A Beginner’s Guide to Merchant Processing and Services

A Beginner’s Guide to Merchant Processing and Services

The increasingly rapid rise of digital payments has had major impacts on the global payments industry. Many users had transitioned into convenient cashless payments before the 2020 COVID-19 pandemic. 

However, the trend quickly accelerated as people feared virus transmission from handling money. Although the impact of the virus has lessened, the use of digital payments shows no signs of slowing down.

The global digital payments industry is projected to reach a $6.6 trillion value in 2021. This represents a 40% increase in just two years. 

As the market keeps growing, leading technology companies continue to drive new innovations, investments, and trends — one of which is the massively popular merchant services

What are merchant services?

The term “merchant services” has both narrow and broad definitions. In the narrow (or traditional) sense, merchant services refer to a company’s payment processing services. That definition still continues to apply. 

However, the definition of merchant services has expanded to include payment services (related to processing customer payments) as well. As part of these functions, your merchant services provider ensures your business’s PCI compliance to protect customer data and ensure security.

How does merchant processing work?

Merchant processing is essentially the same thing as credit card processing. Looking at the big picture, the process begins when the customer hands the merchant (you) their credit card for a product they want to purchase. 

The transaction concludes when you receive the funds in your business bank account. Several important steps take place between those two points in time.

  1. The customer swipes, taps, or dips their credit card, or enters the card data into a terminal connected to your point-of-sale system.
  2. The payment processing company transmits the transaction data to the customer’s card-issuing bank.
  3. If sufficient credit is available, the card transaction is approved. If not, the request is denied, and the customer is asked to provide another payment method.
  4. Once the transaction is approved, your terminal will display an “Approved” message. The purchase is now complete.
  5. The payment processor deducts the transaction fees and deposits the net proceeds into your merchant account.
  6. After a predetermined time period, funds in your merchant account will be transferred to your business bank account.

Types of merchant services providers

Merchant services providers fall into two groups: merchant account providers and payment services providers. For comparison, a merchant account provider often works with businesses on behalf of a bank. A payment services provider is often a standalone company that markets its services to many different businesses.

Merchant account providers

A merchant services account enables merchants to accept credit cards, debit cards, or other payment types from customers. When each transaction is approved, the net funds (minus processing fees) are deposited into the business owner’s individual merchant account. From there, the funds are transferred to the business bank account (usually a checking account).

Merchant account providers issue the merchant accounts and perform the set-up work. In addition, the provider furnishes all the hardware and/or software the business needs to process card payments.

For example, a merchant account provider might supply your business with a POS system, a mobile card terminal, or an electronic payment gateway. Setting up a merchant account involves a lengthy application process and is often a better fit for established businesses.

Payment services providers  

Like merchant account providers, payment services providers offer businesses everything they need to accept card payments. The payment services provider also functions as the liaison between all parties in a payment processing transaction.

There is one major difference between a merchant account provider and a payment services provider. As previously noted, the merchant account provider issues a merchant account to each business. In comparison, the payment services provider pools all their clients’ funds into one merchant account. From there, the provider distributes the net proceeds to each business.

Payment services provider accounts typically feature flat-rate fees and easy set-up, potentially making them a better fit for newer businesses. However, these accounts are considered less stable than the merchant accounts that require application approval.

How an ISO fits in  

An independent sales organization (or ISO) may contact you to offer its own payment processing solutions. Essentially, the ISO combines hardware, software, and actual processing solutions from different companies into a single package. The ISO markets this package to the merchant as a one-stop solution.

At first glance, this may seem like an attractive option. However, you still need to open a merchant account. This typically involves filling out a long application along with credit and employment history checks.

In addition, many ISOs advertise inexpensive merchant services packages and/or extremely low processing rates. However, you may find that these seemingly ideal sale solutions come with many additional fees. So, take the time to thoroughly read an ISO’s contract before signing on the dotted line.

Popular merchant processing tools and systems

Before merchant processing operations can occur, several tools and systems must be in place. Physical elements include credit card terminals and POS system hardware. Varied payment types, virtual terminals, and other components are also used in merchant processing functions.

1. Credit card terminals

Before retailers can begin accepting payments, they must obtain credit card terminals that enable them to physically accept the cards. Customers will typically swipe, tap, or dip their credit card (or debit card) to complete a purchase. The terminals can accommodate traditional cards along with newer EMV chip cards that enable increased transaction security.

In many cases, a card reader connected to a POS system processes card transactions. Other business owners might choose a standalone credit card terminal. This hand-held hardware allows them to process payments with just one piece of equipment.

2. Payment gateways

Ecommerce retailers sell their merchandise through their website or an online shopping platform. To accept online payments securely, a business owner must use a payment gateway. This software application functions as a virtual credit card terminal. In this case, the payment gateway processes each sale along a pre-existing electronic pathway.

The financial services industry utilizes payment gateways for different purposes. Let’s say you engage in online banking activities with a business or personal account. To complete each banking transaction, the data is routed through a payment gateway to completion.

3. Point-of-sale systems

A point-of-sale system (or POS system) contains the hardware and software needed to accept credit card and debit card payments. However, a well-equipped POS system is designed to perform additional functions that support the day-to-day operations of a small business. Clover POS systems, for example, are known for their multi-function capabilities.

