What is Payment Tokenization?

February 8, 2023/ Jarrod Wright /

Tokenized data is a technology that essentially helps to ensure sensitive information is protected from prying eyes. This tech includes a one-time-use token that is almost impossible for scammers to replicate or steal.

Tokenization is a digital process that substitutes sensitive data elements for non-sensitive equivalents. Individual credit card tokens are composed of an algorithmically generated alphanumeric code that serves as a proxy for real transaction data.

This allows data to move between networks without revealing customer details. Additionally, tokens are good for one use only, which makes them impossible to hack, copy, or share.

How Does Tokenization Work?

Tokens are tied to real account numbers, of course (the last four digits are usually the same). How this works is the user’s actual data remains in a tokenization “vault,” or a guarded database usually secured by a third-party vendor. Financial institutions and credit networks can interpret who the token represents, but merchants (and anyone else) looking at the data will see only the token.

In a typical tokenized transaction:

1. A cardholder “dips” their payment card information to make a purchase.
2. Data is substituted for a randomized, one-time-use token.
3. The token is received by the merchant’s bank in place of card information.
4. The bank requests authorization based on the profile attached to the token.
5. The cardholder’s issuing bank validates the token.
6. The acquirer receives approval.
7. The transaction is finalized using the token as a unique transaction identifier.
8. The token expires.

Tokenization can be deployed in a variety of situations:

• Real-Time Shopping: Routine purchases from a brick-and-mortar store are often tokenized using EMV chip technology.
• Subscription Billing: Vendors can use tokens for recurring payments without transmitting actual card info with each rebill.
• In-App Purchases: Ordering pizza from a restaurant’s branded app? In-app purchases can use tokenized data as well.
• Mobile Wallets: Payments through mobile wallet apps deploy tokens transmitted via near-field communication (NFC).

Is Tokenization the Same as Encryption?

No. The two security practices seem similar, but are actually very different.

For data to be encrypted, it must use a complex algorithm in combination with an encryption key, or cipher, that can revert the data to its original state. This means that if a hacker could get ahold of the encryption key, they could read and use the cardholder’s details. This can’t happen with tokenization.

Tokenized data lacks all transaction information or user details, meaning the only thing a third party could see would be the token itself. Even if someone managed to steal data from a tokenized transaction, the information it contained could not be reverse-engineered as would be possible with an encrypted transaction.

Again, tokens are one-time-use. Once a token is transmitted, it is not valid for any other purpose.

Things to Consider When Deploying

Although tokenization has the capacity to make transactions safer and less vulnerable to cybercriminals, it isn’t 100% infallible. The technology does have some drawbacks:

• Tokenization can’t be implemented a little at a time; it demands a commitment.
• Specialized IT work may be involved.
• Updates to internal systems will likely be necessary.
• Data storage will continue to be an issue.
• Tokenization may cause confusion for cardholders trying to identify transactions by account number.

Ultimately, tokenization is a powerful, cost-effective means to offer cardholders maximum transaction security. However, it still won’t be enough on its own.

For effective fraud prevention, merchants and financial institutions will need a broader strategy that also addresses data security, fraud prevention, and post-transaction revenue recovery. To achieve all of this, the most effective plan is a combined approach that would include encryption, tokenization, and other secure practices.

Last Update: February 8, 2023