Embracing Real-Time Payments in the US

Real-time payments (RTP) refer to electronic transactions processed instantly or near-instantly, providing immediate funds transfer and availability to the recipients. Traditional payment systems, such as checks or electronic fund transfers (EFTs), often involve delays and waiting periods before the funds are available to the recipient.

Elaborating on the USP of RTPs for end consumers, these are highly valuable for last-moment bill payments. Owing to RTP’s capability of getting cleared instantly, consumers can avoid late payment penalties that can be highly burdensome for small bill values in a flat penalty structure. Even corporations can leverage RTPs to improve their working capital management by paying on the due date instead of locking in capital beforehand.

Overall, the value proposition of real-time payments lies in their ability to offer the aforementioned benefits, ultimately leading to a customer-centric payment ecosystem.

Having understood the importance of RTP in the economy, let us now look at its status in the US.

The current state of RTP in the US market

The RTP infrastructure in the US is primarily powered by The Clearing House Real-Time Payments Network, launched in 2017. The TCH RTP network enables financial institutions to offer immediate payment (IP) capabilities to their customers. But the adoption of RTPs in the world’s largest economy has lagged owing to users’ inclination toward credit cards. As per the Federal Reserve Payment Study (FRPS), card payments accounted for nearly 77% of non-cash payments by number of transactions in the US in 2021. Even so, the RTP network reached 65% of US demand deposit accounts (DDAs) and crossed the 500 million payment milestone on July 22, 2023.  Further, ACI Worldwide estimates that RTP will account for 27.8% of electronic transactions globally by 2027.

However, some challenges remain. Out of the 10,000+ depository institutions, more than 350 are network participating members of the TCH RTP as of July 2023. So, firstly, the penetration among depository institutions is very low. Possible reasons for such low adoption are:

1. Infrastructure and operational challenges – Currently, no scheme other than TCH RTP supports 24*7 operations, which requires personnel for payment confirmations, advanced fraud detection, exception handling, managing liquidity, monitoring, and so on. The current legacy infrastructure of banks as well as working within “banking hours” is a major hindrance to adoption. Moreover, retrofitting new solutions rather than building new systems, inability to integrate systems smoothly with newer RTP services,  adopting ISO 20022 standards, and scalability also pose as roadblocks.
2. Imbalanced power dynamics – There is a plausible concern amongst community banks and credit unions as the scheme is operated by TCH, which is controlled by private banks. There are apprehensions among community banks regarding larger banks controlling access, participation fees, data privacy, and customer retention if the smaller banks are to use this network. The influence larger banks can potentially exert in the network is being seen as a hindrance to fair access by smaller players. Community banks in the US represent nearly 97% of operating banks in the country and are critical to the adoption of RTP.
3. Incumbent offerings – IP services supporting C2B and P2P payments like Zelle, Venmo, Paypal, Card payments, etc., have penetrated the markets well, competing with the TCH network. These payment platforms enable individuals to send and receive money instantly using the real-time network infrastructure, providing a convenient alternative to traditional payment methods. Also, P2P payments via blockchains are more common among the younger generation. Stablecoins also aims to provide compatibility for effective communication across different payment systems through a unified global standard. They have the upper hand compared to other digital payment methods as the network effects keep the costs low and there is a near absence of processing downtime.
4. Fraud management – Due to the real-time nature of the TCH scheme, it faces major challenges in reducing the incidence of deceitful practices. Security concerns tend to be greater in the US, leading to a trust deficit in the latest payment methods. Proper brand recognition and awareness about the benefits of behavior change are crucial to pushing RTP adoption. However, the US Bank survey gives some hope, wherein 56% of the 1,000 surveyed financial executives confirmed the possibility of adopting RTPs by 2024. The increase in transaction limits could play a role in adoption, although it was initially there to prevent losses in cases of fraudulent transactions.

The RTP adoption rate is still very low; not all banks, especially credit unions, community banks, and regional banks, have transitioned to these systems 100%. However, a Pymnts and ACI report found that 65% of non-grocery retailers have added the payment method to their checkouts to ensure smoother operations and an enhanced experience.

