ACH payments are probably more common than you realize. Find out what they are, how they work, and if they’re right for you.
Ever since we stopped trading spices, goats, or animal hides for goods or services, we’ve needed a safe way to store and transfer money from one person to another.
As technology continues to evolve, these methods will undoubtedly continue to change.
However, one tried and true method that has been around for years still persists: ACH transactions.
What are they? And can they benefit your business? Let’s find out.
What ACH means
First, let’s unravel the mystery behind the name.
ACH is an acronym that stands for Automated Clearing House. This electronic funds-transfer system is a network run by NACHA (National Automated Clearing House Association) .
There’s a good chance you have received an ACH payment and didn’t even know it.
In fact, over 24.7 billion debits and credits went out with a total value of $55.8 trillion (yes, with a T) in 2019 alone.
This is partially because ACH payments are so common. They’re frequently used for everyday payments, such as tax refunds, direct deposit payroll, tax or federal payments, and many other payment services.
Now that we understand the background, let’s take a closer look at what ACH payments are.
What an ACH payment is
By now, you probably recognize some of the everyday examples of ACH payments. But what are they, exactly?
ACH payments (also known as ACH transactions or ACH transfers) are bank-to-bank payments that take place electronically and only take place in the United States on the ACH network. This contrasts with other electronic payments like Visa that take place on their card networks and occur all over the world.
There are two primary types of ACH payments: Direct Payments and Direct Deposits.
Direct Payments: Businesses, organizations, or individuals can use an ACH direct payment to send money. Common examples if direct payments are using your bank’s online bill pay feature, such as Zelle. Venmo and other mobile payment apps also use the ACH network for sending payments or funds.
When a direct payment occurs, an ACH debit showing the name of the recipient will appear in the bank account of the person sending the funds. This will arrive as an ACH credit in the account of the recipient.
Direct Deposit: This is a transfer that’s more specific than just general payments. With ACH direct deposits, a business or government agency will transfer funds to a consumer. Paychecks, interest payments, and tax refunds are often sent in this way.
Keep reading to understand the process behind these payments.
How ACH payments work
As mentioned earlier, all of this financial activity takes place on the ACH network. This network basically lets one bank communicate with another bank safely, securely, and quickly.
It starts with the originator of the transfer (the entity sending the funds). Their bank, which is also known as the Originating Depository Financial Institution, or ODFI, initiates the transaction.
This transaction will be grouped together with other transactions, called batches. These batches get sent out at a specific time of the day that’s chosen by the bank.
The batch is received by an ACH operator from the originator’s bank. This operator sorts through the different transactions within this batch, and distributes each transaction to the intended recipient’s bank. These recipient banks are known as the Receiving Depository Financial Institution, or RDFI.
From there, the RDFI confirms the details, settles the transaction, and ends the process. The result? Within hours, money is transferred from one bank to another.
But how well do ACH transfers work? And why? We’ll talk about that next.
The advantages of an ACH transfer
The fact that ACH transfers are so common is itself evidence of how well they work, Afterall, they wouldn’t be used by millions of people and organizations every year if they were unreliable, slow, or difficult to use.
Here’s some of their advantages:
Simplicity: Because it’s an electronic transfer that’s relatively simple because only three parties are involved: the ODFI (originating bank), the ACH operator, and the RDFI (recipient’s bank). This is about half as many parties involved as credit card transactions, which you can see here.
Speed: Interestingly, the rules around them actually require them to be fast and easy. ACH debit transactions settle within one business day and ACH credit transactions settle within one to two business days according to the rules set out by NACHA.
Affordability: Depending on your bank and the type of transfer you use, ACH transfers can be either only a few dollars or possibly even free. This is especially attractive to businesses looking to cut costs, especially when you consider how traditional wire transfers can cost anywhere from $13 up to $75, depending on the destination.
With all of these advantages, are there any limitations or downsides? Yes. We’ll address those next.
The downsides of an ACH transfer
Even though they’re simple, fast, and affordable, there are still some drawbacks to consider with ACH payments. Here are the largest ones:
Transfer limitations: The amount of money you can transfer has a limit, which is imposed by the banks. The bank can also limit how many times transfers take place from your account. These might be daily, weekly, or monthly limits. However, these vary from bank to bank, so it might be worth it to shop around for the best bank for ACH transfers.
Timing limitations: Not every bank sends batches of transactions (known as “batching out”) at the same time. So if you need a payment sent by the next business day, it will need to be sent by that bank’s batching time. Otherwise, you’ll have to wait several days—a long time in this era of payment apps that can send things almost instantly.
Penalties: Depending on how many withdrawals take place in your account, you may face an excess withdrawal penalty. This happens when you go beyond the limit of six withdrawals per month from your savings to another bank.
There’s a reason ACH transfers are so common: they’re simple, fast, and affordable. However, it’s important to make sure you know your bank’s policies and rules to make sure your payments get sent on time.
Progressive Payment Solutions is all about empowering you with what you need to know to make the best decision for your business. Take a look at our blog to see how else you can save money, give yourself an advantage, or move your business forward.