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The Rise of Instant Payments

The Federal Reserve Launches FedNow® Service

By Hannah Flanders

In 2022, research by the Pew Research Center found that over 75% of U.S. adults have utilized PayPal, Venmo, Zelle, or Cash App at least once to send and receive payments. Of these users, ease is cited as the main reason for their adoption.

As banks look to further engage their customers, remain competitive in a quickly advancing society, and provide a safe and trusted alternative to popular payment apps, the Federal Reserve has launched its long-awaited FedNow instant payment service.

What is FedNow?

Launched in July 2023, FedNow allows financial institutions of all sizes to provide safe and efficient instant payment services to customers nationwide. Already, over 100 financial institutions across the U.S. have begun offering FedNow to customers. Of these institutions, First Citizens State Bank in Whitewater is currently one of the few in Wisconsin.

“As early adopters of the service, our team believes that FedNow, and other real-time payment systems, are the future of payments,” states Nate Parrish, First Citizens State Bank president. “We want to ensure our bank is on the cutting edge and not left behind when this technology really takes off.”

The release of the FedNow Service includes baseline functionality including core clearing and settlement capabilities. Currently, FedNow not only facilitates the peerto- peer (P2P) functionalities many customers are familiar with, but also has the capabilities to facilitate payments between businesses or between businesses and consumers. Further developments are expected to launch in phases as industry demand evolves.

FedNow, however, is not the first service to provide real-time payments to banks. In 2017, The Clearing House launched its Real Time Payments® (RTP) service to all federally insured U.S. depository institutions. As of mid-2023, over 350 banks and credit unions were listed as participants in RTP.

With several banks in Wisconsin signed on as RTP participants, the most significant difference bankers will notice with FedNow is the development of a new rail. The rail, which runs concurrent to already existing credit card and Automated Clearing House (ACH) payment rails, is overseen by the Federal Reserve Bank. Additionally, beginning in 2024, certified institutions will pay a monthly participation fee of $25. On the customer end, varying transaction limits (only $500,000 for Fed- Now) and clearing times occurring in just a matter of seconds may be the most obvious difference.

“‘Instant’ is the next modernization of ‘faster’ in the payments landscape,” says Julie Redfern, chief banking officer at Lake Ridge Bank in Monona. “Services such as Fedwire and FedACH, which are only available during certain windows, will always have a place. Fed- Now is the next step in remaining competitive and providing our customers the services they expect.”

For banks in deposit-gathering mode, the implementation of Fed- Now will help increase cash flow by allowing customers to move funds directly from one bank account to another, rather than storing funds within third-party apps. These capabilities to move money instantly can be found on the certified bank’s website or mobile app.

Getting Started

Unlike previous real-time systems, FedNow is generally seen as more accessible to mid-size and smaller banks. In this, smaller banks utilizing FedNow will now have the ability to access real-time payments without having to pay their larger competitors for the service.

Both First Citizens State Bank and Lake Ridge Bank, which is currently in the implementation process, are connecting to FedNow’s receiving rail (i.e., the bank cannot initiate customer payments) via integration of their core system. However, participation in the FedNow service is flexible, meaning that banks may opt to both send and receive payments, support liquidity management transfers, or access settlement services between correspondents and respondents. Additionally, banks may also choose to connect to the rail network through partnership with a FinTech company.

“FedNow has been slow out of the gate mainly due to bottlenecking on the core’s end,” says Redfern. “If an institution is considering going through a Fin- Tech, it’s important to make sure that they are already Fed approved rather than having to face additional delays.”

Parrish also emphasized the importance of getting ahead of the instant payment movement. “Especially with core providers being slow to adopt the idea of instantaneous movement, it may take several years for interested institutions to get on the rail. Even if 900 institutions are able to join in the next year, it could still take another nine or 10 years before FedNow is fully implemented across the country.”

To begin the process of implementation, banks are encouraged to consider their overarching payments plan and examine their operating processes to determine if the institution has the capabilities to support real-time payments. This process may require meeting with third party service providers or enhancing in-house technology.

