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Published 11 June 2024
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What is a Merchant Account?

When you launch your small business, you’ll want to take credit and debit card payments from your customers. To do this, you’ll need a merchant account. Below, we explain the different types of merchant accounts, the fees to look out for and how they work.

A merchant account is a type of business bank account that you need in order to take customer credit and debit card payments. 

How does it differ from your standard business bank account? Well, a merchant account acts as a kind of temporary holding pen for the customer’s funds while their payment is being processed. 

That’s because a number of steps have to be completed before the payment can be safely deposited into your business account, including checking that the customer has sufficient funds and approving the payment. 

The merchant account is a vital component in the payments chain. Below, we explain why you need one, how merchant accounts work, the different types of merchant accounts, the fees to watch out for, and how to open one. 

Do I need a merchant account?

Yes, if you want to accept card or electronic payments of any kind, you must have a merchant account.  There is no way to bypass this part of transaction processing by having the customer’s funds transferred straight from their account to yours. 

That said, while it was once common for businesses to open a separate merchant account, many end-to-end payments service providers (PSPs) now include this functionality as part of their offering. In some cases, you may prefer to open a merchant account with an independent third party – for example, if you’re a larger business with specific needs – but for smaller businesses, it can be much more efficient to set it up as part of a package of merchant services. 

How do merchant accounts work?

A merchant account is an intermediary between your bank, which is often called the acquiring bank, and your customer’s bank, the issuing bank. 

Here’s how your merchant account comes into play during a typical transaction:

  • The customer initiates the transaction by either entering their card details on your online checkout page or, if in store, tapping their card on your card reader.
  • These details are transmitted from the checkout or card machine, via your payment processor or acquiring bank, to the card network (such as Visa or Mastercard) and then on to the customer’s bank.
  • The cardholder’s identity is verified, and the bank checks that they have sufficient funds in their account. The transaction is authorised and both you and the customer will receive confirmation that the payment has been approved
  • The payment amount can now be sent from the customer’s bank to the merchant account 
  • There is now a settlement period, which can take anything from a few hours to three days, though in some cases it can be as long as seven days, before the funds are moved from your merchant account to your business bank account
  • The time of day, the institutions involved, and the perceived risk level of the transaction can all affect settlement times

Are there different types of merchant accounts? 

Here are the main types of merchant accounts: 

  • Aggregated: An aggregated, or aggregator, is a type of merchant offered by a PSP and is also known as a payment facilitator account. In this scenario, the PSP essentially operates a master merchant account, which pools the funds of multiple sub merchants and then distributes them in accordance with their earnings. If you’re a small business, this is beneficial because the PSP takes on much of the risk and hassle of opening and managing a merchant account. This makes it easy to set up and, because resources are pooled, you’ll pay a lower flat rate to your PSP. Although you share the account with other businesses, you can’t see their transaction data and you aren’t affected by any potential fraud or chargeback rates
  • Dedicated/ISO: Dedicated merchant accounts are offered by independent sale organisations (ISOs) such as an acquiring bank and are better for larger businesses with large sales volumes. That’s because they can be tailored to the merchant’s needs, with specialised services and flexible processing rates and, unlike aggregated accounts, they are not restricted by processing thresholds. As a result, you will pay higher fees for this type of account. 
  • High-risk merchant account: High-risk merchant accounts are designed for businesses operating in sectors, such as gambling or travel, where there is a higher risk of fraud or chargebacks. To account for this risk, these accounts charge much higher fees

How much does a merchant account cost? 

If you choose to partner with a payments provider that offers merchant account services, the cost of your merchant account will most likely be bundled in with the general fees you’ll pay to use its services. The actual amount you’ll pay could be determined by the pricing model of your provider, your sales volume, and whether you use additional services such as fraud prevention. One of the most common methods of payment is to charge a percentage of the transaction volume. 

As every business’s needs and circumstances are different, merchant account costs vary significantly. And you will also have to pay credit card processing fees, which will vary depending on which card your customer uses.  

You may have to pay a set-up fee, monthly fee, and per transaction fee for processing, depending on your contract. See below for a few common examples.

Merchant account fees

Here are some fees commonly associated with merchant accounts:

  • Set-up fee: Some providers charge a one-off fee to set up your account.
  • Monthly or statement fee: A regular fee that covers the cost of ongoing services such as issuing monthly statements.
  • Monthly minimum: You may also have a monthly minimum, which means that, if you don’t process enough payments to exceed the fee threshold, you’ll have to pay the difference. 
  • Chargeback fees: If a customer successfully disputes a charge and you have to return their payment, you’ll pay a chargeback fee.
  • Card machine/virtual terminal: You’ll need to rent a chip and PIN card machine or if you plan to use your smartphone, pay for the software for a virtual terminal.
  • Early termination: If you break the terms of your service agreement by closing your account early, you could be charged an additional fee.

How do I open a merchant account?

You will need to complete an application process to open a merchant account with a PSP. It will require you to provide your business name and contact details, tax information, and banking details, so that the funds can be correctly routed to your business bank account. The provider will then conduct due diligence to ensure they are not taking on any unnecessary financial risk by partnering with you. 

As the PSP has already partnered with multiple third party merchant services on your behalf, been through its own regulatory checks, and complied with local laws, you should be able to start accepting payments almost instantly.  

If you want to partner directly with an acquiring bank for your merchant account, you’ll undertake a similar application process, but the provider will conduct much more thorough checks, known as underwriting. That’s because they’re taking on a higher level of risk working with a new business rather than an established payments provider. 

Image source: Getty Images

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