What Is a Pre Authorization Charge? A Guide to Pre Auths in Payment Processing

If you’ve ever noticed a “pending charge” on your card after booking a hotel or renting a car, you’ve encountered a pre-authorization charge. A pre authorized transaction is a temporary hold on funds in a customer's account, ensuring that the merchant can secure payment for services rendered. These charges can seem puzzling, but they play an essential role in today’s payment systems. As consultants here at Swipesum, we understand how important it is for businesses to secure payments while providing a positive customer experience. In this guide, I’ll explain everything about pre-authorization charges, from how they work to why they’re a must-have for many businesses today. Let’s dive in!

What is Pre-Authorization?

A pre-authorization charge, or “pre-auth,” is a temporary hold placed on a set amount of funds on a customer’s credit or debit cardholder's account. This hold doesn’t actually transfer money to the merchant; instead, it sets aside a specific amount to verify that the customer has the funds to cover the transaction. Pre-authorizations are especially helpful in scenarios where the final charge amount might fluctuate, such as in hotels, car rentals, and gas stations.

Pre-authorizations also verify the availability of funds against the cardholder's credit limit, temporarily reducing the amount the cardholder can subsequently spend. This approach benefits both merchants and customers by ensuring funds are available for a transaction, preventing declined payments, and improving transaction security. By allowing merchants to reserve funds without immediately processing the transaction, pre-auths provide added flexibility and peace of mind for all parties involved.

How Pre-Authorization Works: A Step-by-Step Overview

The pre-authorization process verifies funds without completing a full transaction, making it an ideal tool for businesses where charges may vary.

1. Initiating the Pre-Auth: The merchant initiates a pre-authorization hold, reserving a specified amount of the customer’s credit card balance.
2. Holding Funds: This amount remains “on hold” for a set period, reducing the customer’s available credit limit but not charging the card.
3. Finalizing the Charge: Once the service is complete, the merchant captures the actual transaction amount, deducting only the final total from the reserved funds.
4. Releasing Unused Funds: If the entire reserved amount isn’t needed, the remainder is released, returning to the customer’s available credit.

Merchants typically work with a payment gateway to ensure pre-authorizations are implemented correctly, setting specific hold durations and conditions based on business needs.

The Prior Authorization Process

The prior authorization process is a critical step in the healthcare industry, ensuring that treatments and medications are both necessary and cost-effective. This process involves a thorough review by the health insurance company to determine the medical necessity of a treatment or medication and to check if a more affordable alternative is available. Typically, this review takes about 5-10 business days and may require additional information from the healthcare provider.

During the prior authorization process, the insurance company evaluates the prior authorization request based on the medical necessity of the proposed treatment or medication. If the request is approved, the treatment or medication will be covered under the insurance plan. However, if the request is denied, the healthcare provider has the option to appeal the decision or provide further documentation to support the necessity of the treatment.

It’s important to note that prior authorization is not required in emergency situations. Emergency medical costs are covered according to the terms of the health plan, ensuring that urgent care is not delayed. However, for complex treatments or prescriptions, prior authorization is mandatory, and coverage will not be provided without it. This process helps manage healthcare costs and ensures that patients receive appropriate and necessary care.

Types of Businesses That Benefit from Pre-Authorization Charges

Pre-authorization charges are essential in industries where the final charge may not be known upfront or where services are rendered over time. Here’s a closer look at sectors that commonly rely on pre-auths:

• Hospitality: Hotels often use pre-auths for incidentals or damages that may be incurred during a guest’s stay. This helps secure payment for any additional costs before the final billing.
• Car Rentals: Rental agencies utilize pre-auths as a security measure for potential damage fees or extended rental periods. By holding funds in advance, they avoid losing revenue on unpaid charges.
• Fuel Stations: Gas stations apply pre-auths to ensure funds are available before customers fill their tanks. This is particularly useful for pay-at-the-pump transactions, where the exact amount isn’t known until fueling is complete. However, these pre-authorizations can temporarily hold funds in a customer's bank account, potentially leading to an overdraft if the account balance is low.
• E-commerce: Online stores can use pre-auths to confirm a customer’s ability to pay before shipping items. This practice helps reduce payment disputes and chargebacks, making e-commerce transactions more secure.

These sectors benefit from pre-authorizations by securing payment commitments, reducing risk, and providing a smoother experience for both merchants and customers.

