So, there I am. A newbie in the world of geeks, trying my best to understand terminology I wouldn’t have been caught dead using just a few days back. Yes, it’s KT (knowledge transfer) time at Razorpay and as the new kid on the content block, I need my grey cells to absorb as much of the payment-related terms as they can.
And that’s when it hits me. If understanding these bywords is hard for someone who’s been in the fintech industry for a while, I wonder what others go through. So, whether you are a startup enthusiast, SME owner, or just a curious Lannister who likes to know things, here’s a simplified introduction to payments and some of the oft-used terms in the industry. I hope you find them useful!
For the purpose of this blog, let’s take a look at a simple payment flow and the terms associated with this:
A payment gateway is a technology that allows merchants to accept online payments from their customers. PayPal, WorldPay, MIGS are some well-known examples of payment gateways.
Now, customers have their own preferred method of making a payment. If I was buying my favorite beverage on ChaiPoint, I might pay for it via NetBanking, while somebody else might prefer a wallet or UPI. A payment aggregator brings together all these various modes of payment in a single interface, thus allowing the user the flexibility of choice.
When you are dealing with high volumes of money on a daily basis, fraud and risk must be minimized. The authentication process is what helps payment gateways verify that you are who you say you are and prevent fraudulent transactions.
As mandated by the RBI, every online transaction in India undergoes two levels of authentication:
- Verification of payment details: This helps the payment gateway recognize which bank your card belongs to so that they can process your payment faster.
- Verification of user or Authorization: This is done through the OTP/PIN/CVV. When you enter these correctly, you essentially tell the bank (and the payment gateway) that you are the person using the payment mode, and have initiated the request for payment.
3. Acquiring/Issuing Bank
Now, these are two very similar-sounding terms which can get a bit confusing at first. So, listen closely! Simply put, an acquiring bank is a bank which facilitates the transaction through its gateway. And the issuing bank is the one used by the customer when making a transaction.
Let’s say that I used my HDFC credit card for a purchase at ChaiPoint. The transaction was processed via Razorpay. The issuing bank – which gave me my card – is, therefore, HDFC. Now, Razorpay has to channel my money to ChaiPoint, and it does so via the gateway provided by SBI. Thus, the acquiring bank, in this case, will be SBI. In a sense, the acquiring bank is the partner bank for the payment gateway.
**These terms become even more important when we talk of issues like refunds, or card holder’s verification. The onus is on the issuing bank to verify the details entered by the cardholder and validate the transaction.
4. Merchant/Nodal Account
As defined by the RBI, a nodal account is an account created by an e-commerce, payment gateway, wallets, and aggregators specifically in order to accept digital payments. A merchant account is a temporary virtual account that a business creates with a payment gateway.
For instance, Razorpay has a nodal account for accepting and processing payments. When a merchant signs up with Razorpay to use our services, we create dedicated merchant accounts for them, which act as temporary vaults for payments. Every payment made by a user is first directed to the Razorpay nodal account and managed through the specific merchant account.
Once the funds are deposited into the merchant account, the merchant is free to do as they please with it. So, they can effectively choose to send the whole amount to any of their business’ current accounts, or use it to make payments to their vendors and other associates using a feature like the Razorpay Route. Most Indian banks offer the facility to open a current account. You can also create one through a private service provider.
Now, I know what you are wondering about and here’s the answer to your query – a merchant account and a business’ current account are indeed two separate entities. Provided by your payment processor, you can use the merchant account only to accept digital payments from your customers, and disburse it to your vendors. Your current account, on the other hand, is where funds from both cash and card transactions are added, and which you use to pay salaries and bills.
To help you understand this term better, let’s analyze the anatomy of the transaction I made at ChaiPoint earlier.
The process began with me choosing to make a purchase online. I picked my favored mode of payment, entered the details, and confirmed the payment. Voila! I see that the money has been debited from my HDFC account and credited to Razorpay’s nodal account. It now needs to reach ChaiPoint’s account and for this to happen, ChaiPoint has to ‘capture’ the payment so that Razorpay knows where to forward it to – almost like sending out a virtual Thank You, and a confirmation that the money indeed belongs to them. And if ChaiPoint does not raise this ‘capture’ request within a stipulated time (5 days from the date of payment) then the amount is automatically refunded to my account.
