What Are ACH Payments and How They Work

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Many people are unsure what the definition of ACH payments is. How does an ACH payment work? Is it possible to use an online ACH payment? The truth is, you’ve probably used this payment method a few times already without being aware of it. It is one of the most common types of transfers today, and there were over 30 billion ACH payments last year only. 

And if you are looking for an ACH payment definition, you’re in the right place. Here, you will learn all about this payment method, how to send or receive ACH payments, how to set up an ACH payment, and everything else you will need to know about this network. As well as why its popularity is growing by the day. 

What Is ACH?

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So, what are ACH payments? The ACH stands for Automated Clearing House, and it is an electronic network designed for moving funds between banks in the United States. But the entire idea did not originate in the U.S.

The first ACH model was created in the United Kingdom, and it was called BACS or Bankers’ Automated Clearing System. It started processing payments in 1968, and it changed its name later to Bacs Payment Schemes Limited. 

It wasn’t long before the same idea appeared in the U.S. In California, a group of banks was looking for a way to replace checks, and the first automated clearing house started working in 1972. It was operated by The Federal Reserve Bank of San Francisco. 

Today, the ACH network or ACH scheme is run by Nacha, which is National Automated Clearing House Association. 

What Are ACH Payments?

Now that you have a better idea of what ACH is, it is time to take a closer look at payments under this system. What is an ACH Payment? What does ACH payment mean? Since ACH is a network developed to automate transfers between banks, almost any type of bank-to-bank transfer can fall into this category. 

This means that there are two main categories of ACH payments you can find today: 

The term “direct deposit” covers a variety of payments. This includes payments from the government, businesses, and so on. And yes, payroll, government benefits, reimbursement for employees, refunds, taxes, and others are in this category. As for direct payments, these can be any type of payment by organizations or individuals. 

When it comes to direct payments, any type of payment can fall into this category. Paying your credit card bill, donating to someone’s campaign on GoFundMe, sending money to a family member, and so on. As long as you are using the bank’s mobile service to do that. 

As for direct deposits, these are payments from one agency to a consumer. 

What makes ACH payments different from other types is that they are completed via the ACH network. The bank won’t need to use other external card networks such as Mastercard or Visa. 

How Do ACH Payments Work?

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The question on everyone’s mind is: “How does ACH payment work?” This method means that a bank will transfer money to another bank electronically. No physical cash will be included. 

What is interesting about the method is that ACH payments are not instantaneous. Instead, these payments are processed on a daily basis. The entire system is based on a net settlement. 

This means that banks will calculate the difference (or collective total) of all completed transactions throughout the day. And this is something that will happen each day. This way, banks don’t need to worry about each individual transaction, but only about the daily difference between the credits and debits. 

After that, the only thing left to do is the settlement between banks based on the net position. In an example, it would look like this: two banks, A and B, are participating in the ACH network. 

Bank A pays $1,000 to bank B, and bank B pays $1,500 to bank A. This means that bank A needs to pay the difference only, which is $500 in this case. The rest will cancel out each other. 

In real-life situations, there are more than two banks included, which is why the system will use the multilateral net settlement instead. But the basic principle is the same. Regardless of how many banks are included, the system will try to “cancel out” all possible transactions before it moves to the settlement. 

As you can see, it simplifies the process, and it eliminates the need for huge piles of cash to move back and forth between banks. It is worth noting that all payments go through the U.S. Federal Reserve or the Clearing House Payments Company. 

The Clearing House Payments Company is a private business, and it’s owned by 24 largest commercial banks. The system is called Electronic Payments Network, and it is responsible for nearly half of all ACH payments in the United States. 

Different Types of ACH Payments

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To have a better understanding of what ACH Payments are, it is best to take a closer look at each of the individual types of payments available within this network. And as mentioned earlier, these two types are direct deposits and direct payments. 

Direct Deposits

Direct deposits or credit transactions are any type of transfer made from a government entity or a business. And the receiver of these payments is the consumer. This includes: 

This means that when you receive money, it is achieved through ACH direct deposit. On the other hand, if you plan on sending money, you will use an ACH direct payment. 

Direct Payments

Direct payments can be used by both businesses and individuals. You can pay your bills online using direct payments. Moreover, there are many apps that allow you to use ACH direct payments to send money, and it is a great option for sending funds to friends and family.

It is also worth noting that there are two types of direct payments. You can encounter ACH credit and ACH debit. These two are also known as push and pull payments. With the ACH credit, the funds are “pushed” from an account. 

The ACH debit is also known as pull payments, where the funds are “pulled” from the account. For example, setting up a payment system for paying bills will fall into the “push payments” category.

But if you want a recurring monthly system for paying a mortgage, it will be under the “pull payments” category. Naturally, you can also use a mobile ACH payment as well, which will only simplify the entire process. 

How Long Does It Take?

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One of the main downsides of the ACH network is that it isn’t instantaneous. You will need to wait a bit until you are able to receive your funds. And there is no way around it. Generally speaking, ACH payments can take around three or four business days. 

