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ACH: How Payments Are Made Today

Most people have used handy payment options like direct deposit of payroll or online bill pay. Automated Clearing House, or ACH, is the electronic network established in the United States for handling these types of financial transactions. NACHA - The Electronic Payments Association and the Federal Reserve establish the rules and regulations governing ACH payments.

ACH transactions received by a financial institution are not processed singly. Instead, they are bundled into batches and processed at certain times of the day. Processing batches provides substantial economies of scale. Financial institutions are able to process ACH transactions faster than paper checks, which require physical handling. Rather than using paper to carry necessary transaction information,
ACH transactions send the information between financial institutions through data transmission.

ACH transactions involve a Receiver, an Originator and an ACH Operator. The Receiver is the account holder (a person or business) who authorizes an Originator to issue an ACH debit or credit to an account. The Originator is the entity which issues the entry to put money into, or take money from, an account. The entry must include the routing number of the Receiver's bank, along with the account number and transaction amount. The ACH Operator is a central clearing facility, either the Federal Reserve or the Electronic Payments Network.

In order for an Originator to send or receive an ACH payment to an account, the Receiver must sign an acknowledgement or agreement allowing it. The permission must be a signature, voice recording or electronically-recorded acknowledgement, such as selecting an "I Agree" option on a PIN pad. The type of permission needed depends on the type of ACH entry to be generated, as denoted by an associated ACH Standard Entry Class code. The permission must be given and captured prior to issuance of an ACH entry by the Originator or it will be rejected by the Receiver's bank.

When the authorization is received, the Originator creates an ACH entry which is passed to an Originating Depository Financial Institution (ODFI). The ODFI can be any bank or financial institution handling ACH origination and is often the Originator's bank. This ACH entry is then sent to one of the ACH Operators, which sends it over the ACH network to the Receiving Depository Financial Institution (RDFI).

After the RDFI processes the ACH file, the Receiver's account is issued either a debit or credit for the amount of the
ACH entry.

Posted in ACH on Apr 17, 2010