Whether you own a brick-and-mortar business that wants to venture into online sales or are considering opening an e-commerce business, you’ll want to know how you accept payments online. Online retailers and brick-and-mortar companies that take credit cards do so thanks to credit card processing.
The credit card processer your company works with will significantly impact your business costs and the quality of service you can offer your customers. With the right credit card processor, you can automate the payment process, speed up transactions and improve your company’s cash flow. If you’re in a high-risk industry, choosing the right credit card processor becomes even more critical, as you want to work with a company that understands and accepts the risks that are inherent to your business.
We put together this complete guide to credit card processing to help you better grasp what happens when a customer swipes or types in their credit card number and how it affects your business overall.
As a payment method, the credit card isn’t very old, although the concept of credit is. People have been lending money or some form of currency to each other for almost as long as humans have been around. Some historians trace the use of credit back to the Mesopotamians. The ancient civilization left behind clay tablets that might provide a clue about how it managed trade with others.
Several thousand years later, in the American West, settlers developed a system of credit based on tokens or coins. Merchants would let farmers charge purchases using the tokens. When the harvest came in and the farmers sold their crops, they could repay the merchants.
Outside of the American West, other stores would often let customers run a tab. The customers would purchase and use products from the store, and the owner would record the cost. The customer was then expected to pay off their tab, although there wasn’t an established due date.
Eventually, the system of using coins or recording customers’ purchases evolved into metal cards, the earliest form of credit cards. Western Union introduced a product called “metal money” in 1914. The metal cards let certain people charge purchases at certain stores. They were considerably more limited than today’s plastic cards. However, like some types of credit cards today, only certain people could access them.
One of the issues with metal money and other early forms of credit cards was limited use at a single retailer. That started to change in the 1940s, with the introduction of the Air Travel Card. The Air Travel Card let customers purchase plane tickets from several different airlines. Another early example of the modern credit card was the “Charg-It” card.
The “Charg-It” card had a very limited customer base. Only people who had an account with Flatbush National Bank in Brooklyn could use the card. Those customers could only utilize their Charg-It card at businesses within a two-block radius of the bank. Merchants that accepted the card would visit the bank to drop off their sales slips and collect payment.
The Diner’s Club Card is another example of a very early credit card. At first, the card was available only to certain men and could only be used for payment at a few restaurants. Eventually, the card grew from its beginnings in the late ’40s, and the number of people who had access to it increased. At the start, just 200 customers had a Diner’s Club card. Within two years, the number of Diner’s Club members had risen to more than 42,000.
Restaurants that accepted the Diner’s Club card agreed to a few terms. They paid a fee of about 7% and had an agreement with the card company. The earliest form of the Diner’s Club Card was more of a charge card than a credit card. Cardholders were expected to pay the entire balance on the card at the end of the billing cycle. There wasn’t the option to let the balance roll over or pay a minimum amount.
The Diner’s Club Card popularity encouraged other companies to get in on the act. The card that saw the first wide acceptance across the United States and allowed customers to carry a balance was the BankAmericard. A few years after its founding, BankAmericard partnered with other credit card companies to create Visa, the first payment processor.
Over time, how credit cards work and their format evolved, too. The magnetic stripe was created in the late 1960s and became widespread in the 1980s. At the time, the magnetic stripe was revolutionary, as it contained information about the card, including the account owner’s name and the card’s number. The strip was more secure than earlier methods of sharing credit card information but not as secure as it could be.
Today, most credit cards contain a tiny computer chip, known as an EMV chip. The chips are encrypted, making it difficult for a bad actor to intercept credit card data. The chips also create a code that’s only valid for a single transaction. If someone manages to steal the EMV chip’s information, they wouldn’t be able to do much with it. The EMV chip was first widely adopted in Europe. It only came into widespread use in the U.S. in the 21st century.
It’s also common for today’s cards to allow for contactless payment, meaning a customer paying in person simply needs to tap or wave their card near a card reader.
Today, millions of people worldwide use credit cards, and numerous companies issue credit cards. Credit card use has been steadily increasing over time. In 2019, people used credit cards to pay for 23% of all transactions, rising 2% from 2017.
There are several reasons why credit cards have become one of the most popular methods of payment:
Whenever a company accepts a card payment, a cast of characters is involved in the process. Here’s a quick look at who’s who when it comes to paying with and accepting a credit card:
It can be easy to confuse a payment processor with a payment gateway, but the two are distinct entities in the process of accepting credit and other types of payment cards. The payment processor is the entity that facilitates the credit card transaction. The processor sends transaction data from the merchant to the right bank. In some cases, the processor might provide equipment to the merchant to help it collect credit card information more easily.
