If you think inflation and tipping culture are out of control, how about voluntarily paying a 25 per cent markup on your spending while travelling?
That’s an extreme example of the extra cost you might incur simply because you think being charged in Canadian dollars while abroad is convenient. It’s a practice known as dynamic currency conversion and you should steer clear of it at all costs.
I nearly fell out of my chair when my wife sent me a photo of her credit card receipt from a London Heathrow airport restaurant, in which the £23.63 total for a plate of fish and chips apparently converted to $51.21. At least, that would have been the case if she had opted to be charged in Canadian dollars, which she did not.
The restaurant’s exchange rate on the receipt was $2.167 to the British pound, but unless you knew the actual market rate was closer to $1.67, you might not realize how ludicrously capacious that markup is. Or maybe if you’ve been in a coma for 20 years, because that’s about the last time the pound was that strong relative to the loonie.
Normally, a Canadian charging £23.63 to their credit card might expect to pay closer to $40.88, based on the exchange rate at the time of this transaction. The foreign exchange rates offered by Visa and Mastercard tend to have markups under 3 per cent above the market currency exchange rates. There is typically also a foreign transaction fee applied of around 2.5 per cent by your card issuer.
So where did the almost extra $10 come from if you chose to be charged in Canadian dollars on the spot at a Heathrow restaurant?
Instead of allowing the customer’s credit card to determine the currency conversion rates and fees, dynamic currency conversion effectively allows the merchant’s payment system provider to step in and offer you an exchange rate on the spot. It’s pitched to merchants as an additional revenue tool as the rate offered is typically uncompetitive. The extra cost the customer incurs gets split between the merchant and their payment terminal provider.
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The deceptive attractiveness of seeing the cost of a transaction in Canadian dollars gives us a frame of reference we are familiar with. I have to sit down and think about whether 200 pesos for a burger in Mexico is a good deal or not, but if you tell me that’s the equivalent of $15, I can figure that out instantly.
But there is an added wrinkle that masks the uncompetitive exchange rate. Our expectations of whether a country has a higher or lower cost of living play a role in our perception of value.
If we travel to a country that is generally more expensive than Canada, we expect higher prices and seeing a higher than normal amount being charged in Canadian dollars is irksome, but we swallow it. Conversely, if we travel to a country where we know our dollars go further, we might see a charge in Canadian dollars that is still lower than what we are used to even after factoring a healthy markup. It still feels like a deal.
In this way, the cost of convenience is blended into our expectations of general purchasing power differences when travelling to foreign countries and we often struggle to distinguish one from the other.
The normal markups are not as bad as witnessed by my wife on this particular occasion. It’s much more common to see lower dynamic currency conversion that might appear to be competitive with allowing your credit card to handle the conversion.
I’ve seen some people online argue that using dynamic currency conversion and being charged in Canadian dollars might avoid the foreign exchange fee the card issuer might charge on top of the exchange rate they are offering.
But when making your comparisons, you might be surprised to find out that even if you opt for dynamic currency conversion, you could still be charged a foreign transaction fee because you were not in Canada. Even if the charge went through in Canadian dollars. You’ll have to check with your specific card issuer.
Depending on where you travel, it might be common practice to list the markup over market exchange rates in percentage terms on a bill. Disclosure is getting better in some places, but clearly not all. Given that the costs of dynamic currency conversion could add hundreds, and potentially thousands, of dollars to your next family vacation, it’s important to have a game plan for when you are presented with a bill from a foreign merchant.
My recommendation is simple: Ideally, you’ll want a card that has no foreign exchange transaction fees and you should default to paying in the local currency of wherever you are travelling to keep your currency conversion costs as reliably low as possible.
In other words, default to saying no to paying in Canadian dollars while travelling.
Preet Banerjee is a consultant to the wealth management industry with a focus on commercial applications of behavioural finance research.