What is a Payment Processor?

July 19, 2022/ Jarrod Wright /

Credit cards were used to purchase $188 billion in merchandise in 2020. Savvy merchants understand that they must take credit and debit card payments to run a successful eCommerce business. But, to take any form of card payment, one needs a payment processor.

A payment processor facilitates credit card payments on behalf of a merchant by receiving, communicating, and relaying the cardholder’s information between issuing and acquiring banks.

Provided the customer has the necessary funds available for the transaction and has been verified by their issuing bank, credit and debit card transactions can be processed.

Determining the Best Pricing Model

Pricing tiers for payment processors vary according to industry, sales volume, and merchant status. The three most common pricing models are:

#1 | Interchange-Plus Pricing

This includes the interchange rate plus a markup, which can either be a fixed amount or percentage-based. Interchange pricing tends to be less expensive up front, but rates vary, which can make budgeting difficult.

#2 | Flat-Rate Pricing

This ensures a single rate for all transactions, regardless of interchange rates and fees. The merchant pays a set percentage on top of the transaction rate; for example, 3% of the total plus $0.25 for every transaction.

Flat-rates aren’t subject to inflation, but could ultimately be more costly than the other tiers if a merchant processes a high number of transactions annually.

#3 | Tiered Pricing

This combines both interchange-plus and flat-rate pricing by sorting rates into grouped categories. For instance, one might pay 2% plus $0.15 for debit transactions and 3% plus $0.10 for credit card transactions. These rates and fees are variable.

Tiered pricing offers predictability and competitive pricing, but can be extremely costly for high-risk or high-processing merchants.

Other Things to Consider Before Choosing a Payment Processor

There are not many ways to operate a profitable business without taking credit card payments. Merchants should choose their processor wisely, though.

Beyond the pricing model, here are a few other things to consider before choosing a payment processor:

Location

Is the business online-specific or a brick-and-mortar establishment? Do they take payments on the go? Do they need to take payments online or over the phone? These are factors that should influence one’s choice.

Risk Profile

If the business operates in a high-risk ecosystem, odds are that they will automatically be relegated to a high-risk processor. A few factors that impact a merchant’s risk profile include:

• Product Vertical: Fashion, health and beauty products, gas stations, etc. These industries are considered high risk because they typically incur more chargebacks.
• Sales Model: Subscription-based goods and services tend to experience an elevated rate of disputes and chargebacks.
• Legal Status: Products influenced by local and state laws like alcohol, firearms, and cannabis products may be illegal in some states.

High-risk processors typically charge higher fees than traditional processors and impose higher restrictions, but grant more breathing room for chargebacks and fraud incidents.

Account Type

How and when does the seller in question get paid? There are only two types of payment processing accounts to choose from:

• Direct Merchant Account: Funds will be taken from the cardholder’s issuing bank and supplied to the acquiring bank within a predetermined timeframe. Some merchant accounts allow advance access, but most take a few days to finalize.
• Third-Party Payment Provider: Payment processors like Stripe and Square maintain their own merchant accounts, which the merchant pays to access. Funds are rerouted to a subsidiary account in the processor’s client portal.

Cancellation Fees

Some payment processors don’t charge cancellation fees. However, the vast majority do. If the merchant may end up canceling service at some point, they should take cancellation fees into account.

Alternatives to Payment Processing?

It’s technically possible to run a business without a payment processor. However, the business would be limited to just three payment options: cash, check, or money order.

Credit cards are the currency of the age. The majority of merchants today are aware that they must take credit and debit card payments to thrive.

Choosing a processor based on the factors listed above will dramatically improve chances of achieving a symbiotic relationship with processors and banks.

Last Update: July 19, 2022