Did you know that, according to Global Data, card transactions in the US in 2023 are expected to reach $10.3 trillion in purchase volume?
As stated in the Spendmenot report, almost 60% of consumers globally prefer using cards.
In the US alone, nearly 200 million adults have credit cards (that’s an average of 3.84 credit cards per person). No wonder credit and debit card payments are a part of every business’ daily life!
Because card payments are so popular, merchants should be familiar with the various card transaction types to better understand payment status and what’s really going on with transactions.
Entities Involved in the Card Transaction Process
In order to understand how card transactions work, it’s important to understand who is involved in the process:
- Merchant
- Payment gateway (Shift4)
- Acquiring bank (merchant’s bank)
- Card organization (for example: Visa, Mastercard, American Express)
- Issuing bank (customer’s bank)
- Customer
Customers don’t need to know the nitty-gritty of a particular card transaction type. From their perspective, using a credit card seems uncomplicated and effortless. But, in reality, there are many different types of card transactions and these transactions may be processed differently depending on the situation.
From the merchant perspective, understanding the specifics and nuances of different card transaction types is key because one error of judgment may lead to severe financial consequences, including chargebacks.
Card Transaction Types
Below is a breakdown of some of the most common card transaction types:
Purchase or Sale
It’s not surprising that this type of transaction is the most common. It’s the result of a purchase made by a customer either at the point of sale or via any card-not-present sales channel (like a merchant website).
When confirming the purchase, the customer submits their credit card data on the merchant’s website or at the point of sale. This data is immediately sent to the payment processor and then to the card network, which approves the transaction with the issuing bank. Once the transaction is approved, the sale is confirmed.
The whole process takes just seconds.
Refund
When a merchant needs to reverse a previously charged payment and return money to the cardholder, a refund occurs. A refund can be completed either partially or fully. However, it can’t exceed the original payment amount.
A refund request is sent to the payment processor (for example: Shift4) and the information is transferred to the acquiring bank, which then sends the money to the issuing bank. During the final stage of the refund, the issuing bank returns the funds to the exact card used to make the initial payment.
Pre-Authorization
Sometimes pre-authorization is called a pre-auth. It’s similar to the purchase or sale transaction type, but the main difference is that it does not actually complete the sale.
A pre-authorization is used when a customer’s funds must be temporarily held to secure the transaction-to-be. It’s widely popular in the tourism or car rental industries when deposits are taken to cover any unexpected extra charges.
Usually, pre-authorized funds are held for up to 10 days. At that time, if the merchant determines that the transaction should proceed, the capture transaction (which we’ll explain a bit later) occurs.
Authorization
In layman’s terms, a card authorization is the approval received from the issuing bank that confirms that the cardholder has sufficient funds to cover the cost of a given transaction.
The whole authorization process takes seconds and requires swift communication between all the parties involved. Here’s a breakdown of the process:
- The customer submits their card data or uses their card at the point of sale.
- The merchant’s software sends an automated request to the payment processor or the acquiring bank asking them to authorize the transaction.
- The acquirer sends over the approval request to the issuing bank (via the card network).
- The issuer verifies if the customer’s card is valid and if the funds are sufficient to cover the cost of the transaction. It returns either approval (with the authorization code necessary to proceed with the transaction) or a decline (with the error code).
Capture
In short, a capture transaction is the completion of a pre-authorization phase. Here’s a look at how this second phase looks for merchants that use Shift4:
- The capture request is sent to Shift4, which informs the acquiring bank.
- The capture is then sent to the issuing bank, which takes the funds from the customer.
- The financial transaction is completed, and the merchant is notified by Shift4.
It’s important to note that merchants cannot capture more than the pre-authorization amount. The original approval pre-authorization code is required for capture to be successful.
Void
If a transaction is canceled before being completed, it’s called a void transaction. This is different from a refund, though. It’s good to note that a completed transaction cannot be voided. If this is the case, the refund process must take place.
A cancellation action can be initiated either by the customer (if they changed their mind) or by the merchant (if they don’t want to proceed with the transaction).
If either of them wishes to cancel the transaction, they can void it and send the void information via the payment gateway through the acquiring bank to the issuing bank. The latter then unblocks the funds on the customer’s card.
As a result, if the original transaction has been voided and the customer will not be charged.
Verification
A verification transaction (usually for $0 or small amounts like $1 or $2) takes place when a merchant needs to test the customer’s credit card’s validity before charging the card later. They must send card data to the issuing bank for validation.
The issuing bank verifies the transaction details and approves or denies it. If the bank approves the transaction (confirms that the security code is correct and there is money in the account)the card network provides an authorization code and the merchant can then complete the sale. If the transaction is denied, the sale will not go through.
Apart from its primary use — minimizing the risk of fraud — verification transactions come in handy when recurring payments occur. Before a card is charged, the verification transaction is run to test the card data and save it for future use (for example: recurring subscriptions), thus eliminating the risk of transaction denial.
Settlement
Settlement transactions occur when funds are successfully transferred from a cardholder’s account to a merchant’s account. This is done automatically via a payment processor without any action from the merchant’s side.
It’s important to be aware that settlement time windows vary depending on the procedures incorporated by card brands, acquirers, and payment processors.
Authorization is issued immediately, but it usually takes up to 48 hours for the money to be moved from the card-related account.
Once the funds are transferred to the payment processor, merchants must wait up to 24 hours before seeing the money in their own account.
Chargebacks
Perhaps the most fearsome transaction type from a merchants’ perspective is a chargeback.
Chargeback transactions occur when a customer decides to dispute a charge on their bill. They contact their card issuing bank and request that the charge be reversed.
The issuing bank issues a code for the dispute, which formally triggers the procedure, and then the merchant provides proof that the cardholder made the purchase.
No matter if the transaction was legitimate or fraudulent, it’s the merchant who must cover the chargeback fee. If the transaction isn’t legitimate, the merchant must reimburse the full amount plus extra chargeback fees..
Chargebacks can severely harm a business, but they can be managed if merchants (supported by a best-in-class payment provider like Shift4) prepare themselves well for a possible chargeback. Here’s how merchants can prevent chargebacks effectively.
Effortless Transactions, Expertly Handled
Payment processing requires a vast knowledge of the transaction specifics. The good news is that if you choose an end-to-end payment processor like Shift4, you can focus on your business instead of worrying about these details. We can serve as the experts and make the process seamless and hassle-free for the merchant.