The benefits of RTPs can also be significantly accrued in the B2B space through various use cases. The speed and efficiency of RTP make it an attractive option for businesses, allowing them to improve cash flow, expedite supplier payments, and streamline their financial operations. However banks still lack adequate risk management practices and ERP automation, like account receivables and payables, to offer real-time money movement. Pushing adoption for purposes that are well served by NACHA, such as payroll and invoice payments, is also a little difficult.

Applying lessons from the globe

The top real-time payment schemes vary across different countries and regions. ACI Worldwide’s latest report valued the RTP transactional volume for 2022 at $195 billion, growing at 63.2% y-o-y.

Here are some notable real-time payment schemes from across the world and their impact:

• Unified Payments Interface (UPI), India: UPI was launched in India in 2016 by the National Payments Corporation of India (NPCI). A semi-public payments protocol operated by an umbrella of India’s banks, UPI is powering 40% of real-time digital payments UPI enables users to link multiple bank accounts, make instant P2P transfers, and conduct transactions through mobile apps. UPI has been a huge success, thanks to low transaction fees for businesses and robust security with a single-click 2FA.
  
  But there is more than meets the eye. UPI has a minimalistic backend interface requiring banks to implement only two APIs to integrate into UPI, which has pushed adoption. Currently, 473 banks, PSPs, and PPIs participate in the UPI ecosystem. The secret sauce to the high adoption rate has been the smooth integration with banks via containerized applications, which has simplified onboarding significantly.
  
  At the user level, customer acquisition was left to third parties, who were offered access to UPI APIs and SDKs, and who in turn would devise marketing strategies to attract customers. The result is users can securely operate their accounts via non-bank, unregulated entities such as Google Pay, PhonePe, and Paytm. This unbundling of “servicing” from “ownership” of accounts can make for an important lesson for payment systems.
  
  UPI allows for full interoperability between multiple identifiers such as a mobile number and a unique UPI ID across all UPI-based payment apps and participants in the network. Moreover, features such as QR-code-based payments make it easier for small merchants to accept payments.
  
  UPI has driven financial inclusion, boosted digital commerce, and supported the government’s push towards a less-cash economy. UPI’s linkage with PayNow supports instant and cost-effective cross-border payments with convenience using a virtual payment address (VPA).
  
  In April 2023, India’s central bank RBI proposed to expand the scope of UPI to open up approved credit lines. This will allow NBFCs, banks, PSPs, and fintechs to offer embedded finance during a UPI payment journey. NPCI also plans to introduce “Conversational Payments” on UPI, which will allow users to engage in conversation with AI-powered systems towards making real-time payments safer and universal.
• Alipay and WeChat Pay, China: China launched its real-time payments system, Internet Banking Payment System (IBPS), to bolster banking infrastructures and drive non-cash payments. However, it is not used much to make digital payments. The digital payments landscape in China is dominated by Alipay and WeChat Pay (54% and 42% market share, respectively). Both platforms offer real-time payment capabilities and have achieved significant volumes of transactions.
  
  China’s current digital payment system is disintermediating banks and creating an alternative payment model. A key difference between China’s model and other payment systems is that it evolved from a social/commerce platform to a payment platform, thereby leveraging network effects. Securing merchant buy-ins was easy as they did not require a separate payment app. The pay feature is part of the ecosystems’ original app itself. This is cheaper for merchants who don’t have to invest in technology.
  
  Alipay and WeChat Pay also used the existing financial infrastructure in the form of bank accounts and cards and clearing and settlement systems. Working with ecosystems is also easier for banks – who accept that they cannot do everything themselves. The entire payment landscape in China creates a stimulating environment where banks are free to work with partners that have more advanced technologies.
  
  Alipay has perhaps demonstrated “unbundling” services from legacy institutions and then “rebundling” within a single application, like no other. In that, both Alipay and WeChat offer value propositions far greater than payments and enable C2C and B2C interactions. Further, the two players have made partner integration and onboarding easier. WeChat Pay beta and Alipay For Business are used by developers to apply for, download, and test APIs in an online self-service environment. The success of Alipay and WeChat Pay can be attributed to a solid digital partner strategy, low onboarding friction, and scalable and interoperable frameworks for engaging with partners.

