Electronic Data Interchange and Electronic Funds Transfer

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Electronic Data Interchange and Electronic Funds Transfer

Electronic data interchange (EDI), or electronic data processing, is the electronic transmission of data between computers in a standard, structured format. EDI allows companies to process routine business transactions, such as orders and invoices, more rapidly, accurately, and efficiently than they could through conventional methods of transmission.

Electronic funds transfer (EFT) is the term used for EDI that involves the transfer of funds between financial institutions. Thus, EFTs are only one specific form of EDI, albeit the form most familiar to lay users and bank customers. While EDI has been around for decades, it wasn't until the late 1990s that this basic principle became a driving force in the rollout of electronic commerce, corporate extranets linking suppliers and customers, and related network-based technologies. Advances in EDI, combined with the rise and spread of the Internet, have led to wide use of EFTs at the same time that EDI has almost completely taken over business-to-business data transfers.


EDI has been present in the United States in some form since the mid-1960s. Businesses had been trying to resolve the difficulties intrinsic to paper-dependent commercial transactions. These difficulties include transmission speed (because of delays in entering the data onto paper and transporting the paper from sender to receiver); accuracy (because the data had to be recreated with each paper entry); and labor costs (labor-based methods of transmitting data are more expensive than computer-based methods).

In 1968, a group of railroad companiesconcerned with the accuracy and speed of intercompany transportation data transmissionsformed an organization called the Transportation Data Coordinating Committee (TDCC) to study the problem and recommend solutions. Large companies such as General Motors and Kmart also reviewed the problems, which arose when they used their intracompany proprietary formats to send electronic data transmissions to outside parties. Because each company had its own proprietary format, there was no common standard among transmitting parties. A company doing business electronically with three other companies would need three different formats, one for each company.

By the 1970s, several industries had developed common EDI programs for their companies within those industries, and a third-party network often administered these systems. Some examples of these systems include ORDERNET, which was developed for the pharmaceutical industry, and IVANS, which was developed for the property and casualty insurance industry. While these systems were standardized for each industry, they likewise could not communicate with other industries' proprietary systems. By 1973 the TDCC began developing a set of standards for generic formats to handle this problem. What emerged were the EDI standards.


EDI standards were intended to operate independently of the software and communication technologies responsible for sending and receiving information. EDI functions through a defined set of standards for transmitting business information, allowing data to be interpreted correctly, independent of the platforms used on the computers that transmit and receive the data. When a sender transmits data, such as a purchase order, the EDI translation software converts the proprietary format of the sender's document-processing software into a mutually recognized standard format. When the receiver obtains the data, the EDI translation software automatically converts the standard format into the receiver's proprietary document processing format. Because of the speed and accuracy of an EDI, users find that the system saves time and reduces costs over paper-based business transactions.

This makes EDI quite different from other types of electronic communication. It is unlike a facsimile transmission (fax), which is the transfer of completely unstructured data through a digitized image. EDI also differs from other types of electronic communications among computers, such as electronic mail, network file sharing, or downloading information through a modem. In order to access electronic mail messages, shared network files, or downloaded information, the format of the computer applications of both the sender and the receiver must agree.


By 2005, major retailers relied heavily on EDI to exchange purchase orders, invoices, and other information with their trading partners. In a June 2004 poll of twenty retailers, the majority said that they were either adding new trading partners or increasing the number of EDI transactions. Estimates place EDI usage at nearly 90

percent of business-to-business traffic. Retail giants such as Wal-Mart Stores Inc., J.C. Penney Co., Supervalu Inc., and Hallmark Cards Inc. have been regular users of EDI. In fact, Wal-Mart has been one of the most influential companies driving new technology trends.

Since 2003, many companies have turned to a new technology in which data is transmitted over the Internet using the Applicability Statement 2 (AS2) protocol. The AS2 rules describe how to send data securely and ensure that the messages are received. In September 2002, Wal-Mart asked its suppliers to switch from value-added networks (VANs) to AS2. Other companies have followed suit. One company claimed to have cut its costs by 70 percent after switching from a VAN to AS2. However, others have decided not to make the switch because of the costs involved.

Retailers are not the only businesses to take advantage of this technology. The healthcare industry also uses EDI to exchange patient information between medical providers and insurance companies. EDI is such a reliable means of transmitting data that a growing number of third-party payers, including Medicare, Medicaid, and commercial insurers, have started to require providers to submit claims electronically.

The Electronic Data Interchange rule was developed as part of the Health Insurance Portability and Accountability Act (HIPAA) and required compliance by October 16, 2003. This law requires all entities that transmit clinical data (including claims, referrals, and eligibility verification) to use the same electronic data file format. This can be accomplished by purchasing and maintaining a HIPAA-compliant practice management system (PMS) or by transmitting the data through a clearinghouse. The PMS is not the most cost-effective option for smaller entities, as it usually requires an administrator to maintain and upgrade the system as necessary. With the clearing-house option, the entity sends data to a clearinghouse. The clearinghouse then sends the data to the appropriate recipients in the appropriate format.


Although the idea of EDI is to standardize data transfers between businesses, there are currently four different sets of EDI standards, all of which first appeared during the 1980s.

