Speed and convenience are among the top reasons US consumers adopt new fintech tools. And newer, more efficient payment options have risen to meet those preferences–like peer-to-peer (P2P) payment apps and autopay. FedNow is the latest rail to offer more speed, convenience, and choice. With that, it’s expected to broaden the reach and boost the popularity of instant payments.
In this article, we’ll discuss how FedNow works, its benefits and challenges, and how it may shape the US payments landscape in the long run.
What is FedNow? And which banks will use it?
FedNow is the Federal Reserve’s new instant payment rail which provides bank payments that settle in real time. The system’s pilot program started in January 2021 and it officially launched July 2023 with 41 banks and 15 service providers.
FedNow payments have an edge over traditional bank payments (ACH), which settle in 1-3 business days. The default FedNow transaction limit is set to $100,000, but banks can move that amount up or down with a current ceiling of $500,000. Same-Day ACH bank payments, on the other hand, are capped at $1,000,000 per transaction. Banks set different ACH limits based on a variety of factors, although a common transaction limit is $25,000.
Any US bank or credit union that’s eligible to maintain a Master Account with the Federal Reserve (which would include most US depository institutions) can use FedNow. Some service providers, like payment processors, can perform certain functions relating to FedNow on behalf of a financial institution (FI). Other organizations like neobanks, digital payment services, or fintechs will need to partner with an FI to access FedNow. Similarly, consumers can only use FedNow if their FI or service provider offers it.
FedNow can be used to pay bills, distribute payroll, transfer money from account to account (A2A) or P2P, fund digital wallets, and more. In the future, FedNow could become an option for e-commerce payments or in-person point-of-sale transactions.
How much does the FedNow service cost?
The FedNow system has a few fees for participating banks:
A $25 monthly participation fee (waived for 2023)
$0.045 per credit transfer
$0.045 per credit transfer return (return of previously received funds)
$1.00 per LMT or liquidity management transfer (funds sent between FIs to cover the settling of payments)
$0.01 per request for payment (RFP) message
That said, participating banks may choose to pass these fees (as-is, with markups, or with additional fees) onto end users or customers—such as neobanks or digital payments services—that rely on them to access FedNow.
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How the FedNow system works
In seconds, FedNow payments complete the following steps:
The payer uses their bank’s app or website to initiate the payment. The payer enters the recipient’s name, their account or contact details, and the transfer amount.
The payer’s bank then confirms that the payer has enough funds for the transaction before withdrawing it. Then, the paying bank notifies the receiving bank about the payment. All messages in FedNow transactions are sent using the international financial services communications standard ISO 20022.
The receiving bank reviews and validates the transaction details and the recipient’s account.
The receiving bank sends a confirmation message to the payer’s bank and deposits the funds into the recipient’s account.
Finally, both the payer and the recipient are notified that the transaction is complete.
All FedNow payments are irrevocable, so once this process is complete, the transaction can’t be reversed or altered.
How is FedNow different from other payment rails?
FedNow is one of many payment rails people can choose from, with credit cards and Automated Clearing House (ACH) payments being some of the most popular. But FedNow has some key differences from these rails.
FedNow payments are much faster because they are processed 24/7, in real time. ACH and card payments, on the other hand, are settled in batches, which can take a few days to complete. This is true even for same- and next-day ACH, which have to be submitted in appropriate windows before settling in a matter of hours or days.
FedNow can also be compared to wire payments, which are real-time, high-value transfers directly between financial institutions that are also irrevocable.
The Federal Reserve operates its own payment wire system called Fedwire. Fedwire is only available during business hours, unlike FedNow which is available 24/7. Because wire transfers are tailored to large transactions, the Fedwire limit is $9,999,999,999.99 compared to FedNow’s $500,000 limit.
Real-Time Payments (RTP) vs. FedNow: reach, fees, and liquidity
FedNow is most similar to RTP, The Clearing House’s instant payment rail that launched in 2017. The majority of US banks are eligible for both RTP and FedNow.
A group of the larger US banks owns The Clearing House, and in turn, RTP. This relationship may be why many smaller banks haven’t adopted RTP and why many speculate that FedNow will have a greater reach over time. However, because FedNow has just launched, its overall adoption is much lower than RTP’s nearly 400 participating institutions.
