Looking to push forward as an innovator and bring the digital wallet to smartphones everywhere, Google Inc. has plans to team up with MasterCard and Citigroup to complete the use of Near-Field Communication for financial transactions—the technology, already embedded in Android phones and enabled through recent OS updates, will revolutionize contact-less point-of-sale payments.

And, according to an article in the Wall Street Journal, it would also enable retailers to target advertisements with greater precision. For the moment, though, it’ll be good to just see it take the field:

The project, which is in its early stages, would allow holders of Citigroup-issued debit and credit cards to pay for purchases by activating a mobile-payment application developed for one current model and many coming models of Android phones. The idea is to turn the phones into a kind of electronic wallet.

These phone users also would be able to get targeted ads or discount offers, which Google hopes to sell to local merchants. They also could manage credit-card accounts and track spending through an application on their smartphone, the people said.

The venture also involves VeriFone Systems Inc., which makes credit-card readers for cash registers. VeriFone would roll out more so-called contact-less devices, or readers that enable consumers to pay with a wave or tap of a credit or debit card. The readers also would allow people to pay by tapping their smartphones, said the people familiar with the matter.

We have heard that Google meant to start testing NFC soon, this might among be the very first handshakes that make that happen.

The deal with MasterCard, Citigroup, and VeriFone would forget the first few alliances between Google, financial institutions, and the makers of point-of-sale hardware to put NFC into the wild where it will be encountered by smartphone users. This is the first step towards making smartphones into actual digital wallets, putting not just user’s finances at their fingertips with mobile banking, but allowing them to immediately understand their situation while they’re making purchases.

Amid roll-outs of this new technology, privacy fears have been sparked. As with RFID chips embedded in credit-cards the wireless nature of the transaction has lead some to become wary of what kind of information is being broadcast and how it might be picked up by nefarious parties. However, unlike RFID chips in cards a phone is aware of when its NFC is accessed (and the phone’s owner will know as well) and the secret being transferred over the airwaves contains no personally identifying information.

Better: unlike an RFID chip, the secret in the phone can be changed if the original is compromised.

“Because it’s contact-less there’s a perception people can grab it from thin air, but it’s actually a more sophisticated technology than credit cards with a magnetic stripe, making it more difficult to steal a consumer’s payment information,” said Nick Holland, a mobile-transactions analyst at Yankee Group.

The other side of the privacy coin, of course, isn’t about strangers and identity theft it’s about the struggle between retailers and customers.

Google’s move is part of its quest to sell ads and other services to local retailers, a growth frontier for Internet companies. Google executives, including outgoing Chief Executive Eric Schmidt, haven’t been shy about saying that Android devices could serve as payment facilitators, thanks to NFC technology, though they haven’t specified what Google’s role will be.

“A phone is a lot smarter than a card,” said Doug Bergeron, VeriFone’s chief executive, in an interview. “It opens the door to a rich experience at the point of sale that retailers really covet.”

Google and others have a huge market to be made by giving retailers on-the-spot ability to deliver advertisements to customers who are making payments with smartphones. If they already have their phone out in order to the transaction, they’re already looking at the screen to verify and accept the purchase. It’s also a perfect time to offer a coupon to bring them back to the store for their next purchase.

Many retailers, especially grocery stores, already offer coupons based on what the customer bought or previously bought. In fact, the creation of those somewhat annoyingly ubiquitous discount-cards for tracking customer spending became the crux of this sort of marketing. It’s been a giant boon for grocery store chains to track customer spending habits and better tailor coupons and ads to them. Google, one of the world’s largest mass-advertisers who base their ads on being able to target to user behavior, would love to get in on a slice of that pie.

Likely we will see a constellation of NFC apps that give bare-bones capability to transact alongside branded, gimmick apps that also roll-up coupons, tie them into shopping lists, and advertisements. I expect them to start to interact with location-based advertising as well.

MasterCard and Citigroup represent the first leg into making our smartphones do a lot more work for us and enabling consumers a great deal more immediate-knowledge of their financial situation. For better or worse, smartphones are personal augmentation that not only extend our ability to interact but track our financial lives.