Bank Credit Cards: Explained

If you’re looking for a great bank credit card, your best bet is to visit our best credit cards page, or use our credit card finder to determine what’s right for you.

Otherwise, if you want to learn more about how the bank credit card ecosystem works, how transactions are processed, and how everyone makes money along the way, read on…

The players in the credit card industry

Many different financial institutions issue credit cards, which consumers like us can use for purchases all over the place. These institutions include:

• Banks like Bank of America, who issue cards and a whole lot more
• Credit unions like Navy Federal Credit Union, who are effectively non-profit banks
• And Non-banks like American Express and Discover, who focus solely on issuing credit cards, and nothing else

There are also four companies that focus on processing credit card transaction data between banks and the stores where we shop. Each has its own proprietary network:

• Visa
• MasterCard
• American Express
• Discover

How the bank credit card industry works

The image below outlines the difference between a “closed loop” credit card model and an “NCL Model”. In a closed loop model, like the case of Discover and American Express, the card issuer, merchant acquirer, and the payment network, are all owned by the same company. In an NCL Model, one party manages card issuance (like Chase), another party manages merchant acquisition (companies you probably haven’t heard of), and yet another party manages the network processing (usually Visa and MasterCard).

• Card Issuer – The company that designs and promotes credit cards, gets people to sign up for them, and manages the accounts. This company also manages the liabilities surrounding debt payment, as well as the capital raising required to fund loans to cardmembers. These companies are listed in great detail below.
• Merchant Acquirer – The company that finances payment terminals, and tries to sign up merchants to accept credit card payments. These companies include First Data, Chase Paymentech, Global Payments, Heartland Payment Systems, etc.
• Payment Network – The company that routes credit card payments between the other entities. There are four major players: Visa, MasterCard, American Express, and Discover.

How Card Issuers Make Money

We at NerdWallet track thousands of credit cards, and each one is designed to appeal to a particular type of customer base. The two major families of credit cards out there include (i) low interest credit cards designed for people who do not pay off their credit cards each month, and (ii) rewards credit cards designed for people who pay off their credit cards each month and wish to earn something back for their purchases.

How banks make money from credit card users that don’t pay off their bills

Most financial institutions that extend credit (like your credit card, auto loan, or mortgage) make the bulk of their money from “Net Interest Margin”. Credit card issuers first have to get cash that they can lend you, either by borrowing from other lenders, or by getting their customers to open checking and savings accounts, and each of these methods has a some cost. For example, Bank of America might have a very low cost because they can use cash from people’s checking accounts, for which they are only paying 0.05% interest, to extend a credit card line of credit earning them 14.99%. In this example, Bank of America makes a 14.94% net interest margin between what they are paying depositors, versus what they earn from debtors.

The other factor that must be considered is default risk. If 5% of the credit card holders do not pay back their debts, Bank of America’s net interest margin drops from 14.94% to 9.94% (roughly). This is the risk that banking lobbyists have been talking up when trying to justify high fees and interest rates to lawmakers.

How banks make money from credit card users that always pay off their bills

Despite the prevalent idea that credit card companies consider these customers “deadbeats,” the fact is that credit card companies make plenty of money from people who pay their bills each month.  Many card companies even prefer these types of customers because they make this money with a lot less risk than they take on for other customers.

Credit cards generate interchange revenue in the form of “swipe fees” every time you use your credit card, the bulk of which is kicked back to the card issuing bank. Interchange rates are often in the range of 2% to 3%, depending on what type of card is used, what kind of merchant the card is used at, and even how big the merchant happens to be. In practice, over 75% of this will go to the card issuing bank, with the bulk of the remainder going to the payment processing network. Merchant acquirers generally take a very small cut. For more details, see this article we wrote about just how abusive credit card interchange rates have gotten, due to the lack of credit card regulation in the United States.

Which type of customer is more valuable to banks?

Different banks target different bases of customers. For example, American Express largely targets affluent, low-risk, high-spending customers, Capital One divides the market into a number of segments and targets each separately, and HSBC and GE Bank tend to target higher-risk customers with low or no credit. Therefore, the earnings profile is very different between every company. There are extremely profitable customers that generate a lot of interest payments and penalty fees, as well as extremely profitable customers that spend furiously on their reward cards.

If you would like more in depth information on interest income versus interchange income, I recommend you take a glance at either American Express or Discover SEC filings, both of which break out Discount Revenue (a closed loop network’s version of interchange rates), net of reward payouts, as well as net interest margins, by quarter. Or just look over our own analysis of Discover’s earnings a while back.

How Merchant Acquirers Make Money

Merchant acquiring is a “feet on the pavement” type business. These hard working folks, whether network owned (quickly declining as Discover and American Express outsource their acquiring), or independent (often referred to as ISOs, or independent sales organizations), make their money by taking a small cut of the interchange fee.

In general, Visa or MasterCard will negotiate a fee with the ISO, who will then mark it up slightly and go and sign up merchants. ISOs often work out deals with merchants where they lease them equipment (the same way AT&T might give you a phone), in exchange for their business. ISO cuts are generally a very small percentage per $1 spent, but they rely on volume and a large number of merchant acquisitions in order to generate income.

How Payment Networks Make Money

Payment Networks are some of the most profitable companies in the world. They charge “discount rates” or “interchange rates” that vary from card to card. For example, a Visa Signature Preferred premium credit card would demand a much higher rate than a Visa Classic card, even if both earn rewards.

Most of this interchange revenue goes to the card issuing bank, to pay them for fraud risk, customer acquisition costs, overhead, and other expenses. This typically amounts to a ~2% kick back, to the credit card issuing bank, while the payment network might get something like ~0.3%.

However, the large payment networks operate on such large scale that they are highly profitable despite earning a small percentage of the interchange. Furthermore, banks usually have to pay out a decent amount of interchange to fund reward credit card programs. For example, the Capital One Venture pays out 2% of purchases in rewards, so this eats up much of the interchange revenue generated by the card.

Use the links below for thousands of different Bank Credit Cards:

If you already know what you want, try one of the links up top. Our site allows you to sort and rank all these cards to find the credit card which one best suits your lifestyle.