What is a Merchant Payment Gateway and How it Works?

For any business today, merchant payment gateways are foundational for scaling your customer base internationally. These tools handle everything from card swipes to UPI transfers and power your online enterprise. They help build trust, offer faster settlements, and ensure RBI compliance.

In this article, we’ll look at what a merchant payment gateway is, how it works, its types, challenges and a better way to select a payment partner for your business.

A merchant payment gateway is a secure digital service that acts as a bridge between customer banks and merchant accounts. It authorizes and processes online payments for your business and encrypts sensitive data like card details using SSL or TLS. A merchant payment gateway also verifies funds and ensures PCI DSS-compliant transactions to prevent fraud.

It is the perfect support for your e-commerce site or application, seamlessly handling payments through cards, UPI, wallets, and net banking. Multiple merchant payment gateway services, such as Razorpay, Stripe, CCAvenue, Cashfree Payments, and PayU, link your payment gateway to acquiring banks for instant approvals and faster settlements.

Merchant payment gateways handle encryption, authorization and settlement to ensure safe fund transfers, and they process all your online transactions securely in real-time. Here’s a step-by-step process for you to understand how it works:

• Customer checks out: Once your customer enters their card, UPI or wallet details on your site, the payment process is initiated.
• Data gets encrypted: The merchant payment gateway encrypts the entered information using SSL or TLS and sends it to your server and then to the payment processor.
• Authorization request is processed: The processor then forwards the details to the acquiring bank, in this case, your business bank account , the card network and the issuing bank.
• Bank verification: Then the issuing bank checks funds, validity status and detects fraud. Once these stages are cleared, the payment gets approved or declined within seconds.
• Response relay: The approval or decline then returns via the network, processor and the gateway back to your site to display ‘ Payment successful’ on the screen.
• Settlement: All the settlement processes are heavily regulated by the RBI and are released to your account instantly or, at times, can take T+ ½ days. 

Merchant payment gateways come in three main types: hosted, self-hosted and API-based. Here’s a detailed account for each type so that you can pick the best one to balance control and security of your transactions.

Hosted merchant payment gateway

In this type, your customer is redirected to an external page where they complete the payment and are redirected back to your website. As it works like a plugin page, it is easy to integrate in your e-commerce site and also offers reliable security to handle sensitive transaction data. Some popular examples for the same are PayPal and Stripe, they also reduce your responsibility for compliance.

Self-hosted merchant payment gateway

As in the name, in this type of merchant payment gateway, you host the payment page on your website, the payment details are collected from your platform and are sent to a payment processor for verification. 

This method is suitable if you want more control over the customer experience, but at the same time, you are responsible for meeting international compliance for processing payments and implementing security features throughout the transaction process. One such example is WooCommerce, which provides flexibility for online stores.

API-based merchant payment gateway

A developer-friendly option, an API-based payment gateway offers a higher degree of customization. It’s an easy process of connecting the payment gateway with your platform through an API. This removes the entire redirection process of back and forth from your site to the payment page for the customer. Razorpay is a popular example of an API-based merchant payment gateway.

To use a merchant payment gateway, you need a merchant account with a bank that offers direct control, charges lower long-term fees and allows customization for high-volume businesses. While a payment aggregator enables online payments using a shared master account (nodal or escrow) without individual bank ties.

Merchant payment gateways support an array of payment methods like credit or debit cards, net banking, UPI, wallets, and more across India and global geographies. Here are some of the most common methods you can offer your customers:

• Credit or debit cards: The majority of the payment gateways process domestic and international cards like Visa, Mastercard and RuPay.
• UPI payments: These include NPCI-powered apps like PhonePe, Google Pay, Paytm UPI that collect instant payment requests via QR codes.
• Net banking: The most traditional and popular online transfer medium that connects more than 50 banks for high-value transactions in India.
• Digital wallets: These are useful for quick checkouts via prepaid balances. Such wallets are offered by Paytm and Amazon Pay.

Merchant payment gateways charge a variety of fees that cover transaction handling, flat fees, processing, banks and provider fees to ensure secure merchant payment services.

All the merchant payment gateways in India must comply with RBI guidelines under the Payment and Settlement Systems (PSS) Act, 2007. This is necessary to ensure secure transactions and protect your customers. Here are some key regulatory requirements to protect against fraud:

• PCI DSS compliance: Level 1 standard mandates encryption, tokenization, and firewalls. You must also perform quarterly audits for handling transaction data.
• KYC/AML: To avoid fraud and investigate suspicious activities, ongoing transaction monitoring along with full merchant verification with documents like PAN, GST and bank statements is necessary.
• RBI authorization: All the banks act as licensed PSPs, while the non-banks need to apply for the Payment Aggregator (PA) license with a ₹25 crore net worth and escrow accounts.
• Data localization: According to the RBI, all the payment data of the country is to be stored in India itself. No overseas transaction can be performed without approval.
• Two-factor authentication: This includes 3DSecure and mandatory VNV or OTP for transactions  that are above ₹5,000 or risky in nature.

You can choose the right payment gateway for your business by factoring in success rates, fees, integrations and support that is compatible with your business size and audience. Consider the following factors when selecting a merchant payment gateway:

• Transaction success rate: Opt for a payment gateway that offers more than 95% transaction success rate, and for this, you should check the uptime and error logs of the platform during trials.
• Settlement speed: The ideal speed for cash flow is T + 1. Before you sign up, you should verify transaction cycles and batch limits, too, along with the settlement speed.
• Pricing and fees: Compare MDR of the platforms in consideration, ensure there are no hidden charges and look for desired compatibility in a payment gateway to evaluate options.
• Security and compliance: Confirm if the payment gateway you’re opting for is RBI authorized and holds a valid license before finalizing the service, as this is a critical juncture where all your transactions need to be combed for fraud detection too.
• Customer support: Your merchant payment gateway is like a partner you can rely on for support. So look for the ones that offer 24-hour support over email or phone and check reviews for better judgement.
• Supported payment methods: Make sure that the payment gateway supports methods that match your customer preferences perfectly to avoid any inconvenience to your client base.

As a merchant in the international markets, you are bound to face challenges like high fees, integration issues, fraud risks, and compliance burdens when using payment gateways without a proper selection process. Here are some of the most common hurdles merchants face:

• Downtime and failures: During peak hours, some payment gateways face a breakdown that leads to downtime and failures. That’s why you need a robust alternative like Xflow, a payment collection platform exclusively built for Indian businesses.
• Complex integrations: For a non-tech team, API setup can seem like a tedious process and can delay launches and maintenance of the platform.
• Slow settlements: You should prioritize merchant payment gateways that ensure settlements within T + 1 business days.
• Limited payment options: Some payment gateways can miss out on some payment methods that your customers prefer, and this can become a major cause behind card abandonments.

Merchant payment gateways are essential for secure e-commerce businesses as they enable diverse payment methods for your customers. They ensure that you receive your online payments via encrypted transactions, in less settlement time and with RBI-regulated safety. But if you are looking for an option that overcomes the challenges of merchant payment gateways, Xflow would be the perfect partner to scale your business internationally. 

​For effortless payments without payment gateway hassles, visit Xflow’s site today!