How Does Credit Card Processing Work?

Credit card processing happens in three phases: authorization, clearing and settlement;

Authorization

The first phase is credit card authorization, which typically only takes a few seconds.

1. A customer pays for a purchase with a card at a point-of-sale (POS) terminal in a store, online or by mail order/telephone order (MOTO).
2. The merchant submits an online authorization request for the charge amount to the merchant bank. This request is usually transmitted through a POS terminal or payment gateway.
3. The authorization request is routed through the appropriate card network to the issuing bank.
4. The issuing bank reviews the cardholder’s account and approves or declines the transaction. If the transaction is approved, the issuing bank places a hold on the cardholder’s credit limit for the amount of the charge.
5. The issuing bank sends the approval or denial back through the card network to the merchant.

Clearing

The second phase is the clearing process, which is how payment information is communicated through the card network.

1. The merchant electronically sends batches of authorized card transaction data to the merchant bank, typically at the end of the business day.
2. The merchant bank forwards the transaction data through the card network to the issuing bank.
3. The issuing bank receives the transaction data and converts the hold on the cardholder’s account to a charge that will appear on the cardholder’s monthly billing statement.

Settlement

The final phase is the settlement process, which typically occurs the day after the clearing transaction is submitted to the card network.

1. The card network establishes the net positions of all settlement participants (i.e., issuers and acquirers), collects funds from the issuing bank and transfers the funds to the merchant bank.
2. For cross-border transactions involving more than one currency — such as when a card issued in one country is used for purchases in another country — foreign currency exchange is handled as part of the settlement process.
3. The merchant receives either a gross settlement or a net settlement. In the case of a net settlement, the merchant receives the transaction value minus fees. In the case of a gross settlement, the merchant receives the full transaction value and is periodically invoiced for the fees due to the various parties.

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