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How Does PayPal Work? A Complete Explanation

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How Does PayPal Work? A Complete Explanation

For as long as many of us can remember, PayPal has been at the forefront of the digital payment experience.

With more than 400 million users as of 2022, PayPal is one of the best ways to send or receive payments when using online auction sites like eBay, exchanging cash with someone for performed work, or when making and receiving cash donations. As long as two parties have an email address, you can use PayPal to exchange funds. 

Thanks to its ease of use, strong international presence, and support for services like eBay, PayPal has grown into a behemoth. If you’re thinking about using PayPal or just want to know more about how it works, this helpful guide will tell you everything you need to know about this digital payment giant. 

What is PayPal? 

Well-known as the leading digital payment platform around the world, PayPal is the place to go for any time you want to send, spend, or manage your money. Headquartered in San Jose, California, PayPal was founded in 1998 by Max Levchin, Peter Thiel, and Luke Nosek. Two years later, PayPal would purchase X.com, founded by another famous name, Elon Musk

PayPal would go public in 2001 only to be purchased by eBay in 2002. From 2002 to 2014, PayPal operated as a subsidiary of eBay and was the confirmed payment method for more than 25% of all eBay auctions during this period. PayPal would eventually get spun off from eBay in 2014 as a publicly traded company only to completely break itself away from eBay around 2021. 

Today, PayPal operates in more than 200 countries and supports more than 100 different payment currencies. PayPal even has its own dedicated typeface known as PayPal Sans. 

How Does PayPal Work? 

Anytime you use PayPal, it is acting as a middle person between you and your bank. Anyone who uses PayPal will need to have some type of credit/debit card or bank account associated with the system in order to not only make payments but also receive payments as well. In this case, anytime money is exchanged, it’s handled by PayPal directly and not your bank. It’s important to note that you don’t need a bank account to receive money in a PayPal account but to send money to friends and family or for online purchases, PayPal will ask for some form of a bank account. 

Why Use PayPal? 

This is a great question and you might be wondering why you need something like PayPal to act as a middle person between you and your bank. Let’s talk about some of the good reasons to use PayPal.

Security and Privacy 

The most immediate point in favor of PayPal is that it adds an increased level of protection. Whenever you use PayPal to process a payment on eBay, the other party never sees your form of payment. They only know that you made a payment through PayPal and so all of your banking and credit card information is securely kept away from the merchant or vendor. 

Convenience 

As the fifth most accepted payment option online behind Visa, Mastercard, Discover, and American Express, PayPal is accepted by more than 34 million different merchants. Instead of needing to always have a bank account or credit card handy when you want to make an online purchase, you can just pay through PayPal which already has all of your banking payment information. 

Companies like Foot Locker, Macy’s, Bloomingdale’s, Big Lots, and more have all made a point to use PayPal to better enhance their in-store purchase experience so customers have a broad variety of payment options at the point of purchase. 

Buyer Protection

One of the best aspects of using PayPal is that it provides buyers with its Buyer Protection program for payments. This is especially useful when you make purchases on platforms like eBay where an item you purchased may not match the description or it shows up defective or damaged. Because of PayPal’s highly regarded Buyer Protection program, online shoppers can shop with confidence without fear that they may lose out on money in the event an online transaction goes poorly. 

Is PayPal Free to Use? 

As a publicly traded company that looks to have a profit at the end of every year, PayPal is undoubtedly going to need to make money somewhere. Because of that, fees for various PayPal transaction types are not uncommon.

PayPal is not the only online digital payment to require fees for certain types of transactions so there is nothing outrageous about any type of fees. While consumers will of course want lower fees, these fees allow PayPal to continue to be a thriving digital payment system. 

Transaction TypesFees
Shopping with PayPal OnlineFree
Selling with PayPal3.49%
Receiving DonationsU.S. = 2.89%
International = 4.39%
Sending Friends/Family MoneyUsing PayPal balance/bank account = 2.90% 
Using Credit Card = varies based on currency
Withdrawing Money Out of PayPalFree when no currency conversionInstant bank account transfer = 1.50% of total amount up to $25,000
Instant credit card transfer = 1.50% of total amount up to $5,000
Paper check = $1.50 
Merchant Invoicing3.49%
PayPal Checkout (for Merchants) 3.49%
Send/Receive Money for Goods and Services (Merchants) 2.89%
In-Store Payments2.7% using PayPal Cashback Mastercard

How to Create a PayPal Account

Creating an Account

Creating a PayPal account is very easy and you should be up and running within a matter of minutes. 