• Faster Payments, UK: Launched in 2008 in the United Kingdom, Faster Payments (FPS) is one of the most well-established real-time payment schemes globally. FPS is enabling near-instantaneous fund transfers 24/7 and has processed billions of transactions since its inception.
  
  Initially, FPS targeted consumers but soon stepped into B2B payments. Today, it offers single immediate payments, forward-dated payments, standing orders, and direct corporate access payments. Currently, there are over 40 institutions participating in the FPS. It offers participation access to directly connected settling and non-settling participants and indirect PSPs. The new access programs launched in 2014 and 2018 allowed small PSPs to connect to the central infrastructure of the FPS without the need to have an in-house payment gateway. FPS also opened up access to non-banks to participate. FPS co-exists with two other payment systems—Bacs and CHAPS—the former takes nearly 3 days to clear and the latter is for higher-value transactions.
  
  An August 2022 report said that FPS volumes saw a 23% surge from 2020 to 2021. Further in 2021, 39% of all business payments were made using FPS, making it the most widely used payment method among businesses. However, it still lags behind debit and credit cards and cash.
  
  While FPS has added to the convenience of consumers and businesses, it also witnessed rising fraud incidents causing significant loss, particularly via authorized push payment (APP) fraud. UK regulators have been actively combating this issue with the introduction of the Contingent Reimbursement Model to reimburse victims of fraud. They have introduced measures such as incorporating fraud typologies, using consumer behavior analytics, confirmation of payee (CoP), and mandating risk-based warnings to lower losses from APP fraud.
  
  As payment standards evolve across the globe, the UK is also seeking to upgrade FPS with the New Payment Architecture (NPA). Importantly, ISO 20022 has emerged as the preferred financial messaging standard among most modern payment systems. FPS seeks to adopt this standard soon as it makes it easier to achieve interoperability between payment systems. ISO 20022 also allows data to be embedded in messages and opens up frontiers to build additional services on top of the infrastructure layer. NPA is expected to allow scheme participants to directly connect via APIs whereas the current FPS infrastructure requires them to connect via gateways.

The essence of all these examples is to have a strategic view of the IP architecture to see a noticeable effect in the industry. Since new payment rails do not replace the older payment rails (as these do not mandate adoption), adoption increases in tandem with their use cases and feasibility.

TCH RTP can take forward the following learnings from the above examples:

1. Features such as confirmation of payee (CoP) need to be activated in all institutions implementing RTPs to prevent fraudulent interventions while enabling 24*7 processing.
2. RTPs with proxy or alias features have become popular given the ease of transacting and the minimization of failed transactions. The confirmation of the receiver’s identity beforehand has also infused trust in the system. This feature is platform-agnostic and can be used by customers as per preference, enhancing customer experience. There can be various proxy types, depending on the user entity.
3. Last-mile connectivity is crucial for the success of any payment architecture. Especially when talking about IPs, access to those with the minimum resistance makes the most impact. The popularity of QR codes in India is due to this reason.
4. Performance testing is crucial to addressing scalability issues without disrupting existing systems and business models for more organic adoption.
5. Beyond technical aspects, there are certain operational aspects that FedNow can benefit from. One such is the IP network for NBFCs.
6. Data formats need to be consistent, and in compliance with ISO 20022, for ubiquity.
7. It is also essential to make onboarding and integration smoother for banks and other participants in the payment ecosystem.
8. Leveraging network effects and allowing FIs to integrate RTP with greater value propositions can support faster adoption of RTP.

Could FedNow be the game changer?

