Transaction Flow Explained: Step-by-Step Process

In the simplest of terms, a transaction flow is the journey a payment takes from start to approval to settlement. An electronic transaction flow is the journey an electronic purchase follows from a customer to a merchant’s bank account. Any time a person buys something using a credit card, it follows a stream or transaction flow, passing through many players before the payment is settled. Understanding this process may help merchants get a clearer perspective and the importance of batch deposits, the risks of chargebacks, and the length of time it takes for funds from transactions to become available into their account.

Despite the common perception that financial transactions like credit card payments take a significant amount of time to be approved, modern technology and advancements in financial systems have made it possible for even complex transactions to be approved within mere seconds. This is made possible through processes such as real-time payment systems and artificial intelligence (AI) algorithms, which analyze millions of data points to quickly assess the risk and legitimacy of each transaction. Additionally, the use of electronic signatures and paperless documentation has further expedited the approval process while reducing costs associated with traditional paper-based methods. While this speed may seem surprising, it reflects the power of modern technology and its ability to enhance efficiency in various areas of our lives, including finance.

When a credit or debit card is swiped, there are several parties involved in the transaction. The first party is the customer or cardholder that makes the purchase electronically or on site. The second partaker is of course the merchant who accepts the payment. Once the card is swiped, the merchant’s bank or payment processing company and the customer´s bank (or issuing bank) participate in the process. Another key player are card associations such as Visa or MasterCard Once who set policies and connect issuing and merchant banks or payment processors. Throughout this process, security measures are put into place by all parties involved to protect against fraud or unauthorized transactions.

Payment Transaction Flow

A typical payment transaction flow includes 8 steps. Following, we briefly explain what these steps are: 

Step 1: A customer/cardholder chooses an item and then presents a credit card to the merchant to purchase it.

Step 2: After the card is swiped, the merchant’s acquiring bank requests an electronic authorization from the cardholder’s bank account, so it can be verified that the funds are available.

Step 3: The electronic authorization, then, passes through the payment processing networks.

Step 4: Based on fund availability, the credit card-issuing bank will either approve or decline the transaction. The information, including the approval code for the transaction, is based back to the networks, the acquiring bank, and then, finally delivers it to the merchant’s point-of-sale machine or card reader.

Step 5: The credit card issuing bank transfers the money to the acquiring bank as a reimbursement for the item the customer just bought.

Step 6: The acquiring bank deposits the funds into the merchant’s account. A fee may be charged for this transaction. 

Step 7: The credit card-issuing bank bills the customer for the purchase made.

Step 8: The customer pays his/her credit card bill for the purchase that was made.

The funds flow like this for every credit card transaction around the world. 

Transaction Flow Example

There is no better way to understand something than through an example. We will therefore show you a real example that can help explain the transaction flow cycle. Jane is a typical customer who walks into a retail store and buys $75 worth of clothing. She brings her goods to the counter and then, the merchant’s clerk instructs her to swipe or insert her payment card, using the terminal or Point-of-Sales (POS) terminal as it is called. Once her credit card is entered, her card information is captured and a request for authorization is transmitted to Jane’s bank to verify that she has enough funds to cover the $75 cost of the clothing. If the funds are available, the merchant’s terminal gets a response, noting the purchase is approved or declined. If the transaction is declined, a response code, which indicates the reason for the denial, is sent. If it is approved, $75 is authorized to be deducted from Jane’s account. Then, the acquirer deposits the funds minus its agreed-upon fee percentage to the merchant’s account.

In a way, batch and real-time processing also are part of the transaction cycle. The biggest difference between batch and real-time is how long it takes for transactions to be made available to the receiver or merchant. Batch processing is a cost-effective method of high-volume transaction processing, however, there is always a time lag between the point it occurs and when it actually shows up in the merchant’s account. Therefore, though a transaction has already been approved, it may take a day or two to show up in a merchant’s account.

Real-time systems process transactions individually at the moment or almost close to the moment an event occurs. Since there is no wait to batch transactions, there is no delay between the transaction occurrence and the recording of it into the merchant’s account. The funds show up in a merchant’s account within seconds.