front cover tool 1 - american bankers · pdf file · 2004-02-17imaging and other...

AMERICANBANKERS

ASSOCIATION1-800-BANKERSwww.aba.com

A B A T O O L B O X

T O O L

1Understanding the Big Picture

This tool helps you understand the importance of Check 21, dispelsthe common misperceptions about you need to do and review therisk and possibilities you should consider.

ABA MEMBERS ONLY

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Understanding the Big PictureWhat is Check 21? ............................................................................................ 1Common Misperceptions .................................................................................. 3The Really Big Picture ...................................................................................... 5Customer & Staff Implications .......................................................................... 8What Do I Need to Know? ................................................................................ 9Banker Questions and Answers ........................................................................ 11Recognizing Substitute Checks ........................................................................ 15Check Exchange Options: Paper versus Electronic .......................................... 17How Check 21 Fits Into Electronic Debit .......................................................... 21

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Tool 1: Understanding The Big Picture❍ What is Check 21?❍ Common Misperceptions❍ The Really Big Picture❍ Customer & Staff Implications❍ What Do I Need to Know?❍ Banker Questions and Answers❍ Recognizing Substitute Checks❍ Check Exchange Options: Paper versus Electronic❍ How Check 21 Fits Into Electronic Debit

Tool 2: Understanding Key Statutory and Regulatory Provisions❍ Key Statutory Provisions of Check 21❍ Federal Reserve Proposed Regulations

Tool 3: Assessing Your Bank’s Responsibilities❍ What Banks Have to Do❍ Substitute Checks❍ Consumer Awareness❍ Staff Training❍ Recrediting a Consumer’s Account

Tool 4: Communicating About Check 21❍ For Individuals

Talking Points: Why Check 21 is Good News for ConsumersSample Handout: “Important News for Our Checking Account Customers”Sample Pamphlet/Statement Stuffer: “Checks Are Changing”

❍ For BusinessesTalking Points for Business CustomersSample Handout: “Check 21: What’s in it for Business Customers”

❍ For ReportersCheck 21 Media Fact SheetMedia Talking Points

❍ For the General PublicSample Speech: “Changes in Checks”

❍ For Your Board of DirectorsSample PowerPoint Presentation

Tool 5: Evaluating Opportunities With Substitute Checks❍ Taking Advantage of Check 21 Opportunities❍ Starting with Substitute Check Applications❍ Opportunities Created from Reducing the Need to Transport Paper Checks❍ Opportunities from Faster Presentment and Return Applications❍ Substitute Check Questionnaire❍ Check 21 Opportunity Checklist

Tool 6: Implementing Image-Based Check Processing❍ Implementation Options and Issues❍ Standards Supporting Check Truncation & Electronic Clearing❍ 5-Year Economic Model and Case Studies

Case I: $165 million BankCase II: $522 million BankCase III: $3.1 billion Bank

Tool 7: Understanding Risk❍ What are the Risks?❍ Fraud Detection Techniques❍ Going Forward❍ Fraud Identification Checklist

Appendix: Even More Tools to Help Your Bank❍ Glossary of Terms❍ Web Sites with Additional Check 21 Resources❍ Examples of Substitute Checks

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© 2004 American BankersAssociation, Washington, D.C.

This publication is designed toprovide accurate informationon the subject addressed. It isprovided with the understand-ing that neither the authors,contributors nor the publisheris engaged in rendering legal,accounting, or other expert orprofessional services. If legalor other expert assistance isrequired, the services of acompetent professional shouldbe sought.

This ABA publication was paidfor by the dues of ABA memberfinancial institutions and isintended solely for their use.Please call 1-800-BANKERS if you have any questionsabout this resource or ABAmembership.

AMERICAN BANKERS ASSOCIATION 1

What is Check 21?

