How Merchant Accounts Work

December 12, 2007

December 12, 2007

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This article originally appeared on, a blog started by one of our founders, Sean, before he started FeeFighters.

This is a brief description of how credit card processing works.  Credit card processing has two parts: Authorization and Settlement:

Authorization through Settlement

Keep in mind this all takes ~2 seconds for an online transaction and about 15 seconds for a dialup transaction:
  1. Cardholder presents the card (or the card number, expiration date and security code) to the merchant.
  2. The Merchant communicates the card data to their Merchant Account Provider.  They use either a credit card terminal, a POS system communicating over the internet or, in the case of an online transaction, a payment gateway, to communicate that data.
  3. The Merchant Account Provider communicates the card information to the VISA or Mastercard network.  Usually this is done via an intermediary, a larger Payment Processor.
  4. Mastercard or VISA asks the cardholder’s bank (these days usually a credit-card specialist) if the funds are available.  If the funds are available, the transaction is authorized and the money placed on hold in the shopper’s account (i.e. their available credit is reduced by the amount).
  5. The issuing bank tells VISA / Mastercard what the result of the transaction was (either Authorized or Declined).
  6. VISA / MC communicate the result back to the Merchant Account Provider
  7. The Merchant gets the result
  8. exchanges goods with the shopper.
  9. At the end of the day the Merchant sends the day’s “batch” of transactions to the Merchant Account Provider.  If the merchant is using an Online Gateway or an IP-based terminal the batching is probably done automatically and is never really noticed by the merchant.  If using an older dialup terminal the merchant probably has to hit a special button to initiate this process.
  10. The merchant account provider sends the results to Visa / Mastercard
  11. The Issuing bank adds the amount to the cardholder’s bill – the merchant no longer concerns themselves with the cardholder, unless there is a Chargeback or a Refund, because they will get paid no matter what.  Collecting from the cardholder is the Issuing Bank’s responsibility.
  12. The Issuing bank transfers the money to the Merchant Account Provider, using an ACH (Automated Clearing House) transfer.
  13. Your Merchant Account Provider deposits (again using ACH) the proceeds into your business checking account.


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