A chargeback is a reversal of a completed debit or credit card payment, initiated by the bank that issued the cardholder’s card, when the cardholder disputes the charge. It pulls funds already settled to the merchant back out of the merchant’s account. It is not a merchant-issued refund: the merchant can contest one under the card association’s rules, but it does not decide the outcome, and the money moves without its agreement.
A refund sends money back because the seller agreed to send it, and a credit memo lowers what the buyer owes without moving cash at all. A chargeback is the third case in that set: the money goes back and the seller never agreed.
Where the Cardholder’s Right Comes From
Two federal regulations, and which one applies depends on the card.
For a credit card it is the billing error procedure in Regulation Z. A billing error includes an extension of credit shown on a periodic statement for property or services not accepted by the consumer or the consumer’s designee, or not delivered to the consumer or the consumer’s designee as agreed (12 CFR 1026.13(a)(3)). The consumer’s written notice has to reach the creditor no later than 60 days after the creditor transmitted the first periodic statement reflecting the alleged error, and the creditor has to finish the resolution procedures within two complete billing cycles of receiving it, and in no event later than 90 days (12 CFR 1026.13(b) and (c)).
For a debit card and other electronic fund transfers it is the error resolution procedure in Regulation E, where an error means an unauthorized electronic fund transfer, an incorrect transfer to or from the consumer’s account, or an omission from a periodic statement. The list also reaches a computational or bookkeeping error made by the institution, the consumer’s receipt of an incorrect amount of money from an electronic terminal, a transfer the institution failed to identify on the documentation the rule requires, and a request for documentation (12 CFR 1005.11(a)(1)). Goods or services not delivered as agreed is not on that list, and that is the regulatory difference between the two regimes. The institution has 10 business days to determine whether an error occurred, or up to 45 days if it provisionally credits the account inside that window, and that 45 days becomes 90 where the disputed item resulted from a point-of-sale debit card transaction, was not initiated within a state, or occurred within 30 days of the account’s first deposit (12 CFR 1005.11(c)).
Both bind the cardholder’s bank, not the merchant. What the merchant may do about a chargeback comes from its merchant contract and the card association’s own requirements, which bank examiners review as a pair (FDIC, Credit Card Related Merchant Activities examination module).
What Chargebacks Do to a Client’s Books
The cash reverses. Whether the recorded sale reverses with it is a separate question, and it turns on which kind of chargeback this is. There is no receivable to write off, because a settled card sale was already collected: the money arrived and then left again, which is why a chargeback is not a bad debt. Any chargeback fee the processing agreement provides for is the merchant’s own cost, not an adjustment to the customer’s balance.
The chargeback surfaces in the merchant account reconciliation at close, where the processor’s settlement activity is agreed to the books the way a statement is agreed to a ledger in a bank reconciliation, and a chargeback the processor has posted and the books have not reads as cash the client does not have.
Revenue, or a Loss
Expected chargebacks are a revenue measurement question before they are a loss question. Refunds, credits and price concessions are among the items the codification names as making an amount of consideration variable (FASB Accounting Standards Update 2014-09, paragraph 606-10-32-6). An entity recognizes a refund liability if it receives consideration from a customer and expects to refund some or all of that consideration, and variable consideration enters the transaction price only to the extent that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur (paragraphs 606-10-32-10 and 32-11).
So the question is whether a client’s expected chargebacks are the seller giving consideration back on its own contracts, which constrains revenue and carries a refund liability, or a loss on a transaction the seller never had a contract for, as in third-party card fraud. The two do not land in the same place on the income statement.
A Chargeback Versus a Returned Check
An NSF check is a paper item the payor bank never paid, so the payee’s bank may revoke the provisional deposit credit under UCC Article 4, and that reversal is worked through in NSF check. A chargeback reverses a payment that did settle. The Uniform Commercial Code uses the same two words for the returned-check reversal, letting a collecting bank charge back the amount of any credit given for the item to its customer’s account (UCC 4-214(a)), which is why the two get confused.
Are Chargebacks Illegal?
No. The dispute is a right federal regulation creates. Where a creditor concludes, after a reasonable investigation, that no billing error occurred, Regulation Z requires it to mail or deliver an explanation setting out why it believes the alleged error is incorrect in whole or in part (12 CFR 1026.13(f)). A dispute can still be decided against the cardholder, which is a different thing from the dispute being unlawful.
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