What Is Direct Deposit and How Does it Work?

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Direct deposit is a payment method that's administered electronically between financial institutions. The payer will issue a direct deposit or electronic payment transaction that will automatically transfer to the recipient's account at a bank, credit union or other financial institution that accepts direct deposits. There's no need for the recipient to receive a physical check or cash and deposit the amount themselves. This convenience is why many employers and workers prefer direct deposit.

How direct deposit works

Your employer or a payer (such as the IRS for your tax refunds) will first ask you, the payee, for your banking information, including your bank routing and account number. This information is for the purposes of being able to pay you. Your employer will most likely ask you for your direct deposit information during the onboarding process. You can choose to have the money deposited into one account or multiple accounts—in some cases you can indicate the percentage you want deposited into each account.

Once the payer has this information, it will input it into either their payroll or banking software and schedule the direct deposit on their payment schedule. For example, if your employer pays on the 30th day of each month, the payroll or finance department will send payment information to their bank. Then the payment will be pushed out electronically—typically through the ACH (automated clearing house) network—on the 30th.

Direct deposit pros and cons

Pros

• Offers more convenient and faster access to funds.
• Can cost less than other types of payment methods.
• Doesn't rely on paper checks.
• Employers or payers can automatically schedule payments.
• Lowers the risk of lost or stolen paper checks.

Cons

• Requires payee to have a bank account.
• Cybersecurity attacks or phishing can compromise transactions.

Direct deposit uses

While the most common way people associate direct deposit is through their employer, there are many other ways you or other payers can use this method of payment:

• Social Security payments: All Social Security payments are now being paid by direct deposit as a more cost-effective way to pay out benefits. If you don't have a bank account, you can still receive payments via a prepaid debit card.
• Working as an independent contractor: Just because you're not an employee doesn't mean you can't receive direct deposit. Many companies will send their contractors payments through this method as it's typically more convenient. Instead of being paid on a regular schedule and having taxes withheld, contractors are paid based on the agreed payment terms.
• Getting tax refunds: The fastest method to receiving your tax refund is through direct deposit, according to the IRS. In most cases, you can receive your refund in around 21 days once your tax return is approved.
• Paying child support: Though there may be different payment methods, using direct deposit to pay child support is a more convenient way and there may be little to no fees to switch to this option.
• Paying bills: Yes, you can pay bills by scheduling an electronic payment or through the bill-pay option if your financial institution offers one.

What to consider when using direct deposit

The main benefits of direct deposit are the speed and convenience—it could explain why it's one of the most popular payment methods. Instead of having to pay to write a check and send it to payees, payers can schedule a payment on their payroll software or by logging into their financial institution. Recipients don't have to worry about losing a paper check or take the time to deposit it, whether in person at their local branch or through their bank’s mobile app.

Keep in mind that not everyone can send and receive direct deposit payments if they don’t have a bank account. That’s why it’s important to still have other payment methods just in case.

Where you can receive direct-deposit payments

If you’re considering opening a new bank account to receive direct deposits, know that most financial institutions have this feature. And some offer extra perks to account holders who arrange to receive direct deposits.

Here are some checking accounts you can consider as you’re doing your research: