Running a business requires the coordination of a wide range of moving parts. And a core piece of infrastructure that enables all of these moving parts is the reliable transfer of money. An Automated Clearing House transfer—or ACH transfer—is one way that banks and credit unions in the U.S. facilitate the transfer of funds between businesses and customers. You may know it by other names, such as direct deposit or auto-pay, but an ACH transfer is essentially a way to transfer money between U.S. bank accounts.
To understand ACH transfers and how they work, it helps to step back and consider how local payment rails work—both within the U.S. and across the world. These payment rails are networks that support the seamless flow of money between businesses and consumers, and they’re crucial to most businesses. Why? Because whether you’re paying suppliers or receiving money from customers, your ability to make payments cheaply and reliably has a major effect on your operational effectiveness.
In this article, we’ll discuss the basics of local payment rails and ACH transfers. While they’re one of the most reliable options for transferring money within the U.S., ACH transfers also have some disadvantages we’ll discuss. Knowing the pros and cons of this popular money-transfer product can be a great start to optimizing your operations.
Local payment rails are systems or networks that exist to facilitate smooth and accurate payment transactions within a specific geographic area. These rails ensure that the money a customer pays a business for a product or service is taken from the correct account and ends up in the correct account.
Local payment rails are a crucial aspect of local economies, as they help streamline financial value transfer within a country (or within a group of countries). The goal of these networks is ultimately to lower transaction cost and therefore lower the barriers of entry for businesses.
Different countries and geographic areas have their own version of these local payment rails. For example, the Single Euro Payments Area (SEPA) enables customers to make cashless euro payments to anywhere within the EU (as well as a number of non-EU countries). Other examples include:
Here at Levro, we support these local payment rails in 37 different countries. But for now, let’s focus on the US local payment network known as ACH.
As noted above, ACH stands for the Automated Clearing House network. The ACH network includes thousands of financial institutions and is used for all manner of fund transfer transactions, from monthly subscription renewals to direct paycheck deposits.
It may be helpful to think of an ACH transfer as the modern, digital equivalent of the paper check. ACH transfers function in much the same way as the checks of yesteryear, and they also require customers to provide an account number and bank routing number to facilitate bill payment.
U.S.-based banks and financial institutions commonly accept ACH transfers, and it’s quickly becoming the most popular form of money transfer within the U.S thanks to its reliability and relative cost-effectiveness. But that’s not to say ACH transfers are the only way to transfer money between accounts at different financial institutions.
Like ACH transfers, wire transfers are often used to transfer money between accounts. There are some key differences that distinguish these two types of transfer, however.
One major difference is that wire transfers can be used to transfer money domestically or internationally. This isn’t possible with an ACH transfer, due to the network’s built-in geographic restrictions. Wire transfers generally cost more money than ACH transfers but have shorter processing times, so they may make more or less sense for different use cases.
These two transfer types also differ in terms of security, fund limits, and the ability to reverse transactions in the event of an error. Wires can be recalled while ACH payments are permanent. As a general rule of thumb, though, ACH transfers are more commonly used for smaller transactions that don’t need to be rushed, as they’re typically free.
There are a number important factors that make ACH transfers a great option for businesses of all kinds:
When compared to checks, credit card payments, or wire transfers, ACH transfers typically win out in terms of overall cost-effectiveness. ACH transfers may cost only pennies per transaction, which compares favorably with the higher fees associated with paper checks and especially wire transfers. This may not seem like a big deal for an individual transaction, but it can make a huge difference across hundreds or even thousands of transactions.
Due to the widespread adoption from U.S. financial institutions, ACH transfers are considered very reliable. The infrastructure for these transfers has been built in a way that allows for convenience, wide availability, and ease of use—so long as you’re only transferring money between financial institutions in the U.S.
The transition to ACH transfers has accelerated the demise of the paper check, which is probably not something too many people are shedding tears over. ACH transfers are inherently digital and make more sense for a world in which digital payments are already the norm.
ACH transfers typically take a few business days to process.
Interestingly enough, that actually can be a strength in some cases. For example, if you realize that a mistake was made before the payment is processed, you may be able to stop or reverse the ACH transfer if it hasn’t been cleared yet. This brief interval acts as a natural buffer that can help you avoid mistakes in a way that isn’t possible with wire transfers.
While the benefits of ACH transfers are many, they are not without their potential disadvantages. Let’s look at a few aspects of ACH transfers that may be less than ideal.
By its nature, the ACH system is US-based (“local” being the key word in “local payment rail”). This means you can’t use an ACH transfer to facilitate a transaction with a supplier or customer outside the U.S.
Some businesses worry that this lack of uniformity can affect their operational efficiency and thus their profitability. But if you use ACH transfers where they make sense and rely on other money transfer methods elsewhere, you can still produce an operationally optimal situation for your business.
Because the clearing house processes ACH transfers in batches, it can often take a few business days for the money to clear. This is the price you pay for the fees that you save, so you’ll want to make sure that you’re not sending any highly urgent transfers through the ACH network. If you need settlement within the same business day, you’ll likely need to fork out for a wire transfer.
Depending on the bank or financial institution, you may encounter various constraints that can be frustrating in some circumstances. For example, your bank might limit the amount of money you can transfer in a day or in a month using the ACH infrastructure.
Still, if you know what these limits are, you can plan your payments accordingly and avoid this becoming a significant problem for your business.
In conclusion, the ACH network (and its counterparts around the world) represents one of the most cost-effective ways to transfer funds between banks. Combine this with superior reliability and ease of use, and you have a powerful means of making and receiving payments.
Here at Levro, we’ve gone above and beyond to integrate local payment rails in 37 different countries, making it easier than ever for you to take advantage of this new financial infrastructure.