A Quick SME Guide to ACH Payments

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Getting paid (and getting paid on time!) is one of the biggest hurdles of small business owners. As we well know, invoices often stay unpaid beyond the due date. Third-party payment processing apps charge stingy fees and setting up customer credit card processing can be a major hassle. So what’s left then? ACH payments!

What is an ACH Payment?

ACH, short for Automated Clearing House, is a domestic financial network, used by banks to process all the incoming payments and outbound money transfers.

ACH payment, in turn, is a bank-to-bank, fully electronic money transfer, processed by the Automated Clearing House network. In short, it’s one of the many ways to move money between bank accounts.

ACH transfers also go by the name of “direct payments” or “direct debit”, meaning that the money is taken directly out of your account and transferred to another person/business, without any intermediary payment processor in between such as PayPal or Venmo or a credit card network.

To further understand ACH meaning, let’s take a closer look at its two components:

  • Automated: ACH payments are executed by computer systems only. ACH systems can batch-process hundreds of thousands of payments per day. In 2019, the ACH network moved some $24.7 billion of payments between accounts.
  • Clearing house: The ACH network relies on two central “clearing houses” — The Federal Reserve or The Clearing House. These two institutions assist the network in matching and processing various financial operations.

How Does ACH Payment Processing Work in Details?

If you are keen to learn a bit more about the matter, here are the technical nuts and bolts of ACH payment processing.

Within the ACH system, we have two types of computers, communicating with one another to execute a transfer:

ODFI: That’s someone who’s creating a payment request. For instance, you decide to transfer some cash to one of your dropshipping suppliers. In this case, the ACH network will view you as an Originator and your bank account will be the Originating Depository Financial Institution (ODFI). Your money transfer request gets recorded in the system and forwarded to the ACH Operator — a clearinghouse, responsible for routing all the incoming transfer requests to the specified destination.

RDFI: Your supplier, in this case, will be a Receiver. And their bank account will be a Receiving Depository Financial Institution (RDFI) — another clearing house will adjust their account balance, based on the communicated information about the volume of the money transfer.

In essence, ACH payment processing is all about ensuring that the right amount of money leaves account A and safely gets to account B.

So when you come to a bank and ask about an ACH transfer, the clerk will likely ask you if you want to make an:

  • ACH debit transaction that is “pull” or debit money from someone’s account (e.g. bill your client based on their recent invoice).
  • Or ACH credit transaction. That is to dispatch some cash to a different bank account.

ACH Payment Processing Time

ACH payments are relatively fast. In most cases, your transfer will be executed in 3-5 business days since all the payment processing is fully automated.

Your bank may also support the recently launched Same Day ACH payments — a new network feature that allows them to move your transfer within the same business day (by 5:00 PM latest). Last year, this scheme moved over $1 million of payments per day with a daily total value of $1 billion.

However, the ACH network can get congested at times. For example, at the end of the year or during tax season when loads of people are sending their cash back and forth. In such cases, you may have to wait a bit longer.

The Pros of Accepting ACH Payments as a Small Business

Using ACH payments as your go-to payment method for invoicing is a great idea if you are dealing with US-based clients.

Note: ACH processes only domestic payments.

Here’s why:

  • ACH payment fees are ridiculously low. The average processing fee per transaction is $0.20-$1.50, depending on your bank. Some business bank accounts come with a set number of free ACH direct debits or transfers per month.
  • ACH is a faster and often safer alternative to payments requiring an additional medium such as eChecks or money orders.
  • By setting up a direct debit for customers, you can also reduce your invoice payment times and improve cash flow. Rather than waiting for the payment to arrive, you’ll proactively bill your customers every month on a set day.
  • For the same reason, ACH is an excellent tool for executing payroll payments and billing/paying to suppliers.

The Cons of Using ACH Payments as a Business Owner

The biggest issue with ACH is that this system will process all the incoming requests in batches. Meaning, your payment won’t budget until quite a few other transactions are waiting along. When this threshold is reached, all the pending payments are processed at once. That’s not much of an issue with same-day ACH though.

The second drawback is that reversing an ACH check or dealing with an incorrectly filled one can be a bit of a hassle + costly:

  • Average ACH Return Fee is around $2-$5 per transaction that didn’t go through.
  • Average ACH Reversal/Chargeback Fee can be anywhere from $5-$25 per instance.

To Conclude

ACH payments are a good option for those businesses that are ready to forgo payment speed for lower fees. ACH is also a great way of collecting recurring payments from customers and dispatching outgoing checks to your team, vendors, and subcontractors. Overall, ACH is a popular and secure way of exchanging funds that you should definitely consider!

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