  • UN/EDIFACT, the system recommended by the United Nationsused predominantly outside of North America.
  • ANSI ASC X12, the U.S. system that predominates in North America.
  • TRADACOMS, developed by the Article Numbering Associationdominant in the United Kingdom retail industry.
  • ODETTE, used in the automotive industry in Europe.

All EDI standards prescribe the formatting, character sets, and data elements that are to be used in the electronic exchange of documents; they also indicate both mandatory and optional pieces of information for a given document and provide rules that structure the document itself. These standards leave a lot of room for constructing documents differently, according to the needs of different businesses and industries. For example, dairy companies may indicate a product's expiration date, while textile companies may indicate color, pattern, and material information. In essence, the standards operate like building codes, allowing different types of construction within a standardized set of rules. Just as two houses can be built to code but look completely different, two different documents can use the same EDI standard yet still contain different sets of information.


An electronic funds transfer (EFT) is an EDI among financial institutions in which money is transferred from one account to another. Some examples of EFTs include electronic wire transfers; automatic teller machine (ATM) transactions; direct deposit of payroll; business-to-business payments; and federal, state, and local tax payments.

In general, EFT transactions are transferred through an automated clearing house (ACH) operator. An ACH operator is a central clearing facility operated by a private organization or a Federal Reserve bank on behalf of participating financial institutions, to or from which financial institutions transmit or receive ACH transactions. The ACH network is a nationwide system for interbank transfers of electronic funds. It serves a network of regional Federal Reserve banks processing the distribution and settlement of electronic credits and debits among financial institutions.

ACH transactions are stored in an ACH file, which is a simple ASCII-format file that adheres to ACH specifications. A single ACH file holds multiple electronic transactions, each of which carries either a credit or debit value. Typically, a payroll ACH file contains many credit transactions to employees' checking or savings accounts, as well as a balancing debit transaction to the employer's payroll account. An originating bank sends electronic payment instructions to a receiving bank. In those instances, the electronic transfers are processed in batches and settled within a few days.

The National Automated Clearing House Association (NACHA) oversees the ACH network and is primarily responsible for establishing and maintaining its operating rules. All financial institutions moving electronic funds through the ACH system are bound by the NACHA Operating Rules, which cover everything from participant relationships and responsibilities

to implementation, compliance, and liabilities. While the NACHA rules are specific and quite detailed, adhering to a strict set of rules is crucial to the smooth and successful operation of the ACH system.


With the widespread ownership of PCs and the ever increasing use of the Internet, online banking has surged in popularity. By the beginning of 2005, there were nearly 40 million online banking customers in the United States, a trend largely driven by the popularity of electronic bill payment, a popular EFT function. Banks routinely allow their customers to access account information over the Internet, transfer funds between accounts, make investments, and pay bills online. Many credit card companies and utility companies allow customers to pay their bills online through EFTs, and most taxing authorities have developed systems to enable online filing and payment of taxes.

This trend towards greater use of online banking was given a further boost by the passage of the Check Clearing for the 21st Century Act of 2003, also known as Check 21. This federal law allows banks to transmit checks electronically and substitute electronic images for original paper checks. Check 21 provides many advantages for banks and financial institutions. By transmitting checks electronically, banks can reduce the amount of time it takes to receive funds. This is because they no longer have to wait for another bank to receive paper checks before they send the funds. In addition to saving time, Check 21 has the potential to save banks millions of dollars in transportation and storage costs.

While some consumer-advocacy groups complain that this law increases the chances of fraud, error, bounced check fees, and inconvenience, the Federal Reserve's 2007 Report to Congress on the first two years of the law's implementation indicates that few consumers have filed complaints or expressed concerns. However, the report also noted that during the first 18 months of the law's implementation, many banks had not yet completely adopted practices taking advantage of the new law. As the Federal Reserve report states, Overall, the banking industry is still adjusting to the new business environment created by Check 21. However, the report also stated that there were indications that the use of Check 21 authority was about to grow rapidly. Given past trends in the use of EDIs and EFTs, it seems likely that the use of Check 21 provisions will soon come to dominate the banking industry.

SEE ALSO Distribution and Distribution Requirements Planning; Electronic Commerce; The Internet


Board of Governors of the Federal Reserve System. Report to Congress on the Check Clearing for the 21st Century Act of 2003. April 2007. Available from: http://www.federalreserve.gov/paymentsystems/truncation.

Check it Out. Check Clearing for the 21st Century Act of 2003 Allows Banks to Transmit Cheques Electronically. U.S. News & World Report 8 November 2004.

Jilovec, Nahid. EDI, UCCnet & RFID: Synchronizing the Supply Chain. Loveland, CO: 29th Street Press, 2004.

Mearian, Lucas. First Horizon, SunTrust First Banks to Share Check Images; Southeastern Banks Overcome Technical Issues. Computerworld 3 January 2005.

Sliwa, Carol. EDI: Alive and Well After All These Years. Transactions Increase, Despite XML Option. Computerworld 14 June 2004.

Stern, Linda. That Check Won't Float. Newsweek 20 September 2004.

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Electronic Data Interchange and Electronic Funds Transfer