What is ACH? The ultimate guide to ACH payments
An insider’s guide on how Automated Clearing House (ACH) payments and transfers work, as well as their benefits, drawbacks, and future outlooks.
October 07, 2021
Tom is a fintech industry writer who creates whitepapers and articles for Plaid. His work has been featured in publications like Forbes, Fortune, and Inc. He's passionate about the freedom that the union between financial services and technology can create.
ACH is a financial tool many rely on and few understand. Despite supporting tens of billions of transactions in the US every year (including ~93% of payroll), many consumers actually know ACH by other names — like direct deposit. While businesses have a better grasp on what ACH is, they often aren't clear on how to drive consumer adoption and how the industry is changing.
This resource serves as a deep dive into what ACH stands for, how ACH payments work, and how the launch of newer payment rails will likely impact the ACH landscape.
What does ACH stand for?
ACH stands for Automated Clearing House. The ACH network is a centralized system for moving money between financial institutions in the United States.
ACH is often used colloquially to refer to ACH transfers or ACH payments, however, the actual acronym stands for the clearing house that processes these payments. ACH transactions are commonly called “eChecks'', “direct deposit”, “direct debit”, “automatic withdrawal”, and so on.
If you’ve ever been paid via direct deposit, it was through an ACH transfer. ACH transfers are another way to transfer money that doesn’t involve paper checks, wire transfers, or cash. You can send or receive money safely and securely from the comfort of your own home.
What is the Automated Clearing House (ACH) network?
The Automated Clearing House is run by the National Automated Clearing House Association (Nacha). Formed in 1974, Nacha monitors the ACH network so it is safe, secure, and effective.
A brief history: As consumer mobility and payment preferences evolved in the early 1970s, banks struggled to keep up with checks' volume and geographic spread. So they turned to newly commercialized computer technology to establish an automated solution. This new system was named Automated Clearing House, or ACH, in honor of the “clearing house”, a central location (originally a tavern) where banks went at set times to exchange checks and settle transactions.
The ACH network is run by two different operators:
The Electronic Payments Network (EPN), run by The Clearing House (a collective of 24 large banks)
FedACH is run by the Federal Reserve banks to handle ACH transactions
As for the dynamic between these operators, it's like if banks can choose either UPS and FedEx to send packages. UPS would be like the EPN and FedACH is like FedEx.
Nacha works closely with various government agencies and network participants, sets the rules, and the two operators then work together to route and deliver all ACH transactions accordingly.
What is ACH in banking?
In banking, ACH payments (a.k.a. ACH transfers) are payments made directly from one bank account to another. These transfers are processed by an ACH operator on the ACH network, which is managed by Nacha.
Banks use ACH transfers to move money between different accounts or to transfer funds to another bank, to process recurring bill payments, business-to-business payments, ecommerce payments, and even peer-to-peer transactions. To process ACH payments, banks send (or accept) a payment instruction, which is processed through the ACH network.
How do ACH payments work?
An ACH transaction instructs financial institutions to debit or credit accounts based on the account number and routing number. Employers often ask for a voided check to set up payroll because those numbers are on the bottom of your checks. When an employer pays you through an ACH transaction, your employer’s bank sends an instruction to your personal bank to transfer the money you’ve earned.
ACH transactions are often a means by which:
Consumers send funds between accounts
Employers pay their employees
Customers pay service providers
Taxpayers send funds to the IRS
Businesses pay suppliers
While ACH transactions aren’t the only way to move money, it has become an increasingly popular way to transfer funds. ACH was responsible for transferring more than 77 trillion in 2022, driven mostly by an increase in usage by B2B companies and the popularity of same-day ACH.
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The ACH network acts as a financial postal system. Imagine individual transaction instructions as letters that ACH operators sort and deliver between various banks, where each bank acts as a post office on behalf of their respective account holders.
Member institutions and their processing partners regularly pass ACH messages to the network’s operators in the form of specially-formatted digital batches, which the operators re-bundle by the recipient bank and pass on at regular intervals each business day. Each of these bundles contains a structured set of messages instructing the receiving party to make a credit or debit to an account they control.
