Understanding the Effective Rate

effective rate, effective rate definition, how to calculate effective rate

Understanding the Effective Rate

Posted on 09.25.2015 by Eugene O'Rourke under Merchant Processing

The effective rate is the most accurate way to measure the competitiveness of a merchant processing quote. It shows the amount of volume a business pays in credit card processing fees to process a given amount, making it the single most important rate to consider. The effective rate is shown as a percentage, and is calculated by dividing gross processing fees by gross sales.

Below is an example of how to calculate the effective rate for an established business that processes $15,000 in transactions per month, with an average transaction amount of $100 and an estimated consistent $200 in monthly base costs (interchange, dues, etc.).

Current MSP:

  • Average interchange markup: 10 basis points (0.10%)
  • Transaction fee: $0.10
  • Monthly fee: $20

 

The effective rate of their current MSP relationship can be calculated with the following formula:

Total Monthly Sales: $15,000

Total Monthly Processing Fees:
(($15,000 * 0.001) + ($15,000 / 100 * 0.10) + $20 + $200) = $250

Effective Rate: $250 / $15,000 = 1.66%

For this business, the 1.66% can be used as a proxy to measure the cost-effectiveness of their merchant processing solution. However predicting the exact cost of card processing is nearly impossible – average monthly sales volume, transaction amount, seasonality, risk, type of business or product / service, type of card, and card issuer are all factors that impact a merchant services quotes.

Learn more about interchange rates here.

Many businesses make the mistake of focusing on one rate or fee when evaluating merchant service providers. Calculating your effective rate is a great way to evaluate the total costs of your current merchant services provider or to compare other merchant services quotes. Contact the team at PaymentVision today for a free merchant account analysis.