By Matt Walstatter
When people ask me what it’s like to run a cannabis business, I often tell them that it’s a lot like running with ankle weights. We do all of the same things as any other business, but everything is a little bit more difficult.
We still pay bills, but many of us can’t get bank accounts. We still pay taxes, but we can’t deduct any of our expenses. And we make sales just like anyone else, except that they are almost exclusively in cash because we cannot secure credit card processing or other merchant services.
The issues around taxes and banking garner most of the media attention, but the lack of merchant services remains a serious issue for our industry. For most people, using credit cards is their norm. Using cash feels strange, and having to get cash creates an extra step in their day.
Transacting entirely in cash creates massive security issues that card processing can help to alleviate. In addition, by allowing customers to tap into their consumer credit for purchases, adding card processing can boost sales by as much as 30%.
Some credit card processing options exist in the cannabis industry, but they are usually incredibly expensive. What’s more, because the laws governing these transactions, as well as the rules and policies of the various corporations involved, remain murky, it can be difficult to know which services are legitimate and which ones are not.
In fact, I have spent significant time and resources researching this topic and I still don’t know exactly what is legitimate and what is not. I don’t necessarily have all (or any) of the answers, but at this point I finally know what the questions are.
How Credit Card Processing Works
Before you can figure out how (or whether) to use merchant services for your cannabis business, it helps to understand how credit card processing works. Most of us swipe our cards many times each day, pay our bills when they arrive, and don’t give it much more thought. But the process has a number of steps involving many players that remain hidden from most consumers.
When a customer swipes a card to make a purchase, the card information is entered into the merchant’s computer. The merchant then submits this information to an acquiring (or merchant) bank, which creates and maintains the merchant accounts that allow the business to accept credit and debit cards. The acquiring bank passes the information on to a card network such as Visa, Mastercard or American Express. Payment processors typically facilitate these transactions, so the merchant interacts with the processor rather than the acquiring bank.
The card network then verifies that the card is legitimate, that there is enough room on the account for the charge in question and that everything is kosher. It does this by checking with the issuing bank, which provides the card, tracks account balances, collects payments from the consumer and administers the consumer account.
Once the transaction has been approved, the network notifies the issuing bank, as well as the acquirer, who notifies the merchant and the customer. If a transaction is approved, the acquirer will transfer funds to the merchant (less the fees charged by the network and the processor) through a process called batching.
This occurs when the merchant sends the day’s transactions to the acquirer and the acquirer then transfers the funds to the merchant’s account. The acquirer sends the transactions to the network, which forwards each transaction to the appropriate issuer. The issuer routes the funds through the network back to the appropriate acquirer. The issuer then collects from the consumer. And of course, everyone is collecting fees from someone along the way.
This is not a simple process for any industry, but it gets a bit more confusing once you add the cannabis ankle weights. In addition to merchants and consumers, we have a number of players, including acquiring banks, issuing banks, card networks and payment processors. Each has their own general rules and policies, as well as specific rules and policies for cannabis.
Further complicating matters is the federal prohibition of cannabis and all of the resulting challenges for banking and finance, making this an incredibly difficult landscape for any business owner to navigate.
But despite these challenges, the payoff for securing merchant services can be huge. So for those of you brave enough to dive into these muddy waters, here are a few tips.
Who Knows What?
Due to the complexities that arise from selling a product that is federally prohibited, most players in the merchant services system simply refuse to work with the cannabis industry. The few who do typically don’t want any publicity around it. Many take the public position that they will not work with cannabis, while quietly doing exactly the opposite behind the scenes.
In some cases, you have one link in the chain that wants to work with our industry while one or more others do not. Sometimes this leads to one partner deceiving (or at least not being entirely forthcoming with) another. This is one of the fundamental causes of confusion in this area.
The position of the networks can be particularly opaque. Mastercard and Visa have stated publicly on more than one occasion that they will not work with the cannabis industry. But I have been told by several people offering merchant services that this is simply a public position and that they really don’t care. Of course this is exactly what you would say if your plan was to deceive both your merchants and the card network, so who knows?
Whenever I am approached by someone offering merchant services, my first question is who knows what? Do the processor and the acquiring bank know that they will be handling cannabis transactions? What about the card network?
Some companies will tell you outright that they are not telling their partners about cannabis. Others will say that they have partners willing to work in the cannabis space. These partners often wish to stay anonymous for the reasons discussed above.
What you choose to do with this information is a personal business decision. Many cannabis companies are using merchant services under false pretenses and frankly this is a very gray zone. Be aware that if you proceed under these circumstances, there may be consequences. At the very least you can lose your processing, but you can also be permanently banned from processing credit cards or possibly even charged with money laundering.
Always ask about coding and miscoding. Every credit card transaction is assigned a code that describes the type of transaction. One tactic used by less scrupulous processors is miscoding—assigning an inaccurate code in order to disguise the nature of the transaction. This is a big no-no and, at the very least, I suggest steering clear of anyone who miscodes.
Merchants pay for these services in a number of ways. The processor keeps a percentage of each transaction and distributes it among the various links in the chain. They typically charge a set fee per transaction as well. Some providers also charge a monthly fee. Equipment is either purchased or leased, adding to the cost of processing.
In most industries, the processors’ cut averages about 2.5%-3%. For cannabis, it typically runs from 4%-8%. I had a processor quote me 5.5% just the other day. The per transaction fee is usually about 20-35 cents. For cannabis (act surprised), it runs a bit higher. That same processor quoted me 59 cents per transaction. The monthly fee is not used in most sectors. It is only found in high-risk industries like cannabis.
Another potential cost involves chargebacks, which is the term for when a customer refuses to pay a charge for any of a variety of reasons. These are the bane of the industry. Processors with too many chargebacks can lose their ability to process, which puts them out of business.
Some processors in high-risk industries like cannabis require you to create an escrow account for some percentage of your sales (often as much as 5%). If you get a chargeback, they will pay it out of this account. After a set interval, the funds are released. Whether this is acceptable to you is another personal business decision, but I can tell you that it’s a deal breaker for us. We simply can’t afford to have 5% of our sales indefinitely impounded.
As we have seen, the companies processing credit cards for the cannabis industry take a variety of approaches. Some try to dot every i and cross every t, while others rely on deception. Still others take a more creative approach, using systems that appear to the consumer like a typical credit card transaction, but look very different at the back end.
One example of this is called a closed loop system. In such a system, consumers sign up for an account with a card that they can swipe for purchases at a dispensary. They load value onto that account online or through an app, using their credit card or drawing funds directly from a bank account.
Once the account is loaded, the customer swipes it to make a purchase, initiating a process much like the one described above for credit cards. Some companies will work under this type of system because the credit card is swiped to add value to the closed loop account, rather than to purchase cannabis, which technically changes the nature of the transaction.
Because they mitigate some of the potential exposure for banks and processors, closed loop systems are gaining in popularity.
The current processing situation for cannabis businesses is pretty grim. If legitimate, compliant credit card processing exists for our industry (and I’m not 100% certain that it does), it comes with a number of complications and restrictions, as well as a hefty price tag. Most options are deceptive at a minimum, and potentially illegal.
But securing merchant services is important to any business. It eliminates potential security risks and increases sales substantially. The value proposition for credit card processing is too great to ignore it entirely.
We do not yet process credit cards because I have not found a company or a system that I am comfortable with. But I keep looking. I meet with anyone offering processing and I ask my questions. I expect that sooner or later I’ll find a company with a solution that works for me, unlocking all of the value that comes with merchant services.
When that happens, my ankle weights will get a little lighter.