ICL – Check Fraud and Risk Mitigation
August 28, 2023
ICL Check Fraud and Risk Mitigation
But, and some ways to try to anticipate the fraud, understand the kinds of fraud that is out there, and ways to mitigate your risk, so let’s get started. First of all, as always, I’m not an attorney. I’m not giving you legal advice. So, you want to make sure that, in certain circumstances, you consult compliance and legal so that your action is appropriate.
So just some general thoughts about fraud. Obviously, we’ll talk about this at length, but one of the biggest sources of fraud and the ways to experience loss from fraud is, as the paying bank, when you pay unauthorized checks. But as a depositary bank, you also run risks of fraud and some of the ways, some of the potential fraud sources are your deposits: over the counter, ATM, RDC consumer, our favorite, RDC business; anything that you accept for deposit is potentially a fraudulent item. So, you’ve kind of always want to be aware of the risk.
Another source of fraud has been online account opening. That’s a relatively new channel for banks to open accounts virtually, not in person. You’re not looking at the at the new customer, but it’s a virtual process, which makes the process more susceptible to fraud. That someone is impersonating someone else and you’re not physically verifying identification et cetera. So again, it just needs to be factored into that product so that you have appropriate risk mitigation in place.
Remote deposit capture. That’s where we see a lot of fraud.
As a depositary bank, when you offer remote deposit capture to your consumers in particular, because those are the people that you have less stickiness with than a business, there is an opportunity for you to be a conduit for fraud. For example, your customer might deposit an altered item and that is the responsibility of the depositary bank because the depositary bank makes a warranty to the paying bank that a check is not altered.
When a depositary bank exchanges images through the Fed, they do not warrant to the paying bank that the check is not a forgery or not a counterfeit. But, again, you don’t want to be a conduit for a fraud and some, particularly consumer RDC customers, may see the anonymity of remote deposit as an opportunity to pass fraudulent items through. So why not? When you’re offering RDC, you want to think about how are you going to mitigate your risk. Consider that you review the deposited items and there are some automated fraud filters that can happen that can help you to do that. Certainly think about things like deposit limits, number of checks, dollar amount of checks being deposited daily. Does it make sense for a consumer to be depositing large dollar items, etc.? Consider placing restrictions on what you will accept through remote deposit. Because again, as a depositary bank, you do make certain warranties.
So you might not want to accept through deposit a check, that has no MICR on it. That might be an indicator of a potentially fraudulent item. Foreign items, checks gone, and other banks in other countries, that’s something that you definitely would not want to have happen through RDC; savings bonds, same thing. You want to see those and get those. Money orders. Cashier’s checks. Remember that cashier’s checks, you’re obligated to provide next day availability. So you want to make sure that you’re watching that.
Treasury checks. This is an interesting one because when you provide, when you present a Treasury check to the U.S. Treasury, you’re making warranties and we’re going to go through those warranties in a little bit here. So, I will, I know a question just popped up about those warranties. Go ahead, Mickey. Do you want me to read it to you now? Is that something we’re going to turn? Yeah, let’s could you go over what you said about there not being a warranty from the depository bank when banks exchange checks through the Fed. Yes, and I’m going to cover that, so hold on to your hat on that one because we’ll give you the citation and it will make a lot more sense.
So I was talking about Treasury checks. When you present a check to the Treasury, the Treasury has its own set of rules about the presentment, what they call guarantees, and among those guarantees is that you have made every effort to determine that the check is not fictitious.
So a Treasury check is like a hundred dollar bill. It bears all kinds of fraud detection devices ultraviolet light detection, microprinting, that kind of thing. You’ll never be able to verify that through remote deposit, but you’re making a guarantee to the Treasury that you did. So just consider that. Plus, obviously any time you accept a check through RDC, you run the risk of your depositor taking that paper check and negotiating it somewhere else. A substitute check, a redeposited item. You will probably want to consider that your customers bring those in and give you the paper. Again, these aren’t prescribed by any regulation. These are just some things to think about because RDC comes with inherent risk; you have to remember that what you’ve done is open a virtual teller window. So those checks are never going to be subject to the kind of scrutiny that they are when they are physically in front of a teller. And then, as I said, you want to consider setting transaction limits, dollar limits, those kinds of things.
Still let’s talk about who is at risk for forgeries and counterfeits. The paying bank has to detect and return expeditiously, or it will generally take the loss, and we’re going to get into this a little bit more presentment warranty that’s found in UCC articles three and four say specifically that the that the presenting bank has no knowledge that the drawer’s signature is not authorized. So in other words, they don’t know because the depositary bank is not in a position to know the drawer signature unless that check is drawn on that depositary bank.
