What is an Automated Clearing House?

The Automated Clearing House(ACH) is a system which facilitates electronic fund transfers between banks in the United States. It is governed by the NACHA (National Automated Clearinghouse Association) OPERATING RULES. The network is very efficient and reliable.

The ACH network is the central clearing facility for all the Electronic Funds Transfer (EFT) transactions. The payments remain here till the clearance from the final banking destination is given.

The Federal Reserve Board is the main operator of the ACH. Some other operators include American Clearing House Association, the Electronic Payments Network and Visa.

A large amount of credit and debit transactions take place in batches over the ACH network. ACH credit transfers are the direct deposit payroll and vendor payments. ACH direct debit transfers include consumer payments on insurance premiums, mortgage loans, and other kinds of bills. Debit transfers also include new applications such as the Point-of-Purchase (POP) check conversion pilot program sponsored by NACHA-The Electronic Payments Association. Both the government and the commercial sectors use ACH payments. Business establishments are using the ACH network all the more to collect from the customers online rather than accepting credit or debit cards.

The ACH payments consist of:

• Direct Deposit of payroll, Social Security and other government benefits, and tax refunds.
• Direct Payment of consumer bills such as mortgages, loans, utility bills and insurance premiums.
• Business-to-business payments.
• E-checks
• E-commerce payments
• Federal, state and local tax payments
• Debit card transactions
• Bank Treasury management departments sell this service to business and government
• Customers

How does ACH work?

Before understanding the working of the ACH, let’s get familiar with some of the terms used.

Originator- An Originator could be any individual, corporation or any other unit which initiates the entries into the ACH network.

Originating Depository Financial Institution (ODFI) - It is a participating financial institution which originates ACH entries at the request of its customers. It has to follow all the provisions of NACHA Operating Rules and Guidelines.

Receiving Depository Financial Institution (RDFI) – It could be any financial institution which is qualified to receive the ACH entries. It has to agree to follow the NACHA Operating Rules and Guidelines.

Receiver - It could be any individual, corporation or any other unit that has authorized an Originator to initiate a credit or debit entry to a transaction account held at an RDFI.

The process

1. An ACH transaction starts with a Receiver authorizing an Originator to issue ACH credit or debit to an account.
2. In agreement with the ACH rules and regulations, a financial institution cannot issue an ACH transaction without a prior authorization from a Receiver. Based on the ACH transition, the Originator has to receive authorization from the Receiver.
3. The authorization could be written (SEC codes: ARC, POP, PPD), verbal (TEL) or electronic (WEB).
4. Written authorization comprises a signed form which gives the consent of the amount, date or even frequency of the transaction.
5. Verbal transaction has to be either audio recorded or the Originator has to send a receipt of the transaction details before or on the transaction date.
6. An electronic transaction has to include a customer reading the terms of the agreement and typing or selecting some form of an "I agree" statement.
7. After authorization is sought, the Originator has to create an ACH entry to be given to the ODFI. This entry is then sent to an ACH Operator. From here it is sent to the RDFI where either a debit or credit is issued on the Receiver’s account.
8. The RDFI can still reject the ACH transaction and return it to ODFI. This can happen when the funds in the account are not adequate or when the account holder indicates that the transaction was unauthorized.
9. The time limit for RDFI to return the transaction is from 2-60 days. Generally most of the returned transactions are completed within a day of receiving the transaction.
10. A returned ACH entry can be represented by the ODFI for a maximum of two more times for settlement. The RDFI can again reject the transactions. If the transactions have been rejected both the times, the ODFI cannot represent the transaction through ACH.

Since ACH transactions are faster and cheaper than issuing paper cheques, it is becoming increasingly popular with business and commercial establishments.