The introduction of the Federal Reserve’s FedNow in June 2023 presented many financial institutions with a dilemma: should they adopt the new system, or stick with The Clearing House’s RTP, which has been in use since 2017? As many banks are discovering, the best answer might be to embrace both.
In a PaymentsJournal webinar, Anoop Basavarajaiah, Head of Payments at Volante Technologies, Matthew Brazda, Head of Real-Time Payments Product at BNY, and Elisa Tavilla, Director of Debit Payments at Javelin Strategy & Research, discussed the future of both instant payment systems, the emergence of critical use cases, the role of ISO 20022, and the challenges of fighting fraud in real time.
The Current State of Instant Payments
Since many U.S. banks already have a relationship with the Federal Reserve, the FedNow network has been able to scale slightly faster than RTP. FedNow currently has more banks live on its network, though this still represents less than half the account reach in the United States. Overall, 70% of accounts can currently receive a payment on RTP, compared to about 30% on FedNow.
The Fed aims to bring that 70% closer to 100% as quickly as possible, with a particular focus on onboarding the long tail of smaller community banks and credit unions.
“I like to say FedNow was the tide that lifted all boats for faster or instant payments,” said Tavilla. “It’s pretty impressive how FedNow went from 35 participants that launched to over 1,100 FIs.”
Since 2017, fintechs have been pushing banks to enable instant payments in 15 seconds. They’re challenging banks: if you can’t offer this, let us know where we can go.
“Everybody wants to reach each other through instant payments and provide that interoperability,” said Basavarajaiah. “There could be somebody on RTP and someone else on FedNow. How do you make sure that if I can’t send through FedNow, I can send it through RTP. And If I can’t send it through RTP, can I send it through FedNow?
“In the next two to three years, it could be exactly like the European market, where most banks are already on instant payments. The same thing is going to happen here.”
Critical Use Cases
Most real-time payment use cases are business-to-business (B2B) or business-to-consumer (B2C). The new transaction limit for RTP of $10 million (FedNow’s is $500,000) will enable many new B2B or corporate use cases in areas like real estate, merchant settlement, invoices, and payroll. It will provide flexibility for payments that might have previously depended on conventional business hours.
There are also some emerging peer-to-peer use cases, such as when someone wants to send money to their nanny. But the greatest growth may be in B2C, which could allow individuals to receive a loan or an insurance claim in 20 seconds.
“If a customer is booking travel, the bank may offer them 2% cashback to pay through instant payment,” said Basavarajaiah. “Banks want to make sure that it’s all instant so it’s risk-free, and they don’t have to go through the traditional wire or ACH.”
Another promising use case is Request for Pay, which has been a feature of RTP since its inception. Any business purchasing commodities from a seller can make the payment without having to use checks or wires. In these cases, the goods would be delivered before the money arrives, leaving the seller at risk.
“We will hopefully see a lot of bank adoption on Request for Payment received next year, particularly from retail banks,” said Brazda. “We’ll also hopefully see enablement of additional use cases for using Request for Payment.”
Recently, Walmart announced plans to enable pay-by-bank using real-time payments for online transactions. However, e-commerce and recurring payments have yet to be approved by the network. Once approved, these will open the door to increased volume and monetization opportunities for banks and fintechs, benefitting their end customers.
The Role of ISO 20022
The ISO 20022 messaging standard is starting to make a significant impact on U.S. payment systems and instant payment. RTP was the first truly domestic payment network toadopt the messaging standard, and FedNow launched with ISO 20022, migrating their specifications for Fedwire from the legacy forum to ISO 20022.
The types of messages used to send and request payments are very similar. One key similarity is that when banks join either network, they are required to receive a real-time payment message. Many banks are looking to combine access to both networks into one solution to offer to their customers.
“I like to think of ISO 20022 as the lingua franca between the different payment systems,” said Tavilla. “When the FedNow payment rail was being developed, even though the ISO 20022 messages weren’t identical between FedNow and RTP, the Fed team worked closely with The Clearing House to ensure that the messages were close, to ensure compatibility even though the systems aren’t interoperable today.”
Faster Payments + Fraud Prevention
Along withfaster payments, there’s also been an acceleration in faster fraud. Most banks expect the sending bank to handle sanctions and fraud, so the receiving bank doesn’t have to worry about them. However, everything must happen in real-time.
The primary responsibility lies with the institutions that originate these payments. The receiving bank has only five seconds to respond to the payment and post the funds, which isn’t enough time to conduct a comprehensive risk management check.
As a result, the Know Your Customer (KYC) and due diligence aspects of the onboarding process become absolutely critical businesses.
“I’ve had the privilege of working with multiple institutions who prioritized the KYC and due diligence aspects of bringing these clients on, because real-time payments are instantly revocable,” said Brazda. “If you haven’t vetted your customer before that, that’s the risk you run. Those are the things can impact other customers, other financial institutions, and even other non-financial institutions.”
Both RTP and FedNow have what’s called account activity thresholds, which are daily limits that banks can configure by account for sending payments. Any bank participating in FedNow can also add specific combinations of account routing numbers, and the FedNow system will automatically reject payments originated with those accounts.
24/7 Availability & Flexibility with Payment-as-a-Service
With payment-as-a-service, consumers gain the flexibility of a payment system that’s available around the clock. The payment network, regardless of its architecture or software, is offered as a 24/7 service, ensuring constant connectivity to FedNow and RTP.
With PaaS, that’s one less thing the bank needs to worry about. All they have to do is get registered with FedNow and RTP.
“There’s no preference at the end-customer level to choose between the networks,” said Brazda. “They don’t really even see that you’re sending a real-time payment. All they want is for their money to get from point A to point B fast. That’s the main objective for both networks.”
