What is a Merchant Account and How Does it Work?

Whether you’re launching a startup or expanding your operation to accept credit cards for the first time, you’ll quickly come across the term “merchant account” during your research.

Do you need a merchant account? Can you start a business without a merchant account? Can you accept credit cards without a merchant account? How does a merchant account work?

These are some common questions that are likely running through your mind. This guide will answer all of those questions and more. Continue below to learn everything you need to know about merchant accounts for credit card processing.

What is a Merchant Account?

A merchant account is a type of business bank account. But unlike a traditional checking or savings account, merchant accounts allow businesses to accept credit card payments. 

You can open a regular checking account without accepting credit cards, but you can’t accept credit cards without opening a merchant account first. There are some exceptions to this rule. Some payment facilitators (PayFacs) bundle multiple merchants into a single merchant account. So you technically won’t need a merchant account if you go with an option like Stripe, Square, PayPal, etc. Just be aware that your credit card processing rates will be significantly higher in these scenarios, and service might be lacking as well.

Merchant accounts establish a relationship between the company accepting payments (your business) and the merchant acquiring bank.

When a consumer purchases goods or services using a credit card, the merchant account can provide your business faster access to cash—before that customer actually pays off the credit card bill.  

How Do a Merchant Accounts Work?

To understand how merchant accounts work, you must first understand the credit card processing acceptance process. 

It also starts with the cardholder. They use a credit card to buy something from a business, and the credit card processing company needs to verify the transaction. Transaction data gets routed to the card network and issuing bank to ensure the card is valid and the cardholder has appropriate funds. 

Here’s a visual representation of what’s going on behind the scenes whenever a credit card gets used to buy something.

As you can see, the merchant account bank information plays an important role in the transaction.

If the issuing bank approves the transaction, it means that funds can be deposited into the merchant account. The transaction funds can’t be deposited into a business bank account until they’ve landed in a merchant account. 

From here, the retail merchant account can collect the funds and use them for payroll, expenses, or other business use.

How to Get a Merchant Account in 5 Simple Steps

Businesses can get a merchant account by following these five easy steps:

1. Identify Your Requirements
2. Apply For a Merchant Account
3. Find the Right Merchant Account Provider
4. Prepare For Underwriting
5. Activate Your Merchant Account

We’ll explain each of these steps in greater detail below.

Step 1: Identify Your Requirements

Getting a merchant account starts with the needs of your business. It all depends on how you plan to accept credit and debit cards. There are different types of merchant accounts available, so it’s important for you to do your due diligence before you open a merchant account and lock yourself into an unfavorable contract. 

Think of your credit card processing volume and how much of that volume will be split between different card brands. You can use your volume projections to estimate the transaction fees you’ll be paying in three months or in three years.

Do you accept more credit or debit card transactions? Do you need to process online payments or electronic payments?

Hardware is another important factor to consider. Are you running a brick-and-mortar shop that requires processing terminals and POS systems? Do you need mobile card readers and a mobile merchant account?

Software like virtual terminals for phone processing and a payment gateway for your online store are other factors to consider as well. 

Step 2: Apply For a Merchant Account

Once you’ve identified your needs, you can narrow down your options and fill out an application for a merchant account. In addition to the basic information about you and your business, here’s what you’ll typically need to fill out ton a merchant account application:

• Business Bank Account Info — Before you can apply for a merchant account, you’ll need to separate your personal finances from the business. So if you haven’t done so already, make sure you open a business checking account. You’ll likely need to provide proof of this account, along with routing info and potentially a voided check.
• Financial Documents — Bank statements, profit and loss statements, and other business financials will show merchant account providers that you are responsible enough for this relationship. Your merchant account provider will ultimately be paying you for funds before cardholders pay the issuing bank. So providers review these documents during the underwriting process to reduce liabilities.
• EIN — Your employer identification number (EIN), also known as a tax ID, will be required during the application process. This number is the unique identifier for your business, used for taxation and legal purposes.
• Business Licenses — Depending on your business type or industry, you might be required to show any applicable business licenses. Sales tax registration forms or a professional business license (for a doctor, dentist, accountant, attorney, etc.) are common examples here. 

Sometimes there might be a follow-up request after the application for supporting documents. This could include things like marketing materials, inventory reports, return policies, and more. These requirements vary depending on the merchant account you’re applying for.

If you’re anticipating a high volume of credit card sales, expect the application and underwriting process to be a bit more rigorous. 

Step 3: Find the Right Merchant Account Provider For Your Business

Here are some quick tips to help you find the best merchant account for your unique business needs:

• Research the type of hardware and software you need (POS system, mobile readers, virtual terminal, payment gateways, etc.)
• Narrow down potential merchant accounts based on your list of requirements
• Request price quotes from your top options
• Prepare your documents and business information
• Apply for an account
• Negotiate your contract terms

It’s important to take this process seriously, as you’ll likely be working with this merchant account provider for a long time. So don’t rush and get stuck with a merchant account that doesn’t offer exactly what you’re looking for.

Step 4: Prepare For the Merchant Account Underwriting Process

Once you’ve submitted an application, your payment processor and acquiring bank need to complete the underwriting process for your merchant account. It’s the underwriter’s responsibility to do a thorough investigation on your business in order to assess any risks.

This may include a check against the company’s credit, as well as the personal credit history of the business owner. So make sure you don’t have any freezes on credit accounts from the three major credit bureaus.

It’s possible that the auditors may ask you to submit additional information, such as missing information on your website or shopping cart encryption. Ecommerce sites may need to add a cardholder terms and condition page to your site as well.

In some instances, the merchant account provider will require the business to have a rolling reserve.

Overall, the exact underwriting process depends on factors like the merchant account provider, business size, industry, and payment acceptance method. You can inquire about the details when you’re submitting your application to ensure you’re fully prepared.

Step 5: Activate Your Merchant Account

Once you’ve been approved, you need to make sure you’re fully onboarded to process payments. You can usually have a customer service representative from your payment service provider walk you through this process.

But again, all payment service providers have a slightly unique process when you open a merchant account. So the exact steps will vary from provider to provider.

You’ll also need to set up any payment gateways to process payments for online transactions or get payment terminals for in-person transactions. You may even want to set up an API integration for a customized payment system.

Once these have been activated, you should run test transactions through every payment environment to ensure everything is running smoothly.

Final Thoughts on Merchant Accounts

Do you need a merchant account?

Technically, you don’t need one just to be in business. But this is a requirement if you want to accept credit card transactions. You could go with a PayFac (Square, PayPal, Stripe, etc.), as those don’t require merchant accounts. But we don’t recommend that option for most businesses.

PayFacs might be easier, but they’re often more expensive and less flexible, making merchant account fees are worth it for the long run.

If you open a traditional merchant account, your credit card processing fees are negotiable. That’s where we come in. Reach out to our team, and we can help you negotiate the lowest possible rates for credit card processing.