Article

The card payments life cycle explained

May 28, 2021

Consumers experience the card payment process as a simple, straightforward procedure where purchases are processed and that the proper amounts are noted to their accounts. That’s great news: Payments should be easy for consumers.

But there’s a lot is going on behind the scenes of a payment transaction when you own and manage a business. A clearer window into how credit cards, debit cards and other electronic payments are processed helps you manage your business operations more effectively.

This quick introduction will help you understand the major players and the essential payment processing steps that allow business like yours to accept card-based payments.

Who are the key players?

To understand the payment card life cycle, you’ll want to become familiar with all the key players. No two payment transactions are exactly the same, and each may travel a slightly different path, yet virtually every card payment transaction involves the following parties.

Acquirers, also known as acquiring banks or merchant acquirers, are financial institutions that establish and manage merchant accounts. Every business that accepts credit and debit card payments must establish either a merchant account or a sub-merchant account (where another company provides a merchant account on your behalf). During a card payment transaction, acquirers pass transaction requests and authentication data between merchants and the card associations.

Card associations help connect customers, merchants, issuing banks and acquiring banks. Card brands act as governing bodies of payments processing. Major card brands include American Express, Discover, Mastercard, UnionPay and Visa. Card associations set interchange rates, mediate disputes between issuers and acquirers, and work to promote safe, fast and efficient payments.

The linchpin in the card transaction life cycle is often overlooked: the customer or cardholder. The customer initiates every payment card transaction by providing payment credentials either in person (“card-present”) or remotely (“card-not-present”). Transaction amounts are recorded with the customer’s financial institution, resulting in a credit or debit, depending on the type of account.

An issuer is the financial institution that issues the credit card to the cardholder. Also known as an issuing bank, issuers provide essential services by connecting consumers to the financial system and facilitating the funding of transactions to businesses. It’s that funding process that provides the financial fuel that enables businesses to survive and thrive.

Merchants are the corporations, entrepreneurs, sole proprietors and every type of business in between. Merchants like you play a cornerstone role in the payment transaction process by providing the tools of card payment acceptance: a card terminal or point of sale system for card-present transactions, secure e-commerce websites equipped with payment gateway, or payments integrated through an ever-growing range of applications.

Payment processors are companies that process credit and debit card transactions on behalf of merchants and their merchant banks. Payment processors are the glue in the magnet that connects all the other players in the credit card life cycle. Payment processors have evolved beyond their processing functions to offer a full range of payment-related services to help businesses like yours grow by serving your customers more efficiently.

How does the credit card life cycle work?

The life cycle of each specific card payment transaction can vary depending on a variety of factors, but a few steps in the card transaction life cycle always occur: authorization, batching, clearing and settlement.

Authorization

The first process in the life cycle is authorization. A customer presents payment card credentials to a merchant, either in person or remotely. Card information is transmitted to the acquirer and the payment processor. A transaction then passes through the card associations and then to the issuing bank.

The issuing bank assures the account is in good standing with sufficient balance for the transaction, sending an authorization or decline code back to the card association, which then passes it to the acquirer. The acquirer then communicates the authorization or decline back to the merchant, and the transaction is approved or declined.

Each stage of the authorization process may involve one or more security and anti-fraud filters. The whole process takes place in just a matter of seconds.

Batching

The authorization component of card-based payment transactions takes place essentially in real time. That’s necessary to tentatively complete transactions, but it’s not the final act. At this stage transactions are “pending” until the merchant submits a formal and complete accounting of the transaction.

Batching is the process where merchants periodically review and submit final sets of transactions. Historically, batching takes place at the end of each business day. Merchants like you can often realize significant cost savings by batching transactions. Though manual batching is still practiced, batching is increasingly an automated process that a merchant can configure with their payment processor or merchant bank.

Clearing

Once a merchant dispatches a batch of transactions, the transactions in that batch begin a journey to reconcile accounts. Batched transactions are then routed individually down the line from the acquirer through the payment processor and card network and on to cardholder’s issuing bank.

Issuing banks then deduct the amount of the transaction from the customer’s account. Clearing is also the stage in the process where interchange fees are deducted by the issuing bank, which in turn shares a portion of those interchange funds with the card networks.

Settlement

Settlement, also known as funding, is the final stage of the process where the merchant is finally paid. The issuing bank transfers funds for transactions to the merchant bank. Then the merchant bank deposits funds into the merchant account.

The timing of the settlement and funding process is of great concern to many merchants. That’s not surprising given the importance of cash flow to fund operations and growth. Settlement times can vary significantly based on a number of factors for your business.

So that’s the simplified card transaction life cycle. Whether you’re starting a new business or are unsatisfied with your current payment providers, find out how Worldpay from FIS® can help connect your business to the future of commerce.