Friendly fraud occurs when consumers dispute payment card charges without a valid reason to do so. Instead of first trying to obtain a refund through the merchant, the consumer leverages the chargeback system by going directly to the issuing bank.

Those who engage in friendly fraud are often unaware of the negative impact their actions will have. They believe that filing a chargeback is simply another way of obtaining a refund. Regardless of the customer’s intent, though, an illegitimate chargeback will lead to lost revenue, merchandise, shipping costs, and processing fees.

What can we do to prevent it this problem? Here’s everything you need to know to help your clients understand the impact of friendly fraud and what they can do to protect their businesses.

Friendly Fraud vs. True Fraud

Before we begin, it’s important to define our terms.

The key difference between friendly fraud and true fraud is the identity of the fraudster. When criminals commit true fraud, this usually involves stealing a credit card the user to make illegitimate purchases.

With friendly fraud, however, the fraudster actually is the cardholder, or someone with authorized permission to use the card, such as a spouse or family member. The trouble here is that from the outside, the transaction appears to be legitimate. The end result, though, is that the customer who files a chargeback still retains the product or services.

Several of the most common reasons why customers commit friendly fraud include:

• Goods failing to arrive when expected.
• The goods that were delivered were not as described.
• A customer’s recurring payment was not being canceled when requested.
• The original purchase was authorized by family member, rather than the cardholder.
• The cardholder doesn’t understand the difference between a return and a chargeback.
• The cardholder wanted to get something for free.

It doesn’t matter whether the customer intentionally abused the chargeback system or made an honest mistake; either way, friendly fraud will negatively impact a merchant’s bottom line. The merchant loses sales revenue, as well as any merchandise shipped, and is responsible for additional costs including:

• Chargeback fees
• Lost shipping and fulfillment costs
• Transaction processing fees
• Wasted overhead

This eats up precious time and resources, and can threaten the business’s sustainability over time. The merchant could even be designated as “high risk,” which could make them too risky (or too costly) for many banks to do business with.

4 Reasons Behind the Growth of Friendly Fraud

Chargebacks were first created with the consumer’s protection in mind. Now, merchants are often the ones finding themselves in a position of vulnerability and needing protection.

The steady rise in friendly fraud over the last few years can be traced to 4 key circumstances:

1. Increased popularity of online shopping: Fraud detection systems and regulations for online merchants are simply not prepared to handle the growing volume of card-not-present transactions. Friendly fraud flourishes due to its ease and convenience.
2. Chargeback regulations have not kept pace with change: The way that people do business has changed as the number of online transactions continues to surge. Unfortunately, the initial rules governing the chargeback process have largely remained static and not been updated to reflect the new merchant reality.
3. Consumers choose the fast, easy option: At the end of the day, consumers want everything immediately at their fingertips, and merchants simply can’t keep up. Cardholders may feel it’s more convenient to file a chargeback with the bank instead of jumping through hoops with the merchant to get a refund.
4. Merchants have a limited ability to fight back: Merchants have the right to challenge illegitimate chargebacks; however, the dispute process is complicated and time consuming. Merchants have comparatively little chance of seeing a chargeback reversed; even when the chargeback is fraudulent, the merchant is considered “guilty until proven innocent.”

In addition to the four challenges listed above, we should also note that friendly fraud is post-transactional in nature; it only occurs after the fact. There will be no indication that something fraudulent has occurred until weeks—or even months—after the transaction has been settled. This makes friendly fraud prevention very difficult.

What’s the Solution?

The situations outlined above seem to paint the picture of a losing battle. But, despite the growing threat of friendly fraud, there are certain steps you can encourage your clients to take in order to protect their businesses:

• Notify customers before charging for recurring payments
• Make sure the billing descriptor is easily recognizable
• Use delivery confirmation
• Keep a well-organized paper trail of every transaction
• Communicate regularly with customers
• Grant refunds and cancelation as soon as requested
• Be on the lookout for any suspicious behavior

And, when friendly fraud does occur, merchants can fight back through the representment process. This is time-consuming, and there’s no guarantee of success. However, it could help merchants recover their desperately-needed revenue.

If left unchecked, friendly fraud has the potential to wreck a merchant’s reputation and dependability, and incur serious additional costs. It will take time and effort, but merchants have the ability to fight back. You should remind your clients that the most effective strategy to combat friendly fraud is to remain proactive and address the problem head-on at every stage of the process.