Payment Gateways 101: What Every Business Owner Should Know

If you’re a business owner, a seamless and secure payment processing system is essential for success. The right payment processor can mean lower costs, faster processing, better customer reviews, versatile solutions, and a larger market share. The extra seconds and cents make the difference, especially when you’re building your business. Read on to learn what a payment gateway is and break through the jargon to make the simple, effective choice for your business. 

What is a payment gateway?

A payment gateway is a technology that facilitates online transactions by securely transmitting sensitive payment information between a customer’s browser and the merchant’s website. Stripe and PayPal are examples of all-in-one payment gateways and processors. Other popular payment gateways include Amazon Pay, Authorize.net, and Square. 

A good payment gateway should provide encryption and security, transaction authorization, and application programming interfaces (APIs) for merchants to interface with their websites or applications. Ideally, a payment gateway will support a variety of payment methods, including credit and debit cards, digital wallets, and bank transfers or alternative payment methods. 

Payment gateway vs. payment processor

A payment gateway is a secure service that authorizes and encrypts online payment transactions between a customer’s and merchant’s banks. A payment processor is a service that handles the technical aspects of payment transactions, such as connecting the payment gateway to the merchant’s website or online store.

The payment gateway securely transmits payment data and facilitates communication between the customer, merchant, and payment processor. The payment processor handles the actual processing and settlement of the transaction, interacting with financial institutions to authorize and transfer funds. 

As in the examples above, payment gateways and payment processors are often provided by the same company and integrated as a complete payment solution. This allows merchants to handle online transactions seamlessly. 

How do payment gateways work?

To process payments in a point-of-sale (POS) system requires many diverse parts to integrate as a seamless payment service. Key points of connection in the online payment process include:

Merchant: The website or business selling a product or service

Customer (cardholder): The individual or company intending to purchase the product 

Issuing bank (issuer): The bank that issues the customer’s credit or debit card and will make the payment

Acquiring bank (acquirer): The bank that receives the money on behalf of the merchant and transfers it to the merchant’s account

Payment gateway: Technology used by merchants to accept debit or credit card purchases

Card schemes:  Payment networks linked to payment cards, such as debit or credit cards

Each of these elements works together to process each payment your company receives. Below is the process of how this essential merchant service works.

When customers enter their credit card information online or scan the card on a card reader, the few seconds before the payment confirmation are a whirlwind of activity.

First, when a customer initiates a purchase on a website or app, the payment gateway encrypts and securely sends the payment details to the payment processor. Then, the payment processor forwards the transaction information to the customer’s bank for authorization. Once the transaction is approved or declined, the result is relayed to the merchant through the payment gateway. The merchant will see confirmation of whether the payment is approved or declined. Then, you can inform the customer about the status of their payment.

Four steps of a payment transaction:

1. The payment gateway encrypts and securely sends the payment information.
2. The payment processor transfers information to the customer’s bank.
3. The customer’s bank approves or declines the transaction.
4. The payment gateway relays that information to the merchant.

4 common types of payment gateways

1. Hosted payment gateways

These gateways redirect customers to a third-party payment page to complete their transactions. The customer’s payment information is collected on the third-party site, ensuring the business’s website does not handle or store sensitive payment data. 

Pros:

• Secure: Hosted payment gateways are defended by fraud protection and are Payment Card Industry (PCI) compliant.
• Customizable: Adapt payment processing to business needs
• Easy to use: Familiar for more customers and merchants

Cons:

• Lack of control: External gateway factors mean merchants cannot monitor the customer’s entire purchase experience. 
• Outsourced: The merchant does not process the payment directly on its site. 

2. Self-hosted payment gateways 

With self-hosted gateways, businesses host their own payment page and handle the payment process on their own website. This gives them more control over the design and customization of the payment experience but also requires them to handle and secure the payment data themselves. With self-hosted payment gateways, you might need a particular format for the payment data. 

Pros:

• Better customer service: Customers complete the transaction in one location.
• Customizable: You (the merchant) can monitor and adapt the customer’s payment journey.