The Check 21 Act (Check 21), which goes into effect October 28, 2004, enables the check payments system to reach a whole new level – a level of truly electronic clearing and settlement. And best of all, it doesn’t require much more of a bank than that it accept a new legal “substitute” of its customer’s original check when presented for collection. Any simple explanation of this new law, however, belies its true significance. Check 21 signals an era of fundamental change for the payments business – an era where checks take a back seat to electronic payments, and banks take huge chunks out of the mountain of paper and associated expenses that dominate back shop operations. Check 21 creates new product opportunities the likes of which banks haven’t experienced since the introduction of ATMs. Change, of course, doesn’t come without costs. Banks already spend huge sums on technologies that support their payments franchise. This year the industry’s payments technology tab will top $3.7 billion, with paper processing technologies making up 40 percent of that spending, according to TowerGroup. With the enactment of Check 21, much of that money likely will be spent on imaging and related technologies that support imaging and other mechanisms that facilitate the “electronification” of check processing. The most common application today is statement rendering. According to a recent ABA survey, 50 percent of community banks offer image checking statements to their consumer banking customers. Over 70 percent of banks with assets in excess of $200 million offer image statements. Complete electronification will require more investment in imaging solutions for check proofing, presentment and other transaction-level processes. Technical advances that improve automation and reduce storage costs are enabling more banks to transition to imaging technologies for high-touch operations like check processing. The result has been verified improvements in internal functions (such as check proof-of-deposit, exceptions and adjustments) and support for new, image-enabled customer services. Adding Check 21 to the mix stimulates even greater interest in operational efficiencies that improve workflow, automate manual processes, and enable remote image capture, truncation, and image check exchange. These new efficiencies will generate substantial savings for banks. Carreker Corp. estimates operational changes brought by Check 21 and check image exchange technologies, alone, could potentially save U.S. banks about

Yes50%

Plan to19%No

31%

Percent of Community Banks Offering Image Checking Statements To Consumer

Banking Customers

Source: 2003 ABA Community Bank Competitiveness Survey

Check 21 Toolbox

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$2 billion a year, once adopted industry wide. In the Carreker model savings accrue from archiving checks (10 percent), electronic image exchange (65 percent) and distributed capture and fraud reductions (25 percent). Check 21 could slash direct check processing costs, initially, by 15-20 percent, by most estimates. SVPCo expects the industry to save $2.1 billion a year in check processing costs, including $200-250 million in check transportation costs, from Check 21-type inititatives. As the following graph from the recent ABA/TowerGroup U.S. Bank Technology Spending and Investments Report reveals, bankers perceive strategic value in the opportunities to improve customer service through check imaging.*

* ABA/TowerGroup U.S. Bank Technology Spending and Investment Trends Report. The study is the first in a series whose objective is to provide bankers with insights on best practices and benchmark data necessary to make better decisions on the strategic use of technology.

Perceived Value of Strategic InitiativesPaper-Based Payments Processing

0% 20% 40% 60% 80% 100%

Check Truncation at Lockbox (ARC)

Check Truncation at POS

Check Truncation at Branch

Check Image for Internal Processes

Long-Term Check Image Archives

Electronic Check Presentment

Check Image for Customer Service

Check 21

All Banks Large Banks

Percent of Banks Perceiving High Value

Source: ABA/TowerGroup Study

Tool 1: Understanding The Big Picture


Common Misperceptions Check 21 allows a bank to create a new negotiable document – the substitute check (from an image of the original check) – that is the legal equivalent of the original paper check. Provided it is properly created, the substitute check can be processed through high-speed check processing equipment and is acceptable in a court of law. There are also things that Check 21 does not require a bank to do. For instance, the law does not require a bank to truncate checks. Nor does it require banks to accept images in lieu of paper. Banks also do not necessarily have to hire consultants or buy new hardware or software to deal with the new law. They may, however, wish to make certain expenditures to take advantage of the law’s provisions, as outlined in this toolbox. Basically, it’s the bank’s choice. If a paying bank is not image enabled, no problem. Check 21 only requires that a bank accept substitute checks that are presented for payments. What goes unsaid, but is implied, is that banks that exchange images of checks have to produce substitute checks for banks that do not accept images. In the months since Check 21 was signed into law, the banking industry has been abuzz with speculation about what the new law will require of banks. Some of the speculation has been downright wrong.

Here’s what Check 21 does not do. It does not require that a bank: • Truncate checks. • Accept check image files in

lieu of paper check presentments.

