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Want to understand the difference between payment gateway and merchant account? Here’s a guide covering their differences, how they work and why they are important to your business.
Before we start with the blog, here’s a simple equation for you to remember:
Payment Gateway (PG) + Merchant Account by Payment Aggregator (PA) = Accept Online Payments
Trust us. By the end of this section, it will all fall into place.
But first, let’s understand the basic concepts with a simple analogy.
Analogy on Difference between Payment Gateway and Merchant Account
Let’s say that you have moved into a new house and want to get the water supply running. Now, one way would be to set up a water purifier plant and connect it to your house. Evidently, it will cost a lot of money. Another option is to avail services of a water supply company. As a company, they have rented several water purifier plants. They will supply the water into your own home water tank. You would just have to pay according to your consumption.
This is exactly how a merchant account and payment gateway works. You avail services from a payment aggregator (water supply company in this analogy). They supply water into your own personal water tanker (i.e. your merchant account). You just have to pay for your own water consumption (i.e. the MDR on your business transaction). The Water Purifier is analogous to a payment gateway as it is the technology making it all possible.
Having said that, let’s dive deeper.
Difference between Payment Gateway and Merchant Account
The merchant account is a business bank account that allows businesses to accept payments from customers. It can be provided by a payment aggregator (PA) where the PA receives funds on behalf of the merchant in its own account. Thereafter, these funds are forwarded to the merchant’s bank account. This is known as the settlement of funds. Usually, the settlement takes T+2 days but instant settlements can let the merchants access funds in under 15 minutes.
On the other hand, payment gateways are technology providers that facilitate and route the online payment of businesses. It captures the payment data of the customer on the checkout page and forwards it to the acquiring bank. This data is forwarded securely in an encrypted format. Thereafter, it informs the customer if the payment has been accepted or declined.
Now, let’s come back to the equation we discussed.
Payment gateway will provide you with the secure technology to route the online payment. The payment aggregator will allow you to accept the payments through the merchant account. All this without creating a separate payment integration system. Together, these two are all you need to accept online payment. The PA partners with banks, card networks and other payment services providers making online payment possible.
However, PAs are not the only ones who can provide a merchant account.
In this blog, we will be focusing on the difference between payment gateway and merchant account and how they can help your business. Now, both payment gateway and merchant account are of two types. Let’s dig deeper to understand the difference.
How do Merchant Accounts Work? What are the Types of Merchant Account?
There are two ways of getting a merchant account. First, as we have mentioned before, is through a payment aggregator. Another way is through an acquiring bank directly (ISO merchant account).
Here’s a simple analogy to help you out.
Let’s say you are planning to create an office space for your business. So, you decide to build an office building from scratch. However, that requires resources for architecture, labour and a lot of other expenses. This proves to be expensive for you. So instead, you and your company decide to work from a co-working space. You get a dedicated office space that fits your needs.
Believe it or not, this is exactly how merchant accounts work. The office building is like an ISO merchant account. You can customize your merchant account, much like choosing the architecture of the building. However, it is expensive and requires more resources. On the other hand, the PA merchant account is like a co-working space. You’d have your unique sub-merchant account, much like your reserved office space. It’ll be pocket friendly for you as you just pay for your space and not the entire building. Similarly, in a PA merchant account, you just pay MDR charges on your own transactions.
Having said that, let’s understand this in detail.
Payment Aggregator Merchant Account
If you integrate with a payment aggregator, they will provide you with a merchant account. The funds will come directly into the PA’s account. Thereafter, they will be settled in your account after a stipulated time period.
Basically, The PA has a master merchant account. All the businesses integrated with the PA become its sub-merchants. The PA pools the money received by businesses of all these customers. Thereafter, they settle the respective funds in each business’s sub-merchant account.
Best Suited For:
PA merchant accounts are best suited for small and medium businesses. They have zero to no setup fees. In fact, some PA offer merchant accounts zero maintenance fees and no infrastructure costs. The merchants only need to pay charges according to the merchant discount rate on their transactions. This MDR may vary according to the payment modes.
Independent Sales Organizations (ISO) Merchant Account
Here’s a question that might have crossed your mind.
Can you get a merchant account without a payment aggregator?
The answer is Yes. A Bank can issue a merchant account directly to the merchant. However, these banks have to be “association member banks”. This means they should be able to accept transactions from card networks like Mastercard or Visa.
Independent Sales Organization (ISO) merchant account is uniquely created for one specific merchant. Evidently, this gives them the freedom to customize their merchant account according to their needs. They operate independently and set their own processing rates. Moreover, they can get features like dynamic currency conversion.
However, getting an ISO merchant account from scratch is a major task. First, you’d need to have partnerships with association member banks. This would require an immense amount of resources in due diligence and legal agreements. Next, you’d need to offer various payment methods and modes to your customer. For instance, recurring billing or one-time payment.
