What is Level 1, Level 2, and Level 3 interchange?

Interchange rates can be complicated.

In an industry as competitive as merchant services, the company that can quote the lowest transaction rate usually has an advantage over its competitors. You’ve probably seen some of these “teaser” rates before—advertisements that promote “rates as low as 0.39% per swipe” or “fees starting at 1.09%”—but what you may not realize is that there are other ways for providers to exaggerate the savings they can provide.

One increasingly common sales pitch has to do with Level 2 and Level 3 interchange rates (sometimes spelled as “Level I,” “Level II,” and “Level III”). Providers who offer Level 2 and Level 3 processing like to claim that their merchants “pay less due to processing at higher interchange levels” or that they “process at a more secure interchange level, resulting in lower rates.” Whatever the exact language used, they’re sending a clear message: you will pay less through a provider specializing in Level 2 or Level 3 processing. But is this necessarily true? And what should you know about these types of interchange rates? Well, for starters…

Level 2 and 3 processing is only intended for certain business types.

Level 2 and 3 processing exists as a protocol for accepting special business-to-business (B2B) and business-to-government (B2G) cards issued by Visa and MasterCard. These cards include the Visa Purchasing Card, several different MasterCard Corporate/Purchasing cards, and a few other business, government, and commercial cards.

These cards are intended to streamline accounting processes and improve transaction reporting for large businesses by collecting more data at the point of sale. This additional data results in a more secure transaction and therefore qualifies for lower processing fees (in some cases up to 120 basis points, or 1.2%, cheaper). In addition to the standard card information and customer identification data collected by normal POS systems, Level 2 and 3 processing systems gather the following information:

Level 2 transactions will require a tax indicator denoting the presence of a sales tax, an itemized sales tax amount (must be greater than $0.00), and a unique customer code. The customer code is not always necessary, however—very few card users have this information memorized—and can sometimes be bypassed by entering four random digits.

• Note: Most standard POS equipment, upon detecting a corporate or government card swiped through it, will prompt you to enter the above information automatically. If you correctly enter the appropriate transaction information, the transaction should qualify for Level 2 interchange rates without the need for any special equipment. If you do not enter this information correctly, the card will process at the normal interchange rates for a business or corporate card.

Level 3 transactions will require all of the information associated with a Level 2 purchase plus transaction summary details like order date, invoice number, and address verification. It will also require line item details like item descriptions, product code, item quantity, and unit cost.

• Note: Level 3 transactions will require specialized POS equipment to collect this information, as most standard systems do not include methods of entry for line item data.

So why doesn’t everyone just process at Level 2 and 3 interchange?

Despite the potential for lower interchange rates, Level 2 and 3 processing might not be the best decision for most businesses. As noted above, Level 2 and 3 processing only provides lower rates on special corporate or government card transactions. If your business doesn’t accept a large number of these card types, it makes little sense to pay for specialized POS systems to process them. Additionally, the training required to teach employees to enter Level 3 data represents a potential extra time investment, and the lengthy data entry process could lead to slower checkouts and customer frustration.

You will only benefit from Level 2 and 3 processing if your potential savings on interchange fees are greater than the costs of purchasing specialized equipment and retraining your employees. To determine whether your savings on these transactions will be significant, you will need to know how frequently your business accepts Level 2 and 3 card types. If you are currently on an Interchange-plus pricing plan, you can find this information in your monthly credit card processing statements. If you are on a tiered pricing plan, you may need to ask your provider to track this information for you.

Here’s the bottom line, though: a salesperson cannot know whether Level 2 or 3 processing will save you money unless that salesperson knows what types of cards you’re processing. Don’t let phrases like “higher interchange levels” or “specialized interchange pricing” confuse you. Only you can determine whether these pricing plans are right for your business. Your best bet is to understand the rules regarding these rates before consulting with a representative you trust.

Other useful resources

The Merchant’s Guide To Achieving Better Interchange Rates (Wells Fargo)

Level 2 Credit Card Processing Interchange (Burlington Bank Card)

Do you have any questions or comments about Level 2 and 3 interchange rates? Let us know in the comment section below: