Understanding Credit-Card Fees, Part 1: The Basics

I had a few merchants contact me after my last article. They wanted my advice because they could not understand their merchant statements, much less know the best way to reduce their processing rates. Like most merchants, they had a gross misconception of how debit and credit card processing works. Therefore, I’ve decided to write a series of articles to give merchants some insight when discussing processing rates with merchant account providers and salespeople. In this first installment, I’ll address the basics of card processing.

Not a Simple Process

Many merchants think card processing is pretty simple. They think the customer’s card information, obtained during an on-line purchase, is sent to one of the card associations — Visa, MasterCard, Discover, American Express. They think the card association then authorizes the transaction, puts money in the merchant’s bank account, and takes a percentage out of the merchant’s account to pay for the processing fees. All of this is wrong, however.

Know the Key Players

In reality, the card associations have very little to do with the actual transaction processing and funding of the merchant’s account. Further, the card associations are not the ones to blame if you are paying a higher processing rate than your competitor. Card processing is a complex industry with several layers of middlemen each performing a function and each charging a fee for their service. Here are the key players to know for now.

  • Card Associations. Visa, MasterCard, Discover, and American Express. The card associations set the overall rules and guidelines for their individual brands and market their brands to both merchants and consumers.
  • Issuing Bank. The financial institution that issues the Visa or MasterCard credit or debit card to the cardholder — your customer. Discover and American Express act as both the card association and the card issuer.

    The card associations and issuing banks set “Interchange rates” and “pass-through” fees for each type of card. Think of this as the wholesale price for processing a specific card type. The card associations have many card types — debit cards, basic credit cards, reward cards, business cards, purchasing cards, and more — each with their own wholesale price. Every merchant account provider pays the same wholesale price.

  • Processor/Acquirer. This is a company with the big computer-server system. When the merchant processes a sale, it is the processor/acquirer that routes the transaction to the card association network, which then drives the transaction to the issuing bank for the authorization. The processor/acquirer also funds your bank account, provides your monthly statement, handles your risk management and charge-backs, and provides customer and technical support to your business. In reality, there could be three or more companies working together to provide of these services.

    There are fixed communication fees associated with driving transactions. Ultimately, the merchant account provider charges you an authorization fee, batch header fee, and other transaction fees to cover these costs.

  • Merchant Account Provider. This is a general term used to describe the company you signed up with to handle your card processing. This could be a processor/acquirer, or a financial institution, or an independent sales organization — called an “ISO” — that uses a processor/acquirer. Generally, the merchant account provider is the company whose name is on the merchant agreement you signed.
  • Payment Gateway. Shopping carts need to route the transactions through a special routing system called a payment “gateway.” The gateway routes the transaction to the processor/acquirer.

    There are fixed costs involved with driving transactions through a gateway. Ultimately, the merchant account provider or the gateway itself may charge you a monthly fee and a per-transaction fee. Many gateways do not charge the per-transaction fee for the first 250 to 500 transaction per month.

There are even more layers of middlemen involved with your processing. However, these are the players I want you to understand for now.

Important Facts to Remember

It is important that you understand the following key points as I walk you through this series of articles. These key points will provide insight when discussing processing rates with merchant account providers and salespeople.

  • Many middlemen. There are several layers of middlemen in processing your card transactions and ultimately you are paying directly or indirectly for the service each provides.
  • Many card types. The card associations have many card types each with their own wholesale price, which the merchant account provider directly or indirectly pays, then passes on to you with a mark-up.
  • Don’t blame the associations. The card associations do not make a penny more on a sales transaction whether you are priced fairly or unfairly by your merchant account provider. The associations receive the wholesale amount — the “Interchange” — whether your merchant account provider charges you 2 percent or 6 percent for the transaction.
  • Fixed costs. Merchant account providers have fixed costs as well, which are directly or indirectly passed on to you.
  • Necessity of payment gateways. All shopping carts require a gateway and the merchant account provider generally charges the merchant a monthly and a per-transaction gateway fee, although in some cases the gateway company bills the merchant directly.


Now that you understand some basics, in the next installment I will walk you through key fees to understand on your merchant statement.

Phil Hinke
Phil Hinke
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