What is a Merchant? & How To Open a Merchant Account 

This article will explain “What is a Merchant?” and provide a step-by-step tutorial to open a merchant account.

Key Takeaways

• A comprehensive explanation of what a merchant is and its common types may help to-be sellers prepare well before starting their own business.
• A merchant account is a must-have to operate your business easily, especially in increasing sales, improving cash flows, and better customer service.
• Paypal, PayFac Providers, and Payment Service Providers (PSPs) are three common alternatives to a merchant account, providing numerous features but also inevitable drawbacks.

What Is A Merchant?

Merchants are individuals or businesses engaged in buying and selling goods or services. They serve as intermediaries between producers and consumers, facilitating transactions for profit, and operating through various channels like physical stores or online platforms. 

In addition to sales, they manage marketing, inventory, and customer service.

Types of Merchant Business

Certainly, there are different types of merchant businesses, each with unique characteristics and functions.

Ecommerce Merchant

Definition

E-commerce merchants exclusively operate in the digital field, conducting their sales and transactions online. 

How does it work

E-commerce merchants offer various products, from electronics and clothing to groceries and digital goods. They provide convenience to customers by enabling them to shop with a click and have products delivered to their doorsteps. 

Payment gateways and secure transactions are also critical to their operations, ensuring a seamless shopping experience for buyers. 

Pros & Cons

Ecommerce merchants benefit from a global reach that expands their potential customer base beyond geographical boundaries. With lower overhead costs compared to physical stores, online platforms minimize expenses. The convenience of anytime, anywhere shopping and 24/7 availability also enhances customer engagement and sales potential.

However, it also presents some challenges. The lack of face-to-face customer interactions can hinder personalized service and relationship-building. Additionally, technical glitch is often needed to establish and manage online stores. Moreover, handling sensitive customer data raises security concerns, increasing the potential for breaches and data theft.

Examples 

• Shopify: A platform enabling entrepreneurs to create online stores and sell products, complete with customizable templates and features.
• Amazon: Amazon offers various products, from electronics and books to household items and fashion.
• eBay: An online marketplace that allows individuals and businesses to buy and sell various new and used goods.
• Etsy: Focused on handmade, vintage, and unique products, Etsy provides a platform for artisans and crafters to sell their creations.

Retail Merchant

Definition

Retail merchants sell products directly to consumers, typically through physical stores or online platforms. 

How does it work 

To operate effectively, retail merchants follow a series of crucial steps. They consistently source products, manage inventory, and create appealing storefronts.

Prices are based on costs, market trends, and competitive strategies. Advertising and loyalty programs attract customers, while personalized interactions and outstanding service foster loyalty.

Pros & Cons

Retail merchants in physical stores benefit from direct customer interaction, fostering personalized assistance and relationship building. The tangible experience of trying, touching, and examining products before purchase enhances the overall shopping experience. Moreover, retail merchants contribute to the local community by generating job opportunities and supporting local suppliers. 

However, operating physical stores comes with significant overhead costs, including rent, utilities, and other expenses. Geographical limitations constrain the reach of physical stores, limiting their potential customer base compared to online retailers. Managing inventory levels can also pose challenges, with potential stockouts or excess stock.

Examples 

• Walmart: It is a multinational retail corporation that operates a chain of hypermarkets, discount department stores, and grocery stores. 
• Apple Stores: Apple’s retail stores provide a physical space to experience and purchase Apple products.
• Nike: Nike operates retail stores that offer athletic footwear, sportswear, and equipment. 
• Starbucks: Starbucks is a well-known coffeehouse chain that operates physical stores where customers can enjoy a variety of coffee beverages, teas, snacks, and merchandise.

Wholesale Merchant

Definition

Wholesale merchants purchase large quantities from manufacturers or suppliers and then sell these products to retailers, other businesses, or institutions. 

How does it work 

The wholesale retail process involves many steps from the overall wholesale distribution process:

• Retailer orders from wholesaler.
• Retailer receives, prepares, and stocks goods.
• Retailer sells to consumers for profit.
• Wholesaler maintains supply based on sales.
• Both track sales trends.

Pros & Cons

Wholesale merchants benefit from economies of scale through bulk purchasing, which reduces per-unit costs and facilitates competitive pricing. Establishing B2B relationships with retailers and businesses often leads to repeat orders, fostering a reliable customer base. Also, this translates to higher revenue and improved profitability for wholesale merchants.

However, operating in bulk requires a significant initial investment and abundant storage space. The complexity of managing extensive inventories and fulfilling bulk orders poses logistical challenges that need careful navigation. Wholesale merchants must also contend with market fluctuations, as shifts in consumer demand or market trends can affect sales and inventory management strategies.

