The Entrepreneur’s Guide to How Credit Card Processing Works

January 28, 2021/ Posted in Credit Card Processing

Have you recently opened a small business and want to know more about how credit card processing works? You have come to the right place! We have prepared a detailed checklist to help you understand the CCP entirely. It might seem a bit complex, but understanding each part of it will help your business thrive. Without further ado, let’s get started with everything you need to know about it.

How Does the Payment Processing Work?

Payment processing defines the steps taken to transfer cash as easily, quickly, and cost-effectively as possible from a profitable transaction into the bank’s account of your store. Although it’s essential for many businesses to accept cash payments, taking plastic-money plays a crucial part in expanding it. Only around 30% of all payments are done with paper money, while most customers rely on either plastic or digital wallets. To not lose the potential profit, you must understand how this works and why CCP companies are important.

Learning how this process works will help you increase sales.

What Is Credit Card Verification and Processing?

This service allows businesses to secure the acceptance of plastic payments. The ability to catch card-based sales is used to involve lengthy authorization delays and complex configurations. Fortunately, there is more than one option available today, and a significant number of them are specialized for different types of businesses. This is a considerable advantage since a business owner can nowadays find a solution for his individual needs.

Because a large number of options are available, you might feel a bit overwhelmed. That’s why you’ll need to set up a merchant account. By far you should know what a merchant account is and how to read statements. Merchant providers that provide these merchant services will allow you to accept plastic payments. Another important step is selecting a reliable POS system.

Clover Station Pro: You’ll Need to Select the Right POS System That Can Improve Payment Processing

Picking the right POS system is very important. But what does it mean, and how it affects my store? This is the combination of software and hardware, which allows brick-and-mortar merchants to capture plastic-money transactions. Additionally, a POS system will help you manage different business operations, such as scheduling meetings and keeping track of the inventory.

We recommend Clover Station Pro as the most secure, fastest, and most consumer-engaging POS system so far. It will help you capture consumer’s information, offer rewards, and accept almost every type of plastic payment available. Clover Station Pro comes with a smart terminal, allowing consumers to easily and quickly pay and confirm their orders.

Choose a high-quality POS system and watch your store grow.

Plastic-Money Transaction Participants – Who Is Involved

CCP revolves around a multiple-step process and a variety of individuals/companies. Before we move onto the details of how this process works, we have to see who the key participants are.

It Begins With a Cardholder

You’re already familiar with the cardholder role if you have a credit or debit card. But just to be precise: a cardholder is somebody who acquires a bank-card from issuing banks. The cardholder then uses it to pay for goods and services.

You as a Merchant

As merchants we consider technically, any company that sells goods and services. However, keep in mind that only those who accept plastic-money are relevant in this case. That being said, setting up a merchant account and choosing the right CCP company is essential. Without it, you won’t be able to accept plastic-money from customers, i.e., cardholders.

Acquiring or Merchant’s Bank

Acquiring bank is a card association (Visa, MasterCard, American Express, and Discover) member and a link between realtors and issuing banks. Since it contracts with merchants and creates and opens the merchant account to allow cashless transactions, it is often referred to as a merchant bank. It provides retailers with equipment and software to accept plastic-money and deposits funds obtained through cashless sales into the merchant’s account.

Issuing Bank Regulates Available Fund

As the name suggests, this entity issues cards to cardholders and is also a card association member. They are paying acquiring banks for purchases their cardholders make. Their role is to approve or decline transactions depending on the availability of funds too.

Card Associations Support Credit Card Processing

Visa and MasterCard act as a custodian for their respective brand. They serve as the governing body of financial institutions, ISOs, and MSPs that are collaborating together to facilitate card-processing and electronic transactions.

Their main responsibilities include governing their members, setting interchange fees and qualification guidelines, acting as an arbiter between acquiring and issuing banks, maintaining and improving cards and their brand, and making a profit. Visa uses the VisaNet network to transfer data between the association members, and MasterCard uses their Banknet network.

It's important to understand who key parties are in CCP.

How Credit Card Processing Works: The Transaction Process

Cashless transactions are processed through different platforms, including wireless terminals, eCommerce stores, brick-and-mortar stores, and phone/mobile devices. The entire cycle happens in two to three seconds. We have broken down this action of the transaction into three phases by using brick-and-mortar business purchases.

Authorization Phase

These are steps taken during the authorizations phase:

  • The customer will present his plastic-money to a retailer in return for goods or services. The request could originate from a terminal or POS system in a brick-and-mortar company, an eCommerce website, through mobile or in-app payments. Customer’s personal data will be encrypted and tokenized before being processed,
  • The retailer then sends a request to their CCP services for fee authorization,
  • The fee processor submits proceedings to the association sooner or later, reaching issuing banks,
  • Authorization requests, including parameters like AVS validity, CVV, and expiry date, are made to issuing banks, which then accepts or declines the payment. It can be denied in case the cardholder’s account has expired or has insufficient funds,
  • Merchant banks, a retailer, and a card association will then receive approval or denial from issuing banks.

