Pre-Authorization on Credit Card Explained

Pre-Authorization on Credit Card Explained

Sometimes it pays to do your research, and pre-authorizations in the payment processing world are a great example of that. Pre-auths aren’t the best option of every business, but depending on your industry and client base they could help reduce costly chargebacks and other transaction fees. Let’s take a look.

What is pre-authorization (pre-auth)?

A pre-authorization is a temporary hold on funds in a customer’s account that lasts around 5 days.

Unlike an actual transaction, you aren’t moving any funds yet, it simply puts an official hold on those funds until the post-authorization comes through.

The duration of that hold is typically five days, but it varies and is ultimately determined by your Merchant Classification Code or MCC. Just be careful about extending a hold for too long. Sometimes customers will move funds around, and your transaction could be denied.

So what’s the point? Well, the value of a “hold” is that those funds are technically tied up in the customer account — they can’t just go spend that money. It’s like when you’re waiting for a check to clear and you see your new balance in your account. You know the funds aren’t actually there yet, but you also know they’re officially on the way.

And if you (the merchant), don’t follow up with a post-authorization within your holding period, the issuing bank will release the on-hold funds back to the customer, eliminating the transaction. Expired holds like these are known as a “falling off”.

What is a post-authorization?

A post-authorization is just an official confirmation of the pre-authorized transaction, and this occurs during your batching process (a.k.a. Your settlement).

The benefits of pre-authorization

Reduce fraud and consequential chargebacks

Pre-authorizations reduce damages from fraud because if you choose to pre-authorize instead of transacting, and the customer happened to be using a fraudulent card, that customer can’t issue a chargeback for that transaction because the funds were never actually used. This saves you in fines, headaches, and keeps your reputation free from chargebacks — this is an especially important mechanism for online merchants.

Reduces transaction costs

On a similar note, by starting with a pre-auth and finishing up later, you won’t pay interchange fees until the actual authorization goes through and the customer’s card is charged.

So if that transaction is canceled for any reason, you don’t have to lose out on any interchange fees — only the payment gateway fee.

Some MSPs will charge you fees on pre-auths, but if so you should see if you can either get rid of those or look into a different merchant services provider.

Eliminates most refund fees

Refund fees are common in the payment processing world, and it’s ideal to avoid paying these fees whenever possible. If you need to cancel a pre-authorization for a customer, there’s no refund penalty associated with that because the funds were never actually withdrawn. This is super useful for clothing businesses or anyone else that deals with fast returns frequently.

Reduces merchant-caused refunds

We all know that it isn’t the customer who always issues the refund. If you’re out of stock, that stinks because you have to issue a refund and disappoint a customer. So anything that you can’t deliver for whatever reason won’t be subject to interchange or refund fees.

You can use it as a payment guarantee of sorts

By including language like “Your credit card will not be charged until your order has been mailed”, you can potentially increase conversion rates.

How to support pre-authorizations

Once you set it up, pre-auths function just like any other transaction!

All you have to do is make sure you have a payment gateway that gives you the ability to run a pre-auth, then you make it the default option in transactions moving forward.

Here’s how that process goes down with Tidal Commerce.

  1. Set up the Tidal Payment Gateway on your system with one of our team members and make sure your shopping cart can send transactions as pre-authorizations. This allows you to securely run authorizations and then manually capture them later on (a.k.a. Run pre-auths).
  2. Specify the type of transaction you want to send in your Gateway/shopping cart by choosing the option in the Settings menu (it’s that easy!). Note that sometimes the name may not be something exactly like “pre authorization”. It could be “reserve” for example. But rest assured, most software today has the capability.
  3. Capture the authorization within 24 hours to get the best possible interchange clearing, but remember you typically have around 5 days depending on your MCC. You can either do this directly within the gateway or sometimes within your shopping cart software itself.

Note: There should be a setting or option to choose pre-authorization when conducting sales in person or over the phone as well (so directly at your POS).

What to do if your pre-authorization expires

Run it again! Since funds were never actually charged, charging your customer’s card for the price won’t feel like an additional charge or anything like that. It may take a few more days, but that’s the only risk!

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It’s pretty obvious to see why pre-authorizations can be a valuable tool for businesses — especially those with a higher-than-average return or chargeback rates.

Tidal Commerce loves to work amazing business owners. We work with retail, healthcare, professional services, eCommerce, nonprofits — you name it. And as long as you want to grow your business and appreciate transparency and honesty, then you’ll fit right in.

Think you’re in that camp and want to work with someone who really has your back?

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