An RDI, return deposited item, when you accept a check for deposit and it comes back for any reason, NSF, account closed, payments stopped. You’re going to suffer a loss if you can’t recover that from your depositor. Again, alterations, the depositary bank makes a warranty in the UCC presentment warranty that the check is not altered. So generally, the depositary bank is going to be liable if it presents an altered item. Now, I said “generally” because that’s what attorneys say. So we’ll get into some specifics.
And then kiting. We’ll talk a little bit about what that is, but both depositary banks and paying banks are subject to unrecoverable chargebacks and overdrawn accounts when they are conduits and victims of kiting.
Now, one thing I want to point out is that one thing that can happen, that can help you in detecting whether or not a check is counterfeit is knowing the routing number fractional form and, again a check can be printed on any kind of paper, other than a Treasury check. And so there is no real counterfeit detection on a check unless you have lots of experience with counterfeits and you start to see similarities.
One thing to look at and to consider is to know the fraction form calculation.
So when we look at the routing number on this sample.
You can see that same routing number is presented in a fractional form in the upper right-hand corner. And what you see here is the routing number is one-two, which is the 12th Fed. And then two is going to be the branch of the 12th Fed. One is going to designate that it’s a bank and then zero-zero-zero-three is going to be that specific bank’s identifier as defined by the American Bankers Association and in the last digit is the check digit. So, when you look at the fraction form, you can see that the city-state value, which you can’t look up unless you are actually a prescriber to Puity and to, to be able to determine the city-state value, but there’s going to be found by the ABA identifiers, so zero-three in this case is the ABA identifier. And then the denominator, that’s the number under the slash, or next to the slash is going to be the Federal Reserve routing number. So we see the one-two-two-one there that we see at the beginning of the routing number. So for example, here’s an example, from my past of a counterfeit check and here, there’s a significant noticeable difference right away in the fraction form. This this check is drawn on a bank in the ninth Fed, but the routing number er rather the fact, fractional form doesn’t even show that it’s just a made-up number. And what’s worth knowing is, your average counterfeit ER, doesn’t understand the fraction form, how to calculate it. So, when they’re being sloppy about printing up counterfeit checks, they don’t always know that that number has actual value in specific calculations.
I’m also going to point out the style of this check. I said earlier that there is no defined way to determine if a check is counterfeit, but when you’ve seen enough counterfeit checks you start to see certain styles of checks that are consistently counterfeit. When I see a check in my in my banking days, when I would look at a check and saw that style that you see here with that firm dark line, across the top that says, this document has a colored background blah, blah blah. And the style of the font of the check number. So often those were counterfeit, but I always became very suspicious of such a check.
And then one day, one of my business customers decided they were going to start printing their own checks and they use this style. So, it’s not, it’s not a science. But when you are experienced with dealing with a lot of forgery or particularly counterfeit, you might see a certain consistency in the kind of style of checks being counterfeited. Because obviously, we can now print checks on desktop publishing and this apparently is one of the cheaper, two types of style. So that’s just, I’m just sharing my experience on that. So you might also have seen that yourself.
So, let’s look at that presentment warranty and you find these both in article 3 and 4 the same and will just quickly go through these. The first warranty is that the depositary bank says, I’m entitled to enforce this chart. I gave value to the holder, holder being the person to whom that check is payable essentially, so that means you gave cash to the payee or put that check in the payee’s account. Second warranty you make is that the check is not altered. The third warranty, and this applies to a Fed exchange because an ECCHO exchange actually varies this particular warranty. So, if you send your checks through the Fed, you’re saying to the paying bank, I have no knowledge that the signature of the drawer of the draft is unauthorized.
And then the fourth warranty is superseded by a reg CC warranty. This warranty says, with respect to any remotely created consumer item that is authorized by the person on whose account is drawn. Reg. CC doesn’t differentiate between consumer or non-consumer, and Reg CC is federal regulation. UCC is state law. So federal regulation is going to supersede state law. So just remember as the depositary bank, you make a warranty to a paying bank that are remotely created check is authorized regardless of whether it’s drawn on a consumer account or a non consumer.
So hopefully this answers that question the warrantor has no knowledge that the signature of the drawer is unauthorized.
Let’s talk about cashier’s checks and U.S. Postal Service money orders in particular, because those are often used in different kinds of scams.
For example, I might advertise on eBay that I want to sell my motorcycle. So, somebody shows up. I’m asking a thousand dollars for it and they have a cashier’s check for $2,000. Oh, I made an error, just go ahead and wire me the thousand dollars and off he goes with my motor motorcycle.
I deposit that $2,000 cashier’s check my bank and I then wire thousand back to him, thinking everything is cool. Couple days later that counterfeit check comes back where that cashier’s check comes back as counterfeit. So that’s a very common scam. Another one that someone actually tried on me years ago when I am answered an ad to be a secret shopper.
