Chargeback Fraud: What Is It and How Can You Prevent It?

One of the common complaints financial institutions get from cardholders is usually about a dispute regarding a legitimate charge on their cards. They will seek a refund and also want to still hold on to the items they purchased. Sometimes the cardholder may deny placing the order in the first place, or they may claim it was never received. When such claims arise, it is difficult for the card issuer to confirm this fact but to oblige the cardholder to keep them satisfied. The card issuer initiates a chargeback through the card network’s dispute process (e.g., Visa Resolve Online or Mastercard Dispute Resolution).

In this article, we will be looking closely at the payment fraud committed in chargebacks and how to prevent this from happening in whatever form they come. Merchants must know how to protect their businesses from these types of fraud cases.

What Is Chargeback Fraud and How Does It Happen?

A chargeback is common with online purchases, and the most common cases usually happen with stolen credit card information. Most of the time, cardholders involved in chargeback fraud receive provisional refunds during the investigation period. When they get in touch with the card issuer to complain about the unauthorised charge on their card, the bank or card issuer will return the money. However, before doing so, the card issuer will apply for a chargeback against the merchant.

If the merchant can prove that the complainant authorized the transaction, then a fraud claim will be made. If the victim was right about the dispute, then the merchant will reimburse the card issuer for the withdrawn unauthorised funds.

In the case of chargeback fraud, the cardholder will be forced to pay the merchant back. However, this is usually rare, and most times, the merchant ends up being at a loss in most online purchase fraud.

Common Chargeback Fraud Cases: Types and Examples

One way you can protect your business is by identifying the types of fraud that usually amounts to a chargeback. This way, you can reduce the risk of exposure to such fraudulent activities and improve your business operations. There are generally three types of fraud activities that can lead to chargebacks.

Chargeback fraud prevention can be difficult because it’s hard to identify the type of fraud that resulted in the chargeback. They include

• Friendly Chargeback
• Criminal Fraud
• Legitimate Disputes

Friendly Chargeback

This is also referred to as accidental chargeback, where a cardholder makes a purchase legitimately but then does not recognise the charge that is indicated in their bank statement.  Sometimes customers will intentionally commit a friendly fraud so as not to pay for the goods they have received.  Although, not all chargeback frauds are attributed to friendly or accidental frauds.

Criminal Chargeback

Criminal fraud happens when a criminal makes use of stolen credit card numbers to buy items. This type of fraud can be prevented, especially as businesses today now make use of pre-authorisation to reduce this type of criminal fraud.

Legitimate Disputes

There are chargebacks that are neither friendly nor criminal. These are the type that falls under legitimate claims which customers might experience when purchasing goods online. In cases like this, the merchant may have made an error with the processing order or shipping. If this happens, the customer can raise a legitimate dispute to demand a chargeback.

What Are the Consequences of Chargeback Scams for Merchants?

One thing you should know is that card associations take the issue of chargebacks seriously. This is because of the time and costs involved in the dispute. So the strict policy on the ground only permits merchants to reach a 1% chargeback rate on any type of payment card. If it exceeds this, the. The merchant will be placed on a watchlist by the card association.

Apart from being on a watchlist, if a merchant exceeds the 1% mark, they may face penalties. One of such includes the payment of a very high processing fee on all their orders. For instance, if the processing fee for any transaction was pegged at 3% for MasterCard, then MasterCard will increase that fee to up to 4% on all of the merchant’s orders. This will affect the profit earned by the merchant.

Another penalty that may be included is the merchant’s inability to make a case for any other chargebacks. If there is a high rate of chargebacks against the merchant, it will lead to card issuers suspending the merchant from defending itself in any future chargebacks at least until they have reduced their chargeback rate.

The card network may enroll the merchant in monitoring programs such as Visa’s Dispute Monitoring Program (VDMP) or Mastercard’s Excessive Chargeback Merchant (ECM) program if they exceed chargeback thresholds. These programs can lead to increased processing fees, stricter reserve requirements, or account restrictions. If the merchant fails to reduce their chargeback ratio within a specified period, more severe actions may follow — including termination of the merchant account by the acquiring bank. Each card network determines its own set of penalties to enforce compliance and protect the integrity of the payment ecosystem.

Friendly Fraud vs Fraudulent Chargebacks: What’s the Difference?

