Chargebacks: Digital currency markets need to fend off lawsuits related to fraudulent transactions, says Roenen Ben-Ami, co-founder and chief risk officer at Justt.ai.
Crypto has gone mainstream: currencies like Bitcoin are now owned by hundreds of millions of people around the world and accepted by an increasing number of online retailers. Ignoring cryptocurrencies is risky for online traders. Crypto will play a key role in the payment infrastructure of tomorrow and it is vital for forward-thinking merchants to plan for the future.
Still, as the industry’s current fluctuations show, joining the crypto revolution presents serious challenges. I recently had the opportunity to discuss the role of cryptocurrencies in digital trading at the Merchant Risk Council (MRC) in Berlin. I took the opportunity to point out that volatility is far from the only issue traders face when exploring the use of Bitcoin and other cryptocurrencies.
In fact, there is one big challenge that many cryptocurrency advocates overlook. Chargeback fraud is increasingly becoming a major concern for crypto exchanges. It has the potential to cause training problems for many other types of digital marketers.
Chargeback: burden on exchanges
This may seem counterintuitive. In theory, protection against payment fraud should be a major selling point for digital currencies. Cryptocurrency transactions take place on decentralized electronic ledgers and are secure by design. A transaction cannot be canceled once it has been accepted by both parties. Conventional chargebacks are simply not possible: once a transaction is closed, there is no going back.
But instead of rooting out the “friendly scam,” Crypto Payments takes the box from the merchant and places it on the crypto exchange where the digital currency was originally purchased. It is true that a purchase made using cryptocurrency cannot be directly disputed, but if the customer originally purchased the cryptocurrency using their credit card, then this root transaction box still be disputed.
Confused? Here’s an analogy. A customer goes to an ATM and withdraws $100. With this money, they go to the store and buy jeans. A week later, they decide they don’t want the jeans anymore, but they can’t get a refund from the seller. Instead, they file a lawsuit against the ATM that originally issued them the money they spent.
In this scenario, the store selling jeans is a business offering crypto payments at checkout. The ATM is the exchange from which the customer originally purchased their cryptocurrency. There is no legal framework that holds merchants accountable if a buyer wishes to cancel a purchase made using cryptocurrencies. So the only recourse for a disgruntled customer is to file a chargeback against the crypto exchange, claiming that their payment card was used illegally.
Chargebacks: open abuses
Even worse, it’s not just disgruntled customers who use (and abuse) chargebacks against crypto exchanges. As we all know, the crypto space can be a bit of a wild west, and consumers who are affected by scams designed to separate them from their digital coins could end up looking for a replacement by any means possible. Even if that means abusing the chargeback system by disputing their original, legitimate fiat-to-crypto purchases.
Then there is the issue of volatility. With currency values moving in double digits in a single day, chargebacks can cause serious problems for exchanges. Customers could use transaction disputes as a hedge against loss of value. If the currency collapses in the weeks following the trade, the client may be tempted to use a chargeback to recoup their initial fiat investment. Taken to extremes, such strategies could allow unscrupulous investors to de-risk crypto speculation on exchanges. This is when they are free to pocket their earnings if the value of the currency increases.
Such cases are much more common than you might think. Today, anyone with a smartphone can buy cryptocurrency. It is just as easy to file a chargeback request against the exchange. As I told my colleagues in Berlin, many crypto markets are now losing 10% to 20% of their bottom line due to chargeback requests. Given the extremely low margins in the industry, this poses an existential threat to all but the most profitable crypto platforms.
Chargebacks cost exchanges money, but fighting fraudulent disputes can also be costly. In any case, exchanges have fewer resources to invest in customer service, product development and innovation. This makes it difficult for them to capitalize on the rapid expansion of cryptocurrencies.
What is the solution?
The long-term solution will be the development of new protocols that give crypto-transactions the same consumer protections as credit card payments. This ensures that chargebacks are handled primarily by traders, not exchanges.
According to Motie Bringa, Nuvei’s Chief Commercial Officer, “if you want to have consumer trust, you have to have the right mechanisms in place.”
But with cryptocurrency regulation moving at a glacial pace, the burden of chargebacks on exchanges won’t ease anytime soon. So what is the immediate solution?
First and foremost, crypto markets must ensure that they have a comprehensive customer verification system in place. Anonymity and fraud go hand in hand, so it’s important to collect as much customer information as possible during the onboarding process. Of course, the demand for a large amount of information will not always satisfy potential crypto clients. Binance solved this problem by offering a seamless registration process, but then requiring certain additional verifications (such as identity verification) before coins can be purchased or withdrawn.
The right integration can support chargeback disputes, but with modern AI and machine learning, it’s also possible to leverage new technologies to scale, automate and optimize chargeback mitigation efforts. Done well, these approaches can help exchanges win more disputes while significantly reducing the extent to which chargeback disputes drain their resources.
The dynamic future of cryptocurrencies
Crypto payments are here to stay and exchanges will play a vital role in helping both crypto newbies and seasoned traders gain access to cryptocurrencies of all kinds. But in the Web3 world, it is essential to recognize the new risks that cryptocurrency integration brings to both traders and exchanges.
Until regulation catches up, these risks will continue to grow. Therefore, it is important that exchanges act now and implement appropriate, technology-enabled chargeback mitigation strategies. Disputes over fraudulent transactions are becoming a major concern for crypto exchanges today – and if the crypto space is to truly become mainstream, exchanges will need to find efficient and scalable solutions to handle fraudulent chargebacks.
Roenen Ben Ami, Co-Founder and Chief Risk Officer of Justt.ai, is an expert in payments and chargeback mitigation. Previously, Roenen led the Chargeback and Merchant Risk teams at payment service provider Simplex, successfully recovering millions of dollars annually. He also served nine years in the elite military intelligence unit of the Israel Defense Forces, rising to the rank of captain and leading the creation of an innovative operations department focused on change management, human resource development and risk management.
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