Real-time gross settlement (RTGS) is an inter-bank transfer system in which transactions take place continuously and get processed individually without a delay due to batching. It allows for the recipient to get access to transferred funds quickly and securely.
Let’s explore how RTGS works, which important pros and cons come along with it, and how it compares to another common transfer system.
Definition and Examples of Real-Time Gross Settlement
RTGS is a system for electronic payments where payment transactions between two banks happen in real time and individually rather than in batches at the end of the day. This means that when a customer asks their bank to send money to a receiving bank via RTGS, the transfer of funds happens immediately. This contrasts with non-instant payment methods such as Automated Clearing House (ACH) transactions that are processed in batches and often take a few days to clear.
RTGS systems are usually managed at the national level by a nation’s central bank. They are limited to transactions between participants within the central bank’s country. RTGS is usually reserved for larger transaction amounts where it’s important to transfer the funds quickly. Availability of the service for specific types of customers also depends on the country.
An example of an RTGS system is the one offered through the Reserve Bank of India. That system supports large institutions as well as everyday banking customers. Individuals can log in to their online banking accounts any time of day and select the RTGS option for transfers that fall within certain amounts. When a customer requests the transaction during operating hours, the recipient usually sees a credit in their account for that amount within half an hour.
Another example is the Federal Reserve’s Fedwire Funds Service in the United States that is limited to use by the 4,700 participating customers that include businesses, governments, and financial institutions. When a Fedwire customer needs to send a payment, they’ll have a master account with a Federal Reserve Bank that gets debited for the amount of money they’re sending the Fedwire recipient. The Fedwire recipient’s master account will get credited the same day if the payment succeeds.
The Federal Reserve has announced plans for another RTGS system called FedNow in the United States by 2023. This system will expand access to real-time payments to more banking customers, including individuals who need to transfer money. Customers will be able to request these transactions through their participating banks.
- Acronym: RTGS
How Real-Time Gross Settlement Works
RTGS facilitates the quick and secure transfer of funds for large-value transactions. Each transaction gets treated individually and processed immediately with the central bank handling the settlement process. This means there’s no need for the banks involved to tally transaction data beforehand and later send that data to the institution that clears and settles transactions.
Some RTGS systems are available 24 hours a day, every day of the year. However, some central banks set their own operating hours for processing, and transactions made after those hours process and settle once operations resume.
Individual banking customers in some countries, such as India, can initiate transactions using RTGS online and don’t need to use instruments like paper checks. Someone who wants to use this funds transfer method could simply visit the online payment system through their bank. The customer would have to make sure the transaction amount qualifies for RTGS and provide important information about which accounts to debit and credit, the identity and account number of the recipient, the bank’s name and identifier, and any special transaction notes. Banks may charge a small fee for an RTGS transaction.
Pros and Cons of Real-Time Gross Settlement
Fast settlement time
Convenience for senders and recipients
Risk of insufficient funds
- Fast settlement time: As transactions get settled on an individual basis with no delay due to netting a batch of transactions, they occur very quickly. This benefits customers who want to send money quickly and recipients who need the funds.
- Secure transfers: The RTGS transaction process is highly secure with settlement occurring quickly and online banking platforms using secure authentication methods to reduce risk.
- Convenience for senders and recipients: Since initiating a transaction is as easy as logging onto an online banking platform, the sender has a convenient way to request an RTGS transfer. The recipient also enjoys the convenience of quickly having funds in their account without needing to visit a branch, handle cash, or deposit a check.
- Liquidity risk: Having transactions settle in real time comes with risk if the banks involved have any liquidity issues where they run short on funds. In contrast with the net settlement system, real-time settlement with insufficient funds could lead to a gridlock in the system if transactions can’t get processed. This could disrupt economies.
- Less flexibility: There’s somewhat less flexibility for customers since financial institutions can put minimum and maximum limits on RTGS transfer amounts and usually favor larger transactions. Further, unless the transaction fails, such transactions can’t be revoked, if desired, since everything happens in real time.
Real-Time Gross Settlement vs. Deferred Net Settlement
Along with RTGS, there’s another type of settlement used that’s called “deferred settlement.” With deferred settlement, banks keep a record of transactions and tally the resulting debits and credits (“netting”). Later, banks send this net transaction data to the financial institution that handles the clearing and settling processes so the credits or debits go to the corresponding bank accounts.
This means that transactions with net settlement usually complete at the end of the day (or some other set period) instead of in real time. While real-time settlement can expose banks to liquidity risk, deferred settlement can expose them to credit risk as banks wait for funds to satisfy transactions they’ve already processed.
|Real-Time Gross Settlement||Deferred Settlement|
|Transactions settled continuously||Transactions handled in batches|
|Real-time transaction settlement||Delay for transaction settlement|
|Potential liquidity risk||Potential credit risk|
- RTGS is a system for sending payments where transactions between two banks happen continuously and on an individual basis.
- Customers can request the transactions whenever they want, and transactions settle during the central bank’s designated hours.
- The Reserve Bank of India handles RTGS transactions for a variety of customers, while the Fedwire Funds Service is such a system in the United States for participating corporations, financial institutions, and governments.
- RTGS offers the benefits of quick, convenient, and secure transfers, while disadvantages include liquidity risk for the financial institutions involved and limitations placed on transactions.
- RTGS contrasts with deferred net settlement systems where banks record and aggregate transactions before later sending the data to the central or clearinghouse bank that handles the clearing and settlement processes.