As an LLC owner, I know that “small business” often means “big decisions.” Once your company is up and running, the next step is often deciding how money will move through your business.
Remitly is committed to supporting business owners and entrepreneurs in managing their finances. In this article, I’ll walk you through everything you need to know about merchant accounts, so you can decide if this type of financing is right for your business.
Understanding merchant accounts
Like many other people, I hit a turning point—which at the time felt like a stopping point—in my career during the COVID pandemic. I ended up pivoting and opening my own LLC so that I could freelance full-time. I had all the skills I needed to continue the functions of my job, but I was honestly in over my head in terms of the administrative stuff.
If you’re a new business owner or an entrepreneur just starting out, you’re also probably building the plane as you fly it. Here’s a little piece of advice: Consider opening a merchant account so that you can accept payments from your clients and customers.
Definition of a merchant account
A merchant account is a specialized bank account that allows businesses to process and receive debit and credit card payments. You can think of a merchant account as the intermediary between your client’s bank account and your main business bank account.
The difference between merchant and business accounts
A merchant account is used for processing electronic payments, while a business account is meant to manage your business’s overall finances. As such, there are a few key differences between these types of accounts.
Access
The money in a business savings or checking account sits there, and you can access it for cash withdrawals and funds transfers. The funds in a merchant account are not accessible directly through the merchant account. Instead, the money is transferred to an associated main business account—typically within 1-3 business days.
Fees
Merchant accounts usually charge for transaction processing. Main business accounts might have associated maintenance fees, or they might be fee-free.
Requirements
Opening a business account requires basic business information, like your Employer Identification Number (EIN). A merchant account often requires you to have a business account already open so that you can link the two accounts together, although some options are more flexible.
Functionality
A merchant account facilitates the flow of funds into your business. A business account is for managing those funds.
Payment and credit card processing
Merchant accounts are operated by a merchant acquiring bank that acts as a liaison between the customer’s bank and your business bank account. The merchant acquiring bank facilitates communication and electronic payment transactions, often working with a payment processor. This allows you to accept electronic and credit card payments securely.
Importance of merchant accounts for small businesses
Merchant accounts are essential for any business looking to accept online payments, or debit or credit card payments at a physical point of sale.
Facilitating credit and debit card payments
If you’re an e-commerce or online business, you have to accept credit and debit card payments to make immediate sales. The only alternative would be waiting for a personal check or cash payment in the mail, which is insecure for both you and your customers and just plain slow.
If you’re a brick-and-mortar business, having a merchant account will allow you to accept credit and debit cards in addition to cash.
Enhancing customer experience
Setting up your business to accept digital payments provides a better customer experience. Your customers will be able to choose how they’d like to pay. In addition, creating the option of accepting credit card payments might mean increased sales for anyone who doesn’t have cash on hand.
In addition to increased flexibility, the capability to accept digital payments adds clout to your business, regardless of its size. Ultimately, this will build trust with your customers.
Increasing sales and cash flow
Statistics from 2024 reveal that 81% of Americans prefer card payments to cash when shopping. Shoppers spend up to four times more when paying with a card than with cash. Setting up your business to accept card payments will likely drastically increase your sales and cash flow.
How merchant accounts work
Alright, we’ve talked a bit about why merchant accounts are important, but how do they work? To explain this easily, I’ve reached into my wallet and pulled out one of my go-to debit cards: a Visa debit card issued by my US bank. Let’s imagine I use this card to buy something from your small business.
If I were to initiate a digital payment with this card, the merchant acquiring bank (through a payment processor) routes the transaction via the card network—in this case, Visa. Visa would then contact the card issuer—my bank—who would check my account to make sure that I have funds available and authenticate the purchase.
Once the purchase is approved, the authorization is sent back through the network to the acquiring bank, allowing the transaction to proceed. This whole process occurs in minutes, if not seconds.
Payment processors and payment gateways
Merchant accounts are different from payment processors and payment gateways. Merchant accounts are set up and run by you, the business owner, giving you control over how payments are received. Once a transaction is processed and settled, the funds are deposited in your account within 1-3 business days.
On the other hand, payment processors and payment gateways are third-party platforms that act as a middleman between customers and businesses. Some companies, like PayPal, Stripe, and Square, offer all-in-one solutions, giving you access to a sub-account under their larger merchant account.
While these third parties eliminate the administrative task of opening a merchant account, they don’t automatically release your money to you, and they may have higher transaction costs than a dedicated merchant account.
Transaction fees and associated costs
There are a lot of parties involved in making digital payments happen so quickly and so securely. Unfortunately, they all want a cut of the payment, which they take in transaction and processing fees.
Merchant acquiring banks usually charge a per-transaction fee that is deducted from the payment total before it’s sent to your business account. In addition, merchant accounts usually incur monthly fees.
The card networks usually charge a fee as well. In the US, it’s commonly known that American Express charges higher fees than other branded card processors. For this reason, you might notice that some US businesses choose not to accept American Express cards.
You can expect to pay about 0.5-5.0% of each transaction plus a flat USD $0.20-0.30 per transaction.
