for the perfect payment processing solution for your business? SwipeSum can help! Our technology matches your unique business with processors capable of meeting your needs, then forces them to bid against one another. The result is great solutions and lower rates, guaranteed.