Gone are the days where buying goods and services meant exchanging petty cash. In this digital age, paying with cash has been conveniently replaced with swiping of cards and entering pins. These cards have made life completely hassle-free with no worry of carrying around or losing money. With this ever-evolving credit card technology, it becomes more important to understand how these processes function. This simple swiping of a card is, in fact, the first step to a complex series of transactions. Let’s dig deeper.
Swift and hassle-free payments with advanced credit card technology. Image Source: freepik.com
Introduction to the parties and fees involved in the transaction:
Before we get into the process it is important to understand the parties involved in these various transactions with the help of an example, a cardholder must pay a merchant using a credit card.
- Cardholder’s bank: It is known as the issuing bank. When a transaction is initiated, this bank transfers the required amount to the receiver’s bank. This amount must then be paid back by the cardholder to his/her bank whenever it is due
- Merchant’s bank: This bank is responsible for acquiring the money and transferring it to the correct account, in this case, the merchant’s account. They must also pay the credit card brands and the cardholder’s bank their share of interchange free
- Credit card companies: Also known as card associations, namely Visa, Mastercard, American Express, and Discover. These companies decide the interchange rates, work with the government to determine the rules regarding card use, and maintain the network between both issuing and receiving banks
- Payment processor: They are the middleman between the card associations and the banks. They are responsible for the batching and processing of all the purchases made using credit cards. When the merchant batches or settles for the day, the funds are moved from the issuing bank to the merchant’s bank. The payment processors then calculate the interchange fees and pass on the transaction information to the merchant and card associations
- Intercharge fee: This card-issuing banks pay or collect this fee from card associations. Each card company has its own interchange rates and the banks in these networks must know how the transactions are processed to ensure the best interest rate
Authorization is the key to completing secure transactions. Image source: freepik.com
The starting point of the credit card processing – the authorization process:
Credit card technology has advanced to great lengths. It is imperative that before the money is exchanged, all parties correctly authorized to carry out the transaction. This is primarily done to prevent any fraudulent transactions and create a safe passageway for the money to be transferred.
- The cardholder swipes the card to transfer an agreed amount to the merchant in exchange for goods and services. This request is sent by the merchant to the credit card processing provider for payment authorization
- The payment processor then passes on the information for this transaction to the respective card association which is, in turn, passed to the issuing i.e. cardholders bank
- The issuing bank receives the transaction details and then decides to either accept or deny it. Such transactions can be declined when the card holder’s account is closed, expired, has insufficient funds, has past bills pending, or any other reason
- The authorization process finally ends when the acceptance or denial of the transaction is communicated back to the card association, merchant bank, and also the merchant
Here comes the final part of the process – the settlement and funding:
Once the authorization process is complete, the money can now start flowing from one account to another with ease. Here, the interchange fee comes into play. The banks and payment processors both play a major role in ensuring error-free processing of transactions.
- When the merchant sends batches of authorized transactions to the payment processor, the latter further passes the transaction details to the card associations
- The card associations then notify the issuing banks about the agreed-upon amount that needs to be charged from the cardholder’s account for the transaction
- Do note, in credit card transactions, unlike debit card transactions, the amount is not deducted instantly from the issuing account. So the issuing bank transfers the amount to the merchant bank on the cardholder’s behalf. This amount does not hold the interchange fee
- Finally, the merchant’s bank deposits the desired amount to the merchant account
- When the monthly bill is settled by the cardholder, this amount is deducted from his account and paid back to the cardholder’s bank. This closes the complete transaction loop
The quick and simple swipe doesn’t seem so simple anymore, does it? But the advancement in credit card technology has actually made this process really swift and smooth. The authorization process takes a maximum of a few seconds, while the settlement process, which would take forever, now takes only a day or two. Now that the payment process is well-understood, it is time for all of us to enjoy the true benefits of credit cards without a spot of worry about unsecured payments and withdrawing cash.