• Hire a consultant to help prepare for the new law.

• Buy any new hardware or software to deal with the new law.

Check 21 requires that:

• Substitute checks be treated as the legal equivalents of original paper checks, in all situations and regardless of contradictory state or local laws.

• Banks provide informational notices to consumer customers explaining the legal status of substitute checks, and that paid checks provided after October 28, 2004 may actually be substitute checks.

• Banks adopt new expedited recrediting procedures for substitute checks, but only if substitute checks are actually provided to customers.

• Minor changes be made in return check processes to facilitate the handling of substitute checks.

Check 21 Toolbox




The Really Big Picture

For most of the last half of the 20th Century, checks were America’s favorite form of non-cash payment. Even in 2001, the most recent year for which data is available, checks accounted for nearly 60 percent of the roughly 71 billion non-cash payments tendered in the U.S., according to data compiled by the Federal Reserve. But check handling is costly and labor-intensive for banks. Despite ongoing advances in processes and technology, a check today can pass through as many as a dozen sets of hands from the time it enters the banking system until it is returned paid to the check writer. Check 21 grew from banker efforts to address check-processing inefficiencies, in the back shop as well as at points of deposit. Case in point: ATMs. ATMs can expand a bank’s deposit-taking capabilities significantly, but the Regulation CC requirement that banks generally must collect check deposits from ATMs every day makes ATM deposit taking prohibitively expensive in many cases. Some bankers thought it would be cheaper to upgrade ATMs with check image and MICR capture functionality than it would be to service far flung ATMs on a daily basis. But, because of state UCC laws (preempted by Check 21), banks generally have to present the original, paper check to the paying bank in order to be paid. Check 21 addresses process inefficiencies of this type by allowing any bank that wants to truncate checks to do so, even if the paying banks are not image-enabled and the writer of the check has not agreed to truncation. Check technology vendors are addressing check process inefficiencies – building fail-safe image exchange systems and affordable image archives that mimic traditional check clearing arrangements, electronically. The result: check truncation at the point of deposit and anywhere else in the check process becomes a viable option for banks, large and small. Checks & EFT: Where Things Stand It hasn’t been a dramatic change, but systematically, checks are being displaced by electronic payments in the U.S. economy. The trend is most obvious at the point of sale, where 15 percent of consumer payments last year were made by check, down from 18 percent in 1999, according to the latest ABA/Dove Consulting Study of Consumer Payment Preferences. Looking forward, 11 percent of consumers expect to increase their use of checks for in-store purchases, while 24 percent expect to writer fewer checks at the point of sale.* Consumers still prefer checks for bill payments, but electronic payments are gaining on checks in the home, too. Sixty percent of consumer recurring bill payments were made by check last year, the research found, down from 72 percent two years earlier.

* ABA/Dove study: 2003/2004 Study of Consumer Payment Preferences. This study is the third in a series tracking consumers’ payment habits, preferences and their migration from paper to electronic payments. It provides insights into consumer behavior and preferences across three important payment venues: retail point-of-sale (in-stores), Internet purchases, and bill payments.

