What Is A Merchant Account?

Does your business need to accept credit card payments? Find out what a merchant account is, how you can set one up, and how much you'll pay.

Frank has been writing about payment processing and business services since 2015. He is a retired Air Force officer and a former practicing attorney. He has a Bachelor of Science degree in Psychology from The Pennsylvania State University and a Juris Doctorate degree from the Ventura College of Law, and currently resides in Paso Robles, California.

WRITTEN & RESEARCHED BY Frank Kehl Frank has been writing about payment processing and business services since 2015. He is a retired Air Force officer and a former practicing attorney. He has a Bachelor of Science degree in Psychology from The Pennsylvania State University and a Juris Doctorate degree from the Ventura College of Law, and currently resides in Paso Robles, California. Expert Contributor

Shannon has been writing for Merchant Maverick about small business software and financing since 2015. She started writing professionally about business topics in 2005. Shannon has been featured in the Washington Post, Reader's Digest, US News, MSN, Yahoo Finance, Business Insider, and other publications. She has a bachelor's degree in English from San Diego State University and currently resides in San Diego, California.

REVIEWED BY Shannon Vissers Shannon has been writing for Merchant Maverick about small business software and financing since 2015. She started writing professionally about business topics in 2005. Shannon has been featured in the Washington Post, Reader's Digest, US News, MSN, Yahoo Finance, Business Insider, and other publications. She has a bachelor's degree in English from San Diego State University and currently resides in San Diego, California. Lead Staff Writer

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1. A merchant account is a type of bank account that allows businesses to accept credit and debit card payments, acting as an intermediary between the customer's bank and the business.
2. Understanding the various fees associated with merchant accounts, such as transaction fees and monthly service charges, is crucial for businesses to manage costs effectively.
3. Obtaining a merchant account typically involves an application process, where the provider assesses the business's risk level before approval.

In its simplest form, a merchant account serves as a temporary repository for funds from approved and processed credit and debit card transactions, safeguarding them until they can be transferred to your primary business bank account. It’s an essential requirement for accepting credit card payments in any business.

In this article, we’ll explain what a merchant account is, shedding light on its functionality, associated costs, and the process of setting one up. We’ll also give you some valuable advice on how to choose the best merchant account provider for your particular business.

Table of Contents

• What Is A Merchant Account?
• How Do Merchant Accounts Work For Credit Card Processing?
• How Much Do Merchant Accounts Cost?
• What Do You Need To Open A Merchant Account?
• Does Your Business Need A Merchant Account?
• Alternatives To Merchant Account Processing
• I Want To Open A Merchant Account. What’s Next?
• FAQs: Merchant Accounts

What Is A Merchant Account?

A merchant account is simply a bank account where funds from your processed credit and debit card transactions are deposited until they can be transferred to your regular business bank account. A merchant account is an essential tool for credit card processing online, in-store, and even on the go.

Unlike a traditional bank account, you won’t have direct access to any funds being held in your merchant account. Instead, your merchant account provider will automatically transfer these funds from your merchant account to a designated bank account once the transactions have fully cleared. This process can take up to 3-5 business days, although many providers now offer next-day – or even same-day – funding (often for an additional fee).

Benefits Of Merchant Account Credit Card Processing

Although it’s getting easier, establishing a merchant account can still be expensive and time-consuming. It can also be costly to maintain over time, but the benefits will significantly outweigh the disadvantages for most businesses. The primary advantages of having a merchant account include the following:

• Increased overall sales volume
• Less dependence on cash & paper checks
• Enables acceptance of online payments
• Offers increased security protection measures not available with cash or checks
• Includes analytics & reporting data to provide insights into how your business is performing
• Saves time on trips to the bank to deposit cash or checks

How Do Merchant Accounts Work For Credit Card Processing?

When you sign up for a merchant account, you’ll have access to credit card terminals and payment gateways (for online sales) that route your customers’ credit card data to your provider’s processing network for transaction approval and processing. Credit card data is coordinated with the cardholder’s issuing bank to ensure that sufficient credit is available on the account, and a variety of anti-fraud checks are run to guard against illegitimate credit card use.

If there are no red flags, the transaction is approved, and the issuing bank will transfer the funds to your merchant account.

Your payment processor will deduct all applicable fees and charges (interchange fees, card association fees, processor markup, etc.), and then transfer the remaining funds to your business bank account.

In today’s payments environment, most merchant accounts come with a variety of additional features besides just credit card processing. Support for alternative payment methods, including ACH transfers, echecks, QR code payments, etc., are frequently included.

Other services, such as analytics and reporting, gift card programs, loyalty programs, inventory management, employee scheduling, etc., may also be available.

What About Debit Card Processing?

Debit card processing works much the same as credit card processing, but the big difference is that funds come directly from the customer’s bank account rather than a line of credit. The settlement process — the final stage of releasing funds to your merchant account provider and then transferring them to your bank account — can take anywhere from a few hours to several business days, depending on the speed of the debit network and the customer’s bank.

