How Does Credit Card Processing Work?

How Does Credit Card Processing Work? If you’re a business owner or thinking about starting a business, you need to understand how credit card processing works.

Why?

Because the moment you decide to accept credit cards and start accepting credit card payments, you’ll be dealing with fees, approvals, and banks—so knowing the process can help you make better decisions and keep more money in your pocket.

I’ll break it down in simple terms.

The Basics of Credit Card Processing

Every time a customer swipes, dips, or taps their credit or debit card, a series of steps happens in the background. Here’s the short version:

1. The customer pays – They use their credit or debit card.
2. The merchant accepts the payment – Your business collects the payment via a card reader, POS system, or online checkout.
3. The payment processor sends the transaction – It goes through a secure network to verify the details.
4. The issuing bank approves or declines – The customer’s bank confirms if there are enough funds or credit.
5. The money is transferred – The funds move from the customer’s bank to your merchant account (minus credit card processing fees).

This process takes just a few seconds, but in the background, multiple financial institutions work together to verify, authorize, and settle transactions.

Imagine you’re running an online store selling handcrafted furniture. A customer from across the country places an order and checks out using their credit card. Instantly, the payment request travels through these layers of verification before your store receives confirmation that the transaction is successful.

Sounds simple, right? Let’s dive deeper.

Who’s Involved in a Credit Card Transaction?

There are a few key players making each transaction happen:

• The Customer (Cardholder) – The person making a purchase.
• The Business (Merchant) – The company accepting credit card payments.
• The Acquiring Bank (Merchant Bank) – The bank that holds the merchant account and processes transactions.
• The Issuing Bank – The bank that gave the customer their credit card.
• Card Networks – Visa, Mastercard, American Express, Discover (they set the rules and move money between banks).
• Payment Processor & Payment Gateway – Companies that facilitate secure credit card transactions between all parties.

Imagine you own a small coffee shop. You’ve just launched a loyalty program, and a regular customer comes in every morning to grab a latte. They tap their phone on your payment terminal using Apple Pay, and within seconds, the payment is approved. That’s because the payment processor swiftly connects with the card network and issuing bank to confirm the transaction before sending the funds to your merchant account.

Now imagine the same customer’s payment gets declined. What happened? Perhaps they exceeded their credit limit, the bank flagged the transaction as suspicious, or there was a simple connection error. Understanding this process helps you troubleshoot issues faster.

How Credit Card Transactions Work (Step-by-Step)

When a customer makes a payment, here’s what happens:

1. Authorization Phase

• The customer enters their card details (swipe, chip, tap, or online checkout).
• The payment processor asks the issuing bank to approve the transaction.
• If approved, the transaction moves forward; if declined, the payment fails.

Think about the last time you used your credit card at a gas station. You inserted your card and within seconds saw “Approved.” That’s the authorization phase in action.

2. Clearing & Settlement

• The transaction gets batched with others and sent for processing.
• The issuing bank transfers the money to the acquiring bank.
• The merchant (you) gets paid, usually within 24-72 hours.

If you run a subscription-based business, such as a gym, every month the system automatically charges your customers’ credit cards and deposits the funds into your account through this process.

For larger businesses, this can involve thousands of transactions daily. Processing delays, technical failures, or fraud alerts can impact how soon you receive funds, making it critical to have reliable payment processing in place.

Here are a few scenarios to help you understand how this process works.

Scenario 1: Buying Coffee at Your Favorite Café

Imagine you’re stopping by your favorite café before work. You order a coffee, and the barista says, “That’ll be $5.” You tap your credit card, and instantly see “Approved.” This quick moment is called the Authorization Phase, where your bank confirms you have enough credit available. Later that evening, your coffee purchase is bundled with all the café’s sales for the day. Overnight, your bank sends the money to the café’s bank, and within a couple of days, the café gets paid. This part is the Clearing & Settlement process.

Scenario 2: Filling Up Your Tank at the Gas Station

You’re at a gas station, ready for a road trip. You insert your credit card at the pump, and within seconds, the screen flashes “Approved.” Behind the scenes, the gas pump asked your credit card company if the purchase was okay (the Authorization Phase). Once you fill up and drive away, your gas purchase is grouped with other transactions the gas station made that day. Overnight, all those charges are processed together, transferring the money from your bank to the gas station’s bank. By tomorrow or the day after, the gas station will have the funds safely in their account. This second part is the Clearing & Settlement.

