Merchant services: Third party payment processors

Third party payment processors represent an alternative from the full merchant bank’s Epos package, allowing business users to rely on a third party for the payment processing phase of a customer transaction only. Understanding how they work is a key to understanding which businesses are their target users. But even for these users, and the added benefits of such a solution, third party payment processors have their shares of drawbacks.

How third party payment processors work, and who are their target users

Third party payment processors allow businesses to accept credit card payments without having to open merchant accounts, or even be tied to a merchant bank in some cases.

How third party payment processors work

Third party positions itself between the business, client and banks for the sole part of payment processing. This arrangement can work according to several patterns.

- Businesses may or may not have to open a merchant account at a merchant bank,

- Payment processors may or may not need the setup of a designated deposit account on behalf of the client,

- Payment processors take charge of the credit card payment, usually online, by routing the payment procedure to their servers and systems,

- Payment processors ensure the transaction is processed according to strict security standards,

- Payment processors “settle” the transaction by transferring funds minus fees to the business.

Target users

As this method allows businesses to not rely on merchant accounts, it is primarily targeted at smaller businesses. Other target users include businesses for which merchant banks will be reluctant to open merchant accounts, like businesses suffering from a high risk exposure or businesses in the travel or adult entertainment industry.

Pros and cons of third party payment processors

Third party payment processors have many advantages for small businesses, but they also come with added limitations and at an increased cost, as generally compared with merchant account solutions.

Opening up credit card payment capability to new businesses...

Third party payment processors are a very handy solution for businesses with little trading history and trading volume, or high credit risk doing a limited number of online transactions. The solution is fully hosted and takes the burden of PCI-DSS compliance away from merchants, ensuring safe transactions.

Ease of use is especially appreciated with processors such as PayPal or Amazon Payments, which don’t even require businesses to have a merchant account.

... at sometimes hefty prices, with unpractical conditions

However, these suffer from serious limitations, and high costs. Fees include:

- Up-front and set-up fees, which can be worth several hundred pounds,

- Monthly fees, up to £50 a month, sometimes more,

- Transaction fees, for a percentage of the processed amount which can be as high as 10%,

- Potential high chargeback fees when the payment processor has to refund a purchase to a customer.

Besides these fees, this kind of system also has other limitations:

- Client businesses sometimes need to make regular deposits representing a given proportion of average monthly transactions

- Settlement period, meaning the amount of time businesses will have to wait before they actually cash in payments made by their customers using the system, may be much, much longer than with traditional merchant account solutions, lasting for days when not for weeks.