Payment rails are the infrastructure that moves money from one party to another. All payment methods, from credit cards to Automated Clearing House (ACH) transfers, have rails. Just like tracks guide trains, payment rails manage money movement between people and businesses.
In recent years, newer rails, like instant payments, have emerged. Instant payments significantly reduce processing time compared to alternatives like ACH and checks. As newer rails gain momentum, people will have more payment options and want flexibility. Businesses will need to rise to the occasion.
Six different payment rails and how they work
Rail 1: ACH
ACH payments move money from one bank account to another and are often described as digitized checks. ACH is the underlying technology of direct deposits, bill pay, and many auto-pay and peer-to-peer (P2P) payments. Generally, ACH is popular for recurring, preauthorized payments, rather than one-off purchases.
Typically, ACH payments take one to three business days to process, but same-day transactions are available. Processing time is one of the biggest challenges of ACH because of the gap between payment and settlement. This also contributes to ACH returns, which are typically the result of insufficient funds or fraud.
How ACH transfers work
ACH transfers involve a payer, a recipient, originating and receiving depository financial institutions (ODFI and RDFI), and an ACH operator that routes and processes the payment. There are different ways ACH transfers work, based on whether the payment is a credit (push) or debit (pull). A typical ACH credit payment looks like this:
A payer authorizes a payment.
The ODFI sends the transaction details to the ACH operator and initiates the payment. Because ACH is a batch processing system, payment instructions are sent in batches rather than one by one.
The ACH operator processes the transaction and then routes the payment to the recipient’s bank.
The RDFI deposits the funds in the recipient’s account.
ACH transaction costs vary but are typically lower than credit cards. For example, a $100 payment might have an ACH processing cost of $0.60, compared to $3 credit card fees.
Rail 2: Cards
Credit and debit cards are one of the most popular payment methods in the U.S. Credit cards are unique from debit cards in that they’re tied to a credit line rather than to funds in a bank account.
Both debit and credit cards utilize networks like MasterCard, American Express, Discover, and Visa. Acting as the rail for card transactions, card networks process and approve payments.
Card payments are faster than ACH transactions because they are authorized immediately, but still take one to two days to settle.
How card rails work
A payer presents their card information (number, expiration date, CVC code) to a merchant via a point-of-sale system or a payment portal.
Transaction details are processed and sent to the merchant’s bank.
The merchant’s bank sends the details to the payer’s bank using the card network. The payer’s bank can instantly review the customer’s account to make sure they can cover the transaction.
If the payer can cover the transaction, the funds are routed to their destination via the card network.
The recipient’s bank receives the funds.
Card networks typically charge between 1.5-3.5% of the transaction cost, so merchants often require minimum amounts for card-based purchases.
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Rail 3: Wire transfers
Wire transfers are direct transfers between institutions, usually for larger transactions, like property sales. International wire transfers are popular because they can be sent in local currency. The issuing bank or provider, like Western Union, guarantees the funds, and wires are generally irrevocable, so wire transfers are considered reliable.
Settlement speed varies, but domestic transfers often settle on the same day, because the transfer settles when the receiving institution signs off, without an intermediary.
How wire transfers work
The payer gives the issuing institution the recipient’s information, including name, contact information, and banking details.
The bank or transfer institution sends the receiving bank instructions through a secure settlement system, like the Federal Reserve’s Fedwire or the Clearing House Interbank Payment System (CHIPS).
The receiving institution then deposits the funds into the recipient’s account.
Domestic wire transfers generally cost up to $35 for the sender and $20 for the receiver. International transfers run between $25 to $65 for the sender and up to $30 for the recipient (but can cost more depending on the provider).
Emerging rails: a new payments landscape
In the last few years, rails that offer people and businesses more ways to send money have emerged. Some newer rails address the core challenges of their predecessors, like instant payments. While others, like cryptocurrency, offer alternative ways of doing things altogether. Rails are evolving to better meet customer needs and give them more options.
Rail 4: RTP
Introduced in 2017, the Real-Time Payments (RTP) rail sends payments instantly and irreversibly, 24/7. To make sure payments are authorized, only payers can approve RTP payments.
All federally insured U.S. depository institutions are eligible to use RTP, currently reaching about 70% of US bank accounts. Common uses include gig economy payments, loan disbursements, and payroll. RTP is operated by The Clearing House, which also serves as an ACH Operator.
How RTP works
The payer initiates a payment, typically through a banking or fintech app.
The payer’s bank sends the details to the RTP network, which confirms that the payer has enough funds.
The RTP network informs the recipient’s bank of the payment, which must accept it (in most cases). RTP settles the payment and the recipient’s bank posts the funds to their account.
The payer receives a message confirming their payment was sent.
The RTP network’s costs include $0.045 per payment for each credit transfer (charged to the paying institution), $0.01 per payment request sent, $2.00 for a pre-funded account balance drawdown, and other fees. Some providers charge fees on top of these network costs.
