Operations Research 66.6 (2018), pp. 1517–1532.

Three-part tariffs (3PT) are widely used, for selling goods, pricing telecommunication and information services, to compensate workers, and in procurement contracts. Like a two-part tariff (2PT), a 3PT also imposes both a fixed access fee and a per-unit usage fee, but it also bundles some free units (an allowance) into the fixed fee. With a general theoretical model of consumer demand, we show that a 3PT is more profitable than a 2PT only when one of the following conditions exist: consumer biases such as overconfidence or overestimation of consumption; or very sharp across-segment differences. In contrast, when demand is characterized by non-decreasing price elasticity (a common feature of most theoretical models) the optimal 3PT reduces to a 2PT.