They sent me a bunch of money orders said, go ahead and take it to Big Box and transfer those funds to someone else. Well, I knew enough that those checks I could determine if they were counterfeit by doing some checking and I’ll show you how you can do that. Another one we used to see this all the time. Someone standing outside your bank and then you find they see someone who looks nice, potentially vulnerable. I have a check but I don’t have a bank account. Will you cash this for me? You can keep $100 of it for yourself. Well, guess what? That check? The counterfeit.
And who ends up taking that loss? Well the paying bank does. But the depositary bank’s customer also takes a loss because they took got value for that. And if the paying bank caught it in time, that depositor’s account is going to be charged back.
And you all know this one. I love you. We met over the internet and maybe I’m in prison, or maybe I have some particular issue. Please, help me. I love you and they send you a counterfeit cashier’s check because they love you so much and etc. etc. Those are all the kinds of things that you want to be aware of so that you can help protect your customers, because they can often be victims of scams. Out of desperation and you can help them, particularly elderly people because we all have an obligation as banks to detect elder abuse, and to report it. CFPB has a website where they want every bank to report any potential elder abuse. So all of these things can be part of that.
And again, cashier’s checks can be counterfeit. So they are no more free of counterfeit in any other kind of check.
Let’s talk about cashier’s check. If you’re not sure. Someone is depositing a cashier’s check. Let’s say it’s for a thousand bucks or 5,000 bucks. Remember that reg CC says you have to make that cashier’s check available the next business day after deposit, if it’s over 5500 $25, you can delay that amount over that for an exception. Hold. A large dollar hold but if it’s under that you have to provide availability.
Maybe they have a dollar in their account and you’re not sure is this legit? You can always attempt to call the issuing bank shown on that cashier’s checks. Banks have stopped a long time ago from verifying funds in the old days and I’ve been around for a long time. We used to call another bank and say, hey, I got a check drawn on this account for this amount. Here’s the check number. Is it any good? And they say yeah, it’s good. And sometimes we’d say, can you put hold on it, and they say sure those days are gone. But a lot of banks will verify if a cashier’s check issued on them is legit. So always give that a try. It doesn’t hurt, but don’t call the number printed on the check. If there’s a phone number printed on that check if it’s a counterfeit check, that phone number is very likely, going to be that perpetrator’s accomplice sitting in the parking lot, outside your bank and the point is if you can’t be validated and you don’t feel good about it, there’s no law that says you have to accept whatever is attempted to be deposited. You can always say, you know what, take it to the issuing bank.
Now U.S. Postal Service money orders, as you probably know, they are definitely subject to fraud.
And there’s a website that USPS has that has tips for identifying counterfeit money orders, and I’ve got the URL here. You can also just Google them. And then they have a phone number that you can call to verify if the check was actually issued. You put in the Postal Service money order number and the dollar amount and they can verify whether there was a postal service money order issued under that number for that amount. Doesn’t mean that that’s not necessarily counterfeit, but it is another detection tool.
So forgery. This is where the paying bank suffers the biggest loss.
So first of all, UCC defines forgery as an unauthorized signature made without the actual implied or apparent authority. This includes a forgery.
Remember we said that UCC presentment warranty says the warranter has no knowledge that the signature of the drawer of the draft is unauthorized. Where that comes from is goes all the way back to a landmark case, settled in 1762 in English court, back when the U.S. was still a colony and we adopted that ruling in that law because it made sense. And basically, what that case determined was the party in the best position to know that maker’s signature, the drawer’s signature, is the person, and when we say person, we mean entity, who’s going to assume the loss on the author, unauthorized check. So in other words, if you can verify the signature, meaning, you know the drawer’s signature, but you pay a forged check, you’re going to you, the paying bank is going to be responsible to your customer.
So that’s something you just want to keep in mind because UCC essentially embodies that original Price vs. Neal case.
So, paying bank, you have some liability.
Paying bank, a bank may charge against its customers’ account a check that is properly payable from that account, even though it creates an overdraft, and item is properly payable, if it is authorized by the customer and is in accordance with any agreement between the customer and the bank. This is found in UCC 4-401, which says, when a bank may charge its customers’ account, paying bank can charge its customers. Count for a check that they authorized, even though it creates an overdraft. And even though, by the way, it is post-dated.
So remember that the paying bank is in the best position to know the drawer signature. Consider this, when you’re a depositary bank and you take a check that isn’t drawn on you, you don’t know what that drawer signature is look like. That’s why you make that UCC warranty: I have no knowledge.
All right, so base for the paying bank to attempt to mitigate its risk because what has to happen, everybody needs to look at their account activity every single day. So that a check that was charged against my account that was a forgery, I can call my bank today and they can return it timely.