Rail 5: Cryptocurrency
Cryptocurrencies (crypto) like Bitcoin and Ethereum have grown rapidly since the late 2000s. Unlike fiat currencies, which governments manage, cryptocurrencies are generally maintained by decentralized systems. Blockchain, crypto’s underlying technology, creates a distributed ledger that makes this possible.
Crypto costs vary greatly, depending on how they work. For example, mining, a system where users (miners) are paid for hosting computers that verify transactions, enables many crypto transactions. Crypto users generally pay a fee to reward miners for their work.
How cryptocurrency works
Blockchain is a distributed, immutable ledger. Picture a chain of distributed computers interacting with each other. These computers maintain transaction records (blocks) and must reach a majority consensus to verify and record new transactions.
Each block contains a unique digital signature as well as the signature of the block before it. Blocks are permanent records, preventing transaction reversals.
Blockchains can use different methods to verify blocks. The following example describes the proof-of-work or mining method, which Bitcoin and many other cryptocurrencies use.
A payer sends a recipient cryptocurrency.
That information is sent to the computers in the blockchain, which must reach a majority consensus to add the transaction to the ledger.
To verify transactions, computers solve cryptographic equations, which produce a unique digital signature, confirming the block data hasn’t been tampered with.
Once the network has reached a majority consensus, the transaction is added to the chain.
Processing time for cryptocurrency transactions generally lands between 10-40 minutes.
Rail 6: FedNow
Similar to RTP, the Federal Reserve’s FedNow is an instant payment rail that’s currently in a pilot program and expected to launch in July 2023.
FedNow payments are available 24/7, cannot be reversed, and are limited to banks in its participation network.
How FedNow works
A payer authorizes the payment by requesting it from their bank, which must be part of the FedNow network. The payer specifies the amount, the account they’re using, and the recipient’s contact information and bank.
The paying bank confirms that the payer has the funds to cover the transaction, then notifies the recipient’s bank.
Then, the recipient validates their account.
The receiving bank sends a confirmation message to the payer’s bank, and funds are sent.
Finally, the payer is notified that the payment has been sent.
There are a few fees associated with FedNow. Participating banks pay $25 a month to receive credit transfers, $0.045 per transaction, and $0.01 is charged per request for payment message.
Emerging rails center around consumers, tackling old challenges and creating choices. Not all rails are right for all companies or transactions, but more options mean more consumer demand. Businesses must balance their needs with consumers’ to win at payments.
What is a multi-rail strategy? How does it benefit companies?
With a variety of rails available, people and companies can choose what best meets their needs. Enter multi-rail strategies, where companies mix payment options to optimize performance.
Multi-rail benefits:
Redundancy: If one payment rail is experiencing an issue, companies can use another without disrupting business.
Options: Having more choices for customers means more business.
Clarity: A multi-rail strategy enables faster payment processing, making it easier for companies to settle payments and understand their cash flow.
With more rail options, multi-rail strategies will likely become more common. Plaid’s Instant Payouts help businesses implement multi-rail bank payments. Built on Transfer, Instant Payouts accommodates ACH and RTP, and soon FedNow. Instant Payouts can assess if a participant is eligible for RTP and use ACH when they’re not. This way, payments can process more quickly, without any difficulty for the payer.
Dynamic routing: the future of payment rails
With the emergence of new rails and multi-rail strategies, dynamic routing will likely play a bigger role in payment processing. Dynamic routing uses algorithms to optimize a payment’s path, unlike static routing, where payments follow predetermined routes.
In static routing, when there are issues with a preconfigured path, the payment fails, meaning lost business. Dynamic algorithms assess traffic congestion, cost differences, authorization rates, and other criteria to pick the best path.
Dynamic routing not only helps businesses complete more payments but also helps process them faster and with lower costs. As emerging rails gain traction, dynamic routing can help businesses navigate and benefit from a more complex payment landscape.
Which payment rails are right for your business?
The right rails for your business will depend on several factors.
Customer preferences: A lack of preferred payment options can mean lost business. For example, not offering bank payments could scare off customers who don’t want to use credit cards, and vice versa. Optimizing rail options to customer preferences can boost business and provide a better experience.
Incentives and disincentives: To point customers to lower-fee options, many companies incentivize customers with loyalty or discount programs that are limited to preferred payment methods (most often ACH). Some charge a small fee for payment methods that cost them more money to use (e.g. credit cards and RTP).
Cost: Cost considerations for payment rails vary widely, which adds up at scale. Balancing the cost of a payment method with business needs is critical. Companies can save significant amounts using ACH, for example, but may need to balance that with higher-cost options for customers who prefer them.
Speed: Slower settlement can make it hard to understand cash flow, but not all payments are urgent. Understanding how important speed is to your business or customer set can determine the right path.
While many companies offer a mix of payment rails, staying flexible will be increasingly important as emerging rails gain popularity. Having a multi-rail strategy is key to making the most of what the diverse payments landscape offers.