Scenario 3: Monthly Gym Membership

Think about your gym membership. Every month, you don’t need to pay in person—the gym automatically charges your credit card. On the day your payment is due, the gym’s payment processor quickly checks with your credit card company to make sure the charge is approved. That’s the Authorization Phase happening automatically. After your charge is approved, it’s added to a batch of all gym member payments. That night, all the payments are processed together, transferring the money from the members’ banks to the gym’s bank. Within a few days, your gym receives the money, completing the Clearing & Settlement.

Types of Credit Card Transactions

Businesses process payments in different ways:

• Card-Present Transactions – In-store purchases (physical credit card used).
• Card-Not-Present Transactions – Online, phone, or manual transactions.
• Contactless Payments – Tap-to-pay or mobile wallets (Apple Pay, Google Pay).
• Recurring Payments – Subscription-based billing.
• EMV Chip Transactions – More secure than traditional magnetic stripe payments.
• Mobile Payments – Transactions made through apps like Venmo or Zelle.
• Cross-Border Transactions – Payments from international customers, which may have different processing fees.

A personal trainer who offers online coaching may rely on card-not-present transactions to bill clients each month, while a bakery might mostly process card-present transactions at the register.

Credit Card Processing Fees (What You Pay)

Accepting credit card payments comes with a cost. These are the main fees:

• Interchange Fees – Set by card networks, paid to the issuing bank.
• Assessment Fees – Charged by Visa, Mastercard, etc.
• Payment Processor Fees – The cost of using a credit card processing system.
• Chargeback Fees – Additional costs incurred if a customer disputes a charge.
• Foreign Transaction Fees – Charged when processing international payments.

For example, on a $100 sale, a merchant could pay between 1.5% to 3.5% in fees, meaning they receive about $96.50 to $98.50 after processing costs.

A retail store selling high-ticket items, like jewelry, might prefer interchange-plus pricing to keep fees as low as possible. Meanwhile, a food truck might opt for flat-rate pricing for simplicity.

How to Reduce Credit Card Processing Fees

Want to pay less in fees? Here’s what you can do:

1. Choose the Right Payment Processor – Compare rates and avoid hidden fees.
2. Use a Cash Discount Program – Offset fees by offering discounts for cash payments.
3. Negotiate Rates – If you process high volumes, you may get lower rates.
4. Avoid Chargebacks – Chargebacks increase costs, so have clear refund policies.
5. Understand Tiered Pricing Models – Some credit card processing systems offer customized pricing for different transaction types.
6. Utilize ACH Payments – A lower-cost alternative for large transactions.

Many business owners don’t realize that simply switching to a cash discount program can help them save thousands of dollars in processing fees annually.

Here is an example to help you understand how to help a merchant reduce credit card processing fees by using the Cash Discount program.

Meet Sarah, who owns a small bakery called Sweet Treats. Each day, Sarah processes dozens of payments, mostly through credit cards. Over time, she noticed the monthly credit card processing fees were really adding up, sometimes costing her hundreds or even thousands of dollars.

Then, Sarah learned about a Cash Discount Program. She put a sign up that said, “Pay with cash and save 4%!” Her regular customers loved the idea of saving a little money, so many started paying with cash instead of cards.

Soon, Sarah saw her credit card processing fees drop dramatically saving her thousands of dollars each year. Now, she can use that extra money to buy new baking equipment, hire additional staff, or even invest in marketing to grow her bakery even more.

In short, the Cash Discount Program allowed Sarah to keep more of her hard-earned profits, simply by offering customers a reason to pay with cash.

Future of Credit Card Processing

The industry is changing fast. Some trends to watch include:

• AI for Fraud Prevention – Smarter fraud detection systems.
• Crypto & Digital Payments – More businesses accepting Bitcoin, stablecoins, and digital currencies.
• Instant Bank Transfers – New tech making direct bank-to-bank payments faster and cheaper.
• Biometric Payments – Fingerprint and facial recognition are becoming more common for authentication.
• Open Banking Integration – Direct payments from customer bank accounts without needing a credit card.

Imagine a future where customers scan their palm to make a payment. Companies like Amazon are already testing this technology in stores.

Final Thoughts

Understanding how credit card processing works can help you keep more of your hard-earned money and run a smoother business.

At CashSwipe, we help businesses accept credit card payments while minimizing processing fees.

💳 Ready to optimize your credit card processing system and maximize your profits? Let’s talk!