Now a lot of banks offer positive pay for commercial customers who have high volume or high value checks, and essentially what that does is by agreement, it provides an opportunity for the issuing customer to review every check that’s presented in match against a file that it uploads of all its issued checks. So when there’s a variance they’ve got to resolve it per the agreement that you have with them and let you know, this one is not authorized so that you can return it timely and then you can’t, then you won’t suffer the loss. You might want to consider as a paying bank to set a certain threshold and review checks that are presented over a certain dollar amount to potentially mitigate your risk, there, of loss, if that’s a forgery or counterfeit, and it’s a big dollar item. So you can validate the signature to make sure that it matches the drawer signature that you have on file.
Now here’s the whole thing. The paying bank has to, if it’s going to return a check it has to return it. Timely. Regardless of the reason, there are no exceptions to this based on the reason for the return.
There are two clocks that start ticking when a check is presenting. One is the UCC midnight deadline. The other one is the reg CC expeditious return requirement
UCC midnight deadline says a paying bank has until midnight the banking day following presentment to settle or return a check. So in other words, Friday was a was a business day checks that were presented on Friday have to be returned by the next business day, which in this case is Tuesday is Monday? Because the legal holiday that’s not a business day. So today you looked at all of the checks that were presented on Friday and resolve the NSFs, the stop payments, the account not found, you sent them or you use flag them to be returned so that they get out of your shop by midnight and then reg UCC picks it up, so that it is back to the depositary bank tomorrow. The second business day after the presentment tomorrow by 2 o’clock.
So in an average non-holiday non-weekend, check is presented on Monday, banks paying bank has until Tuesday, midnight to get it out of their shop, so that it is back to the depositary bank on Wednesday, 2 p.m. That depository bank’s time.
Are there any questions about that?
I’ll take that as a no.
Now, there is an exception. There are rather, there are exceptions, Treasury checks are exempt from this expeditious return requirement. U.S. Postal Service money orders are exempt from this return requirement, and any check that is drawn on a unit of government, whether it’s state or local, and that means that it’s drawn on the government, not on a bank. For example, we used to see income tax refunds, state income tax refunds drawn on the state and those kinds of checks are exempt, local governments sometimes issue checks on themselves. They don’t see that as much, but it’s still possible. So just remember when you accept a Treasury check, a postal service money order, or a check drawn on a unit of government or deposit, that could come back to you weeks and months.
But if you exchange through an ECCHO exchange between ECCHO members, there is a there’s a difference. Remember we talked about that UCC warranty that the warrantor has no knowledge that the drawer’s signature is not authorized.
ECCHO rule 9 does a 180 on that, where in fact the depositary banks, the sending bank, warrants to the receiving bank, the paying bank, specifically that this is not a forgery. This is not a counterfeit. Now that’s a big change, the UCC warranty, which means that the depositary bank may be liable to the paying bank for counterfeits and forgeries, that accepted for deposit – unless there’s no funds left.
So it’s kind of a Hail Mary pass, the paying bank when it learns of a forgery, or a counterfeit past that return time frame, can make a rule 9 claim. There are timing requirements for that, and you can find all the all the particulars on our website. And I think, at some point, we are probably going to be doing a rule 9 session.
But the point here is that rule 9 will not impose a loss on the depository bank. What it does is it provides an avenue of recourse for the paying bank to say to the depositary bank? I make it a rule 9 claim and the depositary bank, if they still have the funds are obliged to return the funds. Now, the ECCHO rules do permit a member to opt out a rule 9, which means that they are not subject to a rule 9 claim, but they can’t make them either. And they have to stay off the dock for at least six months if they choose to opt out. They can opt out today and then opt back in tomorrow. You can find a list of the banks that have opted out. There’s only14 banks that have opted out of all of the thousands who are members of ECCHO, so be aware of that. There’s an option. It’s not a guarantee, but it is a way to attempt to recover. What this does is codifies what you can always do if you got the check through the Fed, pick up the phone, talk to the depository bank. You sent me a forged check. You sent me a counterfeit check. I know. You didn’t make a warranty to me. But if you still have the funds, will you agree to return it, I’ll give you a hold harmless letter. The point there is that the depository bank doesn’t want to have funds on deposit with one of its depositors that are fraudulently gained at the best. You’re telling them they have a fraudster for a customer, or they have a customer who is a victim of fraud, so that never hurts. You can always pick up that phone and talk to the depositary bank and agree. if they still have the funds, to have them return it back to you.
So any questions about that before we go any farther?
All right, whatever is spring water. All right. So you’re a depositary bank and you have a risk, obviously of checks being returned, for all kinds of reasons. So when you accept a check for deposit, and what kind of scrutiny are you applying to that deposit? Do you know the account activity history? Is this check a thousand dollar check and the account has been open for 20 days and has 10 bucks in it, and they’ve been overdrawn twice.
When they deposit that check, if that check comes back, is there sufficient balance in that account to be able to absorb that return?
When you accept a check for a deposit, are you properly identifying the payee?
Because remember, you make that warranty that you’re entitled to