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What is a Payment Gateway and How Does It Work?

Stephen Hart

Stephen Hart

Founder - Cardswitcher

Former - Chief Financial Officer @ Worldpay

If you are a business who is looking to accept card payments either in-store or online, it is essential that you understand what a payment gateway is, how they work, how secure they are and how to choose the right payment gateway provider.

In layman's terms, a payment gateway is an e-commerce service that allows merchants to accept card payments both online and in-store

Sounds simple, right?

Unfortunately, when it comes to financial technologies, things are rarely simple and payment gateways are no different. Which is why we here at CardSwitcher have been doing our research to bring you the Ultimate Guide to Payment Gateways for Small Businesses.

 

woman on computer with lots of credit cards

 

What is a payment gateway?

To get things started we first need to define a payment gateway, after all, that’s why you’re here.

A payment gateway is a piece of software technology that allows customers to make payments securely, and of course allows you to accept said payments securely. It is a service that authorises credit card payments both online and offline, with card details being submitted securely by the customer to the merchant and authorised bank for processing prior to approving the transaction.

Payment gateways operate as software but they allow merchants to accept payments from both e-commerce sites and brick and mortar stores. For in-store transactions a payment gateway is built-in to the card terminal, and with e-commerce purchases the gateway is built into the virtual payment terminal.

 

How does a Payment Gateway work?

We can break the online payment process down into five steps, with one process being applicable to online stores and the other to in-store transactions.

StepOnlineIn-store
1A customer browses your e-commerce store, and adds what they want to their basket and proceeds to checkout.A customer browses the products that you have in your store, and brings the products they want to buy to your checkout.
2Your customer enters their card information, including billing information and card details.Your customer inserts their card into the reader and enters their PIN number, or uses contactless. 
3Your payment gateway secures that card information and forwards it to the acquiring bank.
4The acquiring bank then forwards the card information to the card scheme that has branded the card and then onwards to the issuing bank. If the card information matches the issuing bank’s records, the transaction is approved.
5The success is then reported back to your payment gateway and then on to your site, where inventory management systems and sales reports will be updated. The success is then reported to your payment gateway. If you have an integrated POS system for your store, inventory management systems and sales reports may also be updated.

 

It’s pretty straightforward right? Especially since the payment gateway operates in the background, with no need for intervention from the merchant. 

Now that the simple steps have been outlined to you, we hope you further understand what a payment gateway is and why it is essential to have one. 

 

What are the different types of payment gateway?

Payment gateways are extremely important and beneficial to a business who accepts any form of card payment. But each business will have varying business requirements, and as such there are a range of different payment gateway options available:

 

On-site

If you trade online and process a large number of orders, an on-site payment gateway integration may be for you. This method allows you to process payments through your site's own servers, which is why it is better suited for larger businesses who can handle the responsibility of maintaining this.

Setting up your own payment processing system is not only beneficial to your business, but will create a smoother buyer experience by allowing the customer to complete their transaction on your site without being redirected elsewhere.

 

On-site Checkout, Off-site Payment

This payment gateway method allows customers to begin processing a transaction on-site, but complete the payment off-site via a third party host, meaning the payment gateway operates on the back end. 

Your customer is only taken to the third-party site briefly before being redirected back to your site. With this method all encryption is taken care of by the third-party, making this method more secure; but note that your customers' journey is slightly less streamlined. 

 

Redirect

A redirect payment gateway takes customers to a separate site to complete and process payments. The external service provider, such as PayPal, handles all payments on your behalf, making it a top option for start-ups and growing businesses.

Notably however, this option does take customers off of your site, adding an additional step to their buying journey, which may be off-putting for some.

 

woman smartphone order

 

How do I choose the right Payment Gateway for my Business?

Choosing a payment gateway provider can seem like a big commitment to your business and your customers, and of course you want to get it just right.

With a huge range of payment gateway providers available on the market, it can all seem a little overwhelming, especially considering things like price and who is best suited to who.

We can’t tell you who to choose, but we can provide you with a small list of factors that you should consider when picking a payment gateway provider:

FactorWhat to consider
Type of GatewayDoes your business require an on-site, redirect or on-site, off-site gateway?

Consider the size of your business and your volume of transactions to determine what type of payment gateway you need. 

