What is a Direct Deposit & How Does it Work?

Direct deposit is an automated payment method that transfers funds to your checking or savings account. Direct deposit transactions involve two parties:

• A payer, who sends the payment from their financial institution
• A payee, who receives the payment into their deposit account

Direct deposit lets the payee (that’s you!) receive funds faster and avoid dealing with physical checks. Nearly 92% of American workers prefer to get paid via direct deposit.¹

It’s not just for paychecks, however. You can also use direct deposit to receive:

• Tax refunds (from federal and state tax returns)
• Social Security benefits
• Court-ordered child support payments
• Unemployment benefits
• Investment dividends
• Retirement account benefits
• Employer reimbursements
• Government or military benefits
• Direct deposit loans

If you run a business and bill clients for services, you could also set up direct deposit to receive invoice payments.

The main benefit of direct deposit is that it allows funds to be transferred from one account to another. You don’t have to stand in line at the bank to deposit a paper check or wait for a mobile check deposit to clear, which can take a few days.

Whether you have an account at a bank or a credit union, direct deposit works the same way. Direct deposit payments – also referred to as electronic funds transfers (EFTs), electronic bank transfers, or e-checks – rely on the Automated Clearing House (ACH) network.²

When a payer initiates a direct deposit payment, they tell their bank what amount to send and where it should go. The bank then processes the payment information through what’s called an ACH operator. From there, the payment goes to the payee’s bank where it’s deposited into the payee’s account.²

That’s a simplified version but the main thing to know is that direct deposit works electronically, with money moving from Bank A to Bank B seamlessly.

Direct deposit for federal benefits (tax refunds and credits)

Federal law requires federal benefit payments to be made electronically, including Social Security, Supplemental Security Income benefits, and Veterans benefits. If you expect to receive any of these federal government benefit payments, then you’ll need to enroll in direct deposit.³

Direct deposit is optional for tax refunds, but the IRS strongly encourages taxpayers to choose it to receive their refunds faster. Eight out of ten taxpayers opt for direct deposit versus waiting the six to eight weeks that a paper check refund could take.⁴,⁵

Direct deposit is convenient, but its specific timeline can depend on your employer. Once you fill out your direct deposit paperwork, it may take one to two pay cycles for you to begin receiving paychecks electronically. In the meantime, your employer can issue paper checks that you can deposit at a bank branch, ATM, or through a mobile check deposit.

So how long does direct deposit take to hit your account? It’ll depend on your bank’s funds availability policy and when the payer initiated the payment.

The timing matters since you don’t want to spend any of the money until it’s available to use. Scheduling a transfer or bill payment out of your account before a direct deposit clears could put your balance in the negative and possibly trigger an overdraft fee.

If you want to get access to your paychecks or benefit payments as quickly as possible, look for an account that enables you to get your direct deposit up to 2 days early ⁶ (like Chime!). This way, you can pay bills, spend, or save without a long wait.

Whether you sign up for direct deposit through your employer, a vendor, or another company, the process is typically the same. You’ll need to fill out a form and provide some required information, which may include:

• Your routing number
• Your account number (this is the account you want the funds to go into)
• Your bank’s address
• A voided check

You can think of your routing number as an electronic address that helps ensure that the funds are going to the right neighborhood. Your specific and unique account number, on the other hand, is like your financial home. Both of these numbers help specify exactly where your money should go when you set up direct deposit, so it’s important to make sure you enter them correctly.

Considering the amount of sensitive information included on a direct deposit form, it’s important to be mindful when submitting it. If you work in a traditional office setting, it’s a good idea to hand this form directly to a payroll employee. If you’re submitting a form electronically, use a secure file transfer, rather than a simple email.

What is direct deposit good for? There are several advantages to getting paid this way. Let’s look at a few.

1. Earlier access to your money

Your employer will usually send your paycheck to the bank a few days before payday to allow for more transfer time to process the funds. The bank will release the money as soon as the transaction clears rather than making you wait until payday. Online banking options like Chime allow you to receive your money potentially earlier than traditional banks.⁶

2. Faster and safer transactions

A direct deposit eliminates bank visits for both the payer and the payee. It’s more convenient and safer because there’s no chance of losing a paper check or having it stolen.

3. Better payroll process and saving options

Direct deposit streamlines the payroll process for most businesses. It allows for the timely payment of salaries and reduces the payroll department’s workload since the funds are paid directly to the employees’ bank accounts.

Many employers let you split your direct deposit between multiple accounts, which allows you to set up automatic savings plans. For example, you can have $50 per paycheck as a direct deposit to your savings account and the rest to your checking.

That’s a great way to build your savings account without having to think about moving the cash manually.

4. Waive unwanted fees

Direct deposit could save you money on fees.

For example, some banks charge monthly fees on checking accounts but waive the fee if you maintain a sufficient balance or receive a direct deposit each month. When you direct deposit with Chime, you get access to features like early direct deposit and avoid common fees like overdraft fees.

Direct deposit is convenient but has some limitations. For instance, you can’t use it to deposit a personal check. Those would still have to be deposited at a bank branch or ATM, or through mobile check deposit.

You may hit a snag while setting up direct deposit if you don’t have a Social Security number. Your bank uses this number to verify your identity. If you don’t have one, you may be able to substitute an Individual Taxpayer Identification Number (ITIN) instead.

Setting up direct deposit can save time and effort. It’s a hassle-free way to get paid and you can arrange direct deposit for a variety of payments. If you have the option to enroll, consider how you could use it to make your financial life easier.

And if you can’t sign up for direct deposit because your employer doesn’t offer it, learn how to fill out a deposit slip.