Examples 

• Costco: This well-known membership-based warehouse club offers bulk products to individual consumers and businesses.
• Alibaba: This global online platform connects buyers with suppliers, allowing businesses to purchase goods in bulk directly from manufacturers.
• Sysco: This food service distributor provides various products, including food, kitchen equipment, and supplies, to businesses in the hospitality industry.
• Uline: This distributor of shipping, industrial, and packaging materials serves businesses across various industries, offering bulk quantities of products.

Affiliate Merchant

Definition

Affiliate merchants, or affiliate advertisers or vendors, collaborate with individuals or entities known as affiliates or publishers to drive traffic and sales to their offerings. 

How does it work 

Merchants establish affiliate programs for affiliates to join and promote their offerings. Approved affiliates integrate links and promotional content like banners or product info into their online platforms, such as blogs, social media, or emails. 

When users click affiliate links and complete actions (like purchases), tracking mechanisms record this data to monitor clicks, leads, and sales. Affiliates earn commissions based on tracked actions, with varied structures like flat fees or percentage-based.

Pros & Cons

Affiliate merchants offer a broad reach, expanding brand visibility across various online platforms through affiliate partnerships. Operating on a cost-effective model, expenses only count when affiliates deliver sales or leads. Also, this approach uses diverse marketing channels like blogs and social media to reach different customer segments.

However, affiliate marketing involves surrendering direct oversight of how affiliates present your brand, resulting in potential inconsistencies in brand representation. Also, ensuring uniform quality standards is challenging, as certain affiliates might not uphold your desired levels of excellence, affecting customer satisfaction. Although performance-driven, notable commission rates for top-performing affiliates might impact your profit margins.

Examples 

• Amazon Associates: Amazon’s affiliate program allows individuals to earn commissions by promoting and selling products from the Amazon website through their affiliate links.
• ShareASale: ShareASale connects affiliates with various merchants across various industries.
• ClickBank: ClickBank specializes in digital products, such as eBooks, online courses, and software.
• Shopify Affiliate Program: Shopify’s program allows affiliates to promote their e-commerce platform and earn commissions on referred customers.

What’s a Merchant Account?

A merchant account is a business bank account for processing customer credit and debit payments. You can obtain one through a provider or payment processor. 

Unlike a regular bank account, it acts as a mediator between your business and the banks that offer cards to your customers. 

How does a merchant account work?

Here’s the process when a customer uses a credit card for payment:

Payment Gateway Interaction: The transaction begins by passing through a payment gateway, which contacts the credit card company to verify if the cardholder has sufficient funds. You can set up the payment gateway when creating your merchant account.

Deduction from Customer’s Account: After approval, the merchant account withdraws the transaction amount from the customer’s bank or credit card account. Simultaneously, a transaction fee of around 3% to 5% is deducted.

Funds Transfer to Your Account: Eventually, the merchant account transfers the funds to your business bank account. This doesn’t occur immediately after a transaction; it happens in batches at the end of the workday or later.

Why should you opt for a merchant account?

Establishing a merchant account might be challenging, but the right provider simplifies the process and offers valuable advantages.

• Increases sales

With many customers choosing credit cards, enabling your business to accept such payments can enhance sales potential, especially for larger purchases.

• Improves cash flows

A merchant account boosts payment authorizations and ensures prompt fund transfer. Unlike the process of individually invoicing customers and enduring a wait of up to 30 days or more for payment, funds can reach your account within 1 or 2 working days with a merchant account in place.

• Easy money management

Merchant accounts offer streamlined money management for e-commerce merchants. As most transactions occur digitally through debit and credit payments, the necessity to physically track, count, and handle cash is effectively eliminated.

• Better customer experience

Providing customers the freedom to shop and pay using their preferred payment methods results in a seamless shopping experience, improving customer experience and enhancing the likelihood of repeat purchases.

• Enables secure payment processing

Payment gateways serve as a vital link connecting online cards to your business functions, minimizing the risk of fraud and theft. By prioritizing secure checkouts, you simultaneously enhance the potential for improved conversions, offering customers the choices of preferred payment methods.

How to open a merchant account

To open a merchant account, businesses apply and await approval from a merchant acquiring bank. Approval involves assessing factors like business tenure, bankruptcy history, credit record, prior merchant accounts, and vulnerability to credit card fraud.

