Online payment options challenge traditional merchant accounts
By Jay MacDonald • Bankrate.com

If you want to enjoy a relaxing stay at the Eagle Point Inn on Washington's scenic Olympic Peninsula, bring your fly rod, your hip waders and your checkbook. Proprietors Chris and Dan Christensen don't take American Express. In fact, they don't take any credit cards.

"With three rooms, being so small, it just didn't make sense for us to pay the percentage and deal with all the paperwork," says Chris. "If somebody gets stuck, they just run to the cash machine. We've never had any complaints."

For years, the Christensens and similar entrepreneurs have been the smallest kids in the merchant account sandbox: either play by the big bank's rules or don't play at all. That meant paying higher discount rates, per-transaction fees, monthly maintenance tabs, and sometimes-exorbitant lease rates on point-of-sale terminals all for the privilege of taking payment in plastic.

That bleak scenario finally may be changing, thanks in part to the emergence of, and competition from, fast and secure online credit card payment services. Increasingly, small and home offices, as well as micro-enterprises, are turning to virtual payment processing vendors as a quick, cost-effective alternative to traditional merchant accounts.

No one is expecting credit card associations and the banking industry to suddenly give up what has been a very lucrative hold on credit card processing. But you can beat merchant account rates now, and there may be hope for scalable, affordable processing in the future.

Power to the people
If this all sounds like a populist uprising, it is -- sort of.

The advent of the personal computer begat the online auction industry which begat a need to take credit cards in real time over the Internet, just as mail and telephone order businesses have done for two decades. Without a credit card, person-to-person (P2P) payment was just too cumbersome on the 'Net.

To fill this need, dozens of e-payment providers sprang up. Some, such as Citibank's c2it and Bank One's eMoneyMail were developed by banks looking to provide another payment channel for their customers. Others, including PayPal, Billpoint and Western Union's MoneyZap, were more aggressively marketed to serious Web heads.

Most involve a two-step process. First, the payer funds the transaction with his credit card to the middleman, who verifies the payer's card, sets the transaction in motion, and notifies the payee via e-mail that money is waiting. Then when you, as payee, identify yourself to collect your money, you become an account holder, part of the viral marketing that has helped build the new payment channels. PayPal is processing 200,000 transactions a day, a daily volume of $10 million, on behalf of its 9.5 million members, half of which are credit-card based.

What all of these payment middlemen soon found was that their P2P systems were drawing micro-entrepreneurs who immediately recognized a way to accept credit cards without all the hassles and fees of getting a true merchant account.

If you think the banking industry is closely watching all of this, you're right. Some are even backing a horse just to be in the race, as is the case with Wells Fargo and Billpoint.

E-commerce dance
It has created an interesting little e-minuet.

The card companies welcome the additional volume but don't like the risk. The banks welcome the payment channel but don't want to lose their merchant account monopoly. And the online payment services want to make nice with everybody, especially the banks.

Vince Sollitto, vice president for corporate communications at PayPal, dances lightly around the merchant account issue.

"I think many people in the banking industry are trying to view this as some sort of competitive threat to traditional bank merchant accounts for businesses. What we're really doing is, we're taking a market that has either been underserved or overcharged and addressing it," he says.

"We are fulfilling a need that has existed and not been met. It's not as if we are replacing accounts for existing businesses. What we're really doing is enabling e-commerce, enabling entrepreneurship, for small businesses that are almost micro-businesses."

John Hall, spokesman for the American Bankers Association, is equally adroit on the subject.

"The fact that banks are exploring and partnering with P2P payments shows that they're taking this payment mechanism seriously," says Hall. "Banks are in the business of creating convenient payment mechanisms for their customers. P2P will be one of those. It won't replace one, it will merely be yet another option.

"Banks have let the market shake out the shaky players and identify the best in class, and the regulators in Congress have done the same, which I think the marketplace should be grateful for. I think by the banking system coming into the market, you'll see a much safer and secure environment as well."

The dusty road ahead
It's a polite dance -- for now. Expect the tempo to pick up as e-commerce, currently two percent of total credit card volume, continues to grow.

Steve Dieringer, vice president of interactive delivery services for Bank One, thinks it's high time the credit card industry looks at the changing scale of small business today.

"What's the difference between me as an individual and me as a micro-businessperson selling baseball caps on eBay? The volume of sales? The type of business I'm in?" he asks.

"My guess is, PayPal is really more consumer-to-business than it is P2P, if you look at the dollar volume and the number of transactions. It's really a merchant account substitute for very small businesses or those considered too risky."

Dieringer says even the hint of competition in the merchant account field is good news for SOHO and small businesses hoping to one day take plastic. At the very least, it has already shortened the approval and set-up time from a month or more to a matter of minutes, thanks to automated underwriting techniques advanced by the online players.

Until the dust settles, he predicts marginally better processing offers online.

"Your smaller merchants would probably be paying minimum 2.5 and closer to 3 percent. If you've got a merchant account, why not accept through PayPal and save some cost?" he asks.

Once he gets the new version of eMoneyMail launched this fall, Dieringer hopes to explore a new product that may pull SOHOs out of the sandbox for good: a personal merchant account.

"It's just a matter of bringing the merchant business into the 21st century," he says.

Jay MacDonald is a contributing editor based in Florida.

-- Posted: Oct. 8, 2001