Chargeback is a legitimate dispute process, but one that can easily be faked, and that is why it is one of the common fraud cases today. Since the card issuer has to keep its customers satisfied, it is only normal that they process a refund. However, there are still some foolproof methods used by banks and card issuers to determine which claims are legitimate or fraudulent.

In fact, they hire their in-staff to investigate these claims, which will involve going through the customer’s transaction history and comparing it with the purchase history. However, this investigation sometimes ends up being wrong and

If the chargeback fraud committed was a friendly fraud, it usually doesn’t have an element of malicious intent. Sometimes, it could be a case of kids using their parent’s credit cards to make purchases on video games or spending them without knowing they are committing fraud. Sometimes, if a customer doesn’t feel satisfied with a product or has forgotten about a transaction they made, it is possible they will make a mistake and request a chargeback. This is very much different from the criminal chargeback, which has all the elements of a crime. The criminal chargebacks will usually involve cases of stolen credit cards. The malicious intent is there as the person requesting a chargeback intends to defraud the merchant with false information. Pre-authorization combined with tokenisation and 3D Secure 2.0 helps detect high-risk transactions and reduce unauthorized chargebacks.

Why Chargeback Fraud Is So Hard to Prevent

One of the most difficult chargeback frauds to combat is friendly fraud. In many cases, it is misclassified under reason codes like “product not received” or “unauthorized transaction,” and automated review processes often overlook the cardholder’s intent. As a result, the merchant may accept the dispute as valid without further scrutiny, and the refund is processed — especially if the customer insists on it.

If the merchant has no proof, it will eventually put them in the hands of the fraud. Why friendly fraud is difficult to tackle is because it is usually done by trusted customers who have no suspicious history. In fact, the merchant won’t even suspect that they may be lying about the charge.

The growth of chargeback fraud has accelerated due to the rise in card not present fraud — a common issue in transactions involving subscription-based services and digital goods. There are yet to be regulations that can properly meet up with today’s internet market space. It is hard to fight these kinds of fraud as most prosecutors don’t have the will or resources to handle this crime, which is why prevention becomes imminent.

Chargeback Fraud Prevention: Best Practices for Online Businesses

It is easier to prevent chargeback frauds, and you can do this by implementing effective ecommerce fraud management strategies. You will need to educate your buyers, especially if you want to avoid chargeback frauds. Here are a few but critical steps you can take for your online business to reduce the rate of attempted chargebacks.

Get Pre-Authorization for an Order: If you want to prevent chargebacks, you should ensure that you get your customer’s authorisation properly for the goods bought before you ship them for delivery.

Give Proper Description: Ensure that the goods or services you are offering are described in accurate detail. This is to avoid the issue of complaints or disputes over the expected delivery. If the goods are different from what was described, it becomes a problem.

Make Sure You Are Reachable: You should have a phone number, live chat, or email support for customers to easily reach you, as this will be useful in cases of buyer’s remorse. In fact, it is best if you have your business contact details listed on your receipts, emails, and other business materials.

Respond To Inquiries Quickly: One of the best ways you can protect your business is by having functional and effective customer service support. This way, they can quickly address any complaints directly from the customer.

Charge After Shipping: You should not charge your customer for the goods until they have left your warehouse. For service providers, you can charge after the service has been provided.

Following these guides will help you prevent any chargebacks from customers. The key is prevention, and this way, you can easily identify the frauds hiding behind the chargebacks.

Final Thoughts on Fighting Fraudulent Chargebacks

Chargeback fraud, as well as refund fraud, is one problem businesses should try as much as possible to avoid. If you don’t have the best business practices, you leave your business vulnerable to fraudulent attacks. In the past, most businesses counted chargeback frauds as a loss for the merchant. However, today businesses can fight these frauds if they take all necessary precautions. Before you can successfully fight chargeback fraud, you must ensure your business has obtained PCI compliance certification and does not have a record of high chargeback rates. The consequence of a high-rate chargeback will affect the merchant’s ability to defend or combat any fraudulent chargeback.

It is important that you get pre-authorisation from the customer to prevent friendly fraud or criminal fraud. When you get full authorisation from the cardholder when processing their order, it will be easier to defend any false refund claim from the customer.

However, if you want to protect your business from chargeback fraud, you can utilize our platform to help you with fraud detection. At Paykassma, we are leading experts in providing effective management solutions for businesses. This way you can carry on your business operations without the risk of fraud and ensure you get maximum returns.