A payment service provider (PSP) provides merchants with the ability to accept electronic payments. If you’re a small business, a payment service provider can provide you with a sophisticated payments system at a friendly cost. You don’t have to worry about the more technical aspects of running payments, such as dealing with payment processors, meeting PCI compliance standards or finding a payment gateway.
Payment service provider definition
A payment service provider provides business owners the ability to accept credit card, debit card and digital wallet (Apple Pay, Google Pay) payment methods for both in-person and online transactions. Payment service providers are not the only type of enterprise that provides this type of service; however, they offer a unique approach to payment acceptance.
In short, a payment service provider pools all of its clients together into one large merchant account. A merchant account is a special type of bank account that fronts your business the majority of the proceeds from credit card payments before your customers pay off their card issuers. The merchant account deposits these funds into your business bank account. The benefit to business owners is that they receive their funds within one to two days of the transaction, while the payment service provider waits to receive the actual funds from the issuing bank (which can sometimes take longer).
Pooling all of your clients into one large merchant account is unique because most traditional merchant services providers offer a dedicated merchant account to each client. By grouping all of its clients into one large merchant account, the payment service provider takes on the financial risk associated with accepting credit card payments (such as fraud, chargebacks, etc.) for each of its merchants.
You’ll also hear payment service providers referred to as third-party processors or aggregators (because they aggregate all of their merchants into one account).
Payment service provider vs. merchant acquirer
To fully illustrate what payment service providers are and what they do, it helps to compare them to a more traditional method of accepting payments — the merchant acquirer (also known as the acquiring bank). The merchant acquirer is a purveyor of merchant accounts.
A merchant account is necessary for any credit card transaction — regardless if it is through a payment service provider or traditional merchant acquirer. The key distinction between payment service providers and merchant acquirers is how they use the merchant account. While a payment service provider groups all of its clients into one large merchant account, a merchant acquirer provides individual merchant accounts to each of its customers.
This difference between individual and group merchant accounts creates some important differences in how merchant acquirers conduct their business vs. payment service providers.
A merchant acquirer will put you through a fairly rigorous vetting process before providing you with a merchant account. This is because it is assuming greater financial risk than the payment service provider. A payment service provider still assumes risk, but it has a better chance of recouping its loss if something goes wrong, given it manages a larger pool of merchants.
Another key distinction between payment service providers and merchant acquirers is that payment service providers typically provide business owners more merchant services tools. It’s not uncommon for a payment service provider to also provide point-of-sale software and hardware, a payment gateway for online processing and in some cases, an entire e-commerce platform. A merchant acquirer, on the other hand, usually only provides payment processing and a merchant account.
Perhaps the most important difference between payment service providers and merchant acquirers is pricing. Payment service providers typically charge the same flat rate to all merchants. Merchant acquirers, on the other hand, consider your business size, industry, transaction volume and a range of other factors when determining your price.
For payment service providers, the only fee you’ll typically be charged is a per-transaction fee. This fee is usually a flat rate between 2.5% and 3% for in-person transactions and 2.9% for e-commerce transactions, plus a small fixed fee (between $0.10 and $0.25). Note that these rates apply to all credit card types and payment methods. There are usually no setup fees, monthly fees or fees for PCI compliance. However, your payment service provider may charge you extra if you use its payment gateway or POS.
There are three different ways a merchant acquirer could charge you for its services. Let’s take a look at all three:
Interchange-plus pricing: Interchange-plus pricing is expressed as a small percentage of a transaction (paid to the credit card network) plus a markup (paid to the payment processor) and a fixed fee (between $0.10 and $0.25). Unlike payment service provider transaction fees, interchange-plus pricing is usually negotiable, with low-risk merchants getting more favorable terms.
Tiered pricing: With tiered pricing, the merchant acquirer charges you a different per-transaction processing fee depending on how “qualified” it deems the purchase to be. Essentially, the more risky the acquirer deems the purchase, the higher the processing fee you will pay. How the processor qualifies the purchase can often be unclear to the merchant. In general, tiered pricing is more expensive than interchange-plus pricing.
Subscription pricing: With subscription pricing, you pay a monthly membership fee instead of a markup on the interchange rate. For example, with the subscription-based merchant acquirer Payment Depot, you pay $49.99 per month but only get charged the wholesale interchange rate on transactions (determined by the credit card network) plus a fixed fee of $0.15.
Note that, unlike payment service providers, merchant acquirers may also charge you PCI compliance and statement fees. In addition, merchant acquirers typically try to lock you into multi-year contracts with early termination fees. Payment service providers, on the other hand, offer month-to-month contracts.
Payment service provider pros
There are a lot of benefits to using a payment service provider, especially for small-business owners.
Payment service providers offer a plug-and-play solution for business owners looking to accept payments fast. In most cases, you can sign up and start accepting electronic payments on the same day. There’s no long vetting process because the risk isn’t as high for the payment service provider compared to the merchant acquirer.
