The term “Automated Clearing House” might sound like it needs an explanation from a financial guru. But most people are already using ACH payments regularly, although they may not be using that term to describe what’s happening.
Simply stated, with an ACH transfer, funds are electronically moved from one bank account to another through the guidance of a centralized system—sort of like Grand Central Station for the electronic distributions of funds.
That centralized system is known as the ACH Network. (What is ACH? The Automated Clearing House.)
Examples of ACH network use includes when employers pay employees through direct deposit, and when people pay their taxes online or send a payment—perhaps the electric bill—to a service provider.
Although the ACH system isn’t always what’s used when these types of transactions take place, it often is.
Questions answered by this post will include:
• How did the ACH network get started?
• How does it operate?
• What are the benefits of using ACH transfers?
• Are these transfers secure?
• Are there downfalls to ACH transfers?
• Are ACH transactions different from wire transfers?
• What are P2P transfers?
• What are on-demand transfers?
• How can these technologies help people automate their finances?
• How many bank accounts are optimal when automating finances?
Beginnings of the ACH Network
The use of checks to conduct financial transactions has been traced back to when the United States was still a collection of colonies—to 1681 in Boston, when businessmen mortgaged land and needed to make payments. In 1762, in England, the first printed checks were used.
Fast-forward to 1968—in California, this time—when there were so many checks being issued and cashed that a group of bankers didn’t know if the United States had the technology to continue to manage them.
To help, they formed a committee called SCOPE, Special Committee on Paperless Entries, to brainstorm solutions. About that same time, the American Bankers Association also began seeking ways to improve the country’s payment system.
In 1972, an ACH association formed in California to manage electronic banking transactions, with other regional ACH networks forming soon after that.
In 1974, these regional networks formed Nacha to oversee and administer the ACH network. This organization creates and enforces how this network works, while the Federal Reserve and The Clearing House actually process the transactions.
What is an ACH Transfer?
A familiar and often-used example of the ACH network is when an employee signs up for direct deposit at work, having paychecks automatically deposited into a savings or checking account rather than receiving a physical check.
To make that happen, the employee would need to provide the employer with the:
• Bank name.
• Bank routing number.
• Account number.
• Type of account (checking or savings).
• Signed authorization.
The employer enters this information into their payroll system. Then when it’s payday, the employer sends an electronic file to the employee’s bank, indicating how much money should be deposited.
Over the years, the ACH network has grown significantly. The U.S. Air Force became the country’s first employer to provide direct deposit for payroll.
Today, nearly 93% of people in the United States get paid that way. In 1975, the Social Security Administration (SSA) began testing this system, and nearly 99% of SSA’s payments are made that way currently.
Starting in 2001, Americans could make ACH payments through the internet and by phone and, in September 2016, the first phase of the same-day ACH program debuted.
By 2018, there were nearly 178 million same-day ACH payments made, with the amount totaling nearly $160 billion—with advances in the system continuing to be made.
Benefits of ACH Transfers
ACH transactions are quick. They’re convenient. People who get paid through direct deposit don’t need to go to the bank to deposit their checks, which may be especially convenient if they telecommute, are on vacation or otherwise out of town on payday, or home because of illness or injury, among other reasons.
It can be equally convenient to have mortgage payments, utility bills, and other payments automatically deducted from a bank account. That way, there’s no need to travel to the financial institution to pay the bills or to write a paper check and mail it in.
And, when life gets hectic, as long as enough money is in the account to cover the bills, there isn’t even a need to remember to make the payment. It also cuts down on the need to buy stamps for bill paying.
ACH payment transfers are typically pretty fast—whether sending or receiving—and, as noted earlier, the technology continues to improve, with speedier funds availability having been mandated in September 2019 .
ACH transfers are typically free. An exception may be when a bank charges a nominal fee when someone wants to transfer funds to another bank.
Many times, an automated payment will save a customer money. For example, a bank may offer a lower rate on a mortgage loan or student loan if an ACH funds transfer is set up.
Also, Nacha is working on what’s called their “Meaningful Modernization” initiative, intended to make ACH transfers even more seamlessly beneficial. More specifically, the goal is to:
• Improve and simplify user experience.
• Adopt new technologies for consumer payments.
• Increase authorization consistency.
• Reduce administrative tasks.
But what about security? How safe are these transfers?
Security of ACH Transfers
An ACH transfer can in fact be more secure than many other payment methods. The reality is that paper checks can always be lost or stolen.
With ACH deposits or payments, consumers only need to provide bank information once, when the automated transaction is set up. Contrast that with writing a check every month, where bank information is provided each and every time, and it becomes clear how ACH transfers can provide a layer of protection against typographical errors.
In addition, regulations exist that protect consumers when an electronic funds transfer negatively impacts their bank accounts because of fraud or error.