Check 21 Toolbox


The effects of these shifts in consumer preferences are substantial, as are the implications for bank check operations. This year alone, back office overcapacity will cost banks more than $1 billion, according to Meta Software Corp. Those banks that fail to address back office overcapacity may be the only ones left to shoulder the bulk of that cost as fewer competitors remain encumbered by paper check processes. Check truncation is nothing new. Financial institutions have been truncating customer checks for years. A January 2004 ABA poll of 1,000 consumers found that nearly 60 percent of consumers today do not receive original paid checks from their banks. Currently truncation by the paying bank is possible because the customer agrees with its bank to the arrangement. Truncation at the bank of first deposit or elsewhere in the check process is a different matter: the bank of first deposit lacks the required agreement with the writer of the check and does not know whether the writer of the check has agreed to truncation. Check 21 changes this by eliminating the customer agreement requirement. There are significant potential savings for banks that adopt a strategy to truncate as early in the process as possible. Transportation and float savings, alone, are enough to prove some business cases, especially at banks that present checks to far-flung endpoints. Carreker Corp., for example, says its business case reviews suggest float improvements in excess of $2 million a year for some West Coast processing centers from check truncation initiatives. The past decade has brought dramatic improvements in check image capture and storage technologies; storage costs today are a fraction of what they were in the 1990s. Standards to support the capture, exchange, storage, and retrieval of electronic check images now exist. And there has been significant growth in electronic check clearing arrangements. ECCHO (Electronic Check Clearing House Organization), the industry rules group for electronic check clearing and presentment, estimates its members used electronic clearing technologies last year to exchange 2.3 billion check payments valued at $3.2 trillion. Financial institutions covered by ECCHO rules account for roughly 60 percent of U.S. deposits. Absent legislation like Check 21, however, the benefits of electronic check clearing have not been overwhelming, and have been mostly limited to those banks willing and able to enter into bilateral check exchange agreements. Making the electronic clearing option even less appealing, final settlement (pre-Check 21) is contingent on the eventual presentment of paper checks. There is also a lot of confusion over substitute checks, check imaging, and check conversion to an ACH debit at point of sale or by a lockbox operator. See the “Checks are Changing” chart at the end of this tool for a comparison of these payment types.



What Does this Mean for My Bank – Risks & Possibilities? Bank experiences to date suggest tangible benefits from truncation and electronic check clearing. Although the benefits for some banks may be small at first, the potential over time can be significant. Banks sending electronic check files do not have to be fully enabled for check imaging to take advantage of Check 21. Images for low-volume applications, such as returns, are easily captured on secondary passes. Banks considering electronic check clearing might first want to look at their most critical transactions. The most expensive part of check image exchange is creating substitute checks; and even the most successful trials have not been able to push the cost below a nickel. Because of faster processing, banks may therefore want to weigh the potential of truncating and processing high value checks, keeping in mind their potential liability for fraudulent checks as provided under Check 21. High-dollar return processing also will improve noticeably from imaging technologies. Typically, Regulation CC requires a paying bank returning a high-dollar check (e.g., a check for an amount over $2,500) to contact the bank of first deposit before sending the check back. But the notice lacks important details. With Check 21, the paying bank will be able to image the check and send it to an agent that is near the bank of first deposit, who will print a substitute check and present it to the bank, jump-starting the return process, slashing days from the return cycle and greatly improving the odds of collection. Remote deposit locations – branches and ATMs – should also be near the front of the imaging consideration queue. The key here is to balance transportation and labor savings against the cost of distributed item capture technology (e.g., imaged enabled ATMs and teller stations or branch offices). Tool 5 reviews new opportunities resulting from Check 21. Check 21 also will help banks protect against check fraud by reducing clearing times and thus the opportunities for fraudsters to get away with the bank’s or its customer’s funds. There’s a downside to this opportunity, however: imaging may compromise some fraud prevention techniques, notably those that rely on visual detection. Check fraud is a serious problem, in the paper as well as imaging environments. In the substitute check and image world, the challenges for detection and prevention will vary. For example, it may be more difficult to detect an alteration or counterfeit on an image or substitute check, especially if the image or substitute check quality is poor. There’s also the potential for double posting – the original checks might slip back into the processing stream, either as checks or ACH transactions. These risks can be managed through staff training, existing deposit account fraud detection technologies, and new image-survivable fraud tools, such as digital watermarking. See Tool 7 for a detailed discussion of risks.

Some Risks to Consider

• Decisions to pay or return must be made without the opportunity to inspect the paper check

• False consumer claims for expedited recrediting

Check 21 Toolbox


Customer & Staff Implications

Whether or not a bank decides to truncate and electronically exchange checks, every bank will see substitute checks after October 28, 2004 and so will customers. Substitute checks are the size of business checks and contain distinctive features that could stump even the most seasoned bank employee. These features include special identifiers in the MICR line and a legend that explains the legality of substitute checks. Tellers and other front-line personnel will need training on substitute checks so they can identify these new paper instruments and have ready answers for customer inquiries. Inquiries like: “What became of the original checks and what are my rights and protections under Check 21?” (See Tool 3) Bank staff will also need to be trained on expedited recrediting procedures. Check 21 requires that a bank provisionally recredit a consumer’s account when the consumer claims that a payment represented by a substitute check was erroneously paid and the original check or a better copy is necessary to determine the validity of the claim. New Consumer Responsibilities And Protections Here’s the lowdown on consumer rights and responsibilities under Check 21. Consumers must:

• Accept substitute checks as the legal equivalent of checks that were written from their checkbooks.

