A payment processor is a service that facilitates online transactions by securely transmitting payment data between the merchant, customer, and acquiring bank. Payment processors encrypt sensitive payment information, verify availability, and transfer funds from the customer’s account to the merchant’s account.

In this article, we will explain how payment processor works and how to choose one for your business. We will also discuss some popular players in the payment processor ecosystem. First, let’s understand what is a payment processor.

What is a Payment Processor?

A payment processor is a third-party service provider that acts as an intermediary between a merchant’s website or point-of-sale system and the customer’s bank. It facilitates the transfer of funds from the customer’s account to your account and enables businesses to accept and process customer payments securely.

Payment processors play a crucial role in securing online payments by verifying transferred funds and protecting sensitive financial information from unauthorised access. When a customer makes a purchase, the payment processor encrypts the transaction data and sends it securely to the card issuer for verification. Once approved, the payment processor completes the transaction by transferring funds from the customer’s bank account to your business account.

In addition to ensuring secure transactions, payment processors contribute to a seamless and efficient payment ecosystem. They offer features like fraud detection and chargeback management, as well as integration with various payment methods such as credit cards, debit cards, UPI, and mobile wallets.

The Players in the Payment Processor Ecosystem

The payment processor ecosystem consists of several players that work together to facilitate online transactions. These players are:


The person who wants to buy a product or service. The customer provides payment information to the payment processor, such as credit card number, expiry date, and CVV code.


The person or business that sells the product or service to the customer. The merchant needs a merchant account, a payment gateway, and a payment processor to accept online payments.

Merchant account

A special bank account allows you to receive customer payments. The merchant account is linked to your bank account, where the funds are deposited after a transaction.

Payment gateway

This software application connects your website to the payment processor. The payment gateway encrypts and transfers the customer’s payment information to the payment processor for verification and authorisation.

Payment processor

This service verifies and authorises the customer’s payment information and communicates with the customer’s and merchant’s banks to complete the transaction.

Read In Detail: Difference Between Payment Processor and Payment Gateway

How Does a Payment Processor Work?

A payment processor securely transmits card data for online purchases by encrypting the card details and sending them to your bank, which then forwards them to card networks like Visa or Mastercard. The network routes it to the customer’s card issuer for authorisation, enabling secure credit card transactions.

The authorisation process involves multiple steps. Initially, the card issuer checks if the customer has adequate funds or the credit limit for the transaction. Upon approval, an authorisation code is generated and sent to your acquiring bank within seconds.

Subsequently, the acquiring bank shares this code with the payment processor, which relays it to your website. You can then proceed with the order fulfilment and sale completion.

Below are detailed steps explaining how a payment processor works.

Step 1: Transaction Initiation

The payment processor starts functioning when you have filled your cart, and clicked the payment tab.

Step 2: Merchant to Processor

The merchant (the online store) sends your payment details, such as the purchase amount and your card information like CVV, AVS validation and expiration date., to the payment processor.

Step 3: Processor to Bank

Next, the payment processor sends the payment information to the card provider (eg Visa, Mastercard or Rupay) and onwards to the issuing bank for authorisation, enquiring whether you have sufficient funds for the purchase. 

Step 4: Bank Confirmation

Your bank reviews the request and checks your account. If there is sufficient balance, it sends back an ‘approved’ signal.

Step 5: Transaction Complete

The acquiring bank relays the authorisation code to the payment processor. The merchant receives the authorisation code and proceeds with order fulfilment. You get your order confirmation.

How to Choose a Payment Processor for Your Business?

When it comes to choosing a payment processor for your business, there are several factors you need to consider. Here are some key points to keep in mind:

1. Pricing Structures

Payment processors offer diverse pricing models like flat-rate, interchange-plus, and tiered pricing. A flat rate is straightforward but may not be cost-effective for high-volume businesses. Interchange-plus provides transparency by separating fees, but it can be harder to understand due to its complexity.

2. Sales Volume and Payment Methods

Consider your business’s sales volume and how you accept payments. Negotiate lower transaction fees with the payment processor if you have a high sales volume. Additionally, choose a payment processor that seamlessly supports all payment methods if you accept payments through various online, in-store, or mobile channels.

3. Business Type and Industry

Select a payment processor that understands your industry and can meet the needs of your business, as some processors either specialize in or have limitations for certain types of businesses.

4. Merchant Accounts vs Payment Service Provider (PSP) Accounts

Understand the difference between merchant and PSP accounts when evaluating payment processors. Merchant accounts require a dedicated account with a financial institution and offer more control over funds and transaction processes. On the other hand, PSP accounts act as intermediaries between your business and the acquiring bank, simplifying the setup process but limiting control over funds.

5. Contract Terms and Ownership of Customer Data

Pay close attention to the contract terms offered by payment processors. Look for any hidden fees, cancellation charges, or long-term commitments. Additionally, consider the ownership of customer data. Some payment processors retain customer data ownership, which may limit your ability to leverage this data for marketing purposes.

Is Razorpay a Payment Processor?

Yes, Razorpay is a leading payment processor that provides end-to-end solutions for businesses. Razorpay offers a comprehensive suite of payment solutions, from payment gateway services to processing transactions and settling funds. With its robust infrastructure and secure technology, Razorpay ensures seamless and secure online payments for merchants.


Payment processors are crucial in facilitating online payments for businesses. They securely process card transactions, ensuring a smooth and seamless payment experience for both merchants and customers. Payment processors protect against fraud and unauthorised access by encrypting sensitive financial data.

When choosing a payment processor, it is important to consider factors such as pricing structures, compatibility with your business type and industry requirements, and the ability to handle international transactions. Assess your specific needs and thoroughly research options to find your business’s most suitable payment processor. Remember to prioritize security, reliability, and cost-effectiveness.

Frequently Asked Questions (FAQs)

1. What does a payment processor do?

Payment processors bridge merchant sites / POS systems and customer banks for secure online transactions. They transmit payment data and ensure smooth, fast, secure processing.

2. What are examples of payment processors?

Some popular payment processor examples in India include:

  • Razorpay

  • Paytm

  • CC Avenue

3. How does a payment processor make money?

Payment processors make money through various revenue streams, including:

  • Transaction fees: Payment processors charge a small percentage or fixed fee on each transaction processed through their platform.

  • Subscription fees: Some payment processors offer premium features or plans with a monthly or annual subscription fee.

  • Value-added services: Additional services such as fraud protection or data analytics may be offered at an extra cost.

4. What is the difference between a payment gateway and a payment processor?

Payment gateways enable secure fund transfers from the customer’s bank to the merchant’s account, encrypting data and acting as a mediator. On the other hand, payment processors manage transaction communication, securely transmitting data between the merchant, payment gateway, and customer’s bank, all while preventing fraud.

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    Author Chidananda

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