The Federal Reserve has always played a role in providing payment services to supplement those of private-sector providers, processing small-value transfers like recurring bill payments and direct payroll deposits. Today, Federal Reserve Banks are working to roll out an instant payment platform this year to help all sizes of financial depository institutions provide safe, instant payment services on any day and at any time. They are integrating with Federal Reserve systems, developing infrastructure, and collaborating with stakeholders on design to make fast payment and settlement available as soon as possible. But what is FedNow, and what does it do?
This Federal Reserve payment system will be called the FedNow Service and will provide businesses and individuals with the ability to send and receive FedNow real-time payments through their depository accounts. Funds will be made instantly available so the recipient can manage their money more efficiently. The platform will increase the number of market options for settling instant payments and help financial institutions provide more innovative instant payment solutions to their customers.
This article will overview the defining features of this new federal reserve payment system, how it works, and the benefits of using it.
The Features of FedNow
The features of the FedNow Service were developed as a direct result of industry feedback, in-depth analyses, and more than 180 comment letters in response to the 2019 Federal Register notice. In an effort to transform the U.S. payment infrastructure, these fed services improve on old ACH payment systems and focus on payment traceability, speed, and transparency.
Wires and ACH payments are notorious for taking too long to process. A primary improvement FedNow provides is that it can process transactions 24/7, even on weekends, bank holidays, and outside normal business hours. Banks on both ends of a transaction can instantaneously swap information and transfer money between customer accounts, and the sender gets instantly notified when their payment is successful.
Other features of the initial FedNow launch in 2023 will include:
- Data security tools for fraud prevention, i.e., transaction value limits, reporting features, etc.
- Liquidity management transfer tool to support instant transactions and liquidity of funds
- Request-for-payment capacity
- Tools to help participants handle payment inquiries, reconcilements, and exceptions
- Option to enroll only as a receiving participant
- Support for the use of correspondents and service providers
- Broadcasting of participant availability
- User interface for data needs
- Access to balance information on weekends
- Interoperability supported by the use of ISO® 20022
- Core settlement and clearing ability to support a variety of transaction types
After these fed services launch, additional features will be added later to enhance case management, fraud prevention, and error resolution. FedNow will also continue to engage with the industry and consider adding features like person-to-person payment support using a receiver alias.
The Benefits of FedNow
FedNow offers many benefits, but one of the most significant is its new ability to support a wider variety of financial institutions, especially smaller banks across communities. FedNow was designed specifically to provide instant payment services to more institutions than ever. Businesses and individuals benefit when sending money is cheap, and settling is quick. As the adoption of FedNow expands, more people will have access to instant payments, which will help individuals get access to their money faster and help businesses run more efficiently with greater insights into their budgets at all times.
Here are some additional noteworthy benefits of FedNow real-time payments:
- Lower cost of processing transactions across several categories
- Integration with the larger network of the Federal Reserve, benefitting local financial institutions and account holders
- Fast access to paychecks instead of delayed payroll times
- More efficient business management thanks to increased cash flow control and flexibility
- FedNow guarantees to handle settlements within 20 seconds, which is much faster than any current alternatives.
Common Users of FedNow
The following types of payments will be supported by the FedNow Service:
- Business to consumer
- Consumer to business
- Business to business
- Consumer to government
- Government to consumer
- Business to government
- Me to me
- Person to person
One of the drawbacks of the initial FedNow launch is its transaction limit of $25,000. While this limit exists, FedNow may not be especially useful for larger-scale organizations and will be primarily beneficial for small businesses, P2P payments, and retailers.
How FedNow Will Work: Payment Flow
So, what is FedNow designed to do? Instant payment systems all follow a similar process flow with two main steps: 1. Clearing, which involves the exchange of payment information and fraud screening, and 2. The settlement, wherein the money moves between the accounts of the sender and receiver. The breakdown is as follows:
- Certification of the legitimacy of a transaction
- Creation of a record of payment
- Settlement by moving money from one bank to the other
- Confirmation of the success of the transaction
FedNow will be quick and easy to use. Here is an outline of what the FedNow user experience will be like:
- An individual or business will start a transaction by sending their institution a payment message. The sender’s institution will screen the payment using its own procedures.
- The sending institution will send a payment message to FedNow.
- FedNow will verify that the message meets the required specifications.
- FedNow sends the message to the receiving institution to ensure that it will accept the message of payment. This institution can confirm or deny the payment.
- The receiving institution will respond to FedNow with a positive message of confirmation that it will accept the payment.
- FedNow credits and debits the account of the financial institutions used by the sender and receiver.
- FedNow forwards a payment message to the receiving institution with credit and acknowledges to the sender that the settlement is complete.
- The receiving institution credits the account of the receiver immediately.
The Cost of FedNow
Because the Federal Reserve has developed FedNow to ensure broad access to instant payments, the costs of using it are relatively low. Here is what the fee structure will look like:
- $0.045 per credit transfer paid by senders
- $0.01 fee for each Request for Payment message, paid for by the individual requesting it
- A monthly fee of $25 per routing number for participating financial institutions
Compared to other settlement and payment systems, like wires, these fees are minimal. This is possible because the Federal Reserve is a not-for-profit organization and can provide competitive rates for the benefit of users.
FedNow vs. Fedwire
FedNow and Fedwire are both electronic money transfer systems operated by the U.S. Federal Reserve Banks. They both provide same-day transactions between institutions; however, Fedwire limits transactions to weekdays between the hours of 7:30 AM and 7 PM, while FedNow can process transactions and settlements 24/7. On the other hand, Fedwire can be more beneficial for larger companies, as its transfer limits are larger than FedNow’s limits.
Another distinction between these transfer systems is who uses them. Fedwire can be used by any combination of small businesses, consumers, businesses, or government entities for low-volume, large-dollar urgent payments. Conversely, FedNow is primarily used between businesses, businesses and consumers, and individuals for payroll, utilities, insurance, and vendor or supplier disbursements.
FedNow and the ACH Network
Automated clearing house (ACH) is an electronic transaction processing network for low-value payments between institutions. Since its rollout 50 years ago, there have been no new payment rails until FedNow in 2023. ACH depends on the National Settlement Service of the Federal Reserve, which is closed on evenings, holidays, and weekends. The deployment of FedNow will therefore affect the popularity and usage of ACH and may end up replacing it.
During the transition period, it will take time for banks to integrate with a new network. After FedNow’s implementation, ACH will still likely be used for some specific transactions — similar to the way people still use checks today, even though ACH is available.
Q: Who is eligible to participate in FedNow, and how can the service be accessed?
A: FedNow is available to all depository institutions that maintain eligibility for accounts at Reserve Banks. Users can appoint a service provider to send and receive payment instructions for them and can settle payments in a correspondent account if they’d like to. These fed services can be accessed through financial institutions the same way other payment systems are accessed.
Q: Can FedNow be used for transactions across borders?
A: For now, FedNow only supports payments domestically among U.S.-based institutions.
Q: When will the Federal Reserve release more details about the FedNow Service?
A: As more details become available, the Federal Reserve will provide information to industry partners to ensure their preparedness for implementation when the service is rolled out. Future information, such as technical specifications, timing, product details, and pricing, will be published through official channels like FRBservices.org, so keep an eye out for updates.
Q: What is the benefit of instant payments?
A: Instant payments aren’t just convenient. The flexibility of instant payments empowers households on a budget to receive quick, real-time transfers and avoid high-interest borrowing, late fees, and overdrafts that can hurt their financial health. Small businesses rely on flexibility as well to make payments on time and negate the need to take on expensive short-term financing.