Automated Clearing House (ACH) transactions are an electronic method of transferring funds between bank accounts in the US. Although credit card payments offer the convenience of almost instantaneous processing and the potential for rewards, they have higher fees and greater potential for fraud. ACH transactions can take a few days to settle but incur lower costs and are at a lower risk of unauthorised charges.

Given their lower costs, ACH payments are particularly appealing for recurring payments, high-volume transactions and business-to-business (B2B) operations. The ACH network handled 8.2 billion ACH transfers in the first quarter of 2024.

Below, we'll explain how ACH transactions work, how they compare with credit card transactions, and the benefits and drawbacks of each method. Here's what you need to know.

What's in this article?

• What are ACH transactions?
  
• How ACH transactions work
  
• How credit card transactions work
  
• Pros and cons of ACH transactions vs credit card payments
  

What are ACH transactions?

ACH transactions are a form of electronic funds transfer in the US, and they transfer money electronically between bank accounts through the ACH network.

Managed by the National Automated Clearing House Association (Nacha), the ACH network plays a major role in the US financial system. It operates as a central processing system that batches transactions together and routes them to financial institutions. Banks use this network as an intermediary for transactions rather than connecting with each bank individually, thus reducing costs and boosting efficiency.

ACH transactions can process large volumes of payments electronically. They offer a reliable alternative to manual payment methods, such as paper cheques, and are commonly used for recurring transactions, such as subscriptions, automatic bill payments or payroll. ACH transactions are also commonly used for bill payments and B2B transactions.

ACH transactions can be credits or debits: credit transactions, also known as direct deposits, involve depositing funds into a bank account. Debit transactions, or direct payments, involve withdrawing funds from an account.

How ACH transactions work

Here's the general process for initiating and completing an ACH transaction:

• Initiation: The process begins when a party (the originator) initiates a transaction. This could be an individual, a business or a government entity. The originator submits a request to their bank or payment processor to credit (deposit into) or debit (withdraw from) a bank account.

• Batching: ACH transactions aren't processed individually – they are batched. The originator's bank, known as the Originating Depository Financial Institution (ODFI), collects multiple ACH transactions and batches them together before sending them to the ACH network.

• Processing: The ACH network processes the batches at regular intervals, typically overnight or several times throughout the day. During processing, the ACH network sorts transactions and sends them to the appropriate financial institutions.

• Settlement: The ACH network sends each transaction to the Receiving Depository Financial Institution (RDFI), which is the bank where the receiving account is held. The RDFI updates the account balances accordingly, crediting or debiting as needed.

Once the funds have been moved, the transaction is complete. The process typically takes between one and three working days, although same-day ACH transactions are becoming more common.

How credit card transactions work

Here's the general process to initiate and complete a credit card transaction:

• Authorisation: When a cardholder makes a purchase, they swipe or insert their credit card or enter their card details online. This triggers an authorisation request, which the business's point-of-sale (POS) system sends to the acquiring bank (the financial institution that processes credit card transactions for the business). The acquiring bank then sends the request to the credit card network (e.g. Visa, Mastercard, American Express), which routes it to the cardholder's issuing bank (the bank that issued the credit card).

• Approve or decline: The issuing bank reviews the cardholder's account to ensure that there's enough credit available and that the card is in good standing (not stolen or blocked). If the account passes this review, the issuing bank authorises the transaction, sending an approval back through the credit card network to the acquiring bank and then to the business. If there's an issue, the issuing bank declines the transaction and sends a corresponding message to the business's acquiring bank.

• Batching: Businesses typically batch-approve transactions and submit them to the acquiring bank for settlement. This happens at regular intervals, normally at the end of each working day.

• Settlement: The acquiring bank processes these transactions with the credit card network, which then passes them to the issuing bank for settlement.

• Funds transfer: The issuing bank transfers the funds to the credit card network, which routes them to the acquiring bank. The acquiring bank then deposits the funds into the business's account, usually within a day or two.

• Billing: The cardholder receives a monthly statement from their issuing bank detailing all their transactions and the total amount owed. The cardholder must make the minimum payment at the very least by the due date to avoid late fees and interest charges.

Pros and cons of ACH transactions vs credit card payments

ACH transactions and credit card payments are widely used for electronic fund transfers. Both methods eliminate the need for physical cash or cheques, and both can be used to pay bills, purchase goods or services online, and transfer funds between individuals. Reputable ACH processors and credit card companies implement security measures to protect financial information during transactions.

Beyond these similarities, ACH payments and credit card payments differ in certain key aspects. ACH transactions are ideal for cost-effective, bulk and recurring payments. They're known for their security and large-scale processing capabilities, but lack the flexibility and real-time authorisation provided by credit cards. Credit card payments are ideal for retail and online transactions, but they do incur higher transaction costs for businesses, as well as potentially higher interest rates and additional fees for cardholders. The choice between ACH and credit card payments depends on the context and priorities of the user or business.

ACH transactions

Pros

• Lower costs and fees for businesses: ACH transactions typically incur lower fees for businesses compared with those of credit card payments, making them cost-effective for bulk transactions and regular transfers. Transaction fees typically range from pennies to a few pounds per transaction.

• Secure: A centralised network processes ACH transactions securely, reducing the risk of fraud and unauthorised transactions.

• Large-scale processing: ACH transactions can handle large volumes of transactions in batches, making them suitable for businesses that need to process multiple payments or payroll.

Cons

• Slower processing times: ACH transactions typically take one to three working days to settle. Options are available for faster ACH transfers, but these might come with additional fees.

• Limited real-time authorisation: ACH transactions aren't authorised in real time, so retailers don't generally use them. In addition, ACH transactions don't offer a guarantee of funds and can be rejected because of insufficient funds in the payer's account, potentially causing delays or failed transfers.

• Less flexibility for customers: ACH transactions are typically used for specific purposes, such as bill payments or direct deposits, and lack the versatility of credit cards in retail settings.

Credit card payments

Pros

• Real-time authorisation: Credit card payments can authorise and confirm transactions instantly, which is useful for in-store and online purchases, and they offer a guarantee of funds. The credit card network verifies the payer's credit limit before approving the purchase. If there are insufficient funds, the transaction is declined.

• Faster transactions: The payment is processed immediately and funds are deducted from the payer's account straight away, although it may take one to two working days for the transaction to appear on the recipient's statement.

• Customer flexibility: Customers can use credit cards for a wide range of transactions, including shopping, travel, dining and entertainment.

• Rewards: Credit cards often provide additional benefits, such as rewards, points or cash back.

• Customer protection: Credit cards offer stronger customer protection compared with ACH transfers. If you experience fraudulent charges on your credit card, you can usually dispute them and get your money back, while ACH transactions offer limited protection in such cases.

• Credit building: Responsible credit card usage can help to build a positive credit history and credit score.

Cons

• Higher fees for businesses: Credit card payments often involve higher transaction fees and interchange fees, which can affect businesses' profits. These fees can vary depending on the network (e.g. Visa, Mastercard), card type and issuer – but they typically range from 1.5% to 3.5% of the transaction amount, plus additional per-transaction charges.

• Potential for debt and fees: Credit card holders might face high interest rates, annual fees and other charges, leading to debt accumulation if not managed properly.

• Security risks: Credit card information can be targeted by hackers, leading to potential fraud or identity theft. Disputes and unauthorised transactions can add complexity to the resolution process.