• Report any suspect transactions, such as double postings or improper payment,

within 40 days (generally) after the bank mailed or delivered the account statement containing suspected errors or a substitute check, whichever is later.

In terms of protections, consumers will have the right, under Check 21, to submit claims for expedited recredit of disputed substitute checks that they have received, with important exceptions. Consumers also may now use a substitute check instead of the original, if they need to prove to a merchant or other payee that they in fact did make a payment. Tool 3 provides details on how to prepare both staff and consumers.



What Do I Need to Know?

Beginning on October 28, 2004, substitute checks will appear at banks all over America, commingled with original checks. Remember: Check 21 does not mandate truncation; it simply creates a legal environment where truncation can evolve. But any change in the legal environment means bank responsibilities and obligations change, sometimes subtly, sometimes not so subtly. Based on the statute itself and the proposed regulations, here’s a rundown of what changes under Check 21. Keep in mind that the final regulation may vary from the proposal and should be reviewed carefully when finalized. Converting Bank Responsibilities Because Check 21 does not discuss the responsibilities of the converting bank, it is most likely that the reconverting bank will pass on its warranties of Check 21 to the converting bank. It is the converting bank that is responsible for the quality of the image and has the opportunity to look at the original check. Under the contract, the bank that converts the check may agree to the following:

• The electronic files meet all requirements established under Check 21 for creating substitute checks.

• The substitute checks contain all endorsements collected up until the checks were digitized.

• The original item will not be presented. Reconverting Bank Responsibilities A bank converting electronic check files to print substitute checks for correspondent banks or it own customers, has certain obligations. It must:

• Identify itself as the bank that created the substitute check. • Ensure that each substitute check bears all endorsements applied by parties that

previously handled the transaction (electronically or in paper form) in the forward or return collection streams.

• Identify the bank that truncated the original check. • Warrant that substitute checks that are created are not duplicates and meet all

requirements for legal equivalency under Check 21. The bank warrants that the substitute check:

Contains an image of front and back of check; Conforms to industry standards; Contains the MICR line; Reflects the physical characteristics of check; Is suitable for automated processing; Accurately represents all information on the original check; Bears the required legend; Includes all endorsements; and Includes identification of the party creating it.

Check 21 Toolbox


Clearing Bank Responsibilities Any bank that transfers, presents, or returns a substitute check provides certain warranties to all other parties involved in the transaction. It warrants that:

• The substitute check meets all requirements for legal equivalency under Check 21, including required endorsements.

• The item will not be presented for subsequent payment. In other words, it is not a duplicate.

Paying Bank Responsibilities Every bank has new responsibilities under Check 21. These responsibilities relate primarily to the customer awareness and consumer protection provisions of the legislation. Paying banks should:

• Accept substitute checks presented by other banks. • Provide consumer notices describing substitute checks, how they are the legal

equivalent of original checks, and the legal remedies available in case of errors. The final regulations, due out approximately mid-year, will determine the timing and application of such notices. For consumers who receive paid checks with periodic statements, the notice will probably have to be provided no later than the first regularly scheduled communication with the consumer after October 29, 2004. In addition, notices will have to be provided at the time of account opening. The final regulations will determine the timing of notices to those customers who will only receive a substitute check on an occasional basis.

• Educate personnel on the legislation and its implications for customers and work processes.

• Develop processes for handling consumer inquires, disputes, and claims for expedited recrediting of disputed transactions.

• Reevaluate and revise check review procedures and practices based on the risks associated with lack of access to original paper checks, including, for example, security features on cashiers’ and large-dollar checks. (See Tool 7 for detailed discussion.)

• All banks will need to make minor modifications encoding checks in the return processes to handle substitute checks.