Business Benefits of Pre-Authorization

For businesses, pre-authorization offers a range of protective benefits that enhance both financial security and customer satisfaction:

Pre-auths act as a safeguard by verifying a customer’s payment capability before services are delivered, ensuring that merchants don’t risk a declined transaction or loss. Certain high-risk transactions require prior authorization to ensure payment security. By providing this buffer, businesses can serve customers confidently, knowing they’re covered for any potential costs.

Additionally, pre-auths play a crucial role in reducing chargebacks. Because the charge is only finalized once the service is completed, it minimizes the likelihood of disputes, which protects businesses from chargeback fees and reputational damage. This added security also improves cash flow, as businesses can rely on more accurate payment forecasts.

With pre-auths in place, businesses enjoy a streamlined billing process and less risk of financial discrepancies, creating a better experience for both sides.

Customer Benefits of Pre-Authorization Charges

Pre-auths offer several benefits to customers, particularly by enhancing transaction transparency. Customers can enjoy peace of mind knowing they won’t be unexpectedly charged for unused services or incidentals. This assurance helps foster trust between the customer and the business, contributing to a positive overall experience.

For example, in a hotel setting, a pre-auth assures customers that any additional charges, such as room service or amenities, will only be deducted from the reserved amount as incurred. This approach reduces billing surprises and ensures the final transaction is accurate. Pre-authorizations also provide transparency by showing pending charges in the cardholder's account.

Moreover, since pre-auths don’t immediately withdraw funds, customers retain more control over their spending. Unlike traditional transactions where refunds take days to process, unused pre-auth funds are released instantly, giving customers quicker access to their available credit.

Pre-Authorization vs. Incremental and Partial Authorizations: Key Differences Explained

Although similar, pre-authorizations are distinct from incremental and partial authorizations. Here’s a breakdown to clarify their use cases:

• Pre-Authorization: A hold on a specific amount to confirm funds are available before finalizing the charge. A pre authorized transaction is a temporary hold on funds to confirm availability before finalizing the charge.
• Partial Authorization: In cases of insufficient funds, partial authorizations allow a smaller charge to be processed, making it possible for a transaction to go through even if the full amount isn’t available.
• Incremental Authorization: Used to increase the pre-authorized amount if additional funds are needed, such as for longer hotel stays or unexpected service fees.

By understanding these differences, businesses can select the best authorization type for each transaction, balancing customer needs and financial security.

How Long Does a Pre-Authorization Hold Last? Factors That Affect Duration

The duration of a pre-authorization hold can vary based on several factors, including industry type, the merchant’s classification code (MCC), and the policies of the issuing bank. Typically, most holds last between five and seven days, but they can extend up to 30 days in specific cases, like extended car rentals or hotel stays. These holds temporarily reduce the cardholder's available credit limit, ensuring that sufficient funds are set aside for future transactions.

Merchants who frequently process longer transactions should communicate with their payment processor to set an appropriate MCC, ensuring holds are compatible with their business model. This helps prevent holds from expiring before finalizing transactions and minimizes interruptions in the payment process.

How to Pre-Authorize a Credit or Debit Card: A Practical Guide for Merchants

Successfully implementing a pre-auth process involves several key steps:

1. Choose a Reliable Payment Gateway: Work with a payment gateway provider that offers flexible pre-authorization options and integrates seamlessly with your transaction process.
2. Obtain Customer Permission: Clearly communicate the pre-auth amount and expected hold duration to the customer. Transparency builds trust and helps customers prepare for the temporary hold on their funds.
3. Set Appropriate Hold Amounts: Ensure the pre-auth amount reflects any potential maximum charges that may apply, including incidental fees or extended services. This helps manage the cardholder's credit limit effectively by verifying the availability of funds and temporarily reducing the amount they can subsequently spend.
4. Monitor Pre-Auths Regularly: Tracking pending holds ensures funds aren’t released prematurely and that the final charge matches the reserved amount. Proper monitoring also allows merchants to reauthorize if needed.

These steps are essential to providing a reliable, customer-friendly pre-auth experience.