From there, banks must undergo onboarding and testing. Certification, according to the Fed, is the final stage which entails the completion of an operational readiness test and network experience checklist. The Independent Community Bankers of America (ICBA) has emphasized that this process is not meant to be difficult, but rather to ensure that institutions are prepared to support instant payments.

The Future of FedNow

With just over 100 providers across the U.S. connected to FedNow’s rail as of October 2023, the main issue currently certified institutions are facing is the lack of transactions.

“Aside from conducting P2P payments, many customers are not entirely aware of the possibilities of FedNow,” says Parrish. “As bankers, it is our role to help inform our customers and small business clients of the possibilities of instant payments. From payroll to recurring bill payments or emergency disbursements, the ability to immediately move money will impact the way many operate.”

Though the Fed expects usage to increase as more institutions go live, banks that have incorporated FedNow into their payment offerings play an important role in emphasizing the key use cases and sharing with customers the possibilities of real-time payments.

Parrish also adds that the prospect of conducting Government-to- Consumer (G2C), Customer-to-Government (C2G), and Business-to-Government (B2G) payments on FedNow to be a significant factor as to why banks should become participants. Already, the U.S. Department of the Treasury’s Bureau of the Fiscal Service is ready with instant payment capabilities via FedNow.

Of course, as fraud continues to evolve, especially as increasingly more services become digitalized, risk mitigation and security is a significant consideration for many banks. While many theorize that the use of FedNow’s instant payment service will significantly cut down the number of uninsured, fraudulent payments that occur on third party apps as well as reduce check fraud scams across the country, it is vital that participating institutions have up-to-date strategies and procedures to mitigate risk.

Through FedNow, key risk management and information security solutions, such as accepting payments without posting, the ability to request more information from the sending or receiving institution, data encryption and tokenization, as well as several authentication and authorization measures, are available to participants. These tools, too, are expected to evolve and expand as the service grows. However, as the first line of defense against fraud, the Fed emphasizes that all participating institutions ensure that their overall fraud management strategy is consistent with the evolving payments landscape, communicated with vendors and customers, and regularly reviewed.

As ‘instant’ becomes the status quo for payments, FedNow can help drive commerce in new sectors, increase cash flow throughout communities, and offer financial institutions of all sizes innovative solutions to meeting the ever-evolving expectations of customers. To learn more about FedNow, and what its services may offer your bank and its customers, please visit frbservices.org/financial-services/fednow.

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Executive Letter: The Federal Reserve’s FedNow® Service Offers New Payment Options

By Rose Oswald Poels

As you have likely seen, the Federal Reserve’s FedNow® Service is now live, having initially launched in late July with baseline functionality to support account-to-account transfers and bill pay. Through the service, financial institutions are able to instantly transfer money for customers any time of the day and any day of the year, adding greater flexibility for customers.

For those who are not yet familiar with the new service, FedNow Service is the Federal Reserve’s new instant payment infrastructure that allows financial institutions of any size to provide safe and efficient payment services. Customers can send and receive instant payments; recipients have full access to funds immediately. The following is a standard payment flow example from the FedNow Service:

  1. A sender (i.e., an individual or business) initiates a payment by sending a payment message to its Financial Institution (FI) through an end-user interface outside the FedNow Service. The sender’s FI is responsible for screening the payment according to its internal processes and requirements.
  2. The sender’s FI, or its service provider, submits a payment message to the FedNow Service.
  3. The FedNow Service validates the payment message, for example, by verifying that it meets message format specifications.
  4. The FedNow Service sends the contents of the payment message to the receiver’s FI to seek confirmation that it intends to accept the payment message. At this point, the receiver’s FI has the opportunity to confirm, among other things, that it maintains the specified account.
  5. The receiver’s FI sends a positive response to the FedNow Service, confirming that it intends to accept the payment message. Steps 4 and 5 are intended to reduce the number of misdirected payments and resulting exception cases that can occur in high-volume systems.
  6. The FedNow Service debits and credits the designated master accounts of the sender’s and receiver’s FI (or those of their correspondents), respectively.
  7. The FedNow Service sends a payment message forward to the receiver’s FI with an advice of credit and sends an acknowledgement to the sender’s FI that settlement is complete.
  8. Outside of the FedNow Service, the receiver’s FI credits the receiver’s account.* The receiver’s FI makes funds available to the receiver immediately after step 7. This crediting to the receiver’s account as well as the debiting of the sender’s account by their respective financial institutions happens outside the FedNow Service.*