And there are several factors that will affect the processing time. Firstly, the bank would need to send each individual ACH request, ensure that there is enough money in the account for that transaction, and then wait for the other bank to receive the ACH card payment. 

In the majority of cases, this entire process and waiting for the confirmation would take around 48 hours. But as mentioned earlier, banks usually process these payments on a daily basis. There are those that process payments in batches (a couple of times per day), but it is not as common. 

This means that if you miss the time of the day when the bank is processing requests, you will need to wait an extra day for it to start the entire process. It is worth mentioning that in the past couple of years, more and more banks have been adding faster transfers. 

It is possible to get day-to-day transfers, and it is possible to receive money after 24 hours. Naturally, it will still depend on the cutoff for that day. But it doesn’t always have to be as long as four or five business days. 

Advantages and Disadvantages of ACH Payments

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There are many reasons why someone would opt for ACH payments. But the most important one is convenience. If you have recurring payments such as your bills or mortgage, it is always easier to set up an electronic payment method via the ACH network. 

The alternative would be writing a check and mailing it every single month. And the former process will save you a few bucks (you won’t need to pay for stamps). Since we are on the subject of saving money, these transfers are relatively cheap. There are banks that won’t charge this service at all, and even if they did, the fee would be a few dollars. And the alternative can be much more expensive. 

Another important thing is that the process is quite secure. You won’t need to worry about what-ifs since the system offers many layers of security. Additionally, even if it takes a couple of days for the transaction to be verified, it is still not too long of a period. 

Potential Disadvantages

Needless to say, the system is not perfect. There are downsides to using it as well. It isn’t rare to see a bank have a limit on how much money you can send using the ACH network. The limit might be related to each individual transaction or time period, and it can have daily, weekly, or monthly limits. It is also possible that the bank won’t allow international transfers. 

The next thing on the list is potential penalties. Since your savings account is governed by Federal Reserve Regulation D, it is possible to have limits on the number of transactions each month. And going over the limit can convert the savings account to a checking account. 

As mentioned prior, transfers can take a few days. And even if this is not a long period of time, it can still be a problem. Especially if you need to pay for something urgently. Just imagine trying to hit a due date for your bills to avoid late fees. Going for ACH payments online might not be the best option. 

And of course, ACH is not the ideal choice for international transfers. This means that you won’t be able to transfer money to and from any international bank account. 

How Do They Compare to Other Methods?

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Using the ACH network is far from being the only way to send money. And there are plenty of alternatives. Naturally, each has its own pros and cons, and choosing the best one is subjective. It is based on a specific situation, and what you’re trying to achieve at the moment.

EFT

EFT is a term often used interchangeably with ACH, but there are a few differences. Most notably, ACH is just one of many types of EFT. This term refers to Electronic Funds Transfer, and it includes wire transfers, eChecks, and ACH.

Wire Transfer

Wire transfer is available globally. If you want to send money (or receive) money from another country, this is one of the safest options. Using ACH would not be possible, and wire transfer is something many individuals and businesses use. 

The main downside when it comes to non-international transfers is that the fees can be quite high. Usually, it will cost you between $25 and $75 per transaction! Using the wire transfer also takes a lot longer than ACH. 

Wire transfer usually doesn’t have limitations when it comes to amounts, frequency, or location. In essence, ACH is better for smaller transactions within the country, while wire transfer is better for larger transactions, especially if they are international.

eCheck

If you are unaware, eCheck is a type of ACH, and it is also known as direct deposit. And these are known as pull payments. The main difference is that ACH is more versatile, and you can use it for many other options. As for eCheck, it is just one of many types of ACH available today. 

Other Payment Methods

If you are looking for ways to send money internationally, there are many different options you can take. Needless to say, they are all better than ACH since it doesn’t support international transfers. Keep in mind that the fees will be a lot higher, but the time will vary based on the platform of your choice. 

How To Set Up ACH Payments

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So, how to do an ACH payment? You will need a couple of details to make an ACH transfer. This includes: 

The next step on the list would be to choose between ACH debit and ACH credit. Before you are able to finalize the transfer, you might need to do a bit of paperwork. Some banks offer e-forms you can use, but there are those that still rely on physical copies. 

Keep in mind that if you are running a business, you will need to set up a plan that will allow you to accept ACH payments. You can do this through payment processing companies such as Stripe, Plaid, or PaySimple, and they will provide all the necessary tools you will need to complete the process. 

Is This the Right Choice For Your Business?

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One of many things you will need to decide if you are running a business is if ACH payments are the right thing for you. The first thing you should know is that ACH transfers are not free for businesses. 

There is a fee per transaction, as well as an annual fee that will allow you to be a part of the network. The fee per transaction is $0.000185, while the annual one is $264. As you can see, the transaction fees are not too high, and it is a significantly better option than wire transfers. 

The processing time can also be a lot faster, and you won’t need to wait too long to receive your funds. The method is both convenient and secure, and it’s perfect for those that offer recurring transactions. It is beneficial for both businesses and consumers, and it is one of the best options you can find today. 

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