For nearly 50 years, banks in the United States relied on the Automated Clearing House (ACH) as the sole payment rail for transferring money electronically among bank accounts. While the rest of the world moved ahead with real-time payments and instant services, ACH providers were left behind. Now, the Federal Reserve is looking to change all that.
The Fed’s newest payments highway, FedNow, will enable real-time payments for financial institutions of any size 365 days out of the year. Financial institutions will be able to exchange necessary information instantly to debit and credit customer accounts via clearing functionalities when settling payments. Banks will now also be able better to notify end users of accepted or failed payments.
Like the Real-Time Payments (RTP) network, the payment solution will enable customers to transfer money between accounts anytime. Real-time payments are a game changer for everyone involved: Employees can receive their wages quicker, and merchants can get paid without the waiting period for funds to settle.
Unlike RTP, FedNow will service all federal reserve banks through the FedLine network. The network provides payment and information services like secure electronic messaging systems and IP-based solutions to over 10,000 financial institutions.
The instant payment service FedNow offers will be available for individuals and businesses. However, the Fed plans to cap the program’s initial transaction limit at $25,000. Because of this ceiling, FedNow will benefit small businesses and individual retail payments more before the Fed expands the transaction limit.
Over 100 participants from various credit unions and depository institutions are in the pilot program.
In the earliest stages of the program, only licensed banks can tap into the Fed’s master accounts, giving them access to the FedNow’s payment highway. As it stands, the program excludes non-bank financial institutions. This omission comes at a loss as this program could help Fintechs expedite payments at a lower fee to consumers, from depositing checks to paying bills.
But Fintechs don’t plan on being left out for long. The Financial Technology Association (FTA), representing fintech giants like Stripe, Marqeta, Wise, and others, called for “broader entity access” following the FedNow pilot program.
In 2019 when the Fed released a request for comment on its plans to develop FedNow, many Fintechs wrote in with ample support. In a commentary letter from Stripe, the company noted many non-bank payment service providers will be “indirect consumers of FedNow's services through their partner banks.”
Eventually, the program may be expanded to support non-bank Fintechs. In that case, there will be more opportunities for innovation among banking partners as many consumers handle finances directly through various mobile payment applications. Beginning use cases may look like paying suppliers in real-time, faster mortgage payments, and day-of payouts for contract work.
More accessible real-time payments also mean greater elimination of chargeback risks merchants may incur because the funds transfer immediately. As a result, both banks and nonbanks could ensure greater user satisfaction.
And for vulnerable groups like the underbanked and unbanked, faster banking and payment processing will become even more accessible as community banks access the instant payment system.
However, when Fintechs gain FedNow access is still up in the air. Federal Reserve Chairman Jerome Powell noted FedNow is for the broad swath of Federal banks already in America. Going beyond that will take some scrutiny, Powell said during a recent House Financial Services Committee hearing.
Because nonbanks don’t undergo as much federal regulation, that scrutiny will likely look like tighter governmental control and legislation surrounding nonbank lenders as the Fed focuses on consumer protections and fraud prevention.
Until nonbanks are granted full access to the new payment highway, Fintechs will likely continue to work on overlaying technology into other legacy systems still present within banks.
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