How Credit Card Processing Works for Small Businesses

Authorization is just the first step of many in a credit card processing system that ultimately results in a merchant being paid.
Lisa Anthony
By Lisa Anthony 
Edited by Sally Lauckner

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U.S. consumers use credit cards for more than a quarter of all payments, according to the Federal Reserve Bank of San Francisco. So if swiping, dipping or tapping a card isn’t an option your business offers, you could be missing out on a significant chunk of sales revenue.

While using credit cards for purchases is a convenience many consumers have come to expect, the actual process for a business is complicated. It involves industry lingo that may be unfamiliar to some, the coordination of multiple participants and the acquisition of a card reading device.

Overview of credit card processing

Several moving parts are involved in processing a credit card transaction. On one side of the transaction, you have the customer and the bank that issued their credit card. On the other side, you have the merchant and the bank that will receive the payment. Details about the transaction travel between the two banks through a credit card network, and the payment processor helps make sure things run smoothly.

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Key participants in credit card processing

A good first step in understanding the process is to review industry terms for the key participants.


A cardholder is the customer, or consumer, who is using the card for payment. The cardholder could be either the owner of the card or an authorized user.

Issuing bank

An issuing bank is the entity that issued the credit card to the cardholder and is responsible for authorizing the transaction. If a transaction is approved, the issuing bank sends funds to the merchant bank, which in turn bills the card owner through a monthly credit card statement.


A merchant is a business that accepts credit card payments from customers for its goods or services. These include in-person, online or phone payments.

Merchant bank

A merchant bank, also known as an acquiring bank, maintains the merchant account where the funds from credit card transactions are deposited. Some merchant banks act as payment processors in the card transaction. Others rely on third-party payment processors to manage the payment details.

Payment processors

A payment processor, or merchant services company, helps manage the transaction process with the merchants, banks and card networks. In addition to helping authorize transactions and ensuring the transfer of funds, some payment processors also offer the hardware and software required to accept card transactions.

Card networks

Credit card networks such as Visa, Mastercard, American Express and Discover are responsible for the infrastructure that allows the transmission of credit card details between the merchant bank and the issuing bank. Credit card networks have rules for the use of their networks and set interchange rates and fees for their services.

2 parts of the card transaction process

While the authorization of a card transaction generally takes only a few seconds to be approved or declined, the settlement stage is just as important to the merchant receiving its money.


The cardholder starts the process by providing their card information through the merchant’s card device. The card information is then sent to the merchant bank or the payment processor, which, in turn, routes the information through the appropriate card network to the issuing bank. After the issuing bank confirms the card details and checks the cardholder’s account status and available credit, it sends an approval or denial to the merchant bank. The merchant bank or payment processor then forwards the decision to the merchant’s card device.

The authorization process for an online and e-commerce card transaction may be slightly different and could require a payment gateway in addition to a payment processor.


In the settlement process, funds are moved from the issuing bank to the merchant account. Generally, merchants send batches of authorized credit card transactions to their merchant bank or payment processor at the close of business or another scheduled time. These transactions are routed to the card networks, which work with the issuing banks and merchant banks to ensure funds are deposited into the appropriate merchant account.

The issuing bank deducts interchange fees from the transaction amounts before transferring the funds to the merchant account. As a general rule, it takes one to three business days for the settlement process to be completed.

Credit card processing tools

A merchant will typically need hardware and software to capture the information needed to process a credit card transaction.


The hardware for credit card transactions can be as simple as a compact card reader that plugs into a smartphone, or it can be a device with more features, such as a terminal, register or an entire point-of-sale system. These devices collect and then transmit card data through the internet or a phone line to the merchant’s payment processor. Payment processors typically offer a variety of options when it comes to hardware.


A payment app is generally needed for credit card processing. Some are free with the purchase of hardware, and others may require a monthly fee. These software programs can include features such as inventory management, customer tracking, the ability to send email receipts, and reporting and analytics.

Credit card processing fees

In addition to the costs associated with the hardware and software, a merchant will also pay credit card processing fees. In general, fees range from 1.5% to 3.5% of the transaction amount.

Interchange fees: Interchange rates are set by the card networks, and fees are paid to the issuing bank. They're typically the largest portion of the processing fees.

Assessment fees: These fees are paid to the card networks.

Payment processor fee: This fee goes to the payment processor, which may be the merchant bank or a third-party processor.

Merchants can pay additional fees based on the payment processor they use and the services provided. For example, some payment processors charge a fee for PCI compliance, while others don’t.