An increasing number of customers around the world are relying on cashless payments. With this trend towards digital payments, it's important for businesses to understand how electronic payment systems work and become familiar with the key players and components that facilitate digital transactions. For example, learning about two of these players, payment processors and merchant accounts, can help businesses to improve their payment setup and create a more efficient and secure customer experience.
This article compares payment processors and merchant accounts, explaining what they are, how they differ and how they work together in the payment transaction process.
What's in this article?
- What is a payment processor?
- What is a merchant account?
- What are the differences between payment processors and merchant accounts?
- How do payment processors and merchant accounts work together?
- How Stripe handles payment processing and merchant accounts
What is a payment processor?
A payment processor is a company or service that facilitates the authorisation, processing and settlement of transactions between a business and their customers. Payment processors enable businesses to accept different forms of payment, such as credit cards, debit cards and digital wallets, by acting as an intermediary between the business and the customer's financial institution.
The functions of a payment processor include:
Authorisation: Verifying the customer's payment information – such as the card number and expiry date – and checking if the customer has sufficient funds or credit available to complete the transaction
Processing: Facilitating the transfer of funds from the customer's account to the merchant account by transmitting the transaction details securely between the relevant parties, such as banks and card networks
Settlement: Ensuring that the business receives the funds from the customer's account, typically by depositing the funds into the business's bank account
Payment processors often work in partnership with payment gateways, which are the online interfaces or systems that collect and transmit payment information from customers to processors. Together, these services help streamline the transaction process for businesses, ensuring secure and efficient handling of electronic payments.
What is a merchant account?
A merchant account is a type of bank account that is designed specifically for businesses to use to accept and process electronic payments, such as credit card, debit card and other digital transactions. This account acts as an intermediary between the business (merchant) and its customers' financial institutions, allowing the business to receive payments from different payment methods.
When a customer makes a purchase using a credit or debit card, the funds are first deposited into the merchant account. The payment processor facilitates the transfer of funds from the merchant account to the business's normal bank account, typically within a few days.
What are the differences between payment processors and merchant accounts?
Payment processors and merchant accounts are two distinct components of the electronic payment ecosystem, with each serving a specific purpose in the transaction process. In short, payment processors are responsible for facilitating the transfer of funds during a transaction, while merchant accounts serve as a holding area for the funds before they move to the business's normal bank account. Both components are important for businesses that need to accept and process electronic payments securely and efficiently.
Here's a more detailed breakdown of the differences between payment processors and merchant accounts:
Function
Payment processor: A payment processor is a service or company that facilitates the authorisation, processing and settlement of transactions between businesses and their customers. A payment processor handles the transfer of funds between the customer's and the business's financial institutions, ensuring secure and efficient transaction processing.
Merchant account: A merchant account is a special type of bank account that allows businesses to accept and process electronic payments. It serves as an intermediary between the business and the customer's financial institution, holding the funds from the customer's payment until they are transferred to the business's normal bank account.
Role in the transaction process
Payment processor: The payment processor verifies the customer's payment information, checks for sufficient funds or credit, securely transmits transaction details and ensures that the business receives the funds.
Merchant account: The merchant account holds the funds from the customer's payment temporarily, enabling the business to receive and process electronic payments from various sources.
Fees and rates
Payment processor: Payment processors charge fees for their services, which may include transaction fees, setup fees and other related costs. These fees can vary depending on factors such as the processor, the business's industry and the volume of transactions processed.
Merchant account: Banks that offer merchant accounts also charge fees, such as monthly fees, transaction fees and chargeback fees. These fees can vary based on the merchant account provider and other factors.
How do payment processors and merchant accounts work together?
Payment processors and merchant accounts work together to enable businesses to accept and process electronic payments quickly and safely. Here is a step-by-step overview of how they collaborate over the course of a transaction:
Customer initiates a payment
When a customer decides to make a purchase using a credit card, debit card or other electronic payment method, they provide their payment information, either by swiping, inserting or tapping their card or entering the details online.Payment gateway collects information
If the transaction is made online or through a mobile app, a payment gateway collects and encrypts the customer's payment information before sending it to the payment processor.Payment processor authorises the transaction
The payment processor receives the payment information and sends a request for authorisation to the customer's issuing bank or financial institution. The bank verifies the customer's account details and checks for sufficient funds or credit. If there are no issues, the bank sends an authorisation code to the processor.Processor relays authorisation status
The payment processor informs the business (via the payment gateway, if applicable) whether the transaction has been approved or declined. If approved, the transaction proceeds and the customer receives a confirmation.Funds are held in the merchant account
Once the transaction has been approved, the funds from the customer's payment are held in the merchant account temporarily. This step is important because it enables the business to receive and process electronic payments from different sources.Settlement and fund transfer
The payment processor facilitates the settlement process by transferring the funds from the merchant account to the business's normal bank account. This transfer usually occurs within a few days, depending on the agreement between the processor and the merchant account.Reconciliation and reporting
The payment processor provides the business with transaction records and reports, enabling the business to track and manage their sales and financial activity.
The collaboration between payment processors and merchant accounts allows businesses to provide an easy and convenient payment experience for their customers.
How Stripe handles payment processing and merchant accounts
Stripe offers an integrated, user-friendly platform that combines payment processing and merchant account functionality, making it easy for businesses to accept, process and manage electronic payments.
Here are more details about how Stripe approaches payment processing and merchant accounts:
Account setup
To get started with Stripe, businesses need to create a Stripe account. For businesses that already use Stripe for payment processing, Stripe provides merchant account functionality automatically, which eliminates the need for businesses to apply for a separate merchant account with a bank.Integration
Stripe provides easy-to-use APIs and pre-built integrations, allowing platforms and businesses to quickly integrate Stripe's payment-processing capabilities into their websites, mobile apps or point-of-sale (POS) systems.Payment processing
When a customer makes a payment, Stripe collects and encrypts the payment information, before communicating with the customer's financial institution to obtain authorisation for the transaction. If the transaction is approved, Stripe processes the payment and sends a confirmation to the customer and the business.Merchant account and funds holding
Stripe's built-in merchant account holds the funds from the customer's payment on a temporary basis. This makes it easier for businesses to manage their electronic payments and ensures that the funds are secure before they are transferred to the business's normal bank account.Payouts
After a specified period of time, Stripe transfers the funds from the merchant account to the business's normal bank account automatically. The frequency of these payouts can be customised according to the business's preferences (daily, weekly or monthly).Reporting and analytics
Stripe offers comprehensive Dashboard and reporting tools that enable businesses to monitor their transactions, revenue and other key financial metrics. Businesses can also access detailed transaction data, dispute-management tools and other features to help manage and optimise their payment operations.
Stripe charges a transaction fee for each successful payment, along with additional fees for certain optional features or services. However, there are no setup fees or monthly fees for basic payment-processing and merchant-account services. Take a look here for additional information about Stripe's approach to payment processing. To get started with Stripe, go here.