FedNow has the potential to be a significant game changer in the US real-time payments landscape after its rollout in 2023-24. Here’s why:

• Nationwide Reach: The Federal Reserve’s FedNow Service aims to provide a nationwide real-time payment infrastructure. As such, the transition from FedLine to FedNow can serve as a path of least resistance for most FIs, providing universal accessibility.
• Competition and Market Dynamics: The FedNow Service will introduce competition to the real-time payment ecosystem. Increased competition can drive innovation, improve services, potentially enhance customer experiences, and lead to more competitive pricing.
• Interoperability: The FedNow Service is designed to be interoperable with existing systems, including the RTP network. This interoperability allows FIs and PSPs to connect and exchange RTPs seamlessly, regardless of the underlying infrastructure. This harmonization of RTP systems by resolving technology gaps can promote efficiency and convenience for users.
• Resilience and Redundancy: The Federal Reserve’s involvement in RTPs introduces a layer of resilience to the US payment system. The FedNow Service can act as a backup or alternative in case of disruptions or outages in other systems, ensuring the continued availability of RTP capabilities.
• Accelerated Adoption: The reputation and authority of the Federal Reserve can help instill confidence among financial institutions and customers, encouraging them to embrace real-time payment solutions more readily. But since community banks and businesses will be connecting to the FedNow channel through another product, having a clear interaction with those providers for fraud prevention mechanisms will greatly help in resolving existing security issues.

It’s important to note that the full impact of FedNow on the US market will depend on factors such as its actual launch date, the adoption rate by financial institutions, and the level of interoperability achieved. If all goes as expected, RTPs in the US may quadruple by 2026.

How can Community Banks and Credit Unions join the party?

Community banks and credit unions are next in line to adopt RTPs to transfer the benefits to retail and corporate customers. As the popularity of faster payments takes center stage in the payments modernization landscape, the absence of this facility drives customers away from organizations. With the current state of RTPs, merely offering payment choices is not enough. The number of US credit unions connected to TCH doubled from 2021 to 2022. The need of the hour is to provide seamless payment experiences to retain its customer base and attract more.

Here are some things that can help smaller FIs catch up with payment trends:

1. Identify use cases as to whether the business intends to utilize RTP for P2B, C2B, B2B, B2C, or G2C purposes. Prioritize these use cases in line with organizational strategy.
2. Assess the organization’s Current State Architecture and readiness to support new RTP services, for instance, evaluating whether they are ISO20022 compliant. FIs would also need to revisit their collaboration policies and be open to partnering with fintechs and technology service providers.
3. Evaluate current business processes and operations to support 24 x 7 processing, which involves the use of automation, managing payment exceptions, maintaining suitable liquidity, etc. Moreover, FIs will need to adjust their treasury operations and IT infrastructure to adopt RTP.
4. Define where the FI wants to be in terms of the architecture. This includes making decisions around costs, renting vs. buying, budgeting, integration, implementation, and support. FIs would need to focus on transitioning from multiple legacy processing systems to a unified payment strategy.
5. Collaborate with payment processors and leverage existing payment networks for a unique, objective-based strategy. Small credit unions can consider SaaS offerings, which can tackle the problem of managing applications while avoiding upfront technological investments.
6. Invest in technology and embrace innovation for a foolproof future via alternate payment networks. In this context,
   • Larger community banks can undertake upgrades in multiple stages. They can either build or buy an orchestration layer that can automate payment orchestration, manage new RTP services, support ISO 20022, etc.
   • A subsequent move towards a payment hub to manage all payment rails, namely Fedwire, CHIPS, and SWIFT ISO, will reduce the burden of parallel and overlapping systems.

7. Educate customers and staff through marketing and promotion.
8. Engage with regulatory bodies for compliance to prioritize security and fraud prevention.

All in all, FIs need to have a clear strategy in place to become RTP-ready, rather than using the wait-and-watch approach, as RTP evolves to become the standard over the next few years.

Keeping up with the evolving payment landscape

Customer preferences are evolving dramatically in these technologically advanced times to align their choices with their lifestyles. The need for instant payments is, therefore, an essential requirement today for reasons ranging from quick e-commerce deliveries to accessing services like medical facilities in real-time. While the 24/7/365 nature of real-time payments can seem challenging for FIs, the time is now to adopt a suitable strategy and go through a smooth transition.

Opus is helping big and small organizations in adopting real-time payments to allow their customers to do more. If you’re looking to provide your customers with a seamless real-time payment experience, get in touch with us.