In addition to these responsibilities, paying banks must be familiar with the expedited recrediting provisions that allow paying banks to make claims for improper payments based on substitute checks or images of substitute checks.



Banker Questions and Answers

When does Check 21 become effective? The law takes effect on October 28, 2004. What does a substitute check look like? Specifications require that a substitute check be approximately 8.5 inches long or about the size of a “business” check. (see pages 16 and 17 for examples). I already send images to my customers, why should I care about Check 21?

• Your bank will receive substitute checks rather than original checks for payment, so you will not be able to review your customer’s paper check to determine its validity (before you convert it into image for your customer). Alternative procedures to identify fraud must be developed, unless you currently only review check images and not paper checks when deciding whether to pay or return a check.

• In addition, your bank must be familiar with the warranty and indemnities for

substitute checks and the expedited recrediting procedures for banks if it wishes to return a substitute check or an image of a substitute check that your bank originally paid, but would not have paid if it had initially received the original.

• If your bank is currently providing image statements to your customers and you

will not otherwise be providing substitute checks to your customers, the expedited recrediting procedures for consumers will not apply. However, your customers will be receiving images of substitute checks or may receive a returned check in the form of a substitute check and will have questions.

• If your bank wishes to begin accepting images of checks presented for payment

rather than the paper check, it must be familiar with the warranty, indemnity, and expedited recrediting provisions applicable to banks.

• All banks must provide notices explaining substitute checks to their customers as

they may receive a substitute check, e.g., a returned check in the form of a substitute check.

• Your bank must also modify its deposit agreement to transfer your bank’s liability

as a reconverting bank to any customer that makes a substitute check from an image and deposits the substitute check.

Are there any limitations on the types of checks that can be truncated? No. Any and all types of checks drawn on U.S. banks can be truncated and reconverted as substitute checks.

Check 21 Toolbox


Does my bank have to produce substitute checks upon request? No, Check 21 does not require banks to produce substitute checks. However, banks in states with laws that entitle consumers to receive paid checks with their statements (i.e., New York and Massachusetts) may have to produce substitute checks for customers who request them. Does Check 21 preempt state law? Check 21 supersedes any state law, including provisions of the Uniform Commercial Code or state laws that are inconsistent with this new federal law. Thus state law that says that customers are entitled to receive paid checks back with their statement is unenforceable. However, banks in New York and Massachusetts, states with laws that entitle customers to receive paid checks back with their statement, may have to provide substitute checks with these statements. What standards exist for substitute checks? The Accredited Standards Committee X9 has a draft standard, X9-90, for substitute checks, also known as image replacement documents. The standard is now being circulated for industry review and comments. What are the retention requirements for original paper checks at the bank of first deposit? There are no legislated or regulated time frames for check retention. Banks will make choices based on individual evaluations. What are the legal implications of processing the original check if a bank has already processed the payment using a substitute check? Check 21 requires the reconverting bank to warrant that it will not process the original check once it creates a substitute check. Which party pays for the creation of a substitute check? The bank sending the electronic check file bears the cost. The receiving bank is not required to be image-enabled, nor is it required to accept image transmissions. How much will substitute checks cost to produce? Cost in an emerging market is difficult to predict. Limited production costs of substitute checks suggest production costs as low as $0.07 an item are achievable today, with volume. That cost should fall as more checks are made available for electronic clearing. What is expedited recredit? The expedited recredit provisions are similar to, but not identical to, those under Regulation E dealing with electronic funds transfer. Under Check 21, consumers generally have 40 days from the date the bank mailed or delivered a statement relating to a substitute check or the date the consumer received a substitute check, whichever is later, to request that their bank provide the original check or a better image of a substitute check they believe was erroneously paid. The bank then has 10 business



