What Is an ACH Payment? How ACH Payments Work

An Automated Clearing House (ACH) payment is an electronic funds transfer (EFT) between two bank accounts, which the ACH network coordinates. The National Automated Clearing House Association (Nacha) sets the guidelines for ACH transfers and oversees the payment network, which is only for bank-to-bank payments in the United States. Financial institutions that receive or transmit ACH payments pay an annual processing fee to cover the costs of sustaining the ACH network.

There are two types of ACH payments: direct deposits and direct payments. Each of these categories includes a wide range of transfers. For example, direct deposits include payroll, government benefits like social security, and interest payments. Direct payments include any transfer that an individual or organization initiates. For example, paying a bill online is a type of direct payment.

For businesses and individuals, ACH payments provide numerous benefits that can help organize day-to-day finances and operations, including:

1. 1. Convenience: With ACH payments, business owners don’t have to deal with the hassle of manually reviewing and mailing checks. Instead, you can set up recurring, real-time transfers to pay your bills on time and make business-to-business (B2B) sales transactions simple. Individuals can do the same by setting up ACH payments with their checking or savings account to make recurring payments, such as mortgage fees and utility bills. ACH payments are also great for companies that use a subscription-based model, as customers can automatically pay their fees each month.
2. 2. Cost: ACH payments are a more cost-effective option than wire transfers: Many institutions offer the service for free or at a relatively minimal cost.
3. 3. Relative security: ACH payments are a relatively more secure form of payment than paper checks, which are more vulnerable to fraud. While no form of financial transaction is unfailing, it may be easier to detect fraud or illegal activity with ACH payments due to the required information for all transactions.
4. 4. Time: ACH payments are processed faster than payments sent by mail. When initiated correctly, ACH payment processing can take about three business days to process and appear in a bank account. However, recent changes in Nacha rules allow same-day ACH transfer of funds as well.

There are some limitations with this payment system:

1. 1. Fund limits: There are daily, weekly, and monthly limits on ACH transfers, depending on the bank. Banks and credit unions can set their own limits on how much money you can transfer through an ACH payment.
2. 2. Penalties: If you use a savings account instead of a checking account to set up ACH payments for recurring bills, then your bank may assess penalty fees for recurring withdrawals. Some savings accounts have a limit on the number of withdrawals you can make within a given time frame, so review your account policy before setting up recurring ACH payments. Similarly, ACH payments are withdrawn from your account regardless of whether you have sufficient funds, which can result in overdraft fees.
3. 3. Geographic limitations: ACH payments are only available in the US, so businesses cannot use this payment network to send funds to international suppliers or partners. Other payment options and service providers are available for international transfers, but these networks may have higher transaction fees.

Here’s a look at how ACH payments work:

• The account holder sets up the payment. For processing payments through the ACH system, you need to provide your full name, bank account number, routing number, account type, and transaction amount. To set up an ACH payment between two accounts, the account holders must exchange banking information.
• Choose the ACH payment method. When setting up an ACH transaction, you need to select one of two payment methods: ACH credit or ACH debit. Sending an ACH credit payment authorizes your bank to transfer funds to a payee, which protects your bank information, minimizing digital risk. ACH debit transactions require the payer to set the payment up with the payee, which means you’ll have to disclose your banking information, increasing your digital risk.
• Your bank transfers the funds to the clearinghouse. The bank or credit union transferring the funds—known as the originating depository financial institution (ODFI)—sends an ACH file to an ACH operator, like the Federal Reserve or another clearinghouse that processes the transaction. This file details the transaction amount and other information that the receiving bank or receiving depository financial institution (RDFI) will need. As the ACH payment goes through the ACH operator, the transfer status is pending.
• The clearinghouse sends out the ACH file. The ACH operator sorts every ACH file they receive in three daily batches, then delivers the files to the RDFI to finalize the electronic payment.
• The clearinghouse withdraws the transaction amount. Once the operator withdraws the transaction amount from the ODFI and deposits it into the RDFI, the funds are no longer pending, and the transaction is complete.

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