Pricing Models

When selecting a vendor, focus on the pricing structure, which includes:

• Flat-Rate Pricing: Mobile credit card processors often use this model. Each credit or debit card transaction incurs a fixed percentage charge. It’s ideal for businesses with low sales volume or small-ticket items.
• Interchange-Plus Pricing: This model includes an “interchange” rate set by the credit card company and a “plus” markup by the processor. For instance, a structure might be 2.2% plus $0.22 per transaction. Although transparent, it can make statements complex.
• Tiered Pricing: Transactions are categorized as qualified, mid-qualified, or non-qualified. Qualified transactions receive the best rates, while non-qualified ones receive less favorable rates. This common model offers clear statements, but often leads to higher-than-expected transaction fees.

Merchant Account Fees

Merchant account fees differ among providers. Common fees include:

• Setup Fee: An initial one-time cost for establishing the merchant account.
• Monthly Fee: Sometimes termed a statement fee, it covers monthly statement preparation.
• Gateway Fee: Applied to online or remote transactions.
• Monthly Minimum Fee: For accounts falling below a minimum transaction level.
• Annual Fee: Maintaining the account annually.
• Customer Service Fee: Supports merchant assistance.

These fees can elevate your cost-per-transaction by more than 3%, stressing the importance of accounting for them when comparing merchant account options.

How to set up a merchant account

Before opening a merchant account, it’s essential to establish some foundational aspects of your business. This includes preparing your business for the process, identifying the most suitable merchant account that meets your requirements, and opening the merchant account itself. Let’s explore these steps:

1. Register your business

If you’re planning to run a business in the US, it’s crucial to register with the relevant government authorities. This includes getting the necessary licenses, permits, and tax ID numbers. The requirements for business registration depend on factors like where you’re located and your business type.

2. Get an EIN

You must get an Employer Identification Number (EIN) from the IRS. An EIN is a particular ID for your business, similar to a Social Security number for individuals. It’s used for various banking and tax reasons.

3. Open a business bank account

Merchant accounts are solely for receiving customer transaction funds, whereas regular business bank accounts cover a broader range of financial activities. A merchant account isn’t sufficient—you’ll need a business bank account to receive payments. Select a bank with features like minimal fees, user-friendly online banking, and vital customer service.

4. Research merchant account providers

Choose the right merchant account provider by considering key factors:

• Fees: Providers charge transaction fees, including a percentage and per-transaction fee. Review fee structures for a clear cost overview.
• Processing Time: Choose a provider with fast processing, which is crucial for businesses needing quick transactions.
• Customer Support: Prioritize providers with accessible customer support via phone, email, and chat.
• Security: Ensure robust security features like encryption and fraud detection.
• Integration: Consider how smoothly the provider’s software integrates with your existing systems.
• Reputation: Research provider reviews to gauge their reliability.

5. Complete an application

When applying for a merchant account, provide:

• Business Details: Company name, tax ID (EIN), and contact information.
• Additional Information: Industry, business structure, processing volume, history, products/services, and payment methods.
• Transaction Methods: Specify if in-person, online, or both.

Share your name, address, and Social Security number for personal details.

Be accurate and thorough, as errors can delay or reject approval. Read terms, understand fees (setup, transaction, monthly), and be cautious with personal data.

6. Provide supporting documentation

To open a merchant account, follow these steps:

1. Submit Documentation: After applying, provide required documents like business registration, bank statements, and tax returns. Ensure accuracy and completeness.
2. Underwriting Process: The provider evaluates your business’s legitimacy and credibility through underwriting. This involves assessing risk and can take days to weeks, depending on your business’s complexity and risk level.
3. Credit Check and Evaluation: The provider runs a credit check on the business owner and reviews processing history and sales volume to gauge risk. Additional information may be requested.

While the underwriting process protects against fraud and risks, it’s crucial to be patient and cooperate with requests for more information.

7. Wait for approval

After submitting your application and documentation, await the provider’s review and approval of your merchant account. The timeline typically spans days to weeks, depending on the provider, business type, and completeness of materials. Some providers boost approval for low-risk businesses with good credit.

Possible delays come from incomplete/inaccurate application details, conflicting documentation, and high-risk business profiles. Additionally, providers may assess processing history and sales volume to evaluate fraud or chargeback risks.

To streamline approval, provide accurate application details, promptly respond to information requests, and maintain open communication. Being proactive shortens the process, helping you establish your merchant account swiftly.

8. Set up payment processing

The required tools and services depend on your chosen payment channels and whether you enable payments solely for your business or platform users. This step usually involves integrating payment processing software with your website or POS system at a minimum.

9. Test the system

Before using the payment processing system for customer payments, testing its functionality and identifying any issues is essential. 

10. Start accepting payments

Once the system has been tested and is working correctly, you can start accepting customer payments.