days to recredit the consumer’s account, up to $2,500. Banks have additional time to recredit the account pending investigation if the check was drawn on a new or frequently overdrawn account or if fraud is suspected. The expedited recrediting procedures apply to consumer accounts, only, and only if the consumer actually received a substitute check. If a customer receives an IMAGE of a substitute check (not the actual substitute check), does the customer qualify for expedited recrediting? No. The expedited recrediting provisions only apply if the consumer actually received a substitute check. Thus, the provisions do not apply to image statements typically provided to customers today. How will Check 21 affect clearing times? Check 21 will not change clearing times. Substitute checks will clear along with original checks. Image exchange will have a great impact on clearing times by making all checks one-day items. How are returns handled when the item in question is a substitute check? Similar to the way returns are handled in traditional paper check processing. In accordance with ANSI standards and the proposed regulation, the number 5 is placed in position 44 of the MICR line to indicate it is a return item and a substitute check. Today, the number 2 is in position 44 to identify an item as a paper return. Position 44 precedes the bank routing number in the MICR line. Do return deadlines change under Check 21? No. How are electronic check databases updated? Every image network will maintain a database of endpoints that clear through that network, providing customer banks with regularly scheduled updates. Banks have several private sector image exchange networks to choose from, as well as the Federal Reserve. Am I required to use an image exchange network? No. Your bank can choose not to accept images. Will the image exchange networks operate independently of each other? No. These networks have every incentive to operate akin to the way ATM networks operate.

Check 21 Toolbox




Recognizing Substitute Checks*

Sample Substitute Check (Front) Sample Substitute Check (Back)

* Source: Accredited Standards Committee X9, Inc

Step 1: Understanding The Big Picture Date Created

Reconverting Bank Routing Number

Legend Equivalence

Truncating Bank Routing Number

“4” Identifies Check As Substitute

Reconverting Bank Endorsement

Bank of First Deposit Endorsement

Truncating/ Bank of First Deposit Reconverting Bank

Bank of First Deposit Endorsement Overlay

Check 21 Toolbox


Recognizing Substitute Checks*

Sample Substitute Check Return Item (Front)

Sample Substitute Check Return Item (Back)

* Source: Accredited Standards Committee X9, Inc

Reason For Return

“5” Identifies Substitute As A Return Item



Check Exchange Options: Paper versus Electronic

Today, there are two channels available for clearing check payments: the traditional paper exchange process and check image exchange networks. In the traditional paper exchange of checks, items arrive at branches, are transported to a central processing or image capture site where they are imaged, and then sent along to a local clearing agent or Federal Reserve office. Once there, the items are processed and captured, then transported to the bank’s processing shop or a nearby agent that hands off the paper to the paying institution. A Traditional Paper Check Exchange Arrangement

There are many places throughout the process where the paper check can be truncated. For example, near the end of the physical process, the remote clearing agent might truncate the paper and make available image files to the paying institution, via a transmission agent. Many financial institutions receive these types of services today from clearing agents. Truncating At The Remote Clearing Agent

Another logical truncation step would be to capture the image at the clearing agent of first deposit. Under this scenario, the local clearing agent truncates the paper and transmits image files to remote clearing agents or offices of its own that are in the physical proximity of the paying institution. If the paying institution does not accept check image files, a substitute check is created from the image of the item and couriered to the


Check 21 Toolbox


paying institution. However, if the paying institution is image-enabled, check image files can be transmitted to the paying institution from the clearing agent as incoming items. Truncating At The Clearing Agent Of First Deposit

Take this process one step further and it’s a full-fledged check image exchange network. Joining an image exchange network allows a bank to utilize routing numbers that are available for image clearing through that network. Based on the makeup of available routing, a bank would modify sort patterns to direct or sort those items separately from paper items. For example, a truncation pocket could be established and all the items available for clearing through the image exchange network would be directed to that reader/sorter pocket, while items clearing as paper would sort to the same pockets used today and transported to local clearing agents. In this scenario, paper continues to move, but there are a number of endpoints available should there be a need or desire for image clearing. A Full-Fledged Image Exchange Network



There are several ways a bank can expand image-processing operations. It may still be cost justifiable to continue moving paper for all checks below a certain dollar amount. When checks are available for electronic image clearing and are above a certain dollar amount, a bank might decide to use the exchange network for faster clearing and faster availability of funds, but keep in mind the potential liability of the bank creating the substitute check under Check 21. Then, again, some banks might take the process a step further and move truncation all the way out to the branch, which is where many checks enter the clearing stream. The image would be captured at the branch, transmitted to a central site for reconcilement, balancing, etc., and sent on to the image exchange network for clearing. Tool 5 reviews other opportunities your bank might consider under Check 21. Exchanging Images At The Branch Level

Most importantly, each bank can decide just how far they want to go down the image trail and at what speed. Nothing in Check 21 requires a bank to truncate checks at any point in the process.

