What is direct debit?

Source: GaudiLab (shutterstock.com)

Bank-to-bank direct debit, sometimes referred to simply as direct debit or bank debit, is a way of moving money directly from one bank account to another on either a once-off or recurring basis. But how does it work exactly, and what is ‘PayTo’, the new payment method that’s soon to replace it?

KEY POINTS

Direct debit and PayTo are considered a type of ‘account-to-account’ payment method that’s set up and authorised by the payer to the payee.
Direct debit and PayTo can be used to make one-off and recurring payments, such as energy or internet bills and insurance premiums.
But there are key factors you should consider before setting up a recurring payment, such as the protections in place, the cancellation process and any potential fees attached.

Direct debit has been around for decades, having originated in the UK as a paper-based system in the 1960s. Now, direct debit is set to be completely updated for the 21st century thanks to a new bank payment method mandated by the New Payment Platform (NPP) called ‘PayTo’.

Applications for direct debits have broadened in the past decade and their popularity continues to increase – the Reserve Bank of Australia (RBA) data shows the total volume of these types of payments have steadily increased year-on-year. In fact, according to a 2022 State of Pay report from GoCardless, over two in five Australians (43%) say that they’d like to use payment options that allow them to draw down from money in their bank account, rather than incur debt.

Now, with the rollout of PayTo, direct debit is set for its first major upgrade since its inception. PayTo is a new digital and mandated way for merchants to collect instant payments from their customer’s bank accounts. It is set to transform the future of payments and, during the next 3-5 years, it will gradually replace existing direct debit infrastructure. Your bank may already support PayTo and as businesses gradually adopt the new technology, you will increasingly see it offered as a payment method — from supermarket checkouts to your home entertainment subscriptions.

How does direct debit and PayTo work?

Direct debit payments are considered a type of ‘account-to-account’ payment method — there are no card networks involved in the scheme. Generally when you set up a direct debit, you authorise a merchant or service provider to take an agreed amount of money from your nominated account using your BSB and Account Number. However, in Australia, direct debit may also refer to the automatic transfer of money from your debit or credit card. The amount agreed upon can be fixed or variable, and will be taken out of the nominated account at set dates or regular intervals.

Although operating in a similar manner, under PayTo, the convenience and security of direct debit payments are further optimised. In addition to easy set-up, PayTo provides more control and visibility for the payer, such as:

Recurring payments are easy to set up and offer greater security measures for both the payer and recipient.
Failed payments are easier to identify and faster to rectify.
Account holders must agree to the PayTo mandate via their bank or mobile app before a business can begin collecting payments.
Account holders have the ability to pause, cancel, or authorise new payment agreements within a user’s banking app.
The interface for upcoming payments is clearer and more accurate than what’s available under the current direct debit infrastructure.

All of these factors lead to better outcomes, such as:

Payment confirmation is instant, rather than taking up to four days
While failed payments on traditional direct debit can incur dishonour fees, PayTo’s infrastructure does not charge punitive costs to businesses or individuals
PayTo users have the choice between paying via PayID or traditional account and BSB number.

What can I use a direct debit or PayTo for?

You can use an account-to-account payment like direct debit or PayTo to make a number of different payments, particularly regular or recurring ones. For example, you might use a direct debit to pay for your energy, phone or internet bills, your children’s school fees or your insurance premiums. Many real estate agents also allow you to choose it as a way to pay your rent.

Additionally, you can opt to use direct debit to pay for subscriptions — anything from gym memberships to Netflix.

Finally, direct debits may be an option for paying things off in instalments, such as when paying off a loan or making repayments on a credit card or buy-now-pay-later account. Financial regulator ASIC notes on its Moneysmart website that in some cases, a service provider may require you to pay for its services by direct debit. Moneysmart also suggests that if possible, it could be a good idea to set up direct debits to come out of your account the day after you get paid, to help ensure there is always enough money in your account.

How do I set up a direct debit or PayTo payment?

