By Karen Roberts
Head of Enterprise Products, Paya Inc.
Independent software vendors, or ISVs, have been among the most influential parties in the payments landscape this decade. Many ISVs that have experienced rapid growth in their payment program might consider becoming Payment Facilitators, also known as Payfacs.
What is a Payfac?
Payfacs owns the entire payment process for its customers, from sales to merchants to customer support and everything in between. Before embarking on this model, it is essential that ISVs understand key payment processing terms. Here are the important terms to know:
Payfac Terms to Know
Payment facilitator. A payment facilitator is a company (usually an ISV) that allows its users to accept payments through their software using their infrastructure. Payment facilitators (acting as the master merchant) control the onboarding process for their customers, called sub-merchants. Payfacs is responsible for managing all aspects of the transaction flow.
Managed Payment Facilitator. Also known as payfac-as-a-service, this model allows software vendors to leverage all the benefits of the program without any cost or risk. The payment provider bears the burdens and costs associated with becoming a facilitator, while the software provider can offer a white-label payment experience, including instant onboarding and automatic approvals.
Acquirer. Any financial institution or bank that processes card payments for a merchant is called an acquiring or acquiring bank. Under the payfac model, the acquiring bank will fund the payment facilitator through a primary merchant account for all sub-merchant credit card transactions.
Master Merchant. The primary merchant has an agreement with an acquirer that allows them to manage the onboarding process for sub-merchants and manage the lifecycle of payment transactions from authorization to funding. As a payfac, the ISV acts as the primary merchant.
Sub-merchant. Customers of payment facilitators (the customer base of an ISV) are called sub-merchants. All payments from a sub-merchant are processed by the primary merchant (the ISV). Although the sub-merchant does not need to complete a traditional merchant application, they will need to agree to terms and conditions regarding Know Your Customer (KYC) requirements, Anti-Money Laundering (AML) rules and the US Office of Foreign Assets Control. (OFAC).
Underwriting / Know Your Customer. Before onboarding a new sub-merchant, the payment facilitator must first complete the necessary underwriting to confirm that the sub-merchant is legitimate and poses no financial risk or threat to the payment facilitator. This is an important step because the payment facilitator is 100% responsible for the merchant risk. Underwriting is reviewed as part of a customer due diligence practice known as Know Your Customer (KYC), which refers to the guidelines that payment providers follow in order to understand who their customers are. customers and how they operate. This includes understanding the risk of money laundering or other financial crimes these customers may pose. For example, payment facilitators must validate that the sub-merchant is not on Mastercard’s MATCH (Member Alert to Control High-Risk Merchants) list, which is a database of merchants that have been terminated by other payment providers. Merchants may be on the MATCH list for several reasons, including but not limited to fraud, bankruptcy or insolvency, illegal transactions, excessive chargebacks, violation of credit card issuer standards or non-compliance with data security standards.
Chargeback. A chargeback occurs when a credit card transaction is charged back to the merchant after a sale has settled. Chargebacks are initiated by the card issuer on behalf of the cardholder. Typical cardholder disputes involve product delivery failure or product/service dissatisfaction. The merchant’s acquiring bank will charge the merchant a fee for retrieving the information, and if it determines that the chargeback is valid, there will be additional fees for the chargeback itself. The credit card company will directly refund the money to the customer and the merchant’s company checking account will be debited with the amount in dispute. Payment facilitators are responsible for managing the chargeback process and are liable for any fees or monetary losses resulting from chargebacks, as they are the primary merchant of record.
PCI DSS (Payment Card Industry Data Security Standards). The information security standard that applies to all organizations that handle cardholder data. Payfacs that store, transmit, or process cardholder data must undergo Level 1 PCI compliance validation.
sponsoring bank. A sponsor bank is a financial institution authorized to extend sponsorship to eligible institutions for various financial services such as payment facilitation.
Reservations. Temporary blocking of a portion of funds before settled transactions are deposited into a merchant’s bank account. Payment facilitators use reserves to minimize the risk of financial liability. Reserves are typically used for refunds, chargebacks, and Automated Clearing House (ACH) returns.
Regulations. The process of transferring funds from the cardholder’s account to the merchant’s account. The issuer routes the funds to the acquirer through the card networks (eg Visa, Mastercard or American Express). Once the acquirer receives the funds, the transaction amount, less any applicable fees, is deposited into the merchant’s account. Since the Payment Facilitator is the primary merchant of record, they receive all credit card settlements and are responsible for disbursing funds to their sub-merchants.
Issuing bank. The issuing bank, or issuer, is the financial institution that issues the credit or debit card. This institution is responsible for collecting payments from the cardholder and submitting them to the acquirer.
Payment processor. A payment processor is responsible for authorizing transactions and ensuring that funds are transferred to merchants. The payment processor acts as a liaison between the merchant and the card-issuing banks. Some payment processors also offer card processing devices, as well as other related services for PCI compliance, security, and customer support.
Whether you are looking to become a payment facilitator or want to learn more about facilitation alternatives such as payfac-as-a-service, turn to Paya to provide innovative payment solutions that enable our partners to generate exceptional business experiences. For more information on how Paya can help you provide payment capabilities to customers anywhere, anytime, click here.