Check 21 Toolbox




How Check 21 Fits Into Electronic Debit

Check 21 has the potential of greatly transforming the way checks are processed. In addition to Check 21, there are other ways the paper check will be turned into an electronic debit, including lockbox operations with conversion to ACH debit, conversion of checks at point of sale to an ACH debit, and ATM/POS debit. Each will have varying effects on paying banks and their customers. The chart below compares the differences for: Image Exchange after Check 21 become effective, Check 21 (substitute checks), ACH conversion in lockbox operations Account Receivable Check (ARC) and ACH conversion at a merchant Point of Purchase (POP).

Check 21 ACH

Issue Image Exchange Substitute Check ARC POP

Basics

What is it? Electronic

exchange of some or all of a digitized image (or images) of a check(s). The capture of the original check most often takes place a bank of first deposit or it agent

The reconverting bank creates a substitute check from an image of the front and back of check and uses the substitute check in the paper check collection payment system

Consumer sends check to biller for payment. MICR line of check is read and the dollar amount is input. This information is used to create an ACH debit with a Standard Entry Class code of ARC

Consumer presents check for payment at a merchant. MICR line of the check is read and the dollar amount is input. This information is used to create an ACH debit with a Standard Entry Class code of POP

Start Date of Service

October 28, 2004 October 28, 2004 September 15, 1999 March 15, 2002

Eligible Items

All checks All checks Consumer check only

Consumer check only

Check 21 Toolbox



Check 21 ACH

Issue Image Exchange

Substitute Check ARC POP

Customer Authorization

Authorization Needed to Convert the Check

Bilateral agreement between banks or intermediary. Agreement with customers for checks not to be returned

None Notice on each statement from biller

Signed authorization at check out counter

Opt-Out Can request that the check be returned

None Can request that the check not be converted

Pay by another method (credit card, debit card or cash)

Consumer Protection

Time Consumer has to Dispute Transaction

Various times, depending on depository agreement of paying bank

45 days from statement

60 days from day of settlement

60 days from day of settlement

Consumer Protection

Reg CC and bank's demand deposit agreement

Reg CC, bank's demand deposit agreement plus expedited recredit under Check 21

Regulation E and NACHA Rules

Regulation E and NACHA rules

Legal Framework and Rules

Laws UCC, Expedited

Fund Availability Act

UCC, Expedited Fund Availability Act & Check 21 Act

Electronic Funds Transfer Act

Electronic Funds Transfer Act

Regulations Reg CC Reg CC Reg E Reg E

Rules Clearing House None NACHA NACHA

Relationship to State Laws

Applicable state laws must be followed

Supercedes state laws that are contrary to the Act






Check 21 ACH

Issue Image Exchange

Substitute Check ARC POP

Retention

Who retains the check?

The Converting Bank

Not specified in the law

Biller Consumer

How long is the check retained?

Various times, depending on converting bank and rules governing transaction

Not specified in the law

Maximum of 14 days

Not specified in the rules

How long is a copy or image of the check retained?

7 years 7 years for both original and substitute check

2 years 2 years

Statements

Checks Returned with Statement

N/A Check number and dollar amount on statement. Substitute Check enclosed

Description on statement containing: payee, $ amount and check #

Description on statement containing: merchant name, $ amount and check #

Image Statement

Check number and dollar amount on statement. Image of check attached to statement

Check number and dollar amount on statement. Image of substitute check attached to statement



Check Safekeeping Statement

Check number and dollar amount on statement

Check number and dollar amount on statement



Check 21 Toolbox


NOTES

1120 Connecticut Avenue, NWWashington, DC 20036

1-800-BANKERSwww.aba.com

front cover tool 1 - american bankers · pdf file · 2004-02-17imaging and other...

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