Setting up a bank debit involves an agreement between you, your bank and the recipient. The exact process for doing so can vary depending on your preferences and the provider you choose. In some cases, direct debit can be set up in a few minutes online, or on paper via a direct debit request form provided by the merchant, which then goes to your bank and authorises the third party to take payments from your account.

In other instances, you may be asked to provide your bank account details upon signing up for a service, or when setting up your repayments for a credit card or loan. In these scenarios, your loan contract, credit card or service agreement will generally include a clause that nominates direct debit as the preferred or required payment method for your periodic payments. It is a good idea to carefully read the contract to understand the requirements and any potential fees that may apply, including any dishonour or overdraft fees if there are insufficient funds when the payee attempts to withdraw the agreed money from your account.

When PayTo is the chosen method, the merchant will set up a PayTo agreement with you via your online banking platform. During the process, you will agree on the sum, date and frequency of the payment, given PayTo can be used for one-off or recurring payments.

Over the next few years, PayTo will replace direct debit in Australia. By registering with a merchant using direct debit today, you will likely reduce the unnecessary paperwork, obsolete friction and frustrating hiccups when the time comes to transition existing direct debits into PayTo mandates. For the most part, this change will come as a simple notification in your banking app. Businesses who use a compatible payments provider will be able to make a seamless switch from Direct Debit to PayTo when the time is right — meaning the only thing you’ll notice is the added convenience!

What do I do if I want to cancel a recurring debit payment?

Generally speaking, there are two ways to cancel a direct debit: you can request a cancellation through the recipient or contact your bank directly. It may be a good idea to do both if you have the time. You can cancel a direct debit at any time, but do remember that your financial institution or service provider may need a few days’ notice.

If you’re cancelling a direct debit but want to continue using the membership, subscription or service it is paying for, make sure you’ve arranged an alternative mode of payment, otherwise you could incur a missed payment fee or lose access to the service. You may also want to keep a copy of any emails or letters you send, in case you need to prove that you asked for the direct debits to be cancelled.

PayTo makes managing recurring payments even simpler. When your bank is PayTo-ready, you will be able to clearly see all instant bank payments in one place and easily make adjustments to your payment schedule. That means no more scrounging around for old emails, building manual calendars, haggling with vendors or chasing up details to identify unclear debits. You’ll have greater control and visibility over your finances without sacrificing any of the convenience afforded by direct debit.

Key considerations before setting up a recurring payment

Direct debits can be convenient and low cost. However, there are a few things to look out for, such as fees if you do not have enough in your account when the debit is due. They may assist in keeping on top of payments, as once you’ve finalised a direct debit request, it will automatically make payments for you. That said, it is a good idea to keep an eye on these and to check the amounts debited are correct, rather than ‘setting and forgetting’ them.

In Australia, the Bulk Electronic Clearing System (BECS) that enables bank debits to occur protects consumers by providing protections for cancellation requests and refunds. For example, if a customer’s bank receives a request for a direct debit cancellation, it must stop taking further payments from the customer’s account. The bank can’t charge any overdraft fees to cover a cancelled direct debit, and if a customer is wrongly charged after cancelling a direct debit, the bank must refund them. The system also requires any merchants to adhere to strict compliance obligations.

Opting to make a payment via direct debit means you’re using money, rather than relying on credit, so as long as there’s enough money in your account, it eliminates the risk of unpaid balances, accruing interest and getting into debit.

According to GoCardless’s recent report, Demystifying Payer Experience, two in five (43%) Australians say they prefer to pay with methods that draw down from money that they have in their account rather than accumulating debt.

But it seems that direct debit does not fulfil everything Aussies want from their payment options:

30% of Australians say they would welcome a way to easily see and manage all of their regular expenses/payments in one place.
31% would also like payments to come out of their account more quickly so they can immediately know where their balance stands.

Whether it’s via PayTo or conventional direct debit, there are a few things you should consider both before and after initiating a direct bank payment agreement.