Also, transactions authenticated with the customer’s PIN are processed on a different network than the one used for credit cards. PIN debit transactions are inherently more secure, so the fees to process them are lower than for credit cards.

Are There Different Types Of Merchant Accounts?

Many providers offer additional special services to certain business types. For example, a “restaurant merchant account” might include extra features such as table management or employee scheduling. However, the basic functionality of a merchant account is going to be the same regardless of what industry your business is in. All merchant accounts perform the same function: to act as a temporary place to park funds from transactions until they can be distributed to the merchant. Nonetheless, there are two distinguishable types of merchant accounts:

• Full-Service Merchant Accounts: With this type of account, you’ll have your own account that’s separate from other users. Full-service merchant accounts are underwritten before you can be approved for an account, and come with a unique Merchant Identification Number (MID) to identify your business to the payment processing networks.
• Aggregated Accounts: Accounts you obtain through a payment service provider (PSP) like Square or PayPal are aggregated with other users, so you won’t have a Merchant ID number. You can also sign up for an account online, bypassing the usual underwriting process and allowing you to start accepting payments very quickly. The downside to this approach is that your account will be at a much higher risk of a sudden hold, freeze, or termination if a suspicious transaction is detected.

One other distinction to be aware of is between low-risk and high-risk merchant accounts. While most businesses (retail, restaurants, etc.) are deemed to be low-risk, certain types of businesses (adult entertainment, CBD products, vape shops, etc.) are deemed to be in a high-risk industry, and you’ll usually have to find a provider that specializes in serving these businesses. High-risk merchant accounts differ from low-risk accounts in the following ways:

• Almost always a full-service merchant account (PSPs typically don’t accept high-risk businesses)
• Extensive underwriting process required before account approval
• Might be underwritten by an offshore bank or processor
• Typically require a long-term contract
• Usually charges much higher processing rates (2-3 times higher than for a low-risk business)
• Typically charges higher recurring account fees
• May offer additional chargeback protection and fraud prevention features
• Very likely to include a rolling reserve account when first opened

Where Do You Find Merchant Accounts?

Finding a merchant account provider for your business can be very challenging. With literally hundreds of providers competing for your business, separating the good companies from the bad ones can be difficult. Here are some things to consider when trying to find the best deal:

• Going through your bank: Many merchants assume that opening a merchant account with their existing bank will be the easiest way to get started with credit card processing. While the odds of approval are high, we’ve found that banks have no incentive to offer lower prices or more flexible terms to existing users. Other than expedited funding times, there is usually no advantage to opening a merchant account with your bank.
• Talking to other business owners: It’s always a good idea to see what providers other business owners in your community are using. Personal testimonies from people you know and trust can be a compelling way to choose a provider. However, be aware that every business is different, and a company that’s a great fit for your friend’s business might not work out so well for yours. Also, the unfortunate truth is that the majority of business owners don’t have an in-depth knowledge of the payments industry, and frequently pay too much for merchant services simply because they don’t know that there are more affordable alternatives available to them.
• Researching companies online: Review sites (like this one!) can be invaluable in narrowing down your list of candidates, as they consolidate publicly available information about providers and compare it against industry standards to tell you why a particular provider offers a better deal than others.
• Talking to provider sales representatives: Most traditional providers employ a staff of in-house and independent sales agents to market their accounts — all of whom are under tremendous pressure to sell accounts. This pressure is, in turn, directed at business owners, so you can expect them to reach out to you with unsolicited (and usually unwelcome) attempts to get you to sign up with their company. If you’re contacted by a telemarketer, receive a cold call from a sales agent, or have an agent come into your place of business to try to pitch you a merchant account, be very suspicious. Reputable companies don’t employ these kinds of sales techniques — because they don’t have to.

How Much Do Merchant Accounts Cost?

Unfortunately, merchant accounts represent a significant business expense, even with the most affordable provider. Credit card processing fees can account for approximately 1.5% to 3.5% of your sales volume, and monthly fees can run anywhere from $40/month at the lowest, to over $200/month.

Here’s a breakdown of what you should expect to pay to open, maintain, and close your merchant account:

Opening Costs

Merchant account providers traditionally charged application fees and account set-up fees to open a merchant account. These fees, which were supposedly intended to offset the cost of processing your application and underwriting your account, could run well over $100 — even if you were ultimately turned down for an account. Today, market pressures and competition from low-cost payment service providers (PSPs) have forced most reputable processors to eliminate these charges altogether. Note that high-risk merchant accounts may still require these fees due to the much more extensive underwriting process required to get approved for a high-risk account.

Maintenance Costs

While PSPs like Square don’t charge any monthly or annual fees for a basic account, most full-service merchant account providers will charge a monthly account maintenance fee (typically around $10-$30/month) to cover the costs of keeping your account up-to-date. Other fees you might see include the following items:

• Transaction processing fees (variable; typically averaging about 1.3%-3.5% per transaction for low-risk businesses)
• Annual fees
• PCI compliance fees (monthly, annual, or included with account maintenance fees)
• PCI non-compliance fees (typically $15-$30/month; only assessed if the account is non-compliant)
• Payment gateway fees
• Monthly minimum fees
• Software subscription fees
• Chargeback fees (only assessed if you experience a chargeback)

Closing Costs

There is usually no cost to close your account unless you’re on a long-term contract. If this applies to you, you might have to pay an early termination fee (ETF) if you close your account before the end of your current contract term. ETFs can run into hundreds of dollars and might include an expensive liquidated damages clause as well. Today, most reputable providers will offer you a month-to-month contract that you can close at any time without having to pay a penalty.