Note that transactions aren’t settled directly. At no point do any two banks in the system exchange a stack of money or a pile of gold. The ACH network keeps a tally of net settled payments for each transaction window, and the banks involved jointly ask the Federal Reserve after each window to credit/debit their respective accounts accordingly.
How much are ACH fees?
The average ACH transfer costs between $0.26 and $0.50, a fraction of the cost of paper checks or real-time payments. However, the cost can vary by financial institution, as some banks and platforms tack on additional fees.
For example, Chase charges $2.50 per ACH transfer for the first 10 payments and $0.15 for each additional transfer. Real-time payments, however, can cost 1% of the amount transferred, which means that ACH costs significantly less, especially for larger transfer amounts. ACH fees are also much lower than credit card payments, which can cost between 1.5 and 3% per transaction.
What are the two types of ACH payments?
There are two types of ACH transactions: ACH debit (“pull”) or credit (“push”).
For example, In an ACH credit, an organization might "push" money to an employee’s account to pay wages.
In an ACH debit, an organization might "pull" money from a customer’s account for an automatic bill payment.
While one party’s credit is another party’s debit in a literal sense, the naming convention simply identifies which party originated the request. An employer generally asks the ACH network to push money from one of its accounts to an employee’s, making it a credit. If a consumer needs to pay a service provider, the consumer would generally authorize the service provider to initiate an ACH debit to their account.
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How long does an ACH payment take to process?
A standard ACH payment typically takes one to three business days. However, ACH payment processing timelines can vary based on:
When the transaction was initiated
If the originator opted for a same-day transfer
If the transaction results in a return due to incorrect information or insufficient funds
ACH transactions are delivered up to 6x per business day. The ACH network can also accommodate same-day processing. In fact, the rise of same-day ACH payments has been responsible for much of the increase in ACH usage. Same Day ACH payments transferred $486 billion in the second quarter of 2022, an increase of 94.4% over the same timeframe in 2021.
Unlike a wire transfer, ACH transactions can be returned automatically through the ACH network. Timelines around ACH returns are complicated. The system works on a “no news is good news basis” where the absence of a return code is the closest thing offered to a confirmation. Consumers have up to 60 days to report an unauthorized ACH debit to their account (though most come through in the day or two following settlement).
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Which banks use ACH?
All banks in the US are able to utilize ACH in at least some fashion, as the minimum requirement to receive ACH transfers is simply a valid bank account and routing number. In addition to banks, payment processors like Square, PayPal, and Stripe utilize ACH as well. Because all US banks use ACH, Plaid is able to connect accounts from 12,000+ financial institutions for ACH transfers.
What is ACH in accounting?
No matter who or where ACH is used, it refers to the same type of payment—an electronic transfer of funds through the ACH network. However, in the context of accounting, ACH transfers may be used for:
Payroll processing: ACH is often used to directly deposit paychecks to employees.
Receivables collections: ACH can be used by businesses to accept payments from customers or clients.
Vendor payments: Companies may use ACH in their accounting to pay for supplies and fulfill vendor contracts.
Expense reimbursements: ACH is a fast, affordable way to submit reimbursements for travel or work expenses.
Using ACH in accounting offers advantages including faster payments, reduced paperwork, improved accuracy, and enhanced security compared to traditional payment methods like paper checks and invoices. It can help streamline financial processes, make it easier to manage cash flow and simplify reconciliation.
What are the benefits of ACH payments?
ACH transactions have three primary benefits:
They’re cost-effective. ACH payment fees range from a few cents to a few dollars, depending on transaction size and volume. Compared with domestic wires (tens of dollars), credit cards (usually in the 2%-4% range), and paper checks (usually a few dollars), ACH payment fees are generally lower.
They’re repeatable. Cards expire and often get lost or stolen, forcing consumers to get new ones. In contrast, the average US checking account is 17 years old. This makes ACH a frontloaded investment where transaction failure risk drops with each subsequent transfer involving the same accounts.