Think about how much and how frequently your account will be debited and ensure that these recurring withdrawals will fit into your budget. If a direct debit payment fails to process due to a lack of funds, there is still a risk that your credit rating could be affected and you may have to pay a direct debit dishonour fee.
Once your bank goes online with PayTo, you’ll be able to see a clear list of your established direct debits, when they’re due and how much they are via your banking app. It is also a good idea to review your subscriptions regularly to determine if you feel you are still getting value from them, rather than using a set-and-forget mentality.
If you have set up direct debits but cannot yet access PayTo, you may want to check back periodically to make sure the provider is taking out the correct amount of money each time. If you’re unsure about payment or want a list of what direct debits you have set up, contact your bank.

It may also be important to ensure you are being charged the correct card usage fee for recurring direct debits. According to the Reserve Bank of Australia (RBA), the average fee for different card types are as follows:

Eftpos: less than 0.5%
Visa and Mastercard debit: 0.5% and 1%
Visa and Mastercard credit: 1% and 1.5%

These costs are charged to vendors but often passed on to consumers as a surcharge. Check whether the provider charges a fee for direct debit and compare this with the costs of payment methods.

Other payment options and how direct debit and PayTo compares

When making payments, direct debits are just one out of a variety of options you may consider. Depending on your circumstances and your service provider’s requirements, some alternative payment options include:

Electronic Funds Transfer (EFT), such as Pay Anyone or BPAY
Transfer via online payment platforms, such as PayPal
One-off or recurring payments using a credit card or debit card
Bank cheque
Money orders

It’s important to carefully weigh up your payment options to ensure you choose the one that suits your financial needs. Keep in mind, there may be processing times and fees associated with every mode of payment, so you may want to check with the provider or contact your bank before signing up for any of them.

While direct bank payments, such as direct debits and PayTo, can be a convenient option to help you keep on top of regular and recurring expenses, it’s important to weigh up your options carefully to decide what the right payment method is for you.

EFTs are also cost-effective and secure and come with the same protections as bank debit payments. However, these payments are processed manually (via online banking, for example) and require you to enter them yourself or set up a recurring payment.

Online transfer options like PayPal work similarly to EFTs. Depending on whether you use your credit/debit cards, a bank account or real-time payments, there are usually varying fees associated with the use of an online payment platform. You will need to manually make the payments as and when bills are due.

According to GoCardless’s 2022 State of Pay report, 81% of Australians have pet peeves when trying to make payments online, including:

55% say hidden fees and charges when checking out is their top issue, a key characteristic of Credit Cards and EFTs
36% say time spent entering details is a frequent headache, an unavoidable part of the process when paying with BPAY and often required of credit card payments.

Credit or debit cards may offer a safe and convenient way to pay for bills, whether it’s once-off or recurring. However, many service providers charge fees for debit/credit card payments and, if you have your credit card stored, you’re likely required to update your details manually once it expires. As an additional caution, ensure you’re aware of scheduled credit payments to avoid missing the card balance repayment and incurring avoidable interest charges. And, it’s important to note that if you are using a credit card, you are adding to your debt level.

On the more traditional end of the payments spectrum, bank cheques and money orders are another way to pay. Only the nominated payee listed on a money order or cheque is able to cash it, reducing the risk of fraud.

Additionally, money orders can be tracked and replaced if they go missing. They do, however, come with the disadvantage of fees — money orders can cost around $11, while bank cheque fees will vary from bank to bank.

Cover image source: GaudiLab/Shutterstock.com

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This article was reviewed by our Content Producer Karen Yang and Deputy Editor, Canstar Amanda Horswill before it was updated, as part of our fact-checking process.

Luke Fossett

General Manager of GoCardless

Luke Fossett is the Australia and New Zealand Head of Sales for direct bank payment solution provider GoCardless. Luke has spent more than a decade working in the payments platform space, first for a major Australian bank and then for a leading global payments fintech. Luke's role at GoCardless has been to lead a team of experts and teach them all he knows about how to help companies establish and execute complex payments strategies, whether they be domestic or global.

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