Once the transaction has been ‘captured’, the payment gateway i.e. Razorpay has to ‘settle’ the amount with ChaiPoint. Note that the money has still not been transferred to ChaiPoint’s merchant account. This is because even though the authorization, authentication, and capture (in most cases) happen in real time, the fund transfer follows a separate cycle. Banks transfer the amount to Razorpay’s nodal account first, and this usually takes 1-2 days. Razorpay then sends it to ChaiPoint’s merchant account, and this happens 2-3 days after the transaction was first made. This is known as a settlement.
So far, we have looked at the flow of money from the user to the merchant and understood the terminologies involved. Now, let us understand the process of reversing a transaction (as in the image above) and the terms used in this flow.
Refund is as refund does. Come on, we have all done this at least once in our lives!
A refund is, in essence, a reversal of a transaction made by a user. In cases where the user is not happy with the goods or services purchased, or if they have paid for said purchase without actually receiving anything, they can ask for their money to be refunded. The process is complicated and if you have ever wondered about it, here’s a wonderful blog that should clear all your doubts.
**Refunds and chargebacks may seem similar, but there is a difference in their machinations. A refund is initiated by the merchant (with or without a request from the user) because they failed to provide the goods/services agreed upon. A chargeback is a customer asking the issuing bank to forcefully remove money from the merchant account because the charges levied by the merchant are not valid.
The world of online payments is not just APIs and code. Every once a while, it can read like an interesting whodunit. Imagine a scenario where a customer has been charged for transactions on his credit card, which he claims he did not make. Is this a case of amnesia? Sour grapes, or a shopping affair gone wrong? Or, an intent to defraud? Whoa!
When a customer contests a charge made on their card, the issuing bank immediately issues a ‘chargeback’. Again, in the example that we have used till now, let’s assume I ask my issuing bank to initiate a chargeback against ChaiPoint for transactions billed to my credit card. ChaiPoint will now get its best Sherlocks on the case to prove the validity of these charges within 15 days, failing which I am entitled to get my money back. End of story.
While as a payment gateway Razorpay is not directly involved in initiating chargebacks and refunds, we are a part of this digital infrastructure and do our best to resolve such issues quickly. Ideally, a business would like to stay away from chargebacks because it causes both loss of inventory (if you did make a sale), as well as money. All the charges levied on a digital transaction are also levied in case of a chargeback.
**The Fair Credit Billing Act of 1974 (USA) is widely considered as the genesis of chargebacks. In India, this would fall under the ambit of the Consumer Protection Act, 1986.
9. TDR/MDR/Bank Charges
As we have seen till now, there are a lot of steps and entities involved in a successful online transaction. Since all of these entities offer a service to the user, they are entitled to a small fee which we have detailed below:
- Bank Charges
This is the amount that the acquiring bank charges for providing card payment services. This rate is in guidance with specifications provided by the RBI (Reserve Bank of India). One of the components included is the ‘Interchange’ which is a fee given by the acquiring bank to the issuing bank for their card transactions.
- Processing Charges
Your payment aggregator might also have to pay certain fees to other players in the loop like online wallets or banks for processing payments of a specific type. They would include this in the amount they charge you for every successful transaction.
- TDR: Transaction Discount Rate
This is the amount that the payment gateway charges the merchant while transferring the money to their merchant account. This is specified by the gateway itself and includes the above charges. In India, this is interchangeably used in common speech with MDR (Merchant Discount Rate).
In conclusion, TDR = Bank Charges + Processing Charges + Taxes
**Payment Aggregators also provide additional services and products for managing your payments and hence on a case-to-case basis, may charge an additional service component.
And there’s more, but that’s for another time!
This obviously is not the end of the terminologies, but this is where we will stop for now. The Indian payments industry has been evolving rapidly and payment gateways have become essential for all businesses; whether online or operating out of a brick-and-mortar space. Hopefully, these jargons have helped you understand our world better!