Automated Clearing House (ACH) is quickly becoming a major part of the payment ecosystem. Although credit card brands such as Visa and Mastercard approve payments on their own networks, many merchants and payment processors can still use the ACH system to process a certain type of payment.
Many payment processors use the ACH network to transfer funds overnight to complete transactions for various next day and same day funding products. ACH is also the preferred mode of payment for subscription-based and recurring revenue transactions.
Other benefits for ACH transactions include it having more cost-effective terms and is more secure. Given that ACH is becoming more prevalent in the payment industry to process merchant transactions, it is important for businesses to understand what ACH is and how its transactions are denied (returned). As merchants better understand the ACH process, they can be more equipped to both avoid and manage ACH returns and won’t be surprised by any fees assessed for payment returns.
What is ACH?
ACH (Automated Clearing House) is a fund transfer system used among banks to process U.S.-based transactions. These transactions are typically low in value and are often recurring, such as subscriptions, payroll, or monthly bills. ACH is operated by NACHA, which was formerly known as National Automated Clearing House Association. NACHA is a self-regulatory body that manages ACH rules, sets operating protocols, and offers security to transactions.
ACH transactions can be payment transactions or direct deposit transactions and may be initiated by an individual, a business, or a government body. The bank that initiates the ACH transaction is referred to as the originating depository financial institution, or ODFI. The ODFI processes ACH transactions in batches at different set timings during the day. An ACH transaction is one of the fast ways to process fund transfers.
What are ACH returns?
What merchants should understand is what they should do in the event these ACH transactions are returned. Before we go into the details of the return codes, there are a few parties involved in an ACH transaction that should be defined for clarity.
Originator – the client requesting the transaction. This can be an individual, a business, or a government body.
ODFI – Originating Depository Financial Institution – This is the financial institution that has initiated an ACH transaction on behalf of the originator. An ODFI is an entity approved to submit ACH transactions. It can be a bank, a merchant processor, an ACH API, or a payment gateway.
RDFI – Receiving Depository Financial Institution – This is the financial entity that receives the funds for credit ACH transactions or is charged for it for debit ACH transactions. These are also approved and can be a bank, a merchant processor, an ACH API, or a payment gateway.
ACH Operator – The ACH network is operated by two entities, one operated by the U.S. government, The Federal Reserve Banks’ Automated Clearing House (FedACH), and a private-sector operator, Electronic Payments Network (EPN).
As an ODFI submits transactions to one of the two ACH operators, the requests are routed to RDFIs. In the event the request cannot be processed, a three-character ACH return code accompanies payment denial as an explanation of the reason.
List of common ACH return codes
There are a number of reasons why ACH payments are returned. Below we highlight a list of common ACH return codes.
R01 – Nonsufficient Funds – the account balance doesn’t have enough funds for this transaction to be processed.
R02 – Account Closed – This is no longer an active customer account.
R03 – No Account/Unable to Locate Account – the account number does not match the customer identified.
R04 – Invalid Account Number – The account number provided isn’t valid.
R05 – Unauthorized Debit to Consumer Account Using Corporate SEC Code – Debit entry is not authorized by the customer.
R06 – Returned per ODFI’s Request – ODFI requested that the RDFI return the ACH request.
R07 – Authorization Revoked by Customer – ACH payment was revoked by the customer who originally authorized it.
R08 – Payment Stopped – Instructions to stop payment orders have been placed by the receiver of the recurring debit transaction.
R09 – Uncollected Funds – the overall balance at the RDFI is sufficient, however, the ‘available balance’ in the account is insufficient to process transactions, i.e. uncollected checks.
R10 – Customer Advises Originator is Not Known to Receiver and/or Originator is Not Authorized by Receiver to Debit Receiver’s Account – The receiver informed the RDFI that request is unauthorized.
What to do if an ACH payment is returned?
There are a myriad of ways to respond to ACH payment return codes depending on the specific code you receive back. For example, for ACH return codes R01 and R09, you will have to retry the ACH attempt code once you’ve verified sufficient funds are available, but you should confirm with the customer in advance. Keep in mind that R09 can be attempted a maximum of two times in a 30 day period.
Most other times, such as in cases of R02 – R05, R07- R10, the merchant will have to reach out to the customer to get the correct account details to process the ACH payment.
ACH return fees
Merchants need to be very careful with ACH returns as each return transaction costs anywhere from $2–$5 in return fees. As a result, merchants should immediately suspend any recurring payments to avoid future return fees. This is especially relevant for R07 – Authorization Revoked by Customer, R08 – Payment Stopped, and R10 – Customer Advises Originator is Not Known to Receiver and/or Originator is Not Authorized by Receiver to Debit Receiver’s Account.
ACH is taking a larger piece of the payments pie, even as the payments pie organically grows larger due to more cashless transactions by consumers, facilitated by the ease of use, faster fulfillment, and diminishing costs. This trend is likely to continue and benefit merchants as NACHA introduces more protocols to speed up ACH payments processing. However, as is the case with all payment networks, there are systematic requirements in place for all parties that merchants need to be aware of operating within, particularly ACH returns. Understanding this mechanism can help merchants navigate the ACH payment system and save costs.