In addition, most payment service providers allow you to buy into their entire platform — meaning you can also use their payment gateway and POS tools (inventory management, reporting suite, marketing tools, etc.). Because you are already a customer, they typically let you use these additional tools at a reduced cost or no cost at all. For example, Square — one of the largest payment service providers in the world — gives merchants a free mobile card reader when they sign up for payment processing.
This combination of speed and convenience makes payment service providers an attractive option for small businesses.
If you’re a new small business, or if you’re considered a “high-risk merchant,” it can be hard to get a good deal from a merchant acquirer. With payment service providers, you never have to worry about getting ripped off, as they offer the same flat rate to all their customers. Additionally, fees associated with payment processing, such as PCI compliance fees, are covered by your payment service provider. Knowing exactly what you’re going to pay for payment processing offers businesses peace of mind and predictability.
Payment service provider cons
There are still some areas of concern with payment service providers.
Having a minimal vetting process is a double-edged sword when it comes to payment processing. Oftentimes, business owners who use payment service providers are more likely to experience disruptions in service in the form of account holds or terminations if the payment service provider deems their activity to be too risky. Suddenly losing your ability to accept electronic payments can have huge consequences for a small business, so it is important to be aware of this risk before signing up.
When you go with a merchant acquirer, you’re usually working with someone who knows your business and your payment activity. With a payment service provider, on the other hand, you’re just one of many merchants within a merchant account, meaning your customer service experience is less personalized to your specific business needs.
While a payment service provider is a fast and convenient solution for small businesses, it isn’t necessarily a long-term solution. As your business grows, there will likely come a point where it makes more sense to transition to a merchant acquirer. If you have a strong business, you’ll likely be able to get lower rates than you would with a payment service provider, as well as more personalized service.
Best online payment service providers for small-business owners
If you’re in the market for a payment service provider, here are the three online payment service providers to consider:
As one of the largest payment service providers in the world, Square is a great option for a small-business owner looking to process electronic payments. You can create a free Square account by providing some basic business information and begin processing all payment types immediately. Square’s free mobile card reader allows you to accept in-person payments via your smartphone.
The fee to use Square is 2.6% + $0.10 for in-person transactions and 2.9% + $0.30 for e-commerce transactions. If you accept payment via a virtual terminal, you’ll pay a fee of 3.5% + $0.15. There’s no cost for using Square’s built-in payment gateway, and Square will cover your PCI compliance costs. Furthermore, all Square customers can use the Square POS app for free. If you sign up for Square’s industry-specific POS apps — Square for Restaurants and Square for Retail ($0, $60 or $299+ per month depending on the plan you choose) — you’ll also receive lower per-transaction fees.
If you need POS hardware, Square offers a full marketplace of credit card and POS terminals, with POS kits starting at $555.
Stripe is a highly customizable payment service provider used by major brands like Under Armour, Lyft and Target. Using Stripe, you can accept Visa, MasterCard, American Express, Discover and several different foreign credit card networks, along with mobile wallets like Google and Apple Pay. In addition, Stripe processes over 100 different foreign currencies and converts them at no additional charge.
However, the main reason businesses choose to use Stripe is its developer tools. These tools allow you to integrate Stripe payments into your own platform (given you have the technical skill) for a payments experience unique to your business’s needs. Some of the tools that come with Stripe include:
Stripe Elements: A custom UI toolkit that allows merchants to build their own payment form for desktop, tablet or mobile.
Stripe Sources: An app programming interface (API) that allows merchants to accept payment methods from all around the world with a single integration.
Stripe Sigma: Sigma can be used to create fully customizable reports with the programming language SQL.
Stripe Relay: An API for powering mobile in-app purchases.
To use Stripe you’ll pay 2.9% + $0.30 for every online credit card transaction and 2.7% + $0.30 for every in-person credit card transaction. Your payment gateway comes at no additional charge. Stripe also sells a variety of card terminals to accept in-person payments. Prices start at $59.
Shopify is thought of primarily as an e-commerce platform. However, when you sign up for Shopify you essentially get a payment service provider built-in. The service is called Shopify Payments, and the price you will pay to use it depends on the subscription plan you sign up for with Shopify.
If you sign up for Basic Shopify ($29/month), you’ll get a processing rate of 2.9% plus $0.30 for every online purchase and 2.7% for every in-person purchase (the payment gateway comes built-in). Shopify also gives merchants a free cash drawer, receipt printer and barcode scanner when they sign up — and credit card terminal prices start at $29.
Furthermore, Shopify provides merchants with a POS app that can perform an array of functions — including managing inventory, processing refunds, applying discounts and tracking analytics.
Toast POS Great for restaurants that need specific features and 24/7 customer support.
Clover POS Great for small-business owners looking for reasonable prices and versatile hardware options.
Merchant account providers
PaymentCloud Great for businesses in high-risk industries.
Payment Depot Great for cost-effective credit card processing for midsize businesses.
A version of this article was first published on Fundera, a subsidiary of NerdWallet.