*The FedNow Service processes payments around the clock, every day of the year. However, for accounting and reporting purposes, the FedNow cycle date differs from the calendar date for a period of time (from close until midnight) because it aligns with the Fedwire® Funds Service business day, which generally has a closing time of 7:00:59 p.m. ET. If the Fedwire Funds Service business day is extended, the FedNow cycle date extends along with it. For consistency, the FedNow Service aligns to the same timeframe for weekends and holidays.

For financial institutions that elect to be a receive-only participant, the institution is able to receive customer payments, but may not initiate customer payments, except to return payments using the service. Alternatively, a financial institution may elect to be able to send and receive customer transfers. A financial institution could also elect to participate in the FedNow Service to receive requests for payment via the FedNow Service.

The FedNow Service will also support transfers between participating financial institutions, either on behalf of their respondents or for their own internal purposes. This type of transfer includes settlement services.

In trying to identify future educational offerings and other resources for the WBA membership, I ask that bankers please complete the following short survey regarding use or non-use of the new service. Results will be kept confidential.

Take the Survey

Additional FedNow® Service Resources

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Banks Advised to Gear Up Now for 2023 Launch of FedNow Instant Payments

By Paul Gores

Banks interested in joining next year’s rollout of the FedNow faster payments service should be preparing for it today, those familiar with the program say.

FedNow, a Federal Reserve payments service similar to The Clearing House’s RTP network, is scheduled to be offered to banks in the U.S. as soon as May of 2023.

According to the Fed, the FedNow Service will facilitate the nationwide reach of instant payment services by financial institutions, regardless of size or geographic location, and do it around the clock, every day of the year.

Businesses and consumers will be able to send and receive instant payments at any time of day via banks and credit unions that use FedNow. Recipients will have full access to funds immediately, giving them greater flexibility to manage their money and make time-sensitive payments, the Fed says.

“Wisconsin banks have been very innovative over the years, and this is another innovation that’s coming that Wisconsin banks should be looking at and should be adopting when they are ready,” said Todd Koehn, vice president for faster payments solutions at Bankers’ Bank. “It potentially could be a game changer for their customers.”

FedNow currently is conducting a pilot program with more than 100 banks, core processors, and other third-party organizations involved with payments technology.

The U.S. has trailed Europe and some parts of the world in developing an instant payment network. While the privately owned Real Time Payments network, or RTP, is available to American banks, the Fed felt like it needed to play a role to expand the fast-payments realm, experts said.

“All of the market players going back a decade recognized it wasn’t if but when instant payments would come domestically into the market and ecosystem,” said Nick Denning, senior vice president –payments industry relations, for ICBA Bancard. “I think at that time the Fed was trying to determine what role they would play, if any, in instant payments, and ICBA, community banks, and other groups definitely advocated for the Fed to play that operator role to bring more network capabilities to the market.”

Now that the Fed’s faster payment network is getting ready to launch — and will be seeking early adopters — banks that want to participate should be gearing up for it, experts said. To do that, banks should make sure they have an overall payments plan, and begin meeting with their core processor or fintechs that in most cases will be the channel connecting the bank and the new behind-the-scenes FedNow payments “rail.”

“Community banks should be talking to their key technology partners,” said Koehn. “What are their timeframes to get on the rail? How long will it take once they’re on the rail for my bank to join the rail?”

