What is FedNow? A guide for compliance officers

Since 2017, many US financial institutions (FIs) have relied on the Automated Clearing House (ACH) or The Clearing House (TCH) Real-Time Payment Network rails for their payment transactions. However, given that TCH is privately held by some of the world’s biggest banks, some firms have been hesitant to utilize the instant payment service. 

Additionally, implementing instant payment services into an existing tech stack can be costly and time-consuming, preventing many US-based FIs from making the transition. Over time, this has caused stagnation in the industry as each organization on both sides of a transaction must have the same technology in place to benefit from instant payments. As a result, real-time payments nationwide only accounted for one percent of all payments in the US in 2022.

In July 2023, the US Federal Reserve introduced an alternative payment service for FIs. Since going live, it’s been described by Forbes as a possible game-changer and “a safe and faster option that has government backing.”

This article explores the new payment service, how it works, and the benefits of the FedNow system.

What is FedNow?

FedNow is an instant payment service designed to provide individuals and businesses with the ability to send and receive money in real-time, 24/7. Described by the US Reserve as “a flexible, neutral platform that supports a broad variety of instant payments,” the system aims to enhance the speed and efficiency of electronic funds to be available for use within seconds rather than hours or days. 

American FIs that adopt the FedNow service can offer their account holders year-round instant access for transactions, including holidays. Initially, banks can use FedNow for account-to-account transfers and bill payments. In the future, additional features will be added, such as a request to pay, according to the executive of the FedNow program, Ken Montgomery.

What are FedNow’s main features?

The main features of FedNow are:

• Funds are available to the beneficiary within seconds.
• Available 24 hours a day, seven days a week.
• Functions at weekends and during public holidays.
• Available with participating banks and credit unions only.
• Only for use domestically within the US.
• Maximum transfer amount of $500,000 ($25,000 at launch).
• Default transfer limit of $100,000. However, FIs can choose to set their transfer limits.

Find out more about FedNow from the Federal Reserve.

How does the FedNow program work?

FedNow works like other interbank instant payment services, such as ACH payments. However, rather than going through the international clearing house as ACH payments do, FedNow payments will be cleared and settled instantly. FedNow will use the Federal Reserve’s FedLine network of over 10,000 FIs that already have Federal Reserve accounts. Payments will also be processed individually rather than in a batch.

With other types of payments, there is a “lag” behind the scenes, so while a beneficiary may get the money immediately (within business hours), it may not yet have been cleared and settled by their bank. This creates a situation where banks are exposed to credit risk.

FedNow has been designed with retail payments in mind. Other industries that may benefit from FedNow include real estate, automotive, and the gig economy. It may even be used to send money instantly to disaster zones in an emergency.

The FedNow service will adhere to ISO 20022 best practice, which aims to improve payment speed, traceability, and transparency.   

Who can use the FedNow service?

Any US FI can make use of the FedNow program, regardless of size.

Since 2021, the Federal Reserve has been running a pilot program with over 100 US banks, including the US Department of Treasury’s Bureau of Fiscal Service. 57 organizations signed up as early adopters and became certified before the FedNow launch date, including JPMorgan, Chase, BNY Mellon, and US Century Bank. These financial organizations have already been sending test payments to one another using the FedLine infrastructure.

One of the pilot participants, 1st Source Bank said FedNow will give them a chance to set themselves apart from the competition, and offer customers immediacy, which is a need “that surrounds us every single day”. 

The benefits of using the FedNow system

The core advantage of the FedNow system is the faster payments ecosystem it will facilitate, especially as adoption of real-time rails increases among FIs. 

Additional benefits include:

• Inclusivity: Open to any US FIs regardless of size or location.
• Convenient: Offers streamlined and rapid transactions.
• Enhanced flexibility: Gives firms and their customers greater flexibility in managing their money.
• Prevents fees: Customers can make time-sensitive payments and avoid going into their overdraft, and incurring late fees.
• Reduced risk exposure: Firms can significantly reduce their credit exposure and risk.
• Economic gains: Fosters competition across the payments space.
• Better business finances: Businesses can improve their cash flow and reconciliation processes.
• Optimized operations: Firms can increased efficiencies within their payments teams.
• Integrated fraud prevention: Fraud tools built in, such as the option for firms to set lower transfer limits.

Challenges of using FedNow

Following the FedNow launch, one challenge may be that not all US FIs are certified. To use the payment rail, firms must first complete testing and certification for the service, which involves confirming their ability to transmit and process ISO 20022 messages and attesting they can meet the requirements to operate in a 24x7x365 instant payments environment. As of June 2023, 57 organizations were named by the Federal Reserve as certified as ready for FedNow service. 

Other possible challenges of using FedNow include:

• Participation fee and fees per transfer.
• Will not support payments over $500,000.
• Can only be used within America – no international payment options at launch.
• Neobanks will not be able to offer the FedNow service to their customers.
• Banks with legacy systems may have a challenging integration journey.
• FIs will need to incorporate FedNow into their existing fraud management programs.
• FedNow will gain attention from fraudsters, according to Nick Stanescu, senior vice president and business executive for FedNow. However, the service will quickly evolve its suite of fraud prevention and detection tools by, for example, allowing firms to activate a setting that rejects unusual or suspicious payment based on observed patterns.

Key takeaways

FedNow’s network and credit exposure removal has the potential to revolutionize global payments. In response, FIs will need to be “fraud wise” which includes having strong transaction screening and fraud detection solutions, as well as educating customers about phishing and other scams. When assessing solutions, firms looking to utilize the FedNow system should make sure it is covered as a payment rail. For example, with ComplyAdvantage, firms can access comprehensive payment coverage, including FedNow, ACH, Swift MT, SEPA, Direct Debit, Faster Payments, and SEPA ICT.

The level of investment and support in FedNow from the Federal Reserve suggests that the instant payments trend is only going to grow.