Virtual Accounts or Virtual Bank Accounts have long been spoken about and discussed between corporates and their banking partners for a number of practical use cases, but how do we know if virtual accounts make sense?
We’ll start with the basics and discuss what a virtual bank account is and then go on to explain a number of specific use cases, including information about how exactly an organization benefits from them, and the questions to ask when exploring virtual accounts for your business.
What is a Virtual Account?
A virtual account or virtual bank account is an account held by a corporate client at a bank which is linked to a physical bank account, normally a DDA or Demand Deposit Account. This virtual account works similarly to a normal physical account and can even be denominated in a currency different from the physical account and owned by an entity in a totally different country.
Activity within the account is almost limitless and is not restricted to a particular type of inflow or outflow. Any activity that occurs is automatically reflected in real-time on the physical account to which it is linked, even including currency conversions.
Virtual bank accounts allow for immediate liquidity, eliminating the need for physical cash sweeps and reduces overall costs.
How did they come about?
In-house banking solutions became very popular among corporate treasury in an effort to centralize payables and receivables and decrease the number of bank accounts a corporate holds. These solutions were highly effective at performing these functions, enabling both payments and receipts on behalf through a centralized entity and account along with automating the intercompany accounting to ensure all funds for payables and receivables allocated to a particular entity are done so consistently and accurately.
While these solutions provided positive ROI without fail, the cost to implement and maintain them was significant and required, in most cases, a specific set of skills that was both hard to find and harder yet to retain. At their core, the goal was automated accounting and efficient processing of external and internal payments.
Sending only net settlements with a centralized entity and, in some cases, simply book settling in accounting, mountains of bank charges were saved by avoiding fees associated with bank transfers. Virtual accounts were the banks’ response to fight back, providing a light solution that achieved the majority of the efficiencies corporates had invested large sums into for In-House banking implementations while avoiding the trap where they were left with something nearly impossible to maintain and scale as the business changes.
All of these challenges are solved with virtual accounts as the infrastructure is managed at the bank along with now being able to leverage far less expensive internal transfers between virtual accounts and with the physical account to provide the best of both worlds.
How are Virtual Accounts used?
- Receipts on Behalf – A process that many give up on before even implementing due to its complexity and challenge to automate, virtual accounts allow receivables owed to one entity to flow into their virtual account automating accounting processes while simultaneously reflecting the physical cash in the physical account owned by the entity where cash is centrally managed.
- Customer Clearing – Between inconsistent remittance and similarly named customers among a myriad of other challenges, automating customer clearing can be expensive, if not impossible to automate in many cases. With virtual accounts and the simplicity of opening new accounts, virtual accounts can be assigned to individual customers, adding high levels of automation with little change to business processes.
- Account Rationalization – Physical accounts can be tough to keep track of and expensive to retain. Much of the administration associated with physical accounts does not exist with virtual accounts, eliminating much of the cost.
- Intraday Cash Pooling – Contrary to traditional cash pooling whereby concentrations to the cashpool head are done at the end of each day, the physical account is updated with every transaction so there is never ambiguity as to how much cash is held. Cash managers have full visibility with no need for intraday subtotaling of numerous cashpool accounts.
Key Benefits of Virtual Accounts
Now that we understand what virtual accounts can be used for, let’s discuss why they are beneficial to corporate treasury and finance teams:
- New accounts are easy to open. No complicated KYC documentation required.
- Automated reconciliation enabling elimination of manual processes
- Decreased Bank Fees
- Full visibility into cash balances
- Decreased fraud risk and increased security by centralizing accounts within a virtual account structure
Who needs a Virtual Account?
All types of business can benefit from virtual accounts. As we see above, the use cases vary and add efficiencies to both payables and receivables scenarios.
From a payables perspective, anyone trying to centralize their account structure, eliminate local accounts, and limit currency exposures can benefit greatly from a virtual account structure. Migrating payables is also an easy process from the internal system perspective in that no third parties need be informed or require changes to their processes. These are often the quickest to provide value given basically no friction to deploy.
For receivables, the nature of one’s business is key to the viability of migrating to virtual accounts. While new customers can be given a virtual account number to pay for invoices, updating banking information for existing customers is a mammoth undertaking and not feasible for some businesses. The process of sending new settlement instructions, including the virtual account number to all existing customers and more importantly gaining adoption can in even the best case take months to achieve 90% adoption of new settlement instructions and much much longer for that small group of stubborn customers that ultimately require the physical account being decommissioned to be left open for years.
One solution to this painful process that in many cases deters a corporate from adopting virtual accounts is that certain banks will allow physical accounts to be converted to virtual accounts and this is critical if the business has a generally static customer base.
Digging deeper into receivables, organizations struggling with acceptable levels of automated clearing and cash application should look closely at virtual account solutions. The ability to open accounts for a specific customer enables many virtual bank account users to drastically improve reconciliation statistics without even changing core processes and simply migrating to virtual accounts.
How to Decide
Weighing the short term costs against the long term benefits of virtual accounts is part of every corporate’s journey when looking at solutions in this area. When doing your own evaluation, know that you don’t have to transform your entire business with virtual accounts. The solution is flexible and if your organization needs help in a specific area or specific region, start small and realize benefits where they are needed most. Incremental functional areas, regions, or specific customer groups can be migrated gradually and much of the discomfort with making the move to virtual accounts can be avoided or mitigated.
If you are thinking virtual accounts are only for large global MNCs, I caution that thought. Being something meant to be scalable, those initiating an RFP or looking for something scalable, this is a no brainer. Providing built in cash management functions requiring management of balances in a single account and the ability to rapidly scale across borders and for volume, there is no better time to start your virtual account journey than when building your foundation. Cost benefits, being multifunctional and scalable are key attributes that make virtual accounts an excellent tool for large and growing corporates alike.
Questions to Ask
When evaluating virtual accounts, it’s helpful to have a guide to know which questions to ask. After working extensively with virtual accounts, the experts at FinLync have created this list of questions to ask your bank before moving forward with virtual accounts:
- Can I migrate existing physical account numbers, including branch identifier to virtual accounts
- What types of payments are supported from virtual accounts? Via what channels (H2H, SWIFT, bank API )?
- What is the process for opening a new account? Is dual control enabled?
- Are there any geographic limitations to the virtual accounts?
- For foreign currency virtual accounts, how are rate cards determined for conversion at the physical account?
Virtual accounts are an excellent tool for finance organizations to optimize cash and accounting operations. Above we have discussed what virtual accounts are, how they are used and how they can benefit your organization along with questions to ask to ensure you select the appropriate partner. Now, go out and see how virtual accounts can help different areas of your business and continue to help your business grow and scale.