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How Credit Card Processing Works

Credit Cards: The Basics

Many banks and other companies offer credit cards, but naturally the card issuing companies want to be sure that the credit will be promptly repaid, so before issuing a card they will make checks to see if you are suitable.

If you have a history of bad debts, or have already borrowed a large amount on other cards, your application might be turned down.

But if you have proved to be a trustworthy borrower, perhaps by using other cards wisely, you are more likely to be approved. Building a good credit record can be very helpful, especially if you later decide to apply for a loan or mortgage.

So what actually happens when you present your card to the merchant or enter the details into an online shopping cart?

Diagram showing how credit card processing works

Credit Card Data

Your credit card has visible information on it, such as the number, date of expiry, and the 3 or 4-digit CVV number on the back of the card.

Credit Cards

Electronic data is also stored within the card. Before your purchase can be authorized, several checks need to be made (1) to make sure that you are the genuine owner of the card, and (2) that the amount you pay won't take you over-limit.

Only when this information is verified will your card issuer approve the transaction and pay the funds into the merchant's account.

Sending Information to your Card Issuer

The credit card terminal or online shopping cart sends the card data to the merchant gateway, where it is encrypted for security. If you are shopping in a 'bricks and mortar' store, most of the information is harvested from your card electronically.

If you are shopping online, you may be asked to enter information manually. This data includes: the card number, the date of expiry, the CVV number and your address details.These are forwarded to the your card issuer where it is checked. If there is a problem, the transaction could be declined, and you will need to find another way to pay for your item. If everything is in order, the transaction will be authorized.

Communication is then made with your card issuer, and the funds are transferred to the seller's account.This will usually be a merchant account, which is specifically designed for business purposes, and can handle commercial finances including the processing of credit cards.

The amount will also be earmarked on your credit card account so that it shows on your next bill.Some card issuers allow a grace period where you pay no interest on your purchases if you pay your bill in total when it is due. However, some charge interest on purchases immediately.Credit cards can also be used to set up ongoing payments, such as monthly or annual subscriptions or memberships. This saves the merchant from having to make repeated requests for renewals, and you can stop the payments at any time, providing you give the card issuer and the merchant sufficient notice to cancel the order.

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Purchase Protection

If you have a problem with your purchase, your credit card issuer can act on your behalf to liaise with the seller regarding a refund. Some types of card also cover insurance for your purchases, offering added protection.Paying your Bill

You can pay your bill off in full every month if you choose, and many customers do this to minimize interest payments.Card issuers require a minimum payment to be made, based on a percentage of your outstanding bill, but you can elect to pay more than this if you prefer.However, if you don't pay at least the minimum payment, you could be liable for a late payment charge, and your account could be frozen until your payments are brought up to date.This could also have a negative effect on your credit rating. Card issuers will normally allow you to set up a direct debit to make the minimum payment each month to avoid these problems.Used sensibly, a credit card can be a very valuable tool for making transactions, and for protecting your purchases.