Criminal Fraud Gets All the Headlines, but Friendly Fraud Deals Much Greater Damage
After several high-profile data breaches over the past few years, criminal activity is definitely the central focus when it comes to widespread concerns about fraud. Identity and financial data theft has become a central focus of public anxiety for both merchants and consumers.
However, when it comes to ecommerce, the greatest fraud threat doesn’t come from identity thieves, phishing attacks, or other criminal activity. It comes from seemingly loyal customers.
Where Merchants Stand Now
Experts expect credit card fraud to reach $24 billion annually by the year 2018, and $35 billion by 2020, up from $16 billion a year in 2015 (a more than 100% increase in five years). Most of this dramatic increase in fraud can be attributed to ecommerce, with reports showing consistent, rapid growth in card-not-present fraud across the board.
Motivated by the EMV liability shift in the U.S., where roughly 50% of all payment card fraud takes place, fraudsters increasingly see online fraud as the path of least resistance.
We can expect to see this as a consistent, long-term move rather than just a passing trend. Now that EMV technology is established, fraud will not revert back to the card-present realm.
Merchants’ Top Fraud Threats
While the burden of fraud continues to fall more heavily on ecommerce merchants, those merchants tend to be more concerned with the wrong form of fraud.
According to one survey examining which threat factors merchants considered most pressing, the top three fraud threats concerning merchants are:
- Identity theft (71% of merchants)
- Phishing (66% of merchants)
- Account theft (63%)
Friendly fraud came in fourth place in the survey. However, if we were to look at the actual figures, the ranking should be very different.
Although criminal fraud is definitely a problem, it is not as much of a problem for ecommerce merchants as one might expect. In fact, when it comes to chargebacks, criminal fraud accounts for less than 10% of all transaction disputes merchants encounter—usually it’s as low as a fraction of 1%. Friendly fraud, on the other hand, can account for as much as 86% of all chargebacks. While merchants lose roughly $2 billion to identity theft, they lose more than $10 billion to friendly fraud.
To make matters worse, not only does friendly fraud account for the bulk of transaction disputes, but friendly fraud continues to grow at a rate of 41% annually.
Recognizing the Threat of Friendly Fraud
It seems that merchants have their priorities out of order; while merchants place a disproportionate amount of attention on criminal fraud, they let friendly fraud pass by undeterred. The problem is that, in many cases, friendly fraud is nearly impossible for merchants to detect.
Whenever customers file a chargeback, the merchant receives a reason code explaining the supposed motivation for the dispute. The customer might claim that the transaction was unauthorized, the product received was not as it was described, or that the merchant failed to respond to the customer’s questions about delivery or returns.
The problem is that these reason codes are unreliable, as most of them could actually be friendly fraud in disguise. Without expert assistance and professional technologies, merchants have no way of separating genuine fraud from illegitimate chargebacks.
Taking On the Challenge of Friendly Fraud
Effective friendly fraud remediation needs a proactive, industry-wide approach—one that addresses merchant practices, consumer awareness, industry policies, and professional solutions.
Merchant Practices
One of the most immediate solutions at a merchant’s disposal is an audit of the business’s policies and procedures.
Merchants need to carefully critique the customer experience, including how the customer interacts with every facet of the business. Merchants need to address evolving consumer preferences, keeping in mind that in the ecommerce environment, retaining customers is a matter of evaluating and acting on consumer demand.
However, adjustments made as a result of consumer demand needs to be counterbalanced by a realistic evaluation of long-term sustainability versus short-term ROI. Merchants who try to adapt too quickly or haphazardly without first taking risk management into consideration might gain the competitive edge now, but will pay the price later.
Consumer Awareness
Research suggests that 40% of consumers who engage in friendly fraud will file another illegitimate chargeback within 90 days. Raising awareness of friendly fraud and retraining bad habits are essential elements of long-term remediation.
As retailers lose revenue to friendly fraud, they will be forced to raise prices, meaning that consumers will pay more to compensate for the rising fraud risk.
Consumers need to realize that their actions have consequences, and that engaging in friendly fraud hurts them in the long run.
Industry policies
Creating industry-wide standardization must be a priority for all links in the supply chain. At present, too much of the burden for fraud prevention falls on merchants.
Specifically, banks need to perform more due diligence in evaluating chargebacks. One of the challenges is that the issuers have a vested interest in keeping their customers happy. As a result, the banks tend to be more willing to side with cardholders without actually evaluating the dispute in enough detail. Due diligence on the part of issuing banks is a vital element of the industry solution.
Beyond that, reason code reform is also needed. The current process of codifying chargebacks is archaic, easily disguising friendly fraud attempts.
Professional Solutions
A complex problem, such as friendly fraud, demands a comprehensive solution—one most in-house teams are unable to maintain.
Managing fraud in-house is costly and difficult to scale. It demands significant resources, which restricts the viability of revenue-generating departments. The expense, combined with a constant focus on past complications, limits the potential for future growth.
Merchants excel at providing high-quality products and services, not managing chargebacks. As such, merchants lack the skills and industry insight needed to create effective remediation strategies. On the other hand, a chargeback specialist’s myopic devotion to analyzing industry trends, policies, and threats leads to superior results.
For truly effective remediation strategies, merchants need professional expertise and dynamic technologies.
Understanding Fraud is the First Step
It’s impossible to solve a problem with an insufficient understand of it. Therefore, merchants cannot defend themselves against fraud if they don’t recognize the full extent of the threat.
What you don’t know can hurt you.
Understanding the risk friendly fraud poses to your bottom line and acknowledging the pervasiveness of the threat is the first step to creating an effective mitigation strategy.