FedNow’s liquidity management tool also differentiates it from RTP. FedNow participants must keep enough funds in their Master Accounts at the Federal Reserve to cover their transactions or partner with an FI that does. The liquidity management tool allows FIs to instantly send each other money using FedNow so they can ensure they have the funds to cover transactions 24/7. Typically, these transfers would go through Fedwire, which is only available during business hours, but FedNow transactions take place 24/7.
RTP participants, on the other hand, have to fund a joint account held at the Federal Reserve Bank of New York that’s used to settle payments. This account doesn’t offer the same liquidity features as FedNow, so RTP participants likely have to maintain a cushion to avoid issues.
For both of these payment options, transaction costs are pretty consistent, but there are some differences in participation fees and transfer limits.
FedNow pros and cons
Pros: Speed and 24/7 availability
FedNow’s real-time nature can help people:
Pay bills on time: If a person does not have enough funds to pay a bill until their check comes through or if they forgot about it until the last minute, they can send a payment instantly and save themselves a late fee or a hit to their credit report.
Send funds quickly to someone in need: Say a family member needs help covering a bill or making it to their next paycheck, a person can use FedNow to send them funds immediately.
Prevent overdraft fees: In a FedNow transaction, the sending bank validates that the payer has sufficient funds before transferring them to the recipient. This practice protects people from overdrafting their accounts. Instant settlement also helps prevent future overdraft fees because the account holder can see their most up-to-date balance once the transaction completes.
Promote liquidity: Employers can use FedNow to pay employees instantly, which could help the employees make ends meet. Gig workers or hourly employees with lower wages stand to benefit the most from faster access to funds.
Get more out of digital services: Because FedNow can be used to fund online accounts–like digital wallets or investment funds–it could also help people benefit from many online tools sooner.
In addition to payment speed, FedNow also means more payment options for consumers. Because FedNow is anticipated to have a wider reach than RTP in the long run, this will mean more people should have access to instant payments. Additionally, another payment option could spur competition and innovation in payments, which could lead to more and better consumer payment options.
Because FedNow payments are bank payments, there are also cost benefits to using it. FedNow transaction costs are generally much lower than card fees, which are often 1.5%-3.5% of a purchase.
For banks or credit unions, FedNow could also be another way to attract customers, especially at institutions that haven’t adopted RTP.
Cons: irrevocability, fighting fraud, and adoption
Payments are final: Because FedNow payments can’t be reversed once completed, this could create issues when people submit payments with mistakes. For example, if a person sends the wrong amount, they can’t cancel the transaction. So it will be especially important for institutions to properly educate their customers about how FedNow works to avoid issues.
Fraud implications: Similarly, the irreversible aspect of FedNow payments could also present challenges for tackling fraudulent payments. There are some built-in fraud safeguards like the ability to block certain accounts from using FedNow or to set transaction limits based on risk level. That said, it may help institutions to invest more deeply in anti-fraud measures like identity verification so that they can better protect against fraud.
Implementation: FIs will need to establish a FedLine connection to access and configure their participant profile and send FedNow messages using the ISO 20022 format. Other considerations include an FI’s ability to manage liquidity and whether or not they need to make adjustments to support 24/7 payment activity.
Uncertain adoption: How many and how quickly FIs adopt FedNow will also play a role in its success. Banks have the option to enable their users to send funds using FedNow or just receive them. This could make it harder for the system to gain traction overall.
FedNow + Plaid: An instant payments ecosystem
In addition to increasing the number of payment options people have, FedNow is expected to expand the reach of instant payments. It also could be an overall boost for bank payments because it tackles some of the issues with traditional ACH such as long settlement times or the risk of overdrafting.
As FedNow adoption increases, customers may come to expect faster payments. But many FIs will have to adapt to be able to offer customers the choice between FedNow and other payment rails.
Fortunately, companies can easily access FedNow using Instant Payouts on Plaid Transfer. Instant Payouts lets you make real-time FedNow or RTP payments 24/7 through a single API, so you can pay people faster and better understand cash flow.
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