  1. Start by going to PayPal.com or by downloading the PayPal app from either the Apple App Store or Android Play Store. 
  2. At the very top right of the screen on a web browser, you can look for the giant blue button that says Sign Up. 
  3. When you click on Sign Up, you have the option of choosing either a Personal or Business Account. Most people reading this article will likely want to click on Personal
  4. The next step will likely ask you to add a phone number as a first step toward verifying your account information. You’ll then receive a text message with a security code you can enter on the screen. 
  5. As soon as you verify with a phone number, you’ll need to enter your legal first and last name, plus an email address and a password. As there are payment transactions taking place within PayPal, a more secure password than Password123 is highly recommended. Your email address will also be verified through an email from PayPal asking you to verify receipt of the email so you can begin using PayPal. 
  6. PayPal will also ask for some more details about yourself including your date of birth, home (or business) address, as well as contact details. These details should match any information that is available on any government-issued identification. 
paypal desktop website
All you need to do to sign up for PayPal is head over to the website, click Sign Up, and follow the simple prompts!

Adding Your Payment Type

The final step in creating a PayPal account is to enter some type of credit, debit, or bank account information so you can start shopping online, send or receive money or make and receive donations, etc. 

  • It’s important to know that when you use a credit card with various card perks, you will not lose out on these benefits. This includes perks like reward points, cash-back bonuses, and miles. 
  • There is no trick to adding either credit/debit card or bank account info. It’s very straightforward and PayPal will walk you through everything including adding an account and routing number for a checking account. 

How Do You Send a PayPal Payment?

To send money from PayPal, there are several different methods you can use to initiate a payment. This could include things like sending your part of the rent to a roommate or payment for a sofa you bought from a neighbor. 

  1. Within your PayPal account, locate the giant yellow Send button. 
  2. Now enter the relevant PayPal username, the receiving party’s email address or phone number.
  3. The next step is to enter the amount you want to send and whether you want to add a message around what the money is for, etc. 
  4. The final step is to choose whether the payment is for Friends and Family or if it’s for some type of Goods and Services. This is an important selection as the latter will trigger a fee that the recipient has to pay while the former does not include a fee. 
paypal credit cards visa mastercard payment methods
PayPal makes it even easier to send a payment.

How Do You Receive a PayPal Payment?

Receiving a payment from PayPal is as easy as someone following the steps above to send you a payment. Alternatively, you can request a payment using the steps below. 

  1. From within the PayPal platform, locate the giant yellow Request button. 
  2. With the next step, you can add in the email address of the phone number of the person you are looking to receive payment from. 
  • Instead of a phone number or email address, you can also look to create a PayPayl.Me link to share with multiple people. 
  • You can choose the Split a bill option if you want to send a bunch of friends a note to remind them to pay their part of a meal. 
  • Choosing Create an invoice lets you send an invoice to a business or merchant that you have done work for.
  1. As soon as a payment is sent, you will receive a notification through email as well as through the PayPal app on either Android or iOS. 
  2. When a payment is received, it sits in your PayPal account where you then have the choice to transfer it into a bank account or use it for future online purchases. 

PayPal Credit Cards

One final way of utilizing PayPal and taking advantage of its best possible perk system is to sign up and use one of the three available PayPal credit cards. 

The PayPal Cashback Mastercard offers users an unlimited 3% cashback rate on any PayPal purchase and unlimited 2% cash back on all other purchases without any annual fee. 

PayPal also offers its customers the opportunity to use PayPal Credit which serves as a reusable credit line to shop anywhere PayPal is accepted online. There is no physical card issued and it does not have any fees. 

The PayPal Extras Mastercard is separate from the cash-back card and instead focuses on earning points that can be exchanged for gift cards, cash back, travel vouchers, or merchandise. Any gas station or restaurant purchase earns three points for every dollar spent, every eBay purchase using PayPal earns two points and one point is earned for all other Mastercard purchases. 

Final Thoughts

PayPal has long been a household name as a digital payment platform and for very good reason.

While many people may know it from making an eBay purchase, PayPal’s reach goes well beyond eBay with support in more than 200 countries and through 100 different currency options. Competitors like Venmo, a PayPal-owned property, have started to cross into PayPal’s space little by little, all while offering something a little different.

For now and well into the foreseeable future, PayPal’s digital payment lead is in no danger and, if anything, will continue to grow and become more and more available around the web.

Frequently Asked Questions

What is PayPal’s digital payment processing market share?

In the online payment industry, PayPal accounts for 43.85% of all online payments. The closest competitor to PayPal is Stripe, which only handles 20.33% of all online digital payment transactions. 

What are the downsides to using PayPal?

The biggest complaint around PayPal has always been its online fees, especially when selecting a payment option such as Goods and Services. The other downside is if you lose your smartphone, someone can easily access your PayPal app and do something malicious. 

How many transactions does PayPal process every day?

As the fifth largest online payment system, PayPal processes more than 41 million transactions every day around the world. 

What percentage of online transactions in the U.S. are handled through PayPal?

As of 2022, PayPal accounts for more than 22% of all digital payment transactions handled online every year. 

How many transactions will a PayPal user undertake on average per year?

As of 2021, the average number of PayPal transactions handled per user per year is around 45 different separate PayPal purchases. That’s a 12.5% increase from 2020. 

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