What is Credit Card Processing, and how can it Benefit Small Businesses?

What is Credit Card Processing, and how can it Benefit Small Businesses?

Incredible as it may seem, in 2020 the credit card will be celebrating its 70th birthday. Today there are around 62m credit cards in circulation in the UK, and whilst this is less than the number of debit cards, total annual credit card spend is still over £200bn. Credit cards are a simple, secure and convenient way for consumers to purchase items when they need them, and defer payment for a period of time. This benefits business by driving regular demand for products and services, so it can be highly advantageous for merchants to accept them. From a consumer perspective the principles of credit card processing are very simple. However behind the scenes there’s a lot going on. So here’s a guide to the essentials of credit card processing.

First though, let’s introduce everybody involved, and briefly explain what they do:

The Cardholder

This one’s simple – they’re the customer who’s interested in buying a product or service.

The Merchant

The business with a product or service to sell to the customer.

The Acquiring Bank

So called because they accept (or acquire) credit card transactions from Issuing Banks (see below). An Acquiring Bank is critical to credit card processing as it contracts with the merchant in order to allow the merchant to accept credit card payments.

The Issuing Bank

Issuing Banks issue cards on behalf of credit card networks.

Card Networks

Brands such as Visa, Mastercard and American Express. It’s important to remember that, in this context at least, these are not banks. Their main function in credit card processing is to control where their cards can be accepted, and facilitate transactions between the Merchant and the Issuing Bank.

The Processor

The role of The Processor in credit card processing is to communicate the information on the proposed transaction between the various parties involved in it. These are basically the ones listed above.

There are two key stages to a credit card transaction:

Stage 1 – Authentication and Authorisation​

Once the cardholder has chosen the item or service they’d like to buy, they present their card to the merchant. This can take place in a number of ways, for example in-store, over the phone, on-line or through a mobile app. When the transaction is anywhere other than in-store, the cardholder will need to provide evidence that they have the card, such as the expiry date, billing address and the Card Verification Value (CVV), which are the three or four numbers on the back of the card. This is the stage of credit card processing that most consumers will be familiar with. Once verified, the request is sent by the merchant’s terminal to a processor, who sends it on to the acquiring bank. From there is it sent to the card network, who perform further security checks, then send it on to the issuing bank. The issuing bank then either approve or decline the request based on a number of factors, some of which are listed below. This decision is then sent back to the merchant, who informs the customer. Incredibly the whole process takes just seconds.

Stage 2 – Clearing and Settlement

Once everything has been properly checked and authorised, and all approvals have been received, the customer’s issuing bank sends the money to the seller’s acquiring bank, through the acquiring bank’s payment processor. The final stage is for the acquiring bank to transfer the payment value to the seller’s account, which is known as settlement. Then the credit card processing is complete. The overall process will typically take up to three days, which is why it can sometimes take this long for transactions to appear on a customer’s credit card statement. The statement is then sent to the cardholder, usually monthly, and they can then choose between paying it off straight away, or paying what they can afford, and incurring interest on the balance.

What Can Cause a Credit Card to be Declined?

There are a number of reasons why a card issuer may be unwilling to advance credit to a customer for a transaction, and the credit card processing cannot take place. In some cases it is as simple as the cardholder entering incorrect information, which is preventing authentication from taking place. Or perhaps because the card has expired. Alternatively it might be because the card-holder has already reached their agreed credit limit, because there is a large transaction awaiting processing, or because the customer has not successfully kept up with their repayment schedule. Finally, a transaction may have been identified by an algorithm as potentially fraudulent, or perhaps even simply inconsistent with the customer’s typical spending patterns.

Why merchants should consider accepting credit cards.

Credit cards have a number of benefits, however due to the complex network of businesses involved, there are many stakeholders to pay so they also incur transaction costs to the merchant. There are, however, a number of clear advantages. Accepting a wide range of payments increases the likelihood of attracting customers, particularly those more likely to impulse-buy, and lends a professional look to an organisation. And credit card transactions are typically more valuable than those made by debit card. The credit card processing system is also extremely secure, and well regulated, with the risk not borne by the merchant. Credit cards have been proving their value to businesses since the 1950s, and could be a worthwhile addition to yours.