Authorization Hold - Credit Card Settlement Process

Authorization hold (also card authorization, preauthorization, or preauth) is the practice within the banking industry of authorizing electronic transactions done with a debit card or credit card and holding this balance as unavailable either until the merchant clears the transaction (also called settlement), or the hold "falls off." In the case of debit cards, authorization holds can fall off the account (thus rendering the balance available again) anywhere from 1-8 business days after the transaction date depending on the bank's policy; in the case of credit cards, holds may last as long as 30 days, depending on the issuing bank.

Signature-based (non-PIN-based) credit and debit card transactions are a two-step process, consisting of an authorization and a settlement.

When a merchant swipes a customer's credit card, the credit card terminal connects to the merchant's acquirer, or credit card processor, which verifies that the customer's account is valid and that sufficient funds are available to cover the transaction's cost. At this step, the funds are "held" and deducted from the customer's credit limit (or available bank balance, in the case of a debit card) but are not yet transferred to the merchant. At the end of the day, the merchant instructs the credit card machine to submit the finalized transactions to the acquirer in a "batch transfer," which begins the settlement process, where the funds are transferred from the customer's accounts to the merchant's accounts. Contrary to popular belief, this process is not instantaneous: the transaction may not appear on the customer's statement or online account activity for one to two days, and it can take up to three days for funds to be deposited in the merchant's account. The money will be refunded in full if the hold is allowed to expire before the settlement occurs.

For example, if an individual has a credit limit of $100 and uses a credit card to make a purchase at a retail store for $30, then his or her available credit will immediately decrease to $70. This is because the merchant has obtained an authorization from the individual's bank by swiping the card through its credit card terminal. If the billing statement was sent out at that point, the actual charges would still be $0, because the merchant has not actually collected the funds in question. The actual charge is not put through until the merchant submits their batch of transactions and the banking system transfers the funds.

A debit card works slightly differently. Similar to the previous example, if one has a balance of $100 in the bank and used a debit card to make a purchase at a retail store for $30, then his or her available balance will immediately decrease to $70 as a hold on the $30 is enacted. This is because the merchant has obtained an authorization from the individual's bank by swiping the card through its credit card terminal. However, the actual balance with the bank is still $100, because the merchant has not actually collected the funds in question. However, unless this authorization hold expires without being finalized the user cannot access that part of their account. The actual balance will not be reduced until the merchant submits their batch of transactions and the banking system transfers the funds.

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Problems

Delayed Service Payments

Some services, specific examples are Hotels and Rental cars, the card is authorized at the beginning of service, but the settlement will not be placed until the completion of the service. Many times there are additional deposits required in addition to the anticipated cost of the service, to cover any additional unexpected charges for damages, excessive mileage or gas, or if hotel guests charge room service, movies, phone calls to the account. Upon the completion of the service, the vendor will then process the settlement of any final charges and submit them to the processor. It is not until this time that the vendor will receive any funds, even though the customer's account would have shown the pending transaction from the authorization at the beginning of service. The settled charges will be deducted from the authorized funds, and are not in addition to the authorized funds.

Double holds

On occasion, due to negligence or computer error, a merchant may attempt to authorize a card twice, creating a double hold on the cardholder's bank account. This often happens when a processor requires additional security verification such as a CVV, ZIP code, or address and incorrect information is provided or is mistyped. Gasoline pumps often impose a double hold, one for a standard amount (such as $75) and another for the amount of purchase. Though the merchant will only clear the transaction once, the hold will temporarily lower the customer's available balance, potentially causing declines or (for a debit card) overdrafts.

Voided transactions

Some banks allow the removal of a hold from an account by the merchant. However, many banks do not, and a merchant may not have the capability to do so. Thus a merchant may void a transaction, but the hold will remain on the account.

Rarely, banks will remove authorization holds with a verbal (or for larger amounts, written) request from the authorizing merchant. Such requests usually require information such as the cardholder's name, card number, authorization number and transaction amount. Due to the fact that most banks cannot verify that the letter from the merchant is someone who has authority to ensure the charge will not settle, they require the hold to remain according to their bank policies.

Holds for differing amounts

Another issue that occurs on a regular basis with authorization holds is when the transaction amount changes between when the hold is placed on the account, and when the transaction is settled. This most commonly occurs in situations where the final debit amount is uncertain when the authorization is actually obtained.

For example, if an individual makes a gasoline purchase by swiping their check card or credit card at the gas pump without using their PIN, then the pump has no way of knowing how much gas will be used. The pump typically authorizes a fixed amount, usually $1 but sometimes up to $100, to verify that the card is legitimate and that the customer has funds available. When the transaction is settled, it will actually post for the value of the purchase.

There currently is litigation in the State of Florida which alleges that some gas stations do not adequately inform their customers that a certain fixed dollar amount (usually between $75.00 and $100.00) will be requested as a pre-authorization in connection with a customer's purchase of self-service gasoline at the pump using either a checkcard or debit card and that this practice violates various Florida consumer protection and civil laws. The lawsuit was filed by Florida attorneys Cameron Moyer and James Staack in November, 2007. Class certification was granted by the Circuit Court in February, 2009. The Defendant is currently appealing the Class Certification Order.

Another example can be seen with a restaurant transaction. If an individual spends $40 at a meal, the server does not know how large a tip they will leave, if they choose to leave one on the card. The restaurant's credit card terminal is typically set to authorize a larger amount, such as 20% above the cost of the meal, but the transaction will settle for the actual total including the actual tip written on the receipt. Some restaurants will authorize just the amount of the bill but the transaction will settle higher with the tip included. Acquirers sometimes forbid the practice of preauthorizing an amount including a tip, but will guarantee settlement of the amount authorized plus 15 or 20%.

Other establishments that may settle transactions for different amounts than were originally authorized include hotels and car rental agencies. The final cost of these transactions can be extremely unpredictable due to unforeseen extras such as room service charges, refuelling charges, or longer stays. These companies typically place a hold on the customer's credit card at the beginning of the transaction for the estimated total plus a percentage or a fixed dollar amount (such as the estimated rental charges plus 15% or $250 -- a policy many customers are not aware of). These types of establishments usually do not settle the transactions until after the customer has checked out or returned the rental car. Some hotels and car rental agencies do not accept Visa or MasterCard-branded debit cards, as the authorization holds can expire before the transaction is settled. Additionally, some of these agencies use the requirement of a credit card as a tool to screen high-risk customers, as credit cards usually require a good credit history, while all that is needed for a debit card is a checking account.

Another example of a transaction that may settle for an amount different from the amount authorized is a transaction incurred in a currency different from the currency the card is denominated in. In that case, the final, settled, transaction amount will be based on the exchange rate in effect on the settlement date. As that rate is generally not known at the time of authorization, for authorization purposes the banks will use an estimated amount based on the exchange rate at the time of authorization.

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