Direct deposit is a payment method that delivers paychecks to employees electronically. Employees provide their checking or savings account information to HR during the new-employee orientation process. Then, every payday, the employer transfers workers’ paychecks into their bank accounts, thus eliminating paper checks and trips to the bank.
Most employers offer direct deposit, and while direct deposit is a popular, convenient, and practical paycheck option, it’s not suitable for all workers, particularly those without a bank account.
According to an FDIC survey of unbanked and underbanked households, more than 14 million American adults are unbanked, accounting for around 6% of U.S. households. Communities riddled with income inequality are the most affected: An income level of less than $30,000 is the strongest indicator of a higher-than-average unbanked community.
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When an employee lacks banking options, they may turn to alternative finance methods with unreasonably high interest rates and fees, often leading to a situation where they live from paycheck to paycheck.
Employers have payroll options that can help nonbanking employees or those who simply prefer other payment forms. Here’s a look at six popular alternatives to direct deposit that may benefit both your staff and your business.
According to Paycor, 19 states allow employers to make direct deposit mandatory: Alabama (only in the private sector), Arizona, Indiana, Iowa, Kentucky, Louisiana, Maine, Massachusetts, Michigan, North Carolina, North Dakota, Oklahoma, South Dakota, Tennessee, Texas, Utah, Washington, West Virginia and Wisconsin.
Automated Clearing House (ACH) is a network that began in the 1970s. U.S. banks wanted to improve how money was transferred as the growing number of paper checks became overwhelming. The National Automated Clearing House Association (Nacha) manages and governs the ACH network.
ACH provides a bank-level encrypted electronic transfer of money between banks. ACH manages the system behind direct deposit and direct payments. Your business, the government or an individual can make payments using this network.
Not to be confused with a wire transfer or credit card network, ACH is a direct payment between two bank accounts. ACH transfers are grouped by the two banks that completed the transaction. The transactions are all checked and held by the bank before they are sent in bulk.
While most may associate ACH transfers with direct deposits, ACH direct payments is another option. ACH direct payments can be made via ACH credit payments and ACH debit payments. You can use an ACH credit payment to pay family and friends, or any single invoice. An ACH debit payment allows your company to debit money from your business bank account, usually to pay recurring bills – such as utilities and rent.
These are some advantages of making ACH direct payments:
These are some disadvantages to making ACH direct payments:
To set up ACH payments, you’ll need to choose a payment processor and sign up for an account. You may find that your current bank has comparable fees, or it may make sense to go with an ACH operator or automated payroll software.
Once you choose a provider and create an account, you’ll need to complete paperwork for ACH payments. However, once the paperwork has been completed, you can pay vendors and employees on a one-time or recurring basis because the payee’s information is saved.
Next, choose the correct entry classes when processing ACH payments. Your bank or payroll software should be able to do this for you to prevent any mistakes and delays in processing. Finally, always read the ACH payment terms when choosing your preferred financial partner, so you understand the process and fees.
You may be wondering if your business should use payroll cards. While direct deposit is helpful for employees with a bank account, some employees may prefer a payroll card. Payroll cards work like debit cards. Every payday, the card is loaded with the employee’s earned wages. The employee can use the money to take out cash from an ATM, make purchases, pay bills online, and transfer money to friends and family.
Some payroll cards are seen as a detriment to the employee because of miscellaneous fees. For example, banks may add fees for accessing wages via ATMs, making a purchase, checking an account balance at an ATM, card replacement and transferring funds.
Here are some of the best qualities of payroll cards:
These are some potential drawbacks of payroll cards:
If you use payroll software, ask your provider if payroll cards are an option. Some software providers offer payroll cards for free to client companies, while others charge you fees for initial setup, ATM use and inactivity.
To set up payroll cards, first select a provider, which could be your payroll software, bank, credit card company or professional employer organization (PEO). Expect it to take a few days to a few weeks to enroll and set up the payroll card system. Any employees who sign up for the service will be given instructions on how to participate. Cards are mailed after setup is complete.
Although PayPal is generally considered a mobile wallet, it offers advanced features – such as invoicing and automation – and may work as a direct deposit alternative.
Paying contractors or irregular part-time employees can be a hassle if you use paper checks or pay cards. PayPal is a great option when paying freelancers or one-time invoices.
When sending these payments, be sure to check the box for Service. Sending a service payment may incur a fee for the contractor, but this fee gives the recipient an instant payment option. If the freelancer doesn’t agree to this fee, you’ll need to figure out a different payment option. It’s a good idea to make it clear from the outset that you’re paying via PayPal.
If you’re making contractor payments via PayPal, you won’t need to report these transactions on a 1099 form at tax time. PayPal is liable for keeping track of these transactions and reporting them to the IRS.
Here are some benefits of paying workers via PayPal:
These are some drawbacks to using PayPal:
These are the two ways to pay contractors via PayPal:
Either way, you can pay the contractor via bank account or credit card, but additional fees may apply.
According to the Pew Research Center, 85% of Americans now own a smartphone, which is more than double the number from 10 years ago. Since employees can access social media accounts, email, banks, and more on their smartphones, it’s likely quick and convenient to receive their paychecks through a mobile wallet like Venmo or Apple Pay.
These are some advantages of paying employees via Venmo, Apple Pay or another mobile wallet:
Here are some disadvantages to paying employees via Venmo, Apple Pay or another mobile wallet:
To offer a mobile wallet as a payment method, it’s best to partner with payroll software that supports this feature. Payroll software like QuickBooks Payroll, Paychex and Gusto offers mobile app solutions to complete payroll on the go. Read our review of Intuit’s payroll options, our Paychex review and our Gusto review for more in-depth information.
While paying by a paper check may seem old school, there are still benefits for your small business. For instance, paper checks can help you track payroll quickly if you’re not ready for automated payroll software.
Plus, smaller companies may benefit from the personal touch a paper check can provide. For example, you can check in with your employees by handing out checks directly, automate the process by having your bank fill out and mail the checks, or write a check on the fly if there’s an accounting error.
Here are some advantages of using paper checks:
Here are some drawbacks of using paper checks:
You can order paper checks through your bank and personalize them with your business information. However, it’s advisable to open a dedicated payroll account so no other business expenses that are debited could cause the account to fall below zero.
Fill out paper checks each pay period or have your bank’s bill-pay service mail the checks to your employees. If there are any discrepancies, you’ll have to void the checks and rewrite them.
Paying employees cash for their work may save you fees, but it doesn’t always make sense. For example, even though you save money on payroll software and bank fees, tracking cash is challenging. If you have more than a few employees, having electronic records for their paychecks not only makes bookkeeping easier but can keep your small business from being audited.
Here are some advantages of paying employees with cash:
Here are some disadvantages of paying employees with cash:
To set up cash payments, you’ll need a sound bookkeeping system in place. Plus, you’ll need to withdraw ample cash from the bank so that you can pay all your employees in full on payday. Finally, you’ll need to keep impeccable records to avoid an IRS audit.