Tokenization is the switching of sensitive data with unique identification symbols that still hold all the crucial information about said data without comprising its safety. Tokenization is becoming a popular method among small and midsize businesses to not only increase the security of credit card and e-commerce transactions but also minimize the cost and complexity that comes with complying to industry standards and government regulations.
Tokenization is becoming a popular method among small and midsize businesses to not only increase the security of credit card and e-commerce transactions but also minimize the cost and complexity that comes with complying with industry standards and government regulations.
Tokenization is a process that protects credit card data, bank account information, and other sensitive data handled by a payment processor. Payment processors use tokenization to secure credit card information in the following cases:
- mobile wallets like Apple Pay and Android Pay
- e-commerce sites
- businesses that store customer credit card information
How does tokenization work?
Tokenization replaces private information with public, nonsensitive information. This replacement information is called a token. There are several ways to create tokens:
- Use a cryptographic function that is reversible with a key.
- Use a nonreversible function, like a hash function.
- Use an indexing function or random number generator.
The token becomes the exposed information as a result, and the sensitive information that corresponds to the token is stored safely in a centralized server known as a token vault. The only place where one can map back original information from its corresponding token is token vaults are used for storage in some cases of tokenization.
Instead of storing sensitive vaultless tokens use an algorithm instead which makes things more convenient. If the token is reversible, then the original sensitive information isn’t stored in a vault. For example, the customer’s payment information is entered into a point-of-sale (POS) system or online checkout form. This data is replaced with a randomly generated token, which is usually created by the merchant’s payment gateway.
The tokenized information is then encrypted and sent to a payment processor. The original sensitive payment info is stored in what’s called a “token vault.” This is the only place where a token can be mapped to the information it represents. The encrypted tokenized info is sent for final verification by the payment processor.
Tokenization and Payment Card Industry
To be PCI(Payment Card Industry) compliant, retailers are not allowed to store credit card numbers on their POS terminal or in their databases after a transaction. They must either install expensive end-to-end encryption systems or outsource payment processing to a service provider that offers tokenization.
The service provider issues the merchant a driver that converts credit card numbers into randomly generated values, also known as tokens. In this case, the service provider is responsible for keeping the consumer’s data private and secure.
The token used in this process is not a primary account number (PAN), so it can only be utilized during a singular transaction with a specified merchant. As an example, when using a credit card the token would contain the last four digits of the actual card number. The remainder of the tokens would be made up of alphanumeric characters that signify information regarding the cardholder and data exclusive to the current transaction.
The various benefits of Tokenization
Tokenization makes it significantly more difficult for hackers to access cardholder information, unlike older systems where credit card numbers were simply stored in databases and freely exchanged over networks.
It is more compatible with legacy systems than encryption, uses fewer resources than encryption, and reduces the risk of data breaches. It also makes the payment industry more convenient by propelling new technologies like mobile wallets and one-click payments, which in turn enhances customer trust. Finally, it reduces the steps involved in complying with PCI DSS regulations for merchants.
Tokenization is the process of substituting a physical or digital token for an asset. This concept has existed since ancient times when people would use coin tokens as a replacement for actual coins and banknotes. For example, subway tokens and casino chips are both examples of tokenization because they can be used in place of actual money.
Tokenization has been present since the 1970s as a method of storing data. In more recent times, it has seen use in the payment industry as a way to protect cardholder information and adhere to organization standards. TrustCommerce is credited with bringing tokenization into fruition in 2001 for payment protection purposes.
Types of tokens
There is no one way to categorize tokens since there are many different types. However, the Securities and Exchange Commission (SEC) and Swiss Financial Market Supervisory Authority (FINMA) have three primary ways of classifying them. The methods differ based on how closely the token resembles the real-world asset it represents.
Different types of tokens include asset or security tokens, which are similar to bonds and equities. These promise a beneficial return on investment. Utility tokens serve a purpose other than payment, such as access to a product platform or future services offered by the company that created them. Currency or Payment tokens’ main function is typically paying for items external to the original platform they exist on.
In the context of payments, there is a crucial distinction between high- and low-value tokens. High-value tokens take the place of primary account numbers in a transaction and are used to finalize the purchase. Low-value tokens also replace primary account numbers but cannot be used to complete a transaction.
Tokenization vs. Encryption
There are two different cryptographic methods used for data security: digital tokenization and encryption. The main difference between the two is that with encryption, both the length and data type of the protected information are changed, while with tokenization, only the length is changed. This makes encrypted messages unreadable to anyone without a key.
Tokenization is different from encryption in that it cannot be decrypted with a key. Rather, tokenization uses non-decryptable information to represent confidential data. Although encryption has been the preferred method of data security in the past, tokenization is now being seen as a more secure and cost-effective option. That said, both encryption and tokenization are often used together.
Blockchain and Tokenization
Tokenization on the blockchain is the process of creating a digital asset, also called a security or utility token. These tokens are used to represent real-world assets and can be traded like cryptocurrencies. In traditional finance, institutions such as banks are responsible for verifying the accuracy of ledgers. However, with blockchain technology, this task is decentralized among network participants.
In a blockchain-based or token economy, power and responsibility are decentralized among individuals as the integrity of transactions is verified through cryptography. This works because cryptocurrency tokens are interconnected in a digital asset called a blockchain, which allows the digital asset to be linked back to tangible world assets.
A key feature of blockchains is that they provide an immutable, tamper-proof record of transactions. This means that each new set of transactions, or blocks in the chain, relies on the others in the chain for verification. Therefore, a tokenized asset in a blockchain can eventually be traced back to the real-world asset it represents by those authorized to do so while still remaining secure.