Cons:

• No tech support: You’ll have to troubleshoot if anything doesn’t work in the payment process.
• Costs: Self-hosted payment systems might be more costly, and private tech support in case of issues can eat into profits. 

3. API (application programming interface) payment gateways

API payment gateways allow businesses to integrate payment processing into their websites or applications directly. They provide developers with the tools and documentation to build custom payment solutions that meet their needs. With an API system, customers will directly input their credit or debit card details on the merchant’s checkout page. 

Pros:

• Fully customizable: Control the user interface and payment process to offer a premium experience.
• Adaptable: Customize payment sites for apps, websites, mobile and laptops.  
• Easy to use: Familiar for customers and merchants.

Cons:

• Security compliance: You’ll need to comply with Payment Card Industry Data Security Standards (PCI DSS) 
• Costs: You’ll also need to purchase secure sockets layer (SSL) certification and maintain high levels of site security. 

4. Local bank integration gateways

Local bank integration payment gateway refers to the process of incorporating a payment solution into a bank’s existing infrastructure, allowing customers to make secure online payments directly from their bank accounts. Usually, customers are redirected to the bank’s website, where they make their payments, before being redirected to the merchant site. 

Pros:

• Simple: It’s fast to install this payment gateway interface.
• Secure: By relying on the bank’s security systems, you ensure secure transactions for clients. 
• Easy to use: Familiar for customers. 

Cons:

• Volume limitations: Bank integrations don’t usually allow returns or repeated payments, making it unsuitable for wholesalers.
• Refunds: If a client returns an item for a refund, issuing the refund is more complicated than other options. 

How to choose the right payment gateway for your business

The right payment gateway for your business will balance security with costs, scalability, and integrations for your industry. Here’s what to consider:

1. Identify your business needs 

Consider factors such as the type of products or services you offer, the volume of transactions you expect, and the specific features you need from a payment gateway. A fully online e-commerce merchant will have different needs than a wholesaler with major retail locations. 

Company size and transaction volume can also affect business needs, as larger companies will want to look for payment gateways with volume discounts or bonuses for high volume. 

2. Pricing and fees

Understand the fee structure of the payment gateway. Consider factors such as transaction fees, monthly fees, setup fees, and any additional charges for specific features or services. These fees can significantly cut your profit margin, forcing you to raise prices or risk losing market share as competitors underprice your company. 

3. Security and fraud protection 

Ensure that the payment gateway is PCI-DSS compliant and has features such as encryption, tokenization, and fraud-detection tools. While this is standard for reputed payment gateways, double-checking this essential point will rule out poor-quality services. 

4. Integration and compatibility

The payment gateway should be compatible with your chosen shopping cart software or website builder. Some payment gateways, for example, don’t work with Wix or WordPress websites. Unless you’re willing to shift web hosting, integration and compatibility with web servers as well as any apps is essential.  

5. Payment methods 

The payment gateway should offer a wide range of payment options, including credit cards, debit cards, and digital wallets (such as PayPal or Apple Pay). It should also support the currencies you deal with and offer multicurrency capabilities if you operate internationally. Consider also whether you’d like to accept cryptocurrency or other alternative payment options and whether the payment gateway accepts this. 

6. Additional features and services 

Consider any additional features or services offered by the payment gateway. This could include features like mobile payments, invoicing capabilities, customizable checkout pages, or analytics and reporting tools. If you use an app, look for a payment gateway with app integrations and the possibility to adapt to diverse business environments, from end consumers to wholesale suppliers. 

7. Scalability and growth potential

You want your company to grow. Will the payment gateway be able to handle increased transaction volumes as your business grows, or will you have to shift down the road? This has become more important than ever in the age of social media and viral posts. If Oprah features your product, you don’t want the payment gateway to crash when you’re flooded with orders. Instead, look for a payment gateway provider that can grow with your company. 

Optimizing sales and creating customer loyalty

A payment gateway is an often overlooked small part of the entire sale process, but you don’t want to lose customers at the point of sale. By choosing a payment gateway that is simple to use, secure, and customizable, you can offer a seamless checkout process and improve customers’ experience and loyalty.

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