To save their time and resources, most merchants choose to integrate with a payment aggregator. It has pre-existing agreements with banks and provides merchant accounts to businesses quickly and efficiently.
Best Suited For:
ISO merchant accounts are best suited for large corporations. In fact, they are the only ones who would qualify for it. Businesses have to cross a certain level of transactions to cross the threshold to get an ISO merchant account. These thresholds are created by card networks like American Express, Mastercard and Visa.
Now that we have covered the types of merchant account. Let’s move onto the types of payment gateways.
What are the Types of Payment Gateway?
Payment gateways were mainly provided by banks in the past. However, recently fintech firms have entered the scene. They provide user-friendly ways of accepting payments and boast of higher success rates as well.
Let’s understand why third party payment gateways are overshadowing bank payment gateways.
Payment Gateways by Third Parties
Third party PGs are basically fintech firms that are taking over the market with their unique products. They offer Hosted as well as Self Hosted PGs to businesses. Moreover, They allow easy integration and plugins for all major eCommerce platforms. For instance, Shopify and WooCommerce.
One of the reasons why businesses gravitate toward third party PGs is their innovative payment products. For example, Cashfree helps merchants accept payments through UPI and payment links apart from cards, net banking and wallet. Their payment products like instant settlements, bank account verification and instant settlement is another example. Interestingly, despite proving to be a better alternative, their payment gateway charges may be lower.
Recent research shows that customers are losing trust in traditional banks and their services. Third party PGs have leveraged their tech-savviness and superior customer service to fill that void.
Payment Gateways by Banks
Bank payment gateways are usually preferred by large corporations. The reason is that it is extremely hard to integrate into them. Moreover, their dashboards might not show real-time transaction status. This is in stark comparison to the third party PGs.
Furthermore, some of them have outdated systems that are not compatible with modern browsers. This decreases their user-friendliness and most of them require manual configuration.
Pro Tip: Types of Payment Gateway: Ultimate Guide
Now, that we are done with the types of merchant accounts and payment gateways, it’s only natural to ask: how do they work!
How Do Payment Gateway and Merchant Account Work?
We will be explaining how PG and merchant account help in accepting online payments. But first, we need to know the two other players involved.
- The Acquiring Bank: The Acquiring Bank aka the Acquirer is the bank that holds the merchant account. It accepts online payments from the issuing bank. Moreover, It ensures that the merchant is operating under the regulations of card networks.
- The Issuing Bank: This is the bank that has issued the customer’s credit/debit card. It validates the card at the time of online payment.
- Payment Processor: The payment processor is the technology responsible for online transactions. It acts as a bridge between the PG and the credit and debit card companies.
Now, let’s get to the step by step process of how a merchant can accept online payments.
What is a Merchant Account Payment Processing?
Customer Enters Card Details
First, the customer chooses a product from the merchant’s website and heads to the checkout. Now, the merchant may be using a hosted payment gateway or non-hosted PG. Either way, the customer fills in their card details. This includes the card’s number, expiration date, CVV and cardholder’s name.
Payment Gateway Encrypts Data
The PG captures this information and performs tokenization. This means that it replaces sensitive card details with a series of characters. These characters are referred to as a token. Thereafter, the PG performs a fraud-check and sends the data to the Acquirer.
Acquirer Sends Info to Card Network
Next, the third party payment processor sends the information from the acquirer to the respective card networks. For instance, Visa and Mastercard. The Card network performs another round of fraud check and forwards the data to the correct Issuing Bank via the processor.
Issuing Bank Authorises Transaction
The issuing bank authorizes the transaction. It sends the information of approval or decline of payment to the card network via a payment processor. Thereafter, the same payment processor forwards the message from the card network to the acquirer, and then the PG. Finally, the PG forwards this message to the merchant.
Money Held in Merchant Account
If the transaction is approved, the Acquirer requests the funds from the Issuer. These funds are kept in the merchant account provided by the PA. The funds may be settled in the merchant’s account in T+2 days. Alternatively, the PA might offer instant settlements that may take as few as 15 minutes.
Payment Gateway Informs Customer
The payment gateway informs the customer of the approval or denial of payment. The merchant’s payment page may ask for an alternative mode of payment if the payment is declined.
Phew! Yes, we know that was a lot of information. However, not nearly enough.
It is important to understand how you can choose a payment gateway and merchant account provider. So, let’s head to that section without wasting any time.
How To Choose a Payment Gateway
Choosing a payment gateway may seem like a daunting task. After all, the safety of your customers’ card information and your reputation is at stake.
So, here’s a checklist you can keep handy while choosing a payment gateway for your business.
Integrating with a credible and trustworthy PG is imminent for your business. So, ensure that your PG is Payment Application-Data Security Standard (PA-DSS) and Payment Card Industry-Data Security Standard (PCI-DSS) compliant.
