What Does ‘ACH’ Stand For in Banking?
In banking, ACH stands for Automated Clearing House. ACH transactions are secure electronic payments that allow financial institutions to transfer funds electronically between bank accounts in the US.
The modern ACH network is managed by governing bodies like the National Automated Clearing House Association (NACHA) and the Federal Reserve.
The ACH system supports various financial transactions, including payroll direct deposits, bill payments, and the transfer of funds between bank accounts. ACH payments are popular because they’re less expensive, more secure, and more efficient than payment methods like checks.
Overall, online ACH payment has become a popular payment method in the US, with millions of transactions processed each day.
In this blog, we’ll discuss the ins and outs of ACH payments, and how the ACH system works today.
What Is a Clearing House?
In the past, transferring money wasn’t exactly an easy task. Moving money between banks required a lot of trust, not only between banks themselves but between banks and their customers.
When a customer wrote a check, the receiving bank often had difficulty knowing if the sender's account had the necessary funds. As a result, disputes inevitably arose, leading to the need for a central authority to handle the transactions and track who owed what to whom and how much money each customer and bank had available.
This need for a central authority led to the creation of clearinghouses. Initially, these were independent firms, but they became more integrated with the banks over time. In the United States, NACHA is the National Automated Clearing House Association, a non-profit organization funded by banks.
Why Is a Clearing House Necessary?
Clearing houses do not exist solely to ensure customers have the funds before a transfer. Clearing houses also exist as a guarantor–they guarantee that their transaction records are correct and everyone has the money necessary to send and receive payments.
Part of being a guarantor means that clearing houses are on the hook financially for any mistakes they make while settling accounts. Being a guarantor also means guaranteeing a workable reconciliation should a dispute arise.
Rather than forcing banks to take each other to court, clearing houses work with both parties to resolve disputes and ensure fairness. This helps prevent large banks from bullying smaller banks in disputes and helps to level the playing field.
ACH in the 21st Century
The ACH system is still based on concepts from the 1960s and 1970s. Because of this, ACH transfers may still be slow, sometimes taking several business days as the payments work their way through the system and accounts are verified.
The key here is verification, and thanks to the slow and methodical nature of the system, ACH transactions can be reversed if they are canceled in time.
While a wire transfer may be the fastest way to send money, if you accidentally send money to the wrong account, the account holder can withdraw the money instantly, leaving the sender high and dry with no recourse.
With an ACH payment, you have a day to realize your error and cancel the payment before it goes through. This makes ACH payments the safest way to send money and is a leading reason ACH payments are used for the majority of direct payroll deposits to this day.