Discover and American Express are different from Visa and Mastercard in a very important way: While all four of these companies process credit card transactions, Discover and American Express also issue their own credit cards. Why is that? It has to do with how credit card transactions are handled and how fees generated by those transactions are paid and received. By issuing credit cards as well as processing them, Discover and American Express can get a bigger cut of that fee revenue.
When you use a credit card, there are several steps between your card going through the reader and the charge showing up on your statement. These steps, many of which are instantaneous, involve multiple parties, including you. The participants in a typical transaction are as follows:
- The cardholder: the person who makes charges on the credit card and pays the bill.
- The issuer: the financial institution that provided the card to the cardholder. The card account is maintained by the issuer.
- The merchant: a store, service provider or other person or business who gets paid with a credit card.
- The acquiring bank: the merchant’s bank. The acquirer provides the merchant with equipment to accept cards. Payment for card transactions is deposited in the merchant’s account there.
- The payment network: the intermediary that processes the transaction. It verifies with the issuer that the card is valid, then makes sure that the charge is attributed to the proper cardholder and that payment makes it to the merchant’s account at the acquiring bank.
The whole system is paid for with fees charged on each credit card transaction. Merchants pay these fees and, typically, pass them on to customers the same way they pass on other costs of doing business — in their prices. These fees are divided among the financial institutions handling the transaction.
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And here’s where the difference becomes apparent:
- Visa and Mastercard are payment networks only. Cards with their logos are issued by banks — big ones like Chase, Citi and Wells Fargo, but also small ones.
- Discover and American Express are both payment networks and issuers (although some of their cards might also be issued by banks; Wells Fargo, for example, has offered several American Express cards).
By operating their own payment networks and issuing their own cards, Discover and American Express simplify the transaction process, reduce the fees they have to pay and collect more fees than they otherwise would. Although their networks were expensive to set up and maintain, the extra fee revenue offsets those costs.