ACH payments cost less. Will online shoppers ever switch?

For merchants, ACH payments often cost significantly less than credit cards. But steering consumers toward this payment method requires creativity and care.

Hayden Pirkle is a product marketing manager at Plaid. He is interested in the ways in which data can be used to improve financial inclusion and well-being.

Increasingly, U.S. consumers are doing their shopping online.

Ecommerce sales made up 14.3% of total retail sales in 2018, up from 12.9% in 2017 and 11.6% in 2016. In fact, ecommerce accounted for 51.9% of total retail sales growth last year. As online shopping continues to gain market share, many merchants are taking a close look at the payment methods that they offer to consumers.

For now, the credit card is king, with 48% of consumers saying they prefer to use credit cards when shopping online. By contrast, 28% prefer debit, and 12% prefer PayPal.

Credit cards are appealing for a number of reasons. They enable consumers to buy now, pay later—and be rewarded richly for it. Credit cards are convenient to use and offer consumers significant protection against fraudulent purchases. (article continues below)

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A costly convenience.

However, credit cards can be expensive for merchants, who typically forfeit around 2% of the purchase price to interchange fees. These fees are paid on a per-transaction basis to credit card companies and issuing banks; they go to fund things like system maintenance, fraud protection, and rewards points. (They’re also how card companies make money.) For better or worse, it looks like they will increase in the short term.

When you consider that U.S. consumers spent more than $517 billion online in 2018, those fees have started to add up. In fact, U.S. merchants paid Visa and Mastercard more than $43 billion in fees in 2017.

What can merchants do to reduce transaction costs and grow top-line revenue? For many, the answer lies in the Automated Clearing House (ACH), the network that enables bank-to-bank transfers in the U.S. If you’ve ever sent money to a friend with Venmo, had a utility bill automatically debited from your checking account, or received a direct deposit from your employer, then you have transacted via the ACH network.

As online shopping continues to gain market share, many merchants are taking a close look at the payment methods that they offer to consumers.

There are two common pricing models for ACH processing: flat rates (typically $.25 - 1.50) and percentage fees that range from 0.5% - 1% (often these percentage-based fees are capped at or around $5). Perhaps for that reason, $51.2 trillion was processed via ACH, compared with $6 trillion over the Visa and Mastercard rails.

Those numbers underscore the appeal of ACH payments: they are often significantly cheaper than other methods. For example, a $5,000 transaction made with ACH could cost the originator anywhere from $0.25 - $5, whereas the same transaction would cost $90 if it were made with a credit card.

Alto Pharmacy is a case in point. Over time, high-value transactions (>$1000) have come to represent more than 5% of their monthly recurring revenue. Because most were made with credit cards, Alto was paying at least $50 per transaction, sometimes as much as $150. By steering its customers toward ACH, they have been able to save more than $20,000 per month. They pass some of those savings along to consumers in the form of an incentive discount; the rest they reinvest in the business. (article continues below)

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Connecting accounts with ACH.

If ACH is so much cheaper, then why isn’t everyone already using it?

The answer is that, historically, ACH has lacked the speed, convenience, and reward offerings of credit cards. ACH payments are also susceptible to a number of risks, including the potential for fraudulent activity and relationship-damaging non-sufficient funds (NSF) fees—often paid by consumers. But recent technological advances have in many ways rendered the two payment methods competitive in terms of their safety and convenience.

What can merchants do to reduce transaction costs and grow top-line revenue? For many, the answer lies in the Automated Clearing House (ACH).

For example: when ecommerce companies request and receive permission to connect to users’ bank accounts, they can leverage consumer financial data to reduce overall payment times, prevent fraud, and reduce the likelihood of NSF fees. The result is a more seamless payment experience, one that enables merchants to cement customer loyalty while driving top-line revenue growth.

As we’ll see, connected account services go a long way toward leveling the playing field between ACH and credit cards. Enhanced connectivity can accelerate, streamline, and de-risk ACH payments, resulting in reduced churn and improved customer relations.

But how to get customers on board? In this article, we’ll take a closer look at the difference between ACH and credit cards, weigh the pros and cons, and review some of the tactics that merchants use to drive ACH adoption among their customers. (article continues below)

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Faster and easier.

Prior to 2016, ACH payments were typically processed in 2-3 days. During that time:

  1. The originator initiated a payment (a credit or debit from another bank account)
  2. The payment was transferred to the Originating Depository Financial Institution (ODFI)
  3. There it was cleared by an “operator” such as the Federal Reserve or The Clearing House
  4. It arrived at the Receiving Depository Financial Institution (RDFI)
  5. The RDFI deposited the settled funds in the recipient’s account.

Most ACH payments are still conducted this way. But the emergence of Same-Day ACH in 2016 enabled this 2-3 day window to be trimmed to a single day—although banks typically upcharge for this faster ACH service.

Account authentication is the process of validating that a bank account and its associated account and routing numbers are real. It precedes the initiation of an ACH payment and is designed to reduce fraud, payment disruptions, and any associated fees. Traditional methods include submitting a voided check or verifying receipt of microdeposits; these methods add several days to the ACH payment process, which can end up taking six days from start to finish.

In the past, users were required to track down their account and routing numbers, wait a few days for microdeposits to show up in their accounts, and return to the ecommerce site to verify them. Perhaps unsurprisingly, many of them failed to complete the process.