In addition to processing customer sales, a typical POS system can run targeted reports and track inventory on a real-time basis. Many POS systems also accept gift cards. This invites business from customers who might not otherwise visit your store. Finally, the software may enable the setup of customer loyalty programs or customer relationship management programs.

4. Virtual terminals

A virtual terminal is essentially the digital version of a point-of-sale system or credit card terminal. When a merchant’s website contains this software application, they can accept credit card payments without the card’s physical presence.

To complete the purchase, the merchant manually keys in the card details, and often adds the customer’s phone number. With this information, the merchant can process the sale using an electronic payment gateway.

If your company’s card processing functions are offline, a virtual terminal enables you to still complete a customer’s purchase. Simply enter their card details in your computer, and keep bringing in revenue while you wait for the POS system or card terminal to come back online.

5. Contactless payments

Contactless payment technology enables customers to pay for their purchases without physically touching a credit card terminal or card reader. Instead, the customer briefly places their card next to the device. Embedded near field communication (NFC) software reads the card details and completes the transaction.

Contactless payments have become increasingly popular since the onset of the COVID-19 pandemic. By using these payment methods, customers can avoid touching payment devices and thus reduce transmission risks.

Examples of contactless payment options include Apple Pay and Google Pay. Many newer credit cards and debit cards are also equipped for contactless payment processing.

6. Mobile payments

Customers often complete product or service payments through their mobile phones or tablets. Mobile payment technology is also useful for on-the-road service businesses such as plumbers, mobile detailers, and mobile dog groomers.

Craft show vendors and flea market dealers also accept customer payments through their portable electronic devices. Finally, it is easy to send funds to family or friends via PayPal and similar mobile applications.

7. E-commerce and online payments

The term “eCommerce” refers to the electronic sale or purchase of online products or services. Whether you sell physical products or professional services via an online store or platform, you’ll need to swap physical credit card payments for electronic payments.

Customers make eCommerce payments through a consumer-facing online shopping cart. In contrast, the merchant keys in the card details for a virtual terminal transaction.

8. Gift cards and customer loyalty programs 

Gift cards and customer loyalty programs have become an increasingly popular part of the retail landscape. Gift cards can bring in business from recipients who have not yet visited your store. If they enjoy their card redemption experience, there is a good chance they will return.

Customer loyalty programs offer desirable rewards to customers who regularly purchase from your store. Over time, they can help to build your loyal customer base and even draw customers away from your competitors. Today, many POS systems contain built-in gift card and customer loyalty program features.  

How to choose the right merchant services provider 

To select the best merchant services provider for your business, you must evaluate multiple companies based on the same criteria. Develop a shortlist of candidates, and interview a sales representative from each company. Read each contract’s fine print, and ensure that all your concerns are addressed before making your decision.

Operational considerations  

Use these guidelines to design your payment processing framework:

  • Merchant account provider vs payment services provider
  • Types of payments you will accept (credit, debit, contactless)
  • How you will be accepting payments (in-person, online, or both)
  • How long it takes to receive your net transaction funds (ideal: 24-48 hours)
  • Average customer service wait time

Pricing structure

Select the best pricing structure for your business stage. Note that a startup or small business has different needs than an established company. Choosing the wrong structure will likely result in more expenses and a bigger impact on your bottom line.

1. Flat rate pricing

In this simple pricing model, your business pays a fixed percentage of each sale. Flat-rate pricing may be a good fit for low-volume businesses and small retail stores.

2. Interchange-plus pricing 

Under this pricing model, each credit card-issuing company (e.g. Visa and Mastercard) charges a specific rate for each card type. The same rate applies whether the card is present or not.  

3. Tiered pricing

This pricing model gathers rates into tiers, with each tier containing a range of rates. Fees constantly fluctuate, so this pricing structure is not the best choice for small- to medium-sized businesses on a budget.

Common payment processing fees

These fees will likely apply regardless of the payment processing option you choose. Note that some companies include free equipment when you sign a service contract.

Common payment processing fees:

  • Account set-up fee
  • Monthly service fee
  • Equipment fee (may be waived)
  • Per-transaction fee

Payment processors’ add-on fees

Many payment processing companies have a reputation for tacking extra fees onto their customers’ accounts. Some customers have reported the appearance of “hidden fees” that suddenly appeared on their account statements.

Because fees are often hidden in the contract’s fine print, the term “hidden fees” is an accurate description. Note that Payment Depot does not charge hidden fees, cancellation fees, or other cumbersome fees to its customers.

Beware of these additional account fees:

Hardware and software issues 

Determine whether you’ll need a full-service POS system or a credit card terminal. Most importantly, ensure that the hardware is compatible with your existing computer system and applicable software programs. Consider the following:

  • Your payment processing hardware needs (credit card terminal vs POS system)
  • The hardware and software compatibility with other business systems

Finally, consider your upcoming business growth plans (both near-term and longer-term). As your company expands, your processing volumes will likely increase, and other variables may change. As a result, you may want to switch to a more favorable payment processing structure.

Making the Right Decision

Many payment processors are competing for your business, and the high rates and restrictive terms of many providers can stifle your company’s growth. Payment Depot stands out in the payment services industry for its small business-friendly pricing structure and customer policies.

As a Payment Depot customer, you’ll pay favorable wholesale processing rates, and you won’t be subject to a long list of fees that drain your budget. In addition, Payment Depot’s customer service consistently gets rave reviews. Contact us today to get the full details, and learn why Payment Depot is the best choice for your small business.

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