Furthermore, certain PGs take extra measures towards security through risk mitigation efforts. This ensures water-tight security of their database. For instance, Cashfree has a built-in Risk Management System developed in cooperation with Paypal.
Payment Modes and Methods
Did you know that 7% of customers would abandon the cart if there aren’t enough payment methods? That’s a precious bottom of the funnel lead a business cannot afford to lose.
Try to choose a PG that can provide you with multiple payment modes. For instance, cards, net banking, UPI, wallets, PayLater, etc.
Furthermore, ensure that the PG allows you to offer various payment methods. This can range from recurring billing to EMI to a one-time payment.
International Payment Options
Global eCommerce sales are expected to grow by 20% in 2021. Expanding your business beyond the home country can help you boost sales and increase your customer base. However, a lot of PGs try to impose hefty setup fees and security deposits for international payments.
Customers prefer to pay the upfront cost in their local currency. So, try to opt for a PG that can help you accept international payments seamlessly. Moreover, ensure that the PG provides the facility to convert the currency to INR for your convenience.
Hosted and Self Hosted PG Options
A Hosted PG is when the customer is directed to the PG’s website for the transaction. After the payment, they are directed back to the merchant’s site. On the other hand, a Self Hosted PG allows customers to stay on the merchant’s website for the transaction.
A Hosted PG is easier to set up and has the advantage of customer familiarity. However, self-hosted PG allows the merchant to control the user experience until the successful payment. Now, 88% of users don’t return to a site after a bad user experience. So, it is definitely an important factor in deciding your sales.
As a result, it is advisable to choose a PG provider that provides both hosted and non hosted PG. Furthermore, try to look for a provider that provides smooth payment flow in hosted PG.
The cost of payment gateway mainly consists of 3 variables:
1) Setup Fee: This is a one-time fee that includes integration and infrastructure costs
2) Annual/Monthly Maintenance Fees: This is a monthly or yearly fee that includes maintenance charges. It may depend on the PG features that you have opted for or the modes of payments offered.
3) Transaction Discount Rate (TDR): The PG applies a TDR or Merchant Discount Rate (MDR) is applied on every transaction it processes for your business. The MDR may differ from one PG to another. Moreover, it may differ from one payment mode to another. For example, UPI to net banking or wallet payments.
A lot of providers offer low payment gateway charges and no maintenance or setup fee. Try to look for a PG with competitive pricing.
Ease of Integration
Ease of integration set the third party PGs apart from their bank counterparts. Try to go for a PG that had easily available integration kits. Most PGs have ready to use plugins for major eCommerce shops like Magento, WooCommerce, Shopify etc.
Moreover, you will find SDKs for mobile app integrations as well. For instance, Android, iOS, React Native etc. Furthermore, look for PGs that have detailed integration guides in all popular computer languages like Java and C++. This will aid your developers and your business in the long run.
Customer support can really make or break your business. Especially, when it comes to payments. In fact, 89% of users repeat sales after a positive customer experience.
So, ensure that your PG provides reliable and quick customer support. It would be better to have a dedicated account manager from the provider for better context. Moreover, live chats, emails support and a 24×7 helpline can be a big plus.
Try to go for a PG that can provide you with detailed analytics of your transactions. This will allow you to get your hands on a lot of insights. In turn, you can mould these insights into marketing tactics.
For instance, your PG will help you understand at what times of the year your sales are at peak. Moreover, it will inform you of the most preferred payment methods and distribution of customers across platforms. (iOS or Android etc.) After getting this information, you can make targeted marketing efforts to boost your sales.
However, choosing a payment gateway is only half the task done. Without further ado, let’s move on to the second half.
How To Choose a Merchant Account
Your payment aggregator will provide you with a merchant account. So, the real question is how can you zero in on a PA that suits your needs.
Here’s a checklist to help you out.
Any fraud or data breach of your customer’s information can lead to serious consequences. It will not only reduce customer trust but also lead to legal actions. For instance, punitive damages and out of pocket expenses. Moreover, it might take a toll on your business finances due to litigation fees.
Just like your PG, your merchant account provider must be PCI-DSS compliant. Moreover, they should have a fraud and risk management system in place.
As a small or medium business, your growth might be unpredictable. Ensure that your merchant account provider is scalable and adept at handling growing businesses. Check if their existing clients are of the same scale and growth pattern as yours.
As daunting as it may seem, choosing a PG and merchant account provider isn’t that hard. As a merchant, you have to ensure that these providers meet your business requirements. Moreover, ensure that they are scalable and trusted as a brand in the market.
Interestingly, you can choose a PA or merchant account provider that is also a PG. Some payment service providers provide both services as products. Look for such PSPs in your geography for a smoother experience.