A payment gateway is a tool that a merchant uses to send the credit card data to the processer during a transaction. Payment gateways are often used during online transactions or when a customer’s card isn’t physically presented, such as if a person places a phone order.
In some cases, the payment processor can offer a payment gateway. In others, a merchant might need to work with a separate payment gateway provider.
When a customer gives a merchant their credit card at the end of a purchase or types in their credit card data when shopping online, everything seems to move at the speed of light. The purchase is usually approved or declined within a few seconds.
The speed at which credit card transactions take place conceals the fact that many steps occur along the way. From the minute a customer provides their credit card details, here’s what happens:
Once the customer provides their credit card information, the acquiring bank reaches out to the card network to request authorization. The card information is sent to the network through a payment gateway. The transaction data also gets sent to the customer’s issuing bank to authorize the purchase.
The issuing bank will review the transaction details, including the amount and the card information, and decide whether to approve or decline it. The card issuer might decline a purchase because something about the card data is wrong, such as an incorrect PIN, expiration date or card verification value (CVV) number. If the cardholder doesn’t have enough left in their credit limit to make the purchase, the card issuer might also decline the transaction.
Otherwise, the issuing bank will approve or authorize the transaction if everything checks out.
Once a purchase is authorized, the issuing bank puts the amount of the transaction on reserve. It doesn’t send the merchant the money immediately. As the day goes on and multiple transactions occur, the number of authorizations increases. By the end of the day, the merchant might have had 100 transactions, each with its own authorization code.
At the close of business for the day or on another schedule, such as every eight hours if the company is open around the clock, the payment processor will send the credit card authorization codes to the merchant’s acquiring bank. The acquiring bank will then batch the authorization codes, sending them to each issuing bank. The issuing bank then pays the acquiring bank.
After the acquiring bank receives the payment from the card issuers, it still has to pay the merchant. It does that by depositing the money into the merchant’s account. When funding occurs depends on the agreement the merchant has with its bank.
A merchant account operates similarly to a line of credit. Once the funds are cleared in the account, the merchant can access them. But there is a chance that the acquiring bank will need to withdraw the funds again. For example, if a customer has an issue with the purchase and requests a chargeback, the card issuer will refund their money. The issuing bank will then expect the merchant to pay for the refund.
Credit card fees are part of the cost of doing business in the modern world. If you want to accept online orders, you need to accept card payments. How much your company pays in fees depends on several factors. Different card networks charge various rates, and within a single card network, there might be different rates based on the type of card a customer presents.
Payment processors might also charge customers more or less depending on the industry. Companies that fall into a “high-risk” category often have to pay more for card processing than lower-risk companies.
Take a look at some of the fees your company might have to pay to accept credit cards.
Credit card issuers charge merchants an interchange fee every time a customer uses a credit card. The fee usually consists of a flat rate plus a percentage of the sale, often between 1%-3%.
The card networks typically determine the interchange fee, using multiple conditions to determine how much to charge. The degree of risk involved in the transaction often affects the fee rate. For example, if a customer makes a purchase without physically presenting their card, there is a higher risk of fraud or theft. Some networks charge more for “card not present” transactions to minimize the effects of theft or fraud.
Whether there are rewards connected to the card also affects the fee charged. Reward cards usually have higher prices, as the extra fees help fund the cards’ rewards programs. Interchange fees also help cover some of the other perks credit card companies offer their customers, such as rental car insurance or purchase protection.
Some merchants refuse to accept certain types of cards or require minimum purchase amounts to minimize the impact of high interchange fees. American Express has had some of the highest costs for merchants, so some businesses don’t accept its cards. Similarly, a merchant might require a customer to purchase at least $5 or $10 worth of products to make accepting the card payment worthwhile.
The credit card network also charges an assessment fee. The assessment fee is based on a merchant’s total sales volume for the month. While the assessment fee is often combined with interchange fees, it’s important to remember that the two aren’t the same.
The company that facilitates credit card payments for merchants often charges a fee, too. The fee might be based on a percentage of the merchant’s sales, or it might be a flat rate. Some processors use a combination of methods, charging a flat rate plus a percentage of sales.
