Merchant service provider VS payment gateway

Global Ecommerce growth continues to outpace the entire retail sector.

Choosing how you will accept payments from your customers is one of the most important decisions that you can make for your online business. In order to accept credit and debit card payments, and even electronic wallets, you need to choose a payment gateway. 

Any online transaction via a credit card or a digital currency must go through one of these payment gateways that connect you to the acquiring bank. But gateways can require you to first set up a merchant account. In this case, you should partner with a merchant service provider or another eligible financial institution. 

What is a merchant account?

 A merchant account is a special financial account that allows a business owner to accept electronic transactions, most common debit and credit cards. To open a merchant account, a business owner must settle an agreement with one of the institutions that are qualified for issuing merchant accounts. This can be a merchant service provider or a payment service provider. In this article, we will focus on the first category. If you are interested in defining payment service providers, you can read this article “Accept payments online: a guide for merchants”.

In a case, if the business does not want to open a merchant account, but still needs to accept payments online, it can follow with the third-party payment processor. The last option can be useful for small businesses and freelancers at the beginning of their vendor path. But for a growing business at some point, a merchant account becomes an essential tool. 

To understand how exactly merchant accounts can be opened, why you need them, and which benefits they bring, we advise you to read this article “Why do you need a merchant account and what you need to know”.

What is a merchant service provider?

A merchant service provider is a banking institution that equips a business with a variety of services for operating electronic payments both in offline spaces and online platforms. These services always include the setting up of a merchant account at the beginning of the deal. 

For the physical stores, merchant service providers can supply a credit card reader, point of sale system, virtual terminal, and inner software solutions for electronic payment flow. For eCommerce businesses, merchant service providers can offer payment APIs, card payment processors, payment gateways, and so on. The set of services consistently depends on the contract with a merchant provider and the business’s particular needs.

What is a payment gateway and how does it work?

Basically, a payment gateway is a technology that takes and delivers the encrypted payment data from the customer to the acquirer and then sends the payment approval or denial back to the customer and the merchant.

Not all online payment gateways are created equal, but most have their strong suits. Knowing exactly what a payment gateway is can be the first step to making an informed decision. 

Six main players are involved in any payment transaction. The first one is obviously you, the merchant. On the other end is the customer. In between, there are services that make the transaction possible: an acquirer bank, an issuing bank, the card association, the payment gateway, and the secure payment processor

  1. You, the merchant: for you to accept credit card payments, you will need to create a merchant account with a merchant bank (sometimes called an acquirer bank).
  2. Merchants can accept the payment only via the acquirer bank. Once a merchant bank has accepted the transaction, it can deposit the funds into your merchant account, which later can be transferred to your business account.
  3. The customer: to make a purchase, the customer needs to have a credit or debit card given by an issuing bank with an agreement with a card association. Depending on your agreement with the bank, a customer might use other payment methods as well, such as electronic wallets and local payments. 
  4. The issuing bank is the bank that approves your customer for their credit or debit card and leads him or her the money to pay to you as a merchant.
  5. The card association is a chain of issuing banks and acquiring banks that process payment cards of a particular label. These labels can be Visa and MasterCard, and they are triggered in the transaction via the payment gateway.
  6. The credit card payment gateway is the first service. It is the software that connects your site’s shopping cart to the issuing bank so that it can be approved and then sends requests to the merchant account once the transactions have been approved.
  7. The payment processor moves the transaction through the processing network after it has been approved so that you can be paid. In many situations, your merchant bank may also be your online payment processor, which can keep things simple.

Besides that, there are two main steps to processing an electronic payment: getting approval for the sale and settling the payments (simply put, moving the money into your account). Getting approval for a credit or debit card transaction can be done in just a few seconds, while the settlement, when you get the money for the exact transaction, can take a few days or weeks. 

Difference between a merchant account and a payment gateway

Logically a merchant account and a payment gateway are completely two different services, but both are necessary for operating with online transactions.

A merchant account is something a merchant needs just to collect the electronic payments and to transfer the collected funds to his or her own business account afterward.

A payment gateway is a technical tool for facilitating a transaction flow between a wallet of the customer and a merchant account of the business owner. As we have mentioned before, a payment gateway passes the information of the purchase through banks and a global payment processor, to ensure that the given transaction is secure and valid. 

Comparison of a merchant service provider vs a payment gateway

Merchant service providers usually can offer to the merchant a wide range of services and facilitate transactions for both online and offline commerce. Usually, merchant providers start with the merchant account establishment and follow in the process till the connection with the payment processor for accepting credit card payments, electronic wallets transactions, and even digital currencies like bitcoin. They offer notable client support as well, which can be quite attractive. But contracting with a merchant service provider normally leads to higher fees, complex documentation submission, and lasting agreement. 

A payment gateway is just a web-based tool for payment forwarding, but yet it is a necessary element for any online transaction. Merchant service providers, for example, can include a payment gateway in the package of eCommerce solutions. Still, setting up a payment gateway alone might work for businesses that already obtain the merchant account and would like to collect payments via the internet. Or those businesses that are well presented in retail and attempt to extend products and services distribution to online platforms.

When it comes to fees and contracts, payment gateways are very flexible. Fees are way more simple, along with the minimal submitted documentation, and short-term or no time-based contracts at all.

To choose a payment gateway or a merchant service provider, it is important to properly define your needs. Know the actors that are involved: you, your merchant bank, your customer, their issuing bank, the payment gateway, and the payment processor. Know who is responsible for what, so that you can increase your approval ratings, without increasing your risk. Finally, keep in mind that everyone who is involved wants to get their cut, so know exactly what they want and who is going to pay for it. Any savings you can pass on to your customer will earn their loyalty and build your business.