What is the difference between a merchant account and a payment gateway?

Merchant accounts and payment gateways are essential to payment systems, enabling businesses to accept electronic payments. Despite their related roles, they perform distinct functions:

• The payment gateway is an intermediary between customers and businesses, securely transmitting payment data and authorizing transactions. It encrypts payment details and forwards them to the designated merchant account for processing.
• The merchant account is a specialized bank account facilitating electronic payment acceptance, transaction processing, and fund settlement. It receives payment data from the payment gateway, conducts transaction processing, and transfers funds from the customer’s bank to the business’s bank.

Merchant accounts and payment gateways create a seamless payment process, ensuring swift authorization, processing, and transaction settlement while maintaining robust security protocols.

Alternatives to merchant accounts

Here are alternatives to traditional merchant accounts:

Paypal

Key features

• Secure Transactions: PayPal employs advanced security measures, including encryption and fraud protection.
• Buyer and Seller Protection: PayPal offers buyer protection, refunding payments for eligible items that don’t arrive or are significantly different from the description. For sellers, there’s protection against unauthorized transactions.
• Global Accessibility: PayPal operates in numerous countries and supports various currencies, making it accessible to customers and businesses worldwide.
• Mobile App: PayPal’s mobile app enables users to send and receive payments, check balances, and manage their accounts.

Pros & Cons

PayPal prioritizes security through advanced measures, encryption, and anti-fraud safeguards. In other words, it ensures protection for both buyers, offering refunds for unsatisfactory items, and sellers, guarding against unauthorized transactions. Businesses benefit from PayPal’s online invoicing feature for efficient payment collection. Additionally, PayPal’s seamless integration enhances websites and applications as a versatile payment solution.

However, it comes with several drawbacks. Firstly, transaction fees can be higher for certain transactions than traditional processors, affecting overall costs. Secondly, new or high-risk accounts might face fund holds, causing delays in accessing money. Accounts can be frozen due to suspicious activity, disrupting transactions and access to funds. Lastly, sharing personal and financial data with PayPal raises privacy concerns.

PayFac Providers 

Key features

• Multi-currency Support: Some PayFacs can process payments in multiple currencies, accommodating international transactions.
• White-Label Solutions: PayFacs can offer white-label solutions, allowing sub-merchants to maintain their branding.
• Scalability: PayFacs offers scalable solutions that grow with sub-merchants’ business needs, reducing the need for frequent account adjustments.
• Compliance: PayFacs handles regulatory compliance and payment security, ensuring that sub-merchants adhere to industry standards.
• API Integrations: APIs allow sub-merchants to integrate payment processing into their platforms seamlessly.

Pros & Cons

PayFacs offers a streamlined onboarding process for sub-merchants, allowing them to accept payments quickly. Sub-merchants use APIs to integrate payment processing into their platforms, minimizing technical complexities. Also, PayFacs provides customer support to assist sub-merchants with technical issues and payment inquiries. 

Sub-merchants may have limited control over the payment process, as it is managed by PayFac. Sub-merchants rely on PayFac for critical payment services, potentially leading to disruptions in case of downtime or technical issues. PayFacs may offer limited customization options, impacting the branding and user experience of sub-merchants.

Payment Service Providers (PSPs) 

Key features

• Settlement and Payouts: PSPs manage the settlement process, transferring funds from customer payments to the merchant’s account regularly.
• Customization: Some PSPs allow customization of the payment process to match the business’s branding and user experience.
• Scalability: PSPs can accommodate businesses of various sizes, from small startups to large enterprises, and scale their services accordingly.
• E-commerce Tools: Some PSPs offer additional e-commerce tools, such as shopping cart integration, inventory management, and order fulfillment.
• Regulatory Compliance: PSPs ensure adherence to legal and regulatory requirements in different regions, easing cross-border transactions.

Pros & Cons

PSPs offer quick and straightforward integration, allowing businesses to start accepting payments with minimal technical complexity. PSPs support various payment options, catering to customer preferences and increasing conversion rates. PSPs enable businesses to expand their customer base internationally by supporting various currencies and payment methods. Many PSPs offer tools and features to detect and prevent fraudulent transactions, safeguarding businesses and customers.

However, switching PSPs can be time-consuming and costly due to the need for reintegration and potential disruptions. Managing chargebacks and disputes can be complicated, impacting resource allocation. PSPs may implement account holds or reserves for high-risk businesses, affecting access to funds.

What Is A Merchant: FAQs

Bottom Line

In conclusion, this article has provided a thorough understanding of “What is a Merchant?” and a tutorial on how to open a Merchant account.