How does the UPI work?

UPI has made making payments so much easier that it has become an important part of people's daily lives in India. Now, let's understand how it was developed and launched.

UPI was developed by the NPCI and launched on April 11, 2016 by Dr. Raghuram G. Rajan (former Governor of the Reserve Bank of India). It allows making real-time payments 24/7 throughout the day by providing support for the following types of payments:

1. Peer-to-Peer,

2. Peer-to-Merchant, and

3. Interbank transactions.

On top of all of this, it is free for most users and uses pin-based authentication to verify the payer's identity. The pin we set to make the UPI payments is associated with our bank account, not the Payment Service Provider's application.

But one thing: UPI is the infrastructure (API's provided by the NPCI itself) for the payment apps to use to allow real-time payments between the parties. The UPI infrastructure API's are only available to licensed Payment Service Providers (PSP) such as Paytm, PhonePe, GooglePay, etc. and registered banks, not to any random person who can access them through any public platform.

Before understanding the process, you should know the payment service providers are connected to your bank account to validate account ownership. They are further connected to the UPI network by the API's provided by the NPCI.

Now, let's understand the process of how payments are made using the UPI infrastructure:

1. The payer initiates the transaction by entering any one of the following payee's information: virtual payment address, UPI ID, or phone number, along with the amount that needs to be transferred to the payee.

2. After entering the information, the request is forwarded to the payer PSP, which makes the request to the UPI network, which is maintained by the NPCI.

3. After receiving the request from the payer's PSP, the UPI network makes a request to the payee's bank to verify the information and check if there is any account associated with it in its database.

   1. If there is no account, the payee bank makes a request to the UPI network with the message "There is no account associated with this information," then the UPI network makes a request to the payer's PSP with the message "Invalid Information." OR

   2. If there is an account associated with the information entered by the payer of the payee, the payer's PSP prompts the payer to enter their UPI pin, which is used to verify their identity.

   3. The payer's PSP makes a debit request to the payer's bank along the UPI pin in encrypted form, which is used to validate the payer's identity by the bank.

   4. After the payer's identity verification, the bank checks whether the payer's account has sufficient funds or not to make the payment.

      1. If the payer's account doesn't have sufficient funds, the transaction is failed with the message "Insufficient funds to make the payment."

      2. If the account has sufficient funds, the amount gets deducted, and the payer's bank makes a request to the UPI network with the message "Amount credited."

         1. After receiving the debit request from the payer's bank, the UPI network makes a credit request to the payee's bank to credit the amount to the payee's account.

   5. After the payee's bank account gets credited with the amount, the payer and payee get respective messages on their PSP apps, "Payment Successfully." and "Payment received successfully.".

One key security feature of UPI that prevents wrongful or mistakenly any amount being debited from the payer's bank is that the payer's PSP doesn't prompt the payer to enter the UPI pin until the payee's identity is verified by the payee's bank.

This process facilities UPI to handle instant or near real-time processing of the payments, which is covered in the simplest manner I could have covered. Below is a visual representation of what the UPI process looks like when everything goes correctly.

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Thank you for reading,

Lakshay Mahajan