Credit Card Processing: Merchant Services for Small Business

Dayton Uttinger
credit card transfering money to phone
Reading Time: 5 minutes

If you’re looking to start your own business, you’ll probably want to accept credit cards. The rise of the digital wallet means that customers are carrying less cash, and personal checks are losing popularity, so if you want people to be able to pay for your product, you’ll need to accept credit cards. However, there’s a lot that goes on behind every swipe of a card that you’ll need to know about.

Credit Card Processing and Merchant Services Companies

There are a few different companies behind the scenes that make credit cards possible.

  • Payment Processors: these companies handle the data transfers with credit card transactions, also known as “merchant services.” You’ll have to hire a payment processor for your own business.
  • Card Associations: these are the companies that run the credit card network and make up the Big Four (Visa, MasterCard, Discover, and American Express.) As a business owner, you can choose to accept some or all of these cards.
  • Card Issuers: these are the institutions that are giving your customers their cards, and they will pay for your customers’ initial transaction.

How Credit Card Payment Processing Works

Knowing all the players is important basic information. But if you really want to know what you are paying for to accept credit cards, there are several steps involved — even though most of it happens almost instantaneously at the point of sale.

  1. A Credit Card Provides Payment Information

When your customer uses their credit card to pay for your product, the information transfer begins. This can happen a number of ways.

  • Swiping the magnetic strip in-store
  • Inserting the card into a EMV-reading port in-store
  • Tapping a NFC-enabled card in-store through mobile payment services like Apple Pay or Android Pay.
  • Entering their information into your e-commerce portal online
  • Entering their information into a virtual terminal, a digital platform that allows credit card information to be sent for processing.

2. Payment Information Is Transmitted to Processor

Whatever the specific method used, the same basic pieces of information are passed from the credit card to the processor:

  • Amount of the Transaction, and
  • Credit Card Number being used to make the payment

This information is then passed onto a credit card processor, who uses it to identify the customer making the payment. The processor then communicates with the customer’s bank or credit card issuer over the credit card network. Individual issuers may vary, but they all send and receive information over a network managed by Visa, Mastercard, American Express, or Discover. The issuers are the banks where the actual money used in a credit card transaction is kept; every charge is a withdrawal from the issuer’s funds, so it is important for the correct issuer to be charged for each card being swiped, and for the correct amount.

3. A Payment Gets Approved or Denied

The issuing bank reviews the payment information virtually. It determines whether or the not the account is in good standing, that the customer has not reached or exceeded their personal credit limit, and that the pending transaction will not put the account over its limit. Depending on the size of the transaction or the location where of the point of sale, it may trigger an automated alert to the customer requesting approval or warning of potential fraud. In this case, customers must respond to a phone call, text, or mobile app to verify the transaction again. After that, the bank decides whether to approve or deny the transaction.

Payment Approved

If a customer’s payment is approved, then the bank lets the credit card processor know that they are backing the transaction — in other words, the funds requested will be paid by the issuer. This means the account has sufficient credit to cover the payment, the card holder is in good standing with their issuer, and everything appears normal. The processor then informs the terminal that took the customer’s credit card information that the payment was approved, and the sale is complete.

Payment Declined

If a customer’s payment is rejected, then the bank informs the credit card processor that the transaction has been denied. The processor passes this information onto the terminal, which usually prompts the awkward fumbling for another card. Here’s some of the reasons why payments might be declined:

  • The customer has reached their credit limit.
  • The account has an outstanding balance.
  • The credit card has expired.
  • Various security concerns— the bank could be concerned over identity theft or fraud.

4. Approved Transactions are Submitted for Settlement

At the end of every day, businesses typically submit their “batches” for settlement. A batch is the collection of credit card payments that the business has received that day. The business approves these numbers and sends them off to their merchant services company (their processor), who makes sure that the payments end up in the business’s accounts. Technically, the payment isn’t made instantly at the point of sale, it is only approved by the customer and the issuer. Settlement is when the business actually collects payment and receives the funds from issuers.

This is also when tips are added to transactions. That’s why you can run your card at a restaurant, write in the tip, and then leave without anyone running your card again. Tips aren’t entered into the computer until the end of that worker’s shift/when the restaurant submits batches, and a card is not charged for the tips until the batch is settled. Again, this is why you may see one amount pending on your credit card, only to see a different amount as the final charge on your statement. Pending charges have been approved, but not paid.

Credit card processing companies charge a fee every time that your settle a batch, which is why businesses typically only do it once at the end of the day. This is one way you can minimize the costs of your payment processing company, but there are other considerations you should take into account.

Choosing a Payment Processing Company

Think about these things when deciding on a payment processing company:

  • Speed: The whole process detailed above needs to take place in seconds, from terminal to processor to bank and back again. If your customers can’t pay for your goods or services quickly, whether in-store or online, they might change their mind.
  • Customer Support: There’s always a crisis moment while running a business, sometimes several times a day. When it comes to your livelihood, you won’t want to be put on hold for two hours while you’re losing money because your customers can’t pay. Credit card processing is one of the most essential services for any business today, and you’ll want all issues to be resolved without delay.
  • Fees: Processors make their money through the fees that they charge business owners. They’ll charge you for settling the batch, but they might also have a renewal fee, a cancellation fee, or just a monthly service fee. Some will charge you per transaction; others will charge based on dollar amounts. Make sure you read over your contract carefully.
  • Security: Keep in mind that credit card processing companies are handling very sensitive information. It’s not only your revenue at risk, but your customers’ credit card information. You want your money, and your customers don’t want to become victims of identity theft. Your credit card processing needs to be secure before anything else.

All of this is a lot to keep track of at one time, but that’s the life of a small business owner. Making sure you get paid should be pretty high up on your to-do list. Choose a merchant service company that is right for your needs so that you can start pulling in the profits.

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