Integration with point-of-sale systems
To connect your merchant account with your point-of-sale system, you’ll need a payment processor that enables debit and credit card transactions. This can be done virtually or through direct integration.
Virtual payment terminal services are provided by point-of-sale providers and allow the manual input of credit and debit card information online. This eliminates the need for a card reader and is great for businesses that operate solely online.
Direct integration is when a point-of-sale provider has an agreement with a payment service provider or credit card company. This allows for seamless integration within the point-of-sale system.
Types of merchant accounts
Dedicated versus aggregated accounts
There are two main types of merchant accounts: dedicated and aggregated. These offer different approaches to accepting digital payments.
- Dedicated accounts offer greater control and faster fund settlement, but are more difficult to set up initially.
- Aggregated accounts are simple to set up and have lower up-front costs, making them a great option for small businesses with simple payment processing needs. However, they may have stricter limitations and slower settlement times.
What’s the right option for your business?
Dedicated merchant accounts usually have more features, like customer databases and recurring billing. They also offer more control over transaction disputes and customization options. Dedicated accounts are well-suited for established businesses that process higher volumes and need more flexibility.
Aggregate accounts are usually less costly to operate and easier to set up. Your funds will settle into your business account more slowly than they would via a dedicated account. Plus, the merchant acquiring bank will be more likely to monitor aggregate accounts and freeze them if fraud is suspected. These accounts are a good option for businesses just starting out or with lower volumes, but they’re not usually recommended for high-risk businesses.
E-commerce versus brick-and-mortar
If your business has e-commerce sales, you’ll need a merchant account to accept customer payments using their debit and credit cards. Because merchant accounts usually involve added costs, some brick-and-mortar businesses stick to cash payments only.
If you’re looking to avoid digital transaction fees as a business owner, you might choose to add an additional processing fee to any purchases made using a debit or credit card (bear in mind that this isn’t legal in all states). Some business owners like to positively frame this practice by building the processing fee into their prices and then offering a “discount” to customers who pay in cash.
Considerations when opening a merchant account
Application process and required documents
Gather your business documentation and business bank account information. Use this to fill out the application for a merchant account of your choice. Be sure to submit all necessary paperwork. The merchant acquiring bank will review your application and notify you when your account is approved or denied.
Documents to have on hand are:
- Your business’s EIN
- Your business bank account number and routing number
- Your business formation documents
- Photo identification of the applicant
Other documents, like business licenses or voided checks, may also be requested.
Selecting a merchant account provider
Check to see if the bank that manages your main business account offers merchant accounts. Having both accounts at the same banking institution could streamline your business financing. Otherwise, select a merchant acquiring bank by comparing transaction fees, maintenance fees, offers, and contract terms.
Comparing pricing models and subscription-based pricing
Merchant account fees usually fall into two categories: markup pricing and subscription-based pricing.
- Markup pricing: You pay a percentage of each individual transaction. This might be better if you have variable income coming into your business due to seasonal or fluctuating sales volumes.
- Subscription-based pricing: You pay a monthly fee that you can build into your business budget. This model may include things like access to wholesale rates or unlimited processing. It’s great for growing businesses with steady or high-volume sales, as the costs are predictable. This model often still charges a small fee per transaction, but it’s usually fixed and not dependent on the size of the transaction.
Alternatives to traditional merchant accounts
If you’re at this part of the blog post and feel like your head is spinning, don’t worry. I’ve got a final solution for you, and it’s one that all small business owners have to do once in a while: outsource it. If you don’t feel comfortable, informed, or able to manage your own merchant account, you can always look to a third-party company as an alternative.
Payment service providers and third-party processors
Earlier in this blog, I mentioned companies like PayPal, Stripe, and Square. These are payment service providers and third-party processors that will manage your digital payments for you.
They often charge higher per-transaction fees than the ones you’d incur with a merchant account. Additionally, they typically do not automatically transfer funds into your business account. You’ll have to do that yourself manually.
However, they’re easy to set up and easily integrate into websites. Plus, they’re familiar names to many customers in the US.
Benefits and limitations of alternatives
Third-party processes typically offer a streamlined onboarding process. Instead of applying for an account as you would at a merchant acquiring bank, you simply register by providing your information. Third-party companies manage some of the risk of digital payments, providing an added security benefit for merchants.
These companies are usually highly focused on developing and integrating cutting-edge technology to present the best possible product to both the purchasing customer and the merchant customer. It’s a win-win.
However, there are some potential trade-offs:
- Higher transaction fees
- Fewer customization options
- You’ll have to rely on someone else if a customer needs payment processing support.
- Increased risk of account freezes and holds
When to consider alternatives for your business
If you’re looking to avoid an additional application process at the bank, consider opting for a third-party payment processor. You might also consider one that’s already integrated into website design programs, like WordPress, Squarespace, Wix, and Shopify.
FAQs
Do I need a card reader to use my merchant account?
No. Although you could accept payments through a card reader, merchant accounts can also accept payments through point-of-sale systems and websites.
How fast will my funds transfer from my merchant account to my business account?
Funds will typically transfer from your merchant account to your business account in 1-2 business days, but this depends on your provider, type of business, and type of account.