They’re convenient. Older methods necessitate worse experiences. Handling paper checks is labor-intensive for everyone, wire fees annoy the recipient, credit cards require a lot of data inputs and aren’t built to hold positive balances, and cash is a security risk that necessitates trips to the bank. ACH is often the golden middle child, and modern services built atop ACH can make the experience even better.
What are the downsides of ACH payments?
ACH transactions have two interrelated pitfalls that businesses and users should be aware of:
Speed. Default ACH transactions can take multiple business days to process, and even same-day ACH isn’t always truly same-day. This can leave parties with difficult decisions about whether to allow withdrawals, ship products, or honor service contracts in the intervening time. With slow processing may also come confusing balances, where consumers forget about a pending debit and end up with an overdraft or non-sufficient funds (NSF) fee.
Risk. As parties won’t know for hours or days if a debit transaction cleared, scammers and other bad actors have historically taken advantage. This risk has both crimped ACH’s adoption for single-transaction use cases and forced retail banks to place limits on how much consumers can transfer via ACH and on how fast the funds clear.
Is ACH Secure?
Though all systems have vulnerabilities, ACH is quite secure, and creative solutions have been built atop the network in recent years to make it even better. While no system is perfect, using the right combination of ACH solutions can minimize much of the risk.
From a business perspective, some common problems can include:
Ensuring a customer’s banking details and/or credentials are stored in a secure manner
Identifying fraudulent transactions
Minimizing the risk of a transaction being returned due to insufficient funds, a closed account, or other reasons
Solutions to these problems may include, but are not limited to:
Bank details and credentials can be kept secure by reducing the number of parties who see them (e.g., tokenization, encryption, and secure vault payments)
Validating financial accounts (e.g., micro-validation transactions and digital authorizations)
Accounts can be checked for telltale patterns of fraud and NSF risk (e.g., current balance check and transaction history assessments)
→ Looking to lower ACH risks and reduce returns? Plaid Signal predicts return risks with a customizable risk dashboard to optimize ACH payment flows.
Can ACH be used globally?
Though the ACH network was built for US financial institutions, it can support international transactions—but only where bilateral agreements exist between originating and receiving institutions.
While Nacha has worked to establish interoperability with its global counterparts, adoption has been slow and limited. This is partly because it’s a hassle for banks to build out functionality that not many of their customers use, and partly because most international banks would prefer that their customers didn’t use ACH. International wires are easier and more lucrative for them.
What’s the future of ACH?
Technologies as ubiquitous as ACH have many stakeholders, which means that changes, when they come, tend to happen slowly. Still, some innovators are renovating ACH; some are building on top of it, and some are building alternative systems altogether.
Same-day ACH: Nacha has been pushing for same-day ACH capabilities for years. The system finally launched in 2016 and has increased in usage each year. In 2022, same-day ACH limits were raised to $1 million per transaction, which is likely to continue to increase ACH usage.
Better security: ACH solutions such as Plaid Signal bypass the historical pitfalls of the ACH system, making it a more attractive tool for ecommerce and other business uses. For example, many investment apps and cryptocurrency platforms now use ACH for account funding and USD withdrawals, and services like Venmo and CashApp use it for peer-to-peer money transfers.
Growing competition: Other money transfer solutions are competing with ACH, including Real Time Payments, which allow consumers to transfer money instantly. The Federal Reserve is also releasing its own real-time product, FedNow. This increase in competition could bring more changes to the ACH process.
Asked about the future of ACH, Plaid product lead Ajay Andrews said: “We’re excited to grow the adoption of ACH by building new features that accelerate onboarding, lower return rates and simplify liquidity management while preserving the low costs of ACH solutions.” He also added that “we are constantly adding support for new use cases, where Plaid abstracts the money movement complexity so that customers can focus on their core consumer value”
The larger ACH ecosystem also stands to benefit from the continued migration from paper checks, which still make up 21 percent of overall US payment volume by dollars. Meanwhile, we’ll see further development of real-time products from traditional banks, the Federal Reserve, and crypto startups. For consumers, the resulting competition for market share is likely to result in lower costs, faster transfers, and more choices.