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Payment Gateway and Payment Processor are two critical links in the payment processing chain. As a business owner, you have probably heard these terms and wondered what the difference is. In short, although the two phrases seem synonymous; they are not. In fact, Payment Gateway and Payment Processor are two entirely different things.
This article will introduce you to Payment Gateway and Payment Processors, along with explaining how the two work. Suppose you plan on accepting credit card payments online. In that case, you will probably need both a Payment Gateway and a Payment Processor, so knowing each is critical to making the right choice for your business.
Before jumping into the details of payment gateway and payment processor, we should understand the role of the parties involved in any transaction on your business platforms. When a customer initiates a transaction with your business, these are the four parties involved:
- The customer
- The issuing bank (that issues the customer’s debit card or credit card)
- the merchant,
- and the acquiring bank (that collects the funds from the issuing bank)
Merchant and the customer: These are the parties that start the transaction. You offer a product or a service that your customer is willing to buy and pay for.
Banks and the bank accounts: The bank and the bank accounts of the customers or merchant are the other parties for the transaction process. The customer bank account is hosted by the issuing bank The merchant’s bank account (called a merchant account) and its host bank are called acquiring banks. Every merchant needs a merchant account to accept money from credit or debit cards.
What is a Payment Gateway?
A Payment Gateway is a software that encrypts and sends the customers’ personal and bank details to the Payment Processor securely. An online business needs to have a Payment Gateway to accept credit card payments, amongst other alternative payment methods that their customers might prefer.
From the customer’s perspective, the Payment Gateway is the final checkout page on your website, i.e., the page where they put in their payment information, such as a credit card number, and click the “buy now” button.
The customer interacts with a Payment Gateway when they enter their payment card information on the checkout page. When they proceed to pay, the gateway encrypts the customer’s personal and bank information so that hackers cannot steal and misuse it.
The Payment Gateway technology involves a specific type of encryption called SSL (Secure Socket Layer) encryption. The customer’s sensitive data is encrypted as the Payment Gateway forwards the details from the customer’s system to the issuing bank.
How does a Payment Gateway work?
Below are the steps which describe how a Payment Gateway works:
- The Payment Gateway forwards a customer’s encrypted sensitive data from the customer’s computer/device to the issuing bank.
- Once the data reaches at the issuing bank, the Payment Gateway decodes the encrypted data and present it to the bank in a usable format.
- The issuing bank then authenticates or declines the information, entered by the customer.
- Once the issuing bank has confirmed the authenticity of the customer’s request, the Payment Gateway uses SSL encryption to securely deliver the transaction details to the Payment Processor (explained below), which then completes the transaction.
[NOTE: Sometimes banks consider checking other information such as physical location of the requesting device/system, recent activities of the customer, etc., before authenticating the customer and payment card]
Most common types of Payment Gateway in the market
There are many ways you can integrate your payment gateway with your business. We can spend the whole day here, if we start talking about everything, so let us talk about the most common types of payment gateway in the market.
Self-hosted or custom Payment Gateways: These gateways allow customers to stay on your website while purchasing. Most importantly, this solution allows you to have full control over the transaction, which means your customer stays on your page as they input their sensitive details or card details, which is then sent to a payment URL to go through the step-by-step payment process as mentioned in this article. These solutions are convenient, however it is expensive. This option can be useful for big merchants to self-host a Payment Gateway and to avoid any third-party providers. Hosted Payment Gateways: These are the opposite of self-hosted gateways. These are third party solutions where the customer is taken from your website to an external checkout page to enter the sensitive details or card details. These are mainly used by small or medium sized e-commerce businesses. These are less expensive than self-hosted gateways.
What is a Payment Processor?
In simple terms, the Payment processor is a financial Institution that works as a mediator between the cardholder/customer, merchant, acquiring bank, the payment gateway, and the issuing bank to process online payments.
How does a Payment Gateway work?
The role of a payment processor is to transmit sensitive customer information in the following way:
- The payment gateway sends encrypted customer details to the payment processor.
- The payment processor sends the customer’s data to the merchant account bank.
- The merchant account bank sends a request to the customer’s card-issuing bank to verify the card holder’s identity and the transaction’s validity.
- The customer’s card issuing bank sends a rejection or approval message to the payment processor, directing it back to the payment gateway.
- The payment gateway notifies the customer whether the transaction has been approved.
- If the transaction is approved, the customer continues with the checkout process to finalize the transaction.
- After the transaction is finalized, the processor sends information to the card-issuing bank to transfer funds to the merchant account.
NOTE: Sometimes, the payment processor is the same institution as the merchant account issuer, so data is sent directly to the customer’s card issuing bank.
Differences between a payment gateway and a payment processor
The Prioritized Approach provides six milestones. The table below summarizes the high-level goals and intentions of each milestone.
|Payment Gateway||Payment Processor|
|Payment gateway is a tool/service that approves or declines transaction between your website and your customer||A payment processor is a financial institution that executes the transaction to obtain your funds from the customer properly.|
|Payment gateways can be integrated to plug into your business accounting software or eCommerce store, allowing you to process credit cards directly within your existing software.||The Payment Processor will set up a merchant account that allows your business to accept credit cards.|
|Integrating a Payment gateway is an easy way to accept payment online.||Using a Payment Processor ensures proper funds on credit card transactions. The payment processor helps direct the transfer of the amount from the customer’s bank account to the merchant bank account.|
The most common use of a gateway is to accept payments for items and offerings online; however, in today’s payment landscape, the gateway technology has impressively expanded to create a seamless buying experience across all sales channels and devices. For an e-commerce business, it is required to choose both the payment services (payment gateway and payment processor) to process online payment.
Most importantly, the payment processor does not deal directly with an authenticator; the Payment Gateway plays that role. Thus choosing the right payment gateway is very important to keep your customer’s sensitive data securely.