Needless to say, that kind of timeline was unappealing for all involved. Customers became frustrated, forgot to finish, and/or opted for a quicker payment method—often with a different vendor. Merchants preferred payment methods with higher completion rates.

Thanks to technological advances, microdeposits and voided checks are no longer the only ways to authenticate an account. With instant account verification, users enter their bank login credentials, and their accounts are authenticated in a matter of seconds. It can shorten the amount of time it takes to make your first ACH payment by up to three days.

Just as important, it removes significant friction from the onboarding process. In the past, users were required to track down their account and routing numbers, wait a few days for microdeposits to show up in their accounts, and return to the ecommerce site to verify them. Perhaps unsurprisingly, many of them failed to complete the process.

Venmo and Coinbase offer good examples of seamless ACH workflows. These businesses can’t transact with users until accounts have been authenticated and funds have been loaded onto their platforms, so a quick and easy ACH experience is critical to reducing drop-off rates. (article continues below)

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Less Risk.

Merchants who skip microdeposit verification and allow users to transact during the account verification process, or skip account verification entirely, are exposing themselves to significant fraud risk. At the same time, users may unwittingly spend more than they have in their account. That generates non-sufficient funds (NSF) fees that annoy users while cutting into merchants’ realized revenue.

Account connectivity de-risks ACH in several ways.

  1. By instantly verifying accounts and confirming important user identity details with what’s on file at the bank, merchants can identify and isolate dummy or inactive accounts and reduce the likelihood of fraud, while enabling users to transact immediately in a secure fashion.
  2. Real-time account balance checks prevent users from spending more than they have in their accounts, so they don’t get hit with overdraft or NSF fees. As a result, vendors like Placid Express experience a near-zero rate of NSF fees and chargebacks on their ACH payments.
  3. Finally, account connectivity can enable merchants to pull account holder information: things like name, email address, and physical address. That’s helpful for seamless onboarding, verifying user identity, and know-your-customer (KYC).

Less churn.

The concept of a “card on file” has been making waves in the payments space in recent years.

The term describes the storage of a consumer’s credit card for future purchases. Consumers enter their credit card numbers once, then pay for future goods or services without having to re-enter their payment information.

Uber didn’t invent this model, but they have gone a long way to perfecting it. They effectively transformed payment from something users “did” to something that “happened.” Once you book your ride, no further action is required.

Many businesses can’t transact with users until accounts have been authenticated and funds have been loaded onto their platforms, so a quick and easy ACH experience is critical to reducing drop-off rates.

“The seamlessness is predicated on how easy it is to get out of an Uber and pay. No matter where you are in the world in the 600 cities we’re in, Uber pretty much feels the same,” said Judy Zhu, Uber’s U.S. fintech and loyalty partnerships lead.

While card-on-file delivers a smooth payment experience, the mechanism is susceptible to “payment churn,” which occurs when a customer involuntarily stops being able to pay because the card on file no longer works. Credit cards expire every 3 years, leading to 33% annual churn.

Say a user loses their credit card and orders a replacement, but they never update their Uber account with the new information. They’re not necessarily unhappy with Uber’s services; rather, it’s an inherent risk of the card-on-file method. The result, for Uber, is lost revenue.

Using ACH instead of credit cards, or creating an account on file experience, has the potential to mitigate that risk. Credit cards are declined ~15% of the time, while checking accounts are much more stable (~1-2% decline rate). They don’t expire and can’t be left in the backseat of a taxi. (article continues below)

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Driving Adoption.

While ACH can deliver considerable value to merchants, it’s only worth the cost of implementation if you can get a large number of users on board. That means rewiring some deeply ingrained consumer behavior.

Are high credit card fees a necessary cost of doing business in the digital economy? For many ecommerce businesses, they don’t have to be.

Instead of reaching for their credit cards at the point of sale, today’s shoppers must learn to enter their bank login credentials for ACH. Given the appeal of credit card rewards programs, creating that behavior change is no small task.

Just as credit card companies and banks use rewards programs to steer consumers toward their cards, merchants could do the same thing for ACH. Freelance marketplace Upwork provides an interesting example.

First, they charge an extra 3% on all credit card transactions. Second, they incentivize high-volume users by offering a $30 monthly fee for unlimited ACH transactions. That makes sense for anyone who spends more than $1000 a month on the platform.

A smarter solution.

For now, credit cards are the U.S. consumer’s preferred method for purchasing goods and services online.

That’s understandable. Buy-now/pay-later, ease of use, and rewards programs are just a few of the features that make credit cards an appealing option. But high interchange fees cut into merchants’ top-line revenue and often result in higher prices for consumers.

Are high credit card fees a necessary cost of doing business in the digital economy? For many ecommerce businesses, they don’t have to be.

A $5,000 transaction made with ACH would cost the originator less than a dollar, whereas the same transaction would cost $90 if it were made with a credit card.

A seamless ACH payment solution delivers value to both merchants and consumers. Merchants can improve margins through lower payments costs, reduced churn, and improved overall customer satisfaction. Consumers can enjoy a “set it and forget it” payment option that keeps their frequent payments up and running without disruption—while likely saving them money along the way.

Critical to the more widespread adoption of ACH for ecommerce are tender steering mechanisms designed to keep consumers’ credit cards in their wallets at checkout. Lower prices, rewards schemes, or a month of free service are just a few of the ways that merchants can nudge their customers in that direciton.

Hayden Pirkle is a product marketing manager at Plaid. He is interested in the ways in which data can be used to improve financial inclusion and well-being.

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