UK payment schemes

ClearBank | May 2023

Moving money: Understanding clearing and the UK’s main payment schemes

In this report, we’ll bring a little clarity to the clearing system – from its history and purpose to the main payment schemes in the UK.

Let’s start with a bit of background

When we talk about making a payment from one bank account to another, we’re not referring to the movement of physical cash between banks. It’s actually the movement of a liability from one bank to another.

Let’s look at an example – Sally, who banks with Bank A, wants to move money to her friend Joe, who banks with Bank B. To send the payment, Sally’s Bank A sends instructions to Joe’s Bank B, who credits Joe’s account with the requested funds. This process is called ‘clearing’ – where the instruction is cleared.

But Bank A will then owe those funds to Bank B, so how can they settle that debt? One way is for both banks to hold accounts with each other. These are known as Nostro and Vostro accounts, deriving from the Latin words for ‘ours’ and ‘yours’ respectively. Meaning each bank would hold an account with the other – our account at your bank, and your account at ours. So, to fully pay Bank B and credit Joe’s account, Sally’s Bank A can instruct a transfer out of its own Nostro account. Or, Sally’s Bank A could credit Bank B’s Vostro account at their own bank.

This process is relatively simple when only two banks are involved. However, with 500+ banks and financial institutions (FIs) in the UK looking to pay each other, you’d need thousands of connections to move money back and forth between them. This quickly becomes very complex. The movement of money would be ineffective, inefficient, expensive and carry a significant settlement risk.

Clearing is a term used to describe the process that a transaction goes through before it’s settled. In other words, turning an electronic payment request (a promise of payment) into an actual payment where money has moved from one account to another. Clearing can combine thousands of transactions from different FIs to produce net settlement values, reducing the amount of work the FIs have to do. Clearing unravels all the complexity involved with thousands of different connections between FIs by centralising them into a single system.

Head to the ClearBank website to download the full guide.