What’s the Difference Between a Payment Processor, Payment Gateway & Merchant Account?

Are you a seller who's ready to go online? For many new online merchants it's a very cumbersome and difficult process to understand ecommerce.  They often fail to understand the basics of ecommerce and consequently face problems in setting up their online businesses.

The core items you'll need to configure (or find) as an ecommerce professional include the following:

  • A domain registration (such as xyzbusiness.com)
  • A quality ecommerce website developer or platform (like Shopify or Bigcommerce)
  • Quality (not just the cheapest) web hosting (Hosting is included with platforms like Shopify, but not with systems likeWordPress and Magento)
  • A shopping cart
  • A way to accept your payments – AKA the combination between a merchant account, payment processor and payment gateway (detailed below)

In this article, I discuss one of the most important aspects of ecommerce: The way you're going to accept payments.

It sounds simple at first, but there are actually three elements that come into play for taking those payments from customers and getting them into your own account:

  • A merchant account
  • A payment processor
  • A payment gateway

Now you might be wondering, what's the difference between a payment gateway, payment processor and a merchant account?

That's what we're here to discuss. All three of these elements work together to transfer money from the customer to the merchant, but it helps to understand what each of them do throughout the process.

What's a Payment Gateway?

A payment gateway is your doorway to making sales online.  A payment gateway will allow you to charge your customer's credit/debit card with the purchase he/she makes online.

Just like a physical point of sales terminal at your brick and mortar retail store, the Payment Gateway authorizes you to take card payments directly from your website. The payment gateway acts as a mediator between the transactions that take place on your website and the payment processor.  This is needed because it is prohibited, due to security reasons, to transmit transaction information directly from your website to a payment processor. Most online merchant accounts come with a payment gateway included, like PayPal.

For anyone interested in finding out more about payment gateways, I've created an in-depth comparison of the most popular five of them. Click here to read it.

Benefits of a Payment Gateway

1. Security – This biggest plus point about a payment gateway is the security it offers your website, which in turns ensures that your customers can buy with confidence. When it comes to cyber attacks Ecommerce is a highly vulnerable industry due to the sensitive information exchanged on websites. In fact, 32.4% of all cyber attacks are carried out on Ecommerce websites.

What a payment gateway will do is encrypt the data via a secure sockets layer (SSL) and it works with your bank to determine whether the payment is legitimate. If the payment is not then it will reject it, as well as avoiding the issue of chargeback fees as well.

SSL certificate

In Chrome you will this displayed as a lock next to the URL, if you click on it will reassure you that the connection is secure and that the information is private.

Without a secure payment gateway not only will lose out on sales due to a lack of reassurance from customers, but you could face a heavy fine if your customers data is exposed.

2. Integration – Payment gateways are easily integrated with ecommerce platforms such as WooCommerce, Bigcommerce, and Magento.

Shopify, for example, integrates with over 100 payment gateways including Stripe, Paypal, Authorize.Net and 2checkout among others. They also have their own out of the box payment system which is powered by Stripe, avoiding the hassle of you having to sign up for a third party gateway.

Shopify payments

Amazon payments is a fantastic addition to your ecommerce store as it automatically pulls payment and shipping information that is stored in Amazon, therefore quickening the speed of the checkout process and increasing your conversion rate.

3. 24/7 – Your store is available at any time of the day and so will your payment gateway.

4. Payment options – At a base level, your payment gateway should accept both debit card and credit card transactions. However, you may want to look for something more sophisticated that can support PayPal payments as well as gift vouchers.

Credit card

Check also if your payment gateway supports point of sale, you may have the opportunity to receive a free card reader so you can accept payments on the go at events, or if you have your own retail store.

5. Several Currencies – If you have plans to sell to customers overseas then it's worthwhile considering a gateway that supports and accepts foreign currencies. It's worth noting that these transactions can cost you more than payments in your own country so have a think about whether this will be worth it.

6. Reporting – Payment Gateways can offer you reporting in real time so you can gather insights into how your business is doing, right up to the minute.

The cost of Payment Gateways

There are 4 costs to consider when you are looking at choosing a payment gateway:

  • Set up – $0 – $250 (if you haven't picked an ecommerce platform yet look for ones that already have on integrated such as Shopify)
  • Monthly cost – $10 – $50
  • Transaction Fees – $0.00 – $0.25
  • Transaction Rate – 1% – 5% (this might be charged by your merchant account instead of your payment gateway, more information below)

With most gateways, they tend to offer a discounted rate when you produce a large number of transactions.

What's a Payment Processor?

Payment processors are the financial institutions that work in the background to provide all the payment processing services used by an online merchant. These companies usually have partnerships with other companies that directly deal with consumers or merchants.

The payment processor connects to both the merchant account and payment gateway, quickly passing information back and forth, keeping it secure and almost instantaneous for the end user.

Payment processors make reselling agreements with payment gateways or merchant account providers in order to provide their services directly to internet merchants. Some payment processors do provide direct merchant services, but most companies focus on processing payments only.

As we've touched on previously choosing your payment processor isn't a decision that is solely down to the person who'll be in charge of the finance. A payment processor is vital for ensuring you have a good conversion rate so it's a decision you don't want to take lightly. A payment processor can be indirectly involved with all of the following elements:

  • Customer
  • Business Owner
  • Payment Gateway
  • Credit/Debit card company of the customer purchasing
  • Bank of your business

Best Payment Processors

There are an abundance of payment processors to choose from so I've listed the top 3 payment processors below:

1. Paypal

Since its inception in 1998, Paypal has become the biggest player in the payment processor game. In the company now operate in more than 200 countries/regions and support 25 different currencies.