We hope that this blog cleared up the difference between payment gateway and merchant account. Let’s have a quick look at some related questions.
FAQs on Difference between Payment Gateway and Merchant Account
What is Merchant in online payment?
Usually, the term ‘merchant’ is used to refer to the enterprise/business that is offering products to customers and receiving funds in return. Merchants integrate with payment gateway and have a separate business bank account called the ‘merchant account’.
Is Merchant Account the same as Payment Processor?
A merchant account is like a business bank account for an organization or enterprise. After the customer pays for the product or service, the payment gateway (PG) credits the funds into the merchant account after deducting the PG charges.
On the other hand, a payment processor helps communicate the payment information between the card companies to Acquirer and Issuing Banks. The payment processor is extremely important as essential for online payment processing.
What is the use of Payment Gateway? How do payment gateways work technically?
We have already explained how a payment gateway works in our previous section. However, here are some points that explain the use of a payment gateway:
1. Provides Merchant IDs- A we discussed before, a payment gateway is responsible for providing a merchant account to businesses. These merchants are allotted sub-merchant IDs. Thereafter, it helps in merchant payment configuration by communicating with the payment switch. The PG uses this ID to validate the transactions.
2. Defines Payment Limit- The payment gateway defines the maximum amount of transactions the merchant can do in one day. Moreover, it might restrict transactions from a credit card that is issued in one particular region.
3. Requests Payment Processors- The payment gateway requests the payment switch or payment processor to process the payment. Thereafter, it conveys the acceptance or denial of payment to the customer.
4. Provides Payment Analytics and Receipts- The payment gateway sends the payment receipts to the merchants and provides a dashboard to help analyze transactions.
5. Ensures Payment Security- The payment gateway employs robust risk management and fraud detection systems. It encrypts and tokenises the customer card details/other payment details and ensures no financial data is leaked. Moreover, the PG ensures that the cardholder is enrolled in a 3D secure payment structure.
How does a payment gateway make money? How do I avoid payment gateway charges?
A payment gateway can charge fixed and variable costs from the merchants.
Fixed charges are usually the onboarding fees, infrastructure charges and annual maintenance fees. On the other hand, the variable fees are the merchant discount rate/transaction discount rate (MDR/TDR) charges. The MDR may vary according to the payment mode and are charged per transaction.
There are no ways to avoid payment gateway charges. However, you can choose a payment gateway that charges no annual maintenance fees or setup fees. For instance, Cashfree.
How do I receive money from a merchant account?
The payment gateway automatically credits the funds in your merchant account. This process is known as the settlement. Now, settlement may be instant or standard. Standard settlements happen on bank working days and credits the funds in the merchant account in T+2 to 4 days. On the other hand, Instant settlements can happen within 15 days and are not reliant on bank working days.
For more information, head over to this blog on reconciling your payment.
How do I create a merchant account? How hard is it to get a merchant account?
Like we mentioned before, you can get a merchant account in two ways.
1. By integrating with a payment gateway
2. An ISO merchant account issued directly by the bank
It is not hard to get a merchant account by integrating with a payment gateway. Especially when they have the business address, bank details and KYC information ready.
However, it is hard to get an ISO merchant account as it requires an immense amount of resources and collaboration with banks.
Is Merchant Account same as Bank Account? How much does it cost to set up a merchant account?
A merchant account is a business bank account that is different from a normal bank account.
Many payment gateways, like Cashfree, have zero set up fees and help you set up a sub-merchant account with zero charges.
What is the difference between a payment processor and a payment gateway?
Think of both the payment processor and PG as mailmen. They both do the same job but in different geographical locations. Allow us to explain.
The payment gateway transmits the customer data to the payment processor. It connects the payment processor to the merchant account and card companies.
On the other hand, the payment processor transmits the customer’s card information to the issuing and acquiring bank. It handles the customer transaction which makes online payment possible.
For a more detailed answer, head over to this guide on the difference between payment gateway and payment processor.
Can I have multiple merchant accounts?
Yes, a lot of merchant account providers will help you open multiple merchant accounts. There can be several reasons for this. Maybe the bank decided to shut down the merchant account due to a change in policies. (Companies in high-risk industries are especially susceptible to this)
It is also possible that the Acquiring bank has imposed a monthly volume limit.
Multiple merchant accounts can help businesses avoid sudden disruptions of payments.
Can I have multiple payment gateways?
Yes, merchants can have multiple payment gateways on their sites. You can choose to integrate multiple PGs at once. Alternatively, you can integrate multiple PGs but route them selectively. You may route the transactions on the basis of your business needs, the strengths of the particular PG, or downtimes.
Multiple payment gateways can help increase customer trust. Moreover, it can lead to a higher number of successful transactions by balancing the load.
For more information, check out this guide on multiple payment gateways.