This includes transfers between bank accounts as well as those going into an account (such as with payroll direct deposits) or out of that account (such as with bill payments).
Downfalls of ACH Transfers
When using automatic transfers to pay bills, it’s necessary to ensure that enough money is in the account to cover upcoming bills.
Otherwise, the bills might not get paid and, on top of that, the financial institution could charge non-sufficient funds fees. It might help to sign up for text alerts or another form of notification from the financial institution to know when a deposit has been made or a payment taken out.
Not all banks send ACH transfers at the same time of day—meaning they may have a cutoff time for a transfer to be processed on the next business day. Here’s a scenario: A financial institution has a cutoff time of 2 p.m. in order for the funds transfer to take place the next business day.
If money is deposited at 4 p.m. on a Thursday, then that’s past the cutoff for Friday—with the next business day being Monday. This might cause problems for people needing to pay a bill by a certain due date.
Other potential downfalls of ACH transfers include:
Some financial institutions may place limits on ACH transfer transactions, perhaps having:
• Daily limits.
• Weekly and/or monthly limits.
• Per transaction limits.
• Bill pay limits.
• Limits on transfers to other banks.
• Limits on where money can be sent.
When people decide to switch banks, it may be somewhat of a hassle. That’s because they’ll need to contact each of the locations where ACH transfers are coming in or going out to provide them with the new bank account information. The old account may need to remain open until all of these transfers are using the appropriate (new) account.
ACH Transfers Versus Wire Transfers
A wire transfer is another method of electronically transferring funds, which means this system comes with many of the same benefits. But they’re not exactly the same.
First, there is the speed issue. Wire transfers occur within one business day, with funds often available for use the same day. In many cases, though, a bank employee needs to review this largely automated process, so the funds may not be immediately visible in the recipient’s account—and international wire transfers may take more than a day. If the transfer is urgent, it’s often recommended to send it as soon as possible in the morning.
ACH transfers, meanwhile, are processed in clearinghouses and banks in batches, rather than receiving the individual treatment given a wire transfer (but wire transfers are typically more expensive for the sender). The ACH system may sometimes provide same-day transfers (often for free) and is increasingly moving towards this same-day benefit being available more often.
Here’s another crucial difference between the two: Wire transfers are considered to be cleared money, which means that the funds are immediately removed from the sender’s bank account and are immediately available for withdrawal upon arrival at the receiving institution. In general, a wire transfer cannot be reversed. An ACH transfer, though, can be reversed in some situations.
P2P Transfers and On-Demand Payments
P2P transfers (peer-to-peer transfers) allow people to quickly and easily send money to friends and family through mobile device apps (or online accounts) and a linked account. As just one example, people who use PayPal to send money are using a P2P system.
One benefit of a P2P transfer is transaction speed, with same-day service often available. They are, in general, free when sending to friends and family.
Some services, though, may charge a fee for business transactions or if the P2P account is linked to a credit card rather than a bank account.Traditional P2P transfer services require both parties to have an account with the service, although not all services do.
On-demand payments can be made, as the name implies, on demand. These are instant transfers, ideal when a need is urgent—or just because the receiver wants to have the money in the bank quickly.
Automating Personal Finances
Automatic transfer technology can streamline personal financial management while also reducing the stress of meeting bill-paying deadlines.
Having the money available in an account and automatically taken out may help to prevent late fees and might even make budget management easier.
Besides having direct deposit for paychecks and paying bills though automatic transfers, this technology may be helpful when building an emergency savings fund.
Someone might, for example, have 90% of a paycheck directly deposited into a checking account for bill paying purposes, while putting the other 10% into a savings account designated for emergencies.
Or if that emergency fund has already been established, a percentage of pay might go into accounts for other future expenses, like college funds for children, a down payment on a new house, or a vacation fund. Automatic payments might also be set up to contribute to retirement funds.
Optimal Number of Bank Accounts
Some people find that having just one account for both bills and discretionary funds works just fine. For other people, having separate accounts for those funds helps them organize their finances. A couple might have a joint account for shared expenses and separate, individual accounts for personal spending.
Having separate accounts for bill paying and fun money might make it more obvious how much is left over for splurging, as long as there is enough money in the bill-paying account to cover those amounts when they’re due.
A downside of having multiple accounts is that some banks may have minimum balance requirements. In that case, having multiple accounts may spread funds too thinly.
Clearly defining financial goals may help when making the decision about how many bank accounts are ideal. What’s most important? If it’s a new house, then perhaps a separate account for the down payment, where the balance can be monitored as it rises, can serve as motivation to save even more quickly—and maybe even celebrate milestones on the way to the goal.
No two people have the same financial situation and goals. What’s most important is to create a plan that works for each person’s unique needs.
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