Earlier this year, the Fed disclosed fees for FedNow. But that doesn’t include the cost of the infrastructure needed by a bank to use the network. The overall cost to implement a connection to FedNow is one reason many banks are expected to go through their core processor or a fintech instead of directly to the Fed.

“It’s cheaper to go direct to the Fed, but you’d have to build your own infrastructure and maintain it. And that’s expensive,” Koehn said. “Most community banks will connect through a processor, whether it’s an online banking processor or a core processor.”

According to the Fed, FedNow’s anticipated fees include:

  • A $25 monthly FedNow Service participation fee for each routing transit number (RTN) that enrolls in the service to receive credit transfers.
  • 4.5 cents per credittransfer to be paid by its sender, including returns.
  • A fee of 1 cent for a request for payment (RFP) message to be paid by the requester, including both requests for a new payment or funds to be returned.

A participating financial institution can send an RFP through the FedNow Service to another participating financial institution to request payment of a bill, invoice, or other amount owed by the receiving financial institution’s customer.

The planned FedNow Service’s credit transfer transaction limit will be $500,000.

Brad Northcraft, senior vice president for deposit operations at IncredibleBank, said his bank plans to access FedNow through a payments provider that is part of the financial institution’s core processor.

Northcraft said he thinks a key catalyst for FedNow was for the U.S. to have a system that would bring payments into parity with other countries.

“I think they generally recognized that the payments industry, the velocity of payments, continues to accelerate. I think that was their impetus to really launch FedNow,” he said.

He noted that the introduction of Real Time Payment (RTP) by The Clearing House about five years ago also was a motivation for the Fed to establish its own faster-payments network.

While money moves electronically through ACH, wires and RTP, Koehn said FedNow is meant to augment existing systems, not replace them.

Denning, too, said FedNow will enhance overall payment capabilities.

“To a certain degree, FedNow and RTP network will compete for volume and so forth, but also to a certain degree, complement each other in terms of the robustness of the nation’s payment systems from a resiliency and scope and breadth perspective,” Denning said.

The Fed says surveys show consumers and businesses want faster payments, and that instant payments can help banks better retain their customers.

“Because (with FedNow) I can make a payment on Sunday at 2 a.m. and you’re going to have your payment at 2:01 a.m. — or quicker than that — on Sunday morning, I think it is going to be partially driven by the end user,” Northcraft said.

Koehn said he thinks FedNow is “going to revolutionize community banking because banking has been 5 to 5½ days a week, and FedNow will bring 24-by-7-by-365.”

“And that’s a good thing for community banks when customers are depositing money, and the community bank knows there’s no fraud associated with it,” he said.

Koehn said there are many scenarios in which around-the-clock payments capability could help banks and consumers.

For example, he said, a small manufacturing company might be having trouble attracting and retaining employees because the workers, as is increasingly the case, want to be paid on the same day they do their work, not on traditional paydays every week or two. FedNow could be used to accommodate same-day payroll for the manufacturer.

Or, perhaps, a plumber who made an emergency repair could send an invoice securely over the network, and be paid instantly by the homeowner or business, avoiding the problems of checks that need to be cashed or could bounce.

Banks that don’t have a serious payments strategy need to get going and figure out how FedNow can best help them, those familiar with FedNow say.

“I’ve been in banking for almost four decades. Started in the payments space back in 2011. The mantra back then was whoever controls the payments controls the balances,” Northcraft said.

Denning said banks should be talking to their current third-party providers, whether it’s their core provider or other providers that they leverage for payments or other capabilities, as well as customers.

As part of that process, it’s important to analyze what customers need, Denning said.

“What pain points and challenges do they encounter on a daily basis that I can help solve with some of what we’re doing in payments?” Denning said. “We can offer instant payments, but where the rubber really hits the road is how can we make a difference in people’s lives, how can we help our customers.”

He added: “Connecting those dots on what the providers can do and then what pain points, challenges, opportunities exist within our customer base, that’s where the magic will really happen.”

Gores is a journalist who covered business news for the Milwaukee Journal Sentinel for 20 years.

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