Please refer to our complete guide to credit card processing rates and fees for more detailed information on these and other fees you might see on your processing statement.

What Do You Need To Open A Merchant Account?

Once you’ve selected a merchant account provider (or several likely candidates), you’ll want to gather the necessary information about your business and obtain the documents you’ll need to get through the application process. While specific requirements vary from one provider to the next, almost all of them require the following items:

• Completed Merchant Application: This form gathers all the essential information about your business that a provider needs to begin the underwriting process. The most important item will be specific information about what types of products and services you’ll be selling. Don’t be vague or dishonest here — incomplete or inaccurate information will usually lead to your account being shut down once you start accepting transactions. The application also requires information about your monthly processing volume, which will be a major factor in determining your processing rates.
• Processing Hardware Requirements: For in-person transactions, you’ll want to have a good idea of what type of credit card reader you’ll need. This can be anything from a simple mobile card reader to a full-blown point-of-sale (POS) system. We recommend purchasing any required hardware directly from your provider to ensure that it comes with the correct software load out of the box.
• Software Requirements: eCommerce merchants will also require access to a payment gateway to process online transactions. Today, this may be packaged as part of an integrated payments platform that works with your physical processing equipment.
• Bank Account & Routing Information: In addition to properly separating your personal and business finances, you’ll need this information to ensure that funds from your merchant account are deposited in your business bank account. If you don’t have one yet, learn what documents you need to open a business checking account.
• Financial Statements: Financial documents such as statements from your bank can prove to an account provider that you’re financially competent and responsible. In addition to bank statements, it’s common for businesses to furnish processing statements to prove to account providers their average amount of transactions processed over a monthly or annual period.
• Business ID: Your business ID, more commonly known as an Employer Identification Number (EIN), is basically the social security number of your business. This is the number you’re required to use when filing your business’s taxes and is often a unique identifier that’s found on your tax and legal forms.
• Business License: Certain businesses may be required to possess one or more business licenses, such as a sales tax registration license or professional/occupational license. Verify with your potential merchant account provider whether specific business license requirements are imposed on merchant account applications.
• Additional Supporting Documents: These may include marketing materials, a business plan, your business’s return and shipping policies, and inventory reports. Merchant account providers require various amounts of supporting documents, so check with your account provider as to their supporting document requirements for applications.

Does Your Business Need A Merchant Account?

If all of this sounds complicated and expensive — which it is — you may be wondering if a merchant account is something you really need or just a luxury.

For most (but not all) merchants, the answer will be yes!

Operating without a merchant account (or an aggregated account offered through a payment service provider) means that you won’t be able to accept any kind of credit or debit cards, and your overall sales volume will suffer as a result.

However, there are some circumstances where you either won’t need a merchant account or simply won’t be able to get one. If you never have a customer ask to pay by credit card (e.g., you’re a freelancer or independent contractor), you might not want to pay for something that you’re never going to use. Likewise, businesses that sell cannabis products can’t get a merchant account at all, as federal regulations currently prohibit using a credit card to pay for these products.

In general, a merchant account will be the best choice for your business if:

• You’re running an established business with a stable sales history
• You want to offer your customers the flexibility of paying with a credit or debit card
• You reliably process (or expect to process) over $5,000/month (below this amount, a payment service provider is a more economical choice)
• You’re willing to research providers, read your contract documents, and negotiate the details of your contract with sales representatives
• You want access to the additional security measures available through a merchant account
• You’re willing to implement the required security measures to keep your account PCI-compliant

Alternatives To Merchant Account Processing

If you’ve concluded that a full-service merchant account is too expensive for your business, or you simply can’t get approved for one, you’ll be happy to know that there are alternative choices available. These choices include signing up with a payment service provider (like Square or PayPal) or getting an ACH-only account. Here’s what you need to know:

Payment Service Providers (PSPs)

Also called third-party payment processors, PSPs are very popular with small businesses. They’re an especially good choice for startups that don’t have an established credit card processing history. These providers usually offer pay-as-you-go billing with no long-term contracts or monthly fees, and predictable flat-rate pricing that’s simple to understand. However, they’re not perfect: they rarely accept high-risk businesses, and accounts are at a higher risk of suddenly being frozen or shut down. Also, the flat-rate pricing structure can actually be more expensive than a merchant account at higher volumes, particularly if you accept a lot of debit card transactions.

Pros

• Month-to-month billing with no long-term contracts
• Predictable flat-rate pricing
• No monthly fees for basic accounts

Cons

• Account stability issues
• May be expensive at higher processing volumes
• Usually unavailable to high-risk merchants