So you want your company to process credit card payments and offer merchant services on your platform. Many e-commerce platforms process transactions through credit cards, whether visa, MasterCard, or other card networks, so it can't be that hard, can it? As soon as you get into the first few steps of opening up a merchant account for your marketplace, you start getting tangled up in the underwriting process, fraud protection, chargeback management, and PCI compliance.
You may wonder, "Can't we just process payments through service providers like Stripe?" The answer is actually yes. Rather than opening a traditional merchant account, you can work through something called a payment facilitator or PayFac. These are great options for business owners of independent sales organizations or small companies, helping you bypass a lot of the headaches associated with things like AML and KYC regulations, application processing, and underwriting.
What is a payment facilitator?
A payment facilitator (also known as PayFac) holds a master merchant account and can help provide sub-merchant accounts to sellers. This process prevents your company from having to apply for a MID, as you will be under the PayFac's master MID. They are an aggregator that often (though not always) have already connected with an acquiring bank. PayFacs can provide an infrastructure and gateway for sub-merchants, providing them with benefits such as an automated underwriting tool with real-time approval and integrated fraud prevention.
This whole process sounds complicated, but in practice, it is often much more elegant. For example, Square, Stripe, and Paypal are all examples of payment facilitators. These common types of acquirers often provide payment gateways for a small fee off of every transaction processed on an ongoing basis. Buyers are usually familiar with these payment service providers, so they are comfortable with the process.
How do payment facilitators work?
A merchant service provider like a PayFac aims to make the incredibly arduous process of getting a MID more accessible. Rather than going through the multiple week-long processes of applying for your own merchant ID account, PayFacs sign you up as a sub-merchant, acting as a merchant account provider. Beyond basic credit card processing, they sometimes offer other services like hardware to process payments, software, APIs, and analytics for tracking key data points.
Payment facilitators don't have to worry about going through a lengthy underwriting process before accepting a contract. Through tools like frictionless underwriting, they are able to authorize the merchant quickly. The Payfac then, upon onboarding the merchant, has the appeal of taking on any transactional risk while in return getting a cut of the profits.
Direct bank agreements
Modern PayFacs already have relationships with an acquiring bank where they have received their merchant ID. This arrangement is what allows sub-merchants to run all of their transactions under the master MID, making the process significantly easier. You no longer have to worry about the long process of getting approved with a bank sponsor, something that is incredibly frustrating for small businesses who maybe have a smaller transaction flow.
When getting approval for your own merchant account, the process can take weeks of paperwork and communication before you are able to make sales. Through a PayFac, while they do have to ensure to onboard you with the proper protocol, they often do so through automation that processes your request in real-time. While this may not seem impressive, every company must be checked for a handful of flags:
- KYC (Know Your Customer) requirements
- AML (Anti-Money Laundering) checks
- Mastercard's MATCH (Member Alert to Control High-Risk Merchants) list comparisons to prevent crime
- OFAC (Office of Foreign Asset Control) the U.S. Treasury's terrorism prevention list
After this automated screening, sub-merchants are onboarded and legally allowed to start making transactions under the payment facilitator. Frictionless underwriting is what this process is called when automated or assisted through technology.
Fraud and chargeback management
PayFacs often provide risk management tools, such as fraud prevention. This management is handled through the monitoring of potentially suspicious transactions, often through technology such as automation or AI. Since Payment facilitators hold the master merchant ID, it is their responsibility to help protect and recover losses due to fraud through credit card networks for their sub-merchants.
Another service they provide is the management of chargebacks. When buyers refute a charge on their credit card, it is up to the acquiring bank and PayFac to overlook the process. Not only do they work to resolve any needed follow-up or information gathering, but they are also liable for the charge if the merchant doesn't pay it.
Many PayFacs have simple packages with flat-rate structures that make fees easy to understand and manage. For example, Stripe tacks a 2.9% +$0.30 fee to successful card charges with no other monthly or surprise fees. While custom packages are offered for those with large payment volumes or special needs, this primary flat rate is the most common option.
Square is another example of a company with mostly simple rates - swiping, tapping, or chip card payments are a 2.6% +$0.10 fee per successful charges. As with Stripe, there are some deals and exceptions. For instance, invoices or "Card on File" processing costs a bit more, while those with hardware branded from the company called a Square Register pay 2.5% instead of 2.6%.
PayFac vs. traditional merchant service accounts
Traditional merchant accounts are the bank accounts you set up to accept your own in-house online payments through credit cards or debit cards. If you don't have a very large volume of transactions but still are planning not to use a PayFac, this or an ISO is probably the type of service you will be using.
Unlike under a PayFac, you are directly held responsible by the bank and contract with them. Rather than using frictionless underwriting, you end up having to go through that arduous onboarding process yourself. This onboarding can often take a few weeks of time to finish arranging with the bank. Since you are the merchant account holder, you will also be liable for chargebacks and fraud prevention on your own.
With all of that being said, fees are discussed with the bank through your contract. This negotiation means they can be cheaper than a PayFac. This rate, of course, depends on what you can negotiate with the bank and how many transactions you have throughout the year. Banks are much more likely to charge monthly or annually rather than per transaction, meaning it may not be worth it if you have a very low sales volume.
PayFac vs. an ISO
An ISO (Independent Sales Organization) is similar to a PayFac in a lot of ways. In a similar manner, they offer merchants services to help make the selling process much more manageable. However, much of their functionality and procedures are very different due to their structure.
When you make a contract that involves an ISO, sometimes they aren't even on the contract themselves. The contact includes the payment processor, rather than you being solely in an agreement with the ISO, as is most often the case with PayFac agreements. This difference alone has a significant impact on the relationship you will have with an ISO vs. a PayFac. For example, because a payment facilitator has responsibility for its sub-merchants, they are the ones who handle underwriting, risk issues like fraud and chargebacks, and manage the relationships with payment processors. It is important to note that some ISOs also take on the risk of businesses and other functions, such as wholesale ISOs.
In summary, the most significant difference between most ISOs and PayFacs is the additional inclusion of the payment processor that the merchant associates with directly. ISOs' approval processes are often slower. However, ISOs are less likely to terminate your contract if they think you are a risk compared to a PayFac. ISOs often cost less than a PayFac but at the loss of some advantages of a PayFac like risk mitigation and frictionless underwriting. Beyond a handful of details, these two processes are quite similar, and both are very valid considerations depending on your company's size, needs, and transaction volume.
Online credit card and debit card transactions are a complicated process. For larger companies that would see immense benefits from creating a traditional merchant account, PayFacs are not always the right choice. Many smaller or medium-sized companies without massive transaction volumes can absolutely benefit from the many advantages that a PayFac or ISO has to offer. Generally, it is suggested to examine if you process less than a million dollars of transactions a year - if not, a PayFac is often worthwhile. If your company processes more than that threshold, an ISO or traditional merchant account is certainly worth considering.