What are the best payment methods for subscription businesses?

With the subscription economy booming, what are the best ways to effectively collect recurring payments from your customers and keep churn to a minimum?

Andy Tweddle, Senior Content Marketer

23 Nov 2022

The subscription economy has been growing for well over a decade, with countless products and services — including some of the world’s largest brands — operating under a subscription model. The global subscription market is worth $275 billion and is expected to more than double to just short of $600 billion by 2026. In the UK, two-thirds of homes are signed up to at least one subscription service.Generally, subscription models suit businesses and consumers alike. The customer lifetime value (LTV) is often high, as consumers will carry on using a service for a long time if they see value. And customers typically pays in smaller increments, so they never have to fork out a single large sum. When done right, this leads to low churn and high retention rates, vital for any subscription business’ long-term success.But there’s one key element that allows (or stops) a subscription business from growing and operating efficiently: the ability to effectively collect payments.

Why are payments important for subscriptions?

Every subscription model is built on recurring revenue. Payments could be collected weekly, monthly or annually. And while many subscription businesses will collect the same amount at every interval (think Netflix or Spotify), many others will collect different amounts every time — possibly based on usage.For all of this to function, the business needs to be able to collect payments from its customers on the right date, for the right amount and — ideally — with as little manual input as possible. If you can’t collect payments easily, you run the risk of:

a customer losing access to your product or service
your brand losing out on revenue
additional admin time spent chasing up or rectifying failed payments
customers growing frustrated and taking their business elsewhere

Whether it’s voluntary churn (the customer grew frustrated and decided to leave) or involuntary churn (the customer is simply unable to pay and is forced to leave), payment problems impact customer retention.But which payment methods are good for subscriptions? While there are many choices for online payment collection, several don’t have the capability to collect payments on a recurring basis. This article looks at four options for subscription payments, exploring the benefits and drawbacks of each payment method.

What do we mean by payment method?

For this article, we’re talking about generic payment methods, such as card payments, bank transfers and direct debit. You’ll often hear about payment service providers (PSPs), payment gateways and payment acquirers, which all have different purposes.

A payment service provider (PSP) typically processes online payments on behalf of a merchant.
A payment gateway is a service used by businesses to authorise payments for card transactions, typically online.
A payment acquirer is the provider of your merchant account.

These services can be managed by different providers, or services like Worldpay and Stripe can help a business manage all aspects. Each of these approaches has its own benefits, but your experience of using a payment method will look somewhat familiar across all providers.With all that in mind, which payment methods are best suited to collecting subscription payments?

Card payments (Continuous payment authority)

A continuous payment authority (CPA) is a form of recurring payment set up by a merchant on behalf of a customer using their debit or credit card information. It allows a business to collect an initial payment from a consumer, then take further payments as needed. A CPA can only be set using card payments. You may also see this referred to as a card-on-file payment.

Benefits of CPAs

Card payments are popular and recognised in the UK and Europe. They currently represent around 41% of all ecommerce payments, making CPAs a recurring payment option that most customers will know and trust. CPAs are flexible, because businesses can charge varying amounts when the payment is due, without further authorisation from the customer. The setup process for CPAs is also very simple. Customers only need to provide their card details and an authorisation — verbal or written — to set one up.

Drawbacks of CPAs

As common as CPAs are, they have a reputation for being difficult to cancel, and easy for disreputable companies to exploit. The problem is so great that there are even guides on consumer affairs sites dedicated to helping consumers cancel CPAs.Because CPAs are so simple to set up, it’s easy for customers to fall into ‘subscription traps’, where companies make it difficult (intentionally or unintentionally) for a customer to cancel their subscription or stop businesses from taking payments that don’t fall under the original authorisation.Even when CPAs are set up and used legitimately, there can still be problems. Card fees are an ongoing concern for online retailers, with some charged on a per-transaction basis. With a subscription model, card charges are made as often as each week, with each incurring a fee. Card payments also suffer from high failure rates — between 5–14% — and failed payments can lead to dreaded involuntary churn.

Direct debit

A direct debit is an instruction from a customer to their bank, authorising someone (in this case, a business) to collect payments from their account on a pre-agreed schedule. Direct debits have long been a common method for collecting recurring payments, especially for things like utility bills and gym memberships.

Benefits of direct debit

Unlike CPAs, direct debit has strong consumer protections for consumers. Once authorised, a direct debit must include advanced notice (where the business notifies the customer of an upcoming collection). The customer is also protected by the Direct Debit Guarantee, which allows for the immediate return of a payment if requested. Typically, direct debit is more cost-effective than CPAs. Card payments involve multiple intermediaries, each of which typically charges a fee. As CPAs are bank-to-bank payments, there are fewer go-betweens involved and therefore less cost.