Paypal can be directly integrated into your website and because of its familiarity with customers all around the world, it's highly trusted. The flexibility of Paypal is great as well as it allows you process payments through a browser as well as an app, or via a reader for pop-up events or if you have a store. Lastly, it also allows you to extend credit to your customers which can be particularly helpful if you are operating in the B2B market.

Read our full review on Paypal

Discover the Top 10 Paypal alternatives here.

Paypal

2. Stripe

Stripe describe themselves on their website as ‘developer-centric' and it's a very fitting term as Stripe's biggest advantage is how customizable it is. Stripe's API allows you, or a developer to experiment to create a product that perfectly fits your business.

As well as the obvious credit and debit transactions, Stripe also accepts bitcoin payments in over 130 different currencies. What also sets them apart from other payment processors is their transparency with pricing. Their pricing is not only flat-priced, but it's also very competitive compared to its competitors.

Read our full review on Stripe

Stripe

3. Square

Square is a fantastic option for a store looking to sell online as well as offline. It's handy Square Reader which is just $20 can be mounted on to your phone to take with you and accept payment anywhere.

Square is also incredibly intuitive and easy to understand for even beginners. Its point of sale system (which is free) is the real added benefit. Advanced features such as digital receipts with integrated feedback forms, card splitting costs as well as inventory management for tracking stock are all free. These sort of adds on would be very expensive with a traditional POS system.

Square

Try-Shopify

What's a Merchant Account?

Merchant accounts are the types of bank accounts that authorize merchants to accept credit or debit cards payments online. These accounts are required if you want to use a payment gateway to process transactions from your website.

It's worth noting that merchant accounts are often called MIDs (or merchant IDs).

Many payment processing and payment gateway companies provide merchant accounts. These accounts can also be opened with some large banks that provide such services.

In most cases, Independent sales organizations (ISOs) or Member Service Providers (MSPs) provide these accounts. These organizations have agreements with payment processors. In addition to this, independent contractors or Agents of ISOs also provide Merchant accounts.

In all cases, to acquire a merchant account, one must have some sort of arrangement with a payment processor to charge a customer's credit/debit card.

There are a variety of payment gateways and payment processors out there. They vary in the monthly fees and transaction costs. It is vital to choose the right company for your merchant account if you plan to run a profitable online business.

What methods of payment can I accept with a merchant account?

As soon as you acquire a merchant account you can begin accepting payments in the following ways:

  • Online – a payment gateway enables you to receive online payments through your website
  • Card Machine – alongside the obvious debit and credit cards, its also important to find a merchant account that can provide contactless, as well as Apple and Android Pay
  • Phone – although you may have a website, a customer may have a question about an item and you can then take a payment over the phone

card payment

How Do Merchant Accounts, Payment Processors and Payment Gateways Work Together?

Now that we've explained the difference between each payment element, it's time to put it all together. I'm going to walk through a standard transaction on your hypothetical ecommerce website. Then I'll explain every detail of the payment process, while also expanding on where the money goes and which individuals/organizations are involved.

1. A Customer Purchases an Item

Mark stops by your ecommerce website, finds the perfect gift to buy a friend and punches in his credit card information. He clicks the Buy button and waits a few seconds. As those seconds pass, the following steps are rapidly occurring.

2. Mark's Transaction Details are Sent to the Payment Gateway

Mark's personal and credit card information is sent over to the payment gateway. This gateway is kind of like the guard, or middleman, between the customer's information and the banks. The transaction details are securely passed from the gateway through the payment processor, referencing the merchant's ID number and passing along the transaction details to the merchant account.

As you can see, all three (Gateway, Payment Processor and Merchant Account) are utilized in this step.

3. The Merchant's (Your) Payment Processor Also Gets the Transaction Details

Besides sending the transaction details to the Merchant Account, the Payment Processors also has the job of contacting the issuing bank of the credit card used. So, Mark's bank would be sent a quick message to see if he hasn't gone over his limit and to see if it's a legitimate card.

To be more exact, there's actually a Credit Card Network that serves as an intermediary between the Payment Processor and the issuing bank. The Credit Card Network is what locates the bank needed.

4. Mark's Card Issuing Bank Accepts or Declines the Purchase

Regardless of whether the payment is accepted or denied, this information goes back through the Credit Card Network and to the Payment Processor.

5. The Merchant's Payment Processor Sends the Results Back to the Payment Gateway

Let's say Mark's transaction was approved. The payment processor relays that information to the payment gateway, which then stores the results so that the merchant's website can complete the transaction.

6. If Mark is Approved, The Sale Can Move On

Once the merchant finds out about the approval, they can ship out products.

7. The Merchant Gets Paid

The bank that issued Mark's card releases funds to the merchant's bank. After a short settlement period, the merchant's bank drops that money into the merchant account.

Any Questions?

Understanding the differences between payment processors, payment gateways and merchant accounts is not the simplest task. However, the visuals and outlines above should give you a decent idea as to how the whole process works.

If you're still confused or would like to express your own opinion on the matter, let us know in the comments section below.

Feature image courtesy of Justin Harrell

Richard Protheroe

Content Marketer at Veeqo. Veeqo allows you to link your Amazon Seller Central account with your other sales channels to better manage your inventory and shipping.