How credit cards work

Magnetic stripe, point of sale terminals, processing

By Jeremy Simon

Ever wondered how a credit card works?  

The key element of what most of us know as a credit card is the black line that runs along the reverse side of the card, which is called the magnetic stripe.  The magnetic stripe, as its names suggests, contains magnetic ingredients -- small magnetic particles that are embedded in the plastic.  The magnetic particles are incredibly tiny, with each less that 20 millionths of an inch in length.  What data is stored is based on the orientation of each magnetic particle.

Magnetic stripe: Three tracks
The credit card's magnetic stripe contains three tracks of data. Each track is about one-tenth of an inch wide.  The first and second tracks in the magnetic stripe are encoded with information about the cardholder's account, such as their credit card number, full name, the card's expiration date and the country code.  Additional information can be stored in the third track.

With the new generation of credit cards, such as contactless cards, no magnetic stripe is needed.  Contactless credit cards contain technology that allows the card to be used simply by tapping or holding it near a contactless card reader.  With smart-chip technology, additional information (such as frequent shopper discounts) can be stored on the credit card. 

No matter how the credit card stores data, a device is needed to read and process the information.  At retail stores, that most often comes in the form of the point-of-sale terminal -- generally a device with a magnetic stripe reader, and sometimes a signature capture pad.

Card information sent
A swipe of the credit card through the terminal sends the customer's card information to the bank that handles the credit card transaction, known as the acquirer, via a dial-up modem phone connection or a dedicated network connection.

The acquirer's computers than use the transmitted information to verify that the cardholder's account is in good standing and has sufficient credit to cover the purchase.  If approved, the acquirer sends an authorization response.  If the transaction is declined, the acquirer provides a reason code.

Other credit card processing methods exist that do not need the physical credit card to be present, but all use the same process of contacting the acquirer.  One method involves a phone system that calls a specified phone number and dials in necessary information for the charge, including the credit card number, expiration date and the amount of the purchase. Another option is the virtual terminal, which allows the transaction to be completed over a Web site interface.  These two processing methods are particularly useful for businesses that do not come into direct personal contact with their customers, such as online and mail order stores.

Published: March 30, 2007

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