Disadvantages of direct debit

Slow settlement speed is the main drawback of direct debit, with a typical payment taking three to five days to settle into the merchant’s bank account. This can be a problem for merchants, especially those that need to take the first payment instantly, so the customer can access their service or product straight away.Security with direct debit is also a mixed bag. While there is no credential sharing, such as with card payments, there is also no strong customer authentication (SCA) or equivalent. SCA is a method of authentication that allows customers to prove they are who they say they are. Without it, fraudsters who are able to gain access to a customer’s bank account details could set up a direct debit instruction without authorisation.

Standing orders

A standing order is a regular, automated payment of a fixed amount of money for goods or services. While it sounds like a direct debit, it’s set up and fully controlled by a bank account holder, making it a popular option for regular payments between family and friends. Standing orders are essentially manual bank transfers designed to repeat at regular intervals.

Benefits of standing orders

For businesses, having your customers pay by standing order can reduce the fees you would otherwise incur using alternative payment methods. By asking your customer to set up a regular payment in their own banking app, each transaction is essentially free. Settlement speed is also instant in the UK, as manual bank transfers are powered using Faster Payments. As every standing order is set up by a consumer using their online banking portal, security is typically strong. As long as the customer has multi-factor authentication enabled, it will be very difficult for fraudsters to set up illegitimate standing orders.

Disadvantages of standing orders

The main drawback of a standing order is the user experience. By requiring the user to log in to their banking app, then navigate to the standing order section of the app, you essentially force your customer away from your own checkout page. That increases the chances of the customer either getting confused or simply forgetting to complete the payment set up.In turn, this increases the operational costs of collecting payments by standing order. For every payment set up with the wrong amount or wrong frequency, and for every time a customer needs support setting up the right standing order, your customer service or payments team has to devote time that could be spent doing something else. Being manual by nature means standing orders are a difficult payment method to offer at scale.

Variable recurring payments (VRP)

A variable recurring payment (VRP) is the open banking equivalent of a repeating payment. Open banking payments (also known as ‘instant bank transfers’) have been around for over four years, and now account for over 7 million payments every month in the UK. But for most of that time, there hasn’t been a way to make recurring open banking payments, as users have had to authenticate every separate payment. The arrival of VRPs has changed all that. VRPs are an additional Open Banking API that banks are required to build. VRPs also bring functionality that enables third party providers (TPPs) like TrueLayer to initiate a series of payments for customers at variable amounts and intervals.Currently, banks are only mandated to allow ‘sweeping payments’, which is the transfer of money between two accounts belonging to the same person. But we are already seeing several banks — including NatWest — building ‘commercial’ VRPs, which will allow them to be used by businesses to collect subscription payments from their customers.

Benefits of VRP

Unlike direct debit and card payments, VRPs use open banking to settle transactions almost instantly. This helps merchants gain access to their funds faster. VRPs also lack the high fees of card payments and the operational costs associated with direct debit. Combined, that creates a considerable cost saving for businesses.Open banking payments have SCA firmly integrated into their payment flows. This helps minimise fraud, particularly through the elimination of card fraud.VRPs also doesn’t require re-authentication or re-authorisation. Payment consent is tied to a customer’s bank account, so it doesn’t expire until removed by you or the user. This will reduce the likelihood of involuntary churn caused by failed payments.Most importantly, customers will have full control of payments, including the ability to ask payment providers to cancel them at any time, avoiding the problems faced by CPAs.

Drawbacks of VRP

The main drawback of VRPs is simply that banks are still developing and deploying them, so they’re not always available for customers. But since it was first announced in mid 2021, several of the major UK banks have already built and launched VRP functionality. While only the UK’s nine biggest banks have been mandated to build VRP APIs, we saw with open banking that the vast majority of other banks are likely to follow suit.

Should my business accept multiple payment methods?

If each payment option has its own benefits and drawbacks, should a business offer multiple payment methods at checkout? The short answer is yes. Research shows that if the right payment options are available online, shoppers are more likely to buy from a retailer and less likely to abandon their basket. It also typically speeds up the purchase process, especially on mobile. Almost half of shoppers in the UK and Ireland (48%) said they’re more likely to buy from a retailer that provides different payment options. But offering multiple payment methods comes with its own cost. Each one comes with additional admin to manage and potential failed payments to rectify. And too much choice can — paradoxically — turn customers away. As Airbnb Product Manager Colleen Graneto recently described it, “The array of choices can make it seem more complicated because there are sometimes too many options to choose from. It actually creates more friction.”The key idea here is balance. Offer multiple payment methods if customers demand it, but make sure you’re not confusing or distracting those same customers with a long list of options.

How can TrueLayer help you with VRP?

TrueLayer’s VRP solution, powered by our all-in-one Payments API, is a powerful way to collect recurring payments while reducing fraud, cost and friction. Plus, as our first non-sweeping VRP partnership with NatWest shows, we’re leading the industry as VRP continues to evolve and develop.

Insights straight to your inbox

Join 10,000+ subscribers getting the latest open banking news.

About the author

Andy Tweddle

Senior Content Marketer

Andy is a Senior Content Marketer at TrueLayer, where he writes blog posts, guides and reports to help people understand more about TrueLayer, open banking and payments.

8 Dec 2022