Authentication Phase

Issuing banks will verify the cardholder’s plastic-money validity during the authentication phase using fraud protection services like CVV, CVC2, CVV2, CID, and Address Verification Service (AVS). Here’s how the authentication phase happens:

  • Issuing banks will receive the fee authorization request, validate the cardholder’s data, amount of funds available, match the billing address, and validate the CVV number,
  • It will then approve or reject the request and send back the retailer’s response through a processor or acquiring banks,
  • As soon as the retailer gets the authorization, issuing banks will put a hold on the purchase amount on the cardholder’s account. The retailer’s POS terminal will then collect approved authorizations and processes at the end of the day,
  • How long does a company have to process a credit card transaction? Even though the authorizations are issued immediately, it will take around 48 hours for the cash to be moved,
  • The retailer will provide a receipt to a customer and complete the sale.

Clearing and Settlement Phase

In the clearing phase, the transaction is posted to both the merchant’s statement and the cardholder’s monthly billing statement. The clearing occurs at the same time as the settlement phase:

  • At the end of every business day, the retailer sends the accepted authorizations to the processor or acquiring banks,
  • The acquiring processor directs information to the card association, who then forwards the accepted transactions to issuing banks. The latter will transfer cash to the retailer within 48 hours of the transaction,
  • The association pays the acquiring processor and acquiring banks their percentages from the remaining reserved cash,
  • Acquiring banks will credit the realtor’s account for cardholder purchase, less a “merchant discount rate.”
  • Issuing banks will post information about transactions into the cardholder’s account. He will receive the statement and pay the bill.
The settlement phase usually takes one to two business days.

Card-Processing Costs

Many retailers accept plastic payment for the convenience of their consumers. However, some retailers only accept cash or request a minimum purchase amount before authorizing the use of the plastic-money. The reason for that is pretty simple: they need to pay a fee in order to accept plastic payments.

How Much Do Credit Card Processing Companies Make?

Retailers usually spend an average of 1.5% to 3.5% to pay CCP companies. Hence, even retailers who choose to make the process possible will seek the cheapest pricing option. Card-processing rates could vary depending on the type of retailer and the platform a good/service is delivered (e.g., through e-commerce, phone, or at the retail store). They are usually charged per-transaction fees, volume-based fees, or flat fees.

Merchant Discount Rate

Retailers are charged for accepting plastic payments and getting service from acquiring processors. The average credit card processing fee rate usually varies between 2% and 3% but can go up to 5% for online retailers who have to pay the higher end. This is known as a discount fee as well, and the rate comprises a couple of components:

  • Interchange Fee: Issuing banks charge the acquiring processor and acquiring banks for this fee. Most interchange fees are evaluated in two parts: fixed transaction fee to the card association and percentage to issuing banks. For example, the per-swipe cost could be 2.35% plus $0.15.
  • Assessments: A card association charges assessment fees for transactions made with their branded cards. This fee is typically fixed, and the retailer’s acquiring banks won’t offer lower rates or negotiate terms with the retailer. Assessments are generally charged per paying proceedings but can differ depending on the retailer’s pricing model. For example, Visa could rate a 0.11% assessment and $0.0195 card-processing per swipe. Together with the interchange fee, assessments constitute 75-80% of the overall cost of processing these payments.
  • Markups: Acquiring processors and acquiring banks will contain a markup over assessments and interchange fees for both their profit and to cover the cost of plastic-money transactions. It accounts for 20-25% of the overall card-processing costs. Markups could vary depending on the pricing model and processor.

Chargeback Insurance

This is an insurance product that protects any retailer who accepts plastic-money. The chargeback insurance protects the retailer from fraud during the purchase, where the use of the plastic-money has not been approved and covers claims emerging from the retailer’s liability to the service bank. Certain fraud prevention providers charge a flat-rate fee per swipe (0.5-15 cents per swipe), while vendors who provide this insurance typically charge a percentage-based fee (0.5-1.5%), which can be cost-effective for costly transactions.

Ensure you find the best deal with a lowest fee

Card-Processing Solutions Will Help You Boost Sales

As we already mentioned, accepting plastic payments will surely help your business thrive. One survey found that more than 80% of small businesses saw increased sales, and around 50% made more than $1,000 more a month since they started accepting cards. The bottom line is that you simply have to make plastic payment possible and know how CCP works if you want to have a successful store.

Hopefully, our checklist will come in handy whether you’re just opening a store or already have one. Even though you might find it a bit complicated, it’s, in fact, pretty simple. However, if you need more in-depth information or help, consider turning to a professional credit card and merchant service provider.