Payments can be defined as the financial instruments exchanged all over the globe to transfer funds or pay for goods and/or services. This helps businesses better manage cash efficiently and effectively. Payments in themselves are quite vast due to the existence of numerous payment systems in each country and each system tends to have a unique method of processing. Simultaneously, payment systems need to work in accordance with the regulations of each country they’re used in.
Let’s take a quick look at some of the basic elements.
This might not seem to be too important at the outset, but in reality, the user experience design can make or break your system. If your system is too difficult to use or a bit wonky, customers won’t use it. It’s that simple.
There are basically 4 steps to payment processing:
- Payment instructions. This is the information that’s contained in the check or wire transfer. These instructions come from the payer and let the institution know who to transfer the payment through the chosen intermediaries and the receiving financial entity.
- The generation of the payment is made when the instructions are entered into a system, transmitted via wire or ACH or printed on a check.
- Clearing comes next. This is the actual process used by the banks. They use the chosen payment options information to actually transfer the funds between institutions on behalf of the beneficiary and the payer.
- Settlement is always the final step in the process. This happens when the bank credits the account of the beneficiary and debits the account of the payer. Final settlement happens when these banks pass the value among each other, a distinction that truly has critical treasury implications.
Processors for any payment system will use a variety of channels and each of these has a variety of operating characteristics, settlement mechanisms, and rules.
These can be broadly broken down into 4 categories:
- Paper-based systems – such as drafts or checks.
- Real-Time Gross Settlement (RTGS) or High-Value Payments – These are mostly done as wire transfers.
- Real-Time Net Settlement (RTNS) or ACH (Automated Clearing House) batch payments, which were designed to be a replacement for checks and use automated payments.
- Cards – such as stored value, debit and credit cards.
Control and Payment Processing
This element is a process that’s more business/individual-centric and has essentially six steps:
- Entry in an obligation to buy services or goods.
- This obligation is first approved and then entered into a system of accounting by the payer.
- Payment method is chosen.
- Beginning and execution of the actual payment by whoever is purchasing the goods and/or services.
- Settlement and funding of the payment.
- Reconciliation of the transaction between the external bank accounts and the company systems.
This refers to the movement of funds to the payee’s account from the payer’s. This becomes final when the payment is no longer conditional and becomes irrevocable.
As you can see, even though there are only five basic elements of a payment system, it can get rather complicated for a layman. Most people only ever think about swiping or tapping their card or entering their payment information online and that’s it. In reality, there’s a complex series of transactions behind the scenes that ensures payments go through easily and safely.
While it’s not necessary to fully understand how the process works, it’s a good idea to have an understanding of how financial institutions work together. This way should a question arise about a payment, basic knowledge of the steps can help an individual or business troubleshoot.