Think about your business capabilities too, do you have someone in-house who can handle both front and back end requirements? Or do you have little to no experience and therefore need a fully integrated, third-party redirect gateway? 

Pricing and FeesWhat can your business afford to pay for a payment gateway service?

If you’re a startup and there are high monthly subscription fees paired with high per-transaction fees, plus a range of features you don’t need yet, you should seek out a more affordable option. 

If you’re a more established brand who deals with copious amounts of transactions daily, you may have a bigger budget to integrate a higher quality gateway. 

Be mindful of any hidden fees, and consider opting for a free trial prior to purchase if it’s available.

Integration and customisation optionsFor more streamlined operations and a smoother experience for your customers, you should choose a payment gateway that is able to integrate with your accounting software and shopping cart, plus any other integrations. 
Security and PCI DSS complianceSecurity should be your top priority, therefore do not sign up for a payment gateway that is not PCI Compliant.
Payment methods acceptedConsider what payment methods you want to accept, if any, in addition to standard methods. This may include payment links, invoices or even accepting international card payments.
Other FactorsIs there a contract?

Is the payment gateway scalable? I.e. Can it grow with your business? 

What customer support is available?

What reputation does the company have?

 

Once you have taken all of the above factors into consideration, you may discover a payment gateway that is right for you, your business and your customers.

For example, the below providers are worth taking into consideration:

 

How easy are Payment Gateways to set up?

Prior to setting up your Payment Gateway, you must have the following in place:

  • A UK Business bank account
  • A business plan with a single page summary of your business functions
  • A website with terms and conditions
  • 6-months minimum projection of profit and loss
  • Management accounts

 

Once you have the above information, the time and complexity of integrating the gateway varies depending on your business and the chosen provider. The way in which you will integrate the payment gateway also depends on your chosen type of gateway, for example:

  • An on-site, off-site payment gateway can easily be integrated onto your site by following the guidelines provided by the site. For example, you may be provided with JavaScript code that you can simply add into your site's pre-existing code. You will also be able to obtain an SSL certificate and gateway credentials to customise your homepage.
  • An on-site payment gateway can be integrated into your site through a team of web developers via an API.

 

card reader with cards

 

How much do Payment Gateways cost?

Payment gateways vary in price from provider to provider, with providers not always being entirely transparent about their pricing. 

Each provider's pricing varies in structure, with it remaining unclear if fees are applied per transaction, a monthly subscription or at a flat rate. 

In addition to the initial set up fee and the per-transaction fee (typically a small percentage of each transaction) there are some other payment gateway fees that you should be aware of:

  • Membership or subscription fees
  • Monthly account fees
  • Refund fees
  • Chargeback fees
  • International payment fees
  • Card specific fees (i.e. AMEX who use their own network) 
  • PCI Compliance Fees

 

How Secure are Payment Gateways?

Much like the rest of the financial industry and other financial services, payment gateway providers must comply with the Payment Card Industry Data Security Standards. 

PCI DSS Compliance ensures that all data is protected by encryption, which means the data is unreadable to unauthorised bodies or third parties. Payment gateways use their own pre-built code to protect customers' data, which is often referred to as “tokenization”.

Tokenization is where a customer's credit card information is protected by having their data replaced by something called a “token”, which is essentially a number to represent the data. The token then securely stores data for the customer to then continue on with future purchases.

 

someone swiping a credit card on card reader

 

Conclusion

If you're a business who accepts, or plans on accepting, card payments you need a payment gateway. Whether you're a start up, growing business or veteran in your industry, a payment gateway processor is essential for ensuring that your customers card payments are processed securely.

With a huge variety of payment processors available, there is a provider out there that is guaranteed to be suitable for your business. Whether you base your decision off of price, popularity or features, we hope that our guide to payment gateways has helped aid your decision making.

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Written by:
Stephen Hart

Stephen Hart

Founder - Cardswitcher

Former - Chief Financial Officer @ Worldpay

Stephen brings a wealth of experience honed through years in the financial sector, particularly in the card processing payments industry. His illustrious career spans key roles at PwC, Natwest, and the role of CFO at WorldPay, before going on to found card processing comparison site, CardSwitcher. He is passionate about helping growing businesses to understand the card processing landscape so they can make savvy financial decisions.