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What is Net Settlement?

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  • Written By: Malcolm Tatum
  • Edited By: Bronwyn Harris
  • Last Modified Date: 29 October 2016
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    Conjecture Corporation
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A net settlement is a procedure or process that is utilized by banks and other financial institutions to determine the cumulative total of all transactions that were conducted during a specified time period. Typically, this type of settlement is determined for each business day. The process used to determine the net settlement involves accounting for both credit and debit activity that occurs during the period under consideration.

The exact process used in determining the net settlement is governed by both the application of generally accepted accounting procedures and any governmental regulations that may apply. This means that while the overall process may be similar in each nation, there is the possibility for some small degree of variance, usually due to some specific type of financial transaction being exempt from inclusion for that particular business day. In most cases, if the inclusion is delayed, the transaction will be accounted for in a subsequent period.

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A basic formula for processing a net settlement is to identify all credits that occur during the day, followed by identifying all debits that took place during the same period. The debits are then deducted from the credits, providing a figure that reflects either a net debit position or a net credit position. In nations where some type of national banking system is operated by a federal government, any funds that are due to a bank once the net settlement is identified are credited to that institution’s reserve account. This process is followed in the United States, with those reserve accounts overseen by the Federal Reserve Bank.

A net settlement strategy can also be used in other settings where various types of electronic payment systems are in common use. Here the focus is on the settling of various types of interbank transactions and helps to establish the basis between the reserve accounts of those institutions that participate in the system through some sort of clearinghouse. The increase in commerce by electronic means such as debit cards and online money transfers has increased the value of maintaining a consistency in managing the net settlement task, since this process requires verification of each transaction that takes place during the business day. A side benefit to the net settlement is that errors in posting such as transpositions or inaccurate account numbers may be identified while evaluating the credit and debits, making it possible to resolve the issues before the next business day arrives.

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