They say the customer's always right. It's especially true online, where consumer protection is even stronger than in physical stores. Take frauds, for example. When a customer doesn't recognize a charge on their credit card, they can dispute it with their bank. This could be for any reason.
Following an investigation, the card issuer initiates a chargeback, which triggers a refund to the cardholder from the merchant. It's the merchant's responsibility to verify the transaction, either by accepting the dispute or providing evidence that it's legit.
In general, there are two main scenarios. In the first scenario, the transaction was actually fraudulent or was done by mistake by the merchant's billing system. In the second scenario, it is the cardholder who tries to defraud the merchant by claiming a chargeback to get their money back and keep their purchase (aka friendly fraud).
Whatever the case may be, chargebacks incur a cost. Even if the merchant proves that the transaction was legitimate, there is an administration cost for handling the dispute and additional chargeback fees. The worst case scenario is that the merchant receives excessive chargebacks and is flagged as a high risk merchant. Credit card processors around the world maintain Terminated Merchant Files (TMFs) that contain information about accounts that have been closed because of high chargeback rates. Although TMFs are supposed to be informational tools during the account application process, being listed on one—such as Mastercard's MATCH—can have serious effects on merchants, as many entities refuse to accept businesses or individuals on TMFs.
The question is: How can chargebacks be avoided? The short answer is that chargebacks are inevitable. There is no way to prevent a customer from initiating a chargeback with their bank. However, there are many ways to mitigate the problem.
A conservative, but also safe approach is to refund the customer's account as soon as the chargeback is requested, before the dispute is escalated. The key is to accept chargebacks as part of your business and to proactively mark them as lost instead of trying to win them. While this approach creates more opportunities for friendly frauds, it avoids the administrative costs associated with dispute resolution, expensive chargeback fees, and most importantly, it avoids the possibility of being listed on a TMF and putting your entire business at risk.
Recently, I came across an interesting service that automates this mechanism. I'd recommend checking it out if you're interested in trying this approach.