Direct debit: how it works and why use it

Direct debit is a convenient way for payment settlements

direct debit

Direct debit: how it works and why use it. Source: shutterstock.com

Today PaySpace Magazine Global will talk about the direct debit. Let’s consider what it is and how it works.

Direct debit – a form of cashless payment between the payer (owner of a bank account) and the creditor (supplier of goods, work, services, etc), with which money transfers can be carried out without the participation of a debtor (payer).

This method of charging is used by parties if payments between two counterparts are regular (rent, utility bills, cost of products supplied, etc.)

Parties that participate in direct debit transactions:

  1. Payer – an individual or legal entity that has a bank account.
  2. Beneficiary – the recipient of payments on the bank account.
  3. Banking institutions on the part of the debtor and the creditor (this can be the same bank).

In other words, a direct debit is an instruction from you to your bank. Thus, it authorizes someone to collect payments from your account when they are due. Once authorized, the organization can automatically take payments from you (provided that they comply with the scheme rules).

So, it is clear that this is a form of payment by which the lender has the opportunity to write off the necessary amount of money from the account of the payer (client of the bank), without having to contact his counterpart each time to carry out a money transfer. The creditor provides the payer’s bank with the payment claims and other documents that confirm the right of a monetary claim.

To do this, the bank client must first accept the possibility of such a procedure by forming a long-term order for the bank to carry out such operations. So, it is implemented by giving its preliminary consent that its counterpart can debit money from the account, independently calculating the amount belonging to it. That is to say, making a debit bank transfer, the initiator of the payment is the beneficiary (supplier).

The client’s order to the bank to make direct debits looks like an additional contract, which stipulates the terms and conditions for such transactions for each individual lender.

direct debit

The client’s order to the bank to make direct debits looks like an additional contract. Source: shutterstock.com

The direct debit order is made in triplicate:

  • The first copy is stored in the payer’s bank as a document by which the payer authorizes the bank to make payments without their participation.
  • The second copy (certified by the bank) the payer transfers to their creditor as a basis for invoicing and receiving money without the participation of a debtor.
  • The third copy of the long-term order remains with the account holder.

A bank may charge additional fees for the provision of such services and the creation of reports for the client.

Why use direct debit?

Firstly, it is indeed handy

There is no need for a payer to go someplace, withdraw cash, stand in line, call, write, etc – everything is done automatically. Once an order for direct debit is issued, it can be used.

Even if you change bank, this order will be transferred to the new bank, following the client. The main thing is that you have sufficient funds at the time of debiting the account. By the way, often the payer has the right to set the date of payment. For example, it can be implemented by tying it to the date when you receive a salary.

Secondly, it is safe

direct debit

Direct debit is safe. Source: shutterstock.com

If funds are debited by mistake, the direct debit system guarantees their immediate recovery to the account. In addition, the payer can withdraw his permission for direct debit at any time. Fraud in this type of operation, in comparison with cheques, cards, or transfers, practically does not exist.

And finally, it is economical

And it is so not only because direct debit operations cost the payer nothing. In the UK, for example, utility companies offer discounts of up to 15% for bill payments through direct debit. It happens due to the fact that these organizations do not bear comparable costs for processing payment information (like settlements by cheques, cards, or cash). In addition, the rate of payment administration and the efficiency of debt collection are significantly increased.

The direct debit scheme is beneficial for banks as well. Firstly, banks have the opportunity to diversify the package of client services, not only for private investors but also for service providers.

Secondly, funds are not withdrawn from bank accounts via ATMs (in order to pay for services in cash). Accordingly, it reduces the need for the deployment and modernization of the ATM network, cash-in-transit system, and any other related unit.

After all, take a look at SEPA Direct Debit. The system has been introduced by the European Payments Council (EPC), and it is a pan-European direct debit system that allows customers to simply, safely and efficiently, pay for goods and services in the SEPA area (EU, Norway, Iceland, Liechtenstein, and Switzerland). Thus, entry of direct debit at the international level is one more reason to consider this option.

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