Leveraging Swipesum to Optimize Pre-Authorization for Your Business

Swipesum helps businesses enhance their pre-authorization strategies by offering expertise in payment processing, tailored solutions, and cost reduction insights. Here’s how we support our clients:

• Customized Pre-Auth Solutions: Swipesum works closely with merchants to develop pre-auth protocols that fit industry-specific needs. Whether you’re in hospitality, retail, or e-commerce, our tailored approach ensures your pre-auth setup aligns with your transaction model. Additionally, Swipesum helps manage pre-authorizations that impact bank account balances, preventing overdrafts and ensuring financial security for your customers.
• Cost Optimization: Our experts analyze your payment processes to minimize pre-auth fees. We identify opportunities to reduce processing costs, helping you avoid unnecessary fees without compromising security.
• Compliance and Best Practices: With Swipesum’s guidance, you’ll stay up-to-date on regulatory best practices, ensuring your pre-auth process is both compliant and customer-friendly. Our team provides ongoing support to help you manage holds effectively, protecting your revenue and enhancing the customer experience.

At Swipesum, we’re committed to helping you use pre-authorizations in ways that benefit your business and build customer loyalty.

Importance of Pre-Authorization for Payments

Pre-authorization is a vital component of payment processing that offers numerous benefits for both merchants and customers. By placing a temporary hold on a customer’s credit or debit card, pre-authorization ensures that sufficient funds are available for the transaction, significantly reducing the risk of declined payments and associated fees.

One of the key advantages of pre-authorization is its ability to mitigate fraud and reduce chargebacks. By verifying the availability of funds before completing the transaction, merchants can prevent fraudulent transactions and avoid the fines, headaches, and reputational damage associated with chargebacks. Additionally, since the funds are not actually withdrawn from the customer’s account, pre-authorization can help eliminate most refund fees, providing a smoother experience for both parties.

Pre-authorization also acts as a payment guarantee, which can enhance conversion rates. For instance, merchants can reassure customers by stating, “Your credit card will not be charged until your order has been shipped.” This assurance can increase customer confidence and improve sales.

From a payment processing perspective, pre-authorization allows merchants to pay interchange fees only when the transaction is finalized, thereby reducing overall transaction costs. While some merchant services providers may charge fees on pre-auths, these can often be negotiated or avoided.

Overall, pre-authorization is an essential aspect of payment processing that helps reduce costs, prevent fraud, and enhance the customer experience. By understanding the prior authorization process and the importance of pre-authorization for payments, merchants can optimize their payment systems and improve their bottom line.

Best Practices for Managing Pre-Authorization Holds

Effective management of pre-auths enhances both security and customer satisfaction. Here are some best practices:

• Transparency with Customers: Always inform customers about the pre-auth amount and hold duration, reducing the risk of frustration. Additionally, make sure to inform customers when transactions require prior authorization to avoid any unexpected financial implications.
• Implement Incremental Authorizations for Longer Transactions: For industries like hospitality, incremental authorizations allow for increased holds if additional funds are required, without the need to initiate a new pre-auth.
• Select the Right Processor: Choose a processor that offers reliable pre-auth options, with features that make it easy to monitor and adjust holds based on transaction needs.

By following these best practices, businesses can ensure their pre-auth processes are optimized for security, efficiency, and customer satisfaction.

Pre-Authorization FAQs

Q: What is a pre-authorization charge? A pre-authorization charge temporarily reserves funds on a customer’s card, confirming their ability to pay before completing the transaction.

Q: How does pre-authorization work? A hold is placed on a specific amount, which is only charged once the service is completed or the final amount is confirmed.

Q: How long does a pre-authorization hold last? A typical hold lasts between five and seven days, but some can extend to 30 days for longer transactions, such as car rentals or hotel stays. It’s essential for merchants with extended services to work with their payment processor to set an MCC that aligns with their hold needs, ensuring funds are accessible when needed.

Q: Can I cancel a pre-authorization?Yes, merchants and customers can request to cancel a pre-auth, which releases the hold and restores the customer’s available balance.

Q: What is a pre authorized transaction?A pre authorized transaction is a temporary hold on funds in a customer's account. This hold confirms the customer's ability to pay and is typically converted into a completed transaction once the service is rendered or the final amount is confirmed. If the merchant does not follow up to convert the hold, the funds are released back to the customer after a certain period.

In Summary

Pre-authorization charges provide businesses with a financial safety net, minimizing chargeback risks, protecting against fraud, and building customer trust. By temporarily securing funds in the cardholder's account, pre-authorization helps manage the cardholder's account by providing transparency and control over pending charges. With the right approach, businesses can leverage pre-auths to enhance the security and satisfaction of their payment experience. At Swipesum, we’re here to help you implement effective pre-auth strategies that improve your bottom line and customer loyalty.

Ready to optimize your payment processes? Contact Swipesum for a consultation on tailoring pre-authorization to protect your business and create a seamless customer experience.