A merchant might have to pay an assortment of other fees based on the payment processor it works with and the type of equipment it uses. Some additional fees include:
Your payment processor will most likely offer you the choice of one of several pricing models. A payment processor’s pricing model also influences how much you pay for your merchant services. The three models most often used are:
With a tiered pricing model, a payment processor charges you a flat rate, plus a percentage of your company’s monthly sales. The rate you pay is based on the type of card a customer uses:
Tiered pricing can be complicated, but it has benefits, such as the option of being customizable. It can be less expensive than other pricing models.
Many payment processors, such as PayPal and Square, use a flat-rate pricing model. You pay the same percentage for every transaction with flat-rate pricing, such as 2.5%. The rate includes the interchange fee. You also pay a set rate per transaction, such as 10 or 15 cents, in addition to the percentage.
Flat-rate pricing can take some of the guesswork out of paying for credit card processing, as you know what you’ll pay no matter what type of card a customer uses. It can be more expensive than a tiered pricing model, though.
Interchange-plus or cost-plus pricing tends to be the least expensive of the three pricing models, but it has the greatest variability. With interchange-plus pricing, how much you pay is based on the following:
Some merchants prefer to save money on credit card processing by not accepting card payments. As the world moves online and the demand for cashless and contactless payments increases, refusing card payments is becoming a less viable option for businesses. Fortunately, there are steps you can take to cut the cost of card processing:
A certain amount of trust is required when customers use a credit card during a transaction. They trust that your company will use the card honestly and won’t charge more than the transaction amount. They also trust that their card and personal information will be kept secure. As a company, it’s up to you to make sure your customer’s credit card data is safe and that it doesn’t fall into the wrong hands.
One way to ensure the protection and security of credit card data is to follow the Payment Card Industry Data Security Standards (PCI DSS) and become PCI compliant.
To become PCI compliant, a business needs to follow 12 requirements:
Not all credit card processors are the same. They vary in terms of the fees they charge, the type of support they offer and the industries they serve. While some processors try to present themselves as “one-size-fits-all” and ideal for any merchant, the reality is that some companies are better served by working with a processor that specializes in specific industries.
When choosing a payment processor, pay attention to the following qualities.
Get an idea of the rates the credit card processor will charge before you agree to work with it. Ask what type of pricing model it uses and see a breakdown of the fees you can expect to pay monthly. The processor should be upfront with you about its costs and how it determines who pays what.
It can also be worthwhile to find out if the payment processor changes its rates occasionally or if you will pay the same amount for the entire time you have the account.
Ideally, getting up and running with the payment processor will be simple. Any delays in the process can affect your company’s ability to accept payments and complete transactions, so you want the transition to be seamless.
Ask the company what is involved in setting up the new system and whether you’ll keep using specific equipment or software. Once you know how long the processor thinks it will take to get the system up and running, pay attention to how long the process takes. If the payment processor gets you set up within the time predicted or even earlier, that’s a good sign that it will follow through on other promises it makes you.
It’s also ideal if the payment processor you partner with has experience working with companies in your industry, particularly if you’re in a high-risk industry. Several features can cause a company to fall into the high-risk category, such as:
A payment processor specializing in high-risk industries will be familiar with the particular challenges the industries face and will be more likely to have policies to accommodate the companies it works with.
If there’s a problem with your payment system or you suddenly find yourself locked out of your merchant account, how easy will it be for you to connect with someone at the company and get the help you need? Look for a payment processor that has a good customer service reputation.
Choose a company with representatives available around the clock, especially if you operate online. If customers order from you 24 hours a day, seven days a week, you want to be able to connect with your payment processor 24/7, too.
The payment processor should be PCI compliant and should go above and beyond to keep your customer’s confidential information confidential. The company should ensure all merchants it works with are PCI DSS compliant, as well.
Find out what type of equipment the processor offers if you’ll be accepting cards in person. You’ll want an EMV reader at the minimum, as it’s more secure than older magnetic stripe readers.
Finally, choose a flexible payment processor. Your company might accept a broad range of payments, including mobile payments, credit cards and cash. You might want to accept in-person and online payments. The best payment processor will offer omnichannel options to help your company streamline its payment collection methods.
With a better understanding of what goes into accepting card payments online or in person, you can see why it’s vital to work with a payment processor you can trust. Zen Payments specializes in working with companies in high-risk industries. We offer chargeback protection and fraud protection, and we are PCI compliant. Contact us today to learn more about our processing services for card-present and e-commerce transactions.