Ever wonder what the difference is between the two logos featured on many of your credit cards? For instance, what is Visa’s role versus that of Chase in providing us credit? At what point do each of these companies make money in the credit card charging process?
Very simply put, the issuing bank (such as Chase) funds the transactions, and the card association (like Visa) processes them. Here are more complete descriptions:
Issuing banks are the financial institutions that issue our credit cards. They’re our financial backers, so to speak; They lend us the money we charge on our card, and then we pay them back (hopefully) at the end of the month. If we default on our credit card bill, the issuing bank must suffer the loss (though we as consumers will suffer a lower credit rating). Card issuers also set the terms of our credit card agreements, like the APR and other fees.
Issuing banks can be large, national institutions or smaller, local banks, or even credit unions. 90% of credit card accounts in the U.S. are issued by five banks: JPMorgan Chase, Citigroup, Bank of America, Capital One, and HSBC.
Card associations, on the other hand, process the credit card transactions. They are responsible for setting the transaction terms and fees for merchants and the card-issuers. Visa and MasterCard are the two major examples of card associations.
The irony, though, is that card associations are actually cooperatives comprised of thousands of issuing banks. For example, Citigroup owns 9.5% of MasterCard, Chase owns 8.5%, and HSBC and Bank of America each own 5.1%. The list of ownership go on to include smaller banks. So while card associations have a different function than the card-issuing banks, they are driven largely by the same interests and the same groups.
You may think American Express and Discover are also card associations, but in fact, these companies act as both card issuer and transaction processor. For this reason, you’ll only see one logo on AmEx and Discover cards. They negotiate with individual merchants to set fees and other contractual terms. For example, American Express negotiated an agreement of exclusivity with Costco, stating that Costco can only accept AmEx credit cards (or cash or check) as payment methods.
Who makes money where?
The card issuers and card associations charge consumers and merchants all kinds of fees for the convenience and privilege of using credit cards.
As consumers, we pay the issuing banks interest on many of the purchases we make. The issuing banks also charge us late fees and other penalty charges if we don’t pay our credit card bills on time. There are also overlimit fees if we accidentally (or intentionally) spend more than our limit. Recent government legislation aims to regulate and correct unfair practices related to these fees.
Merchants, too, are subject to fees from the credit card companies. On each credit card transaction, the merchant must pay approximately 1%-6% of the total transaction amount in what are called “interchange fees.” Sometimes, if a consumer uses a credit card for a very small purchase, the merchant may end up paying more in fees than the total transaction amount. But merchants pay these fees willingly because, in general, customers spend more at their stores with credit than they otherwise would. In short, the fees are worth the extra business that credit card purchases signify.
Interchange fees are based on a variety of factors, like type of card and merchant category. 70-90% of these merchant fees go directly to the issuing banks / card associations. The top five issuing banks (mentioned above) make more than $30 billion annually from interchange fees alone (an 85% increase since 2001).