Roughly 250 billion times a year, people swipe credit and debit cards to buy things at over 36 million locations around the world. What happens next, most of us probably don’t think about. But perhaps we should.
Why? A basic understanding of digital money is essential knowledge for the 21st century. And a bit of understanding can arm us with context that helps us filter through advertising and media stories and land somewhere that approximates reality.
So, for the curious, here is a simple overview of what’s happening behind the scenes when you swipe your card. Note: I’m focusing on Visa for simplicity but MasterCard cards work the same way.
1) Authorization. When you swipe your card, the store essentially receives a promise from Visa to be paid. Visa is the card payment system that acts as a broker between your bank (the issuing bank, or Bank A) and the store’s bank (the acquiring bank, or Bank B). Visa asks your bank to debit your account if you are doing a debit transaction with your debit, check card or prepaid card, or to add the purchase to your outstanding balance if you are using a credit card. If your bank agrees — either because you have enough money in your account for a debit or because the bank trusts you to pay your credit card balance — it “authorizes” (or promises to pay for) the transaction. Merchants trust that authorization promise enough to let you leave the store with your purchase — or agree to ship it to you if you’re shopping online — even though they haven’t actually received payment yet.
2) Clearing. To save effort, the issuing Bank A groups all the transactions from one store together and pays the store’s acquiring Bank B with a single transfer. If, in the other direction, several cardholders of Bank B shopped at stores using Bank A, then the clearing step also takes this flow of money into account. Most banks perform both issuance (for individual customers) and acquisition (for merchant clients).
3) Settlement. The issuing bank then transfers the net difference to the acquiring bank, and the acquiring bank credits the store’s account. This typically happens at the end of a business day or after a few days, depending on the store’s agreement with the bank.
Most banks don’t handle payment services directly themselves; instead, they use third-party payment processing companies, also called transaction processors or just processors. Because processors operate behind the scenes, their names may not sound familiar: Fidelity Information Services (FIS), First Data, Total Systems (TSYS), Galileo, FiServ, Visa DPS, MasterCard IPS and I2C are some examples. Some processors specialize in servicing merchants for the acquiring side of payment transactions, while others specialize in the issuance side. Some companies also specialize in the clearing step.
While this may sound complex, card payment systems are well trusted by store owners and shoppers like you and me. The operators of card payment systems have earned this trust thanks to two important factors:
- They are reliable. After you swipe your card, the store gets an authorization typically within a couple of seconds, even during the busiest of the holiday shopping days. Clearing and settlement operate like clockwork.
- They have well known rules to deal with problems. Each link in the payment chain knows what to do if a transaction is disputed, or fails to complete, or turns out to be fraudulent, and each participant knows what it is responsible and liable for.
Of those two key ingredients, reliability is probably the easiest. Even though the growth in card usage has been tremendous over the past 40 years, the silicon chips, software, and telecommunication networks making up the backbone of card payment networks have evolved at an even faster pace, allowing better performance under greater workloads.
The rulebooks that define the policies and responsibilities under both normal and abnormal operations are the real gem in the payment systems. With more people using cards, and with more ways to shop (online, mobile phones, etc.), the rules need to improve and extend constantly to account for new situations, new threats, and ever higher expectations for the quality of services. Also, there are increased levels of regulations and both protection and complexity as governments work to ensure that consumers are well protected.
The next time you use your Visa (or MasterCard), this infrastructure will make your payment possible. It’s invisible to you and me, but many people, systems, and companies are involved in making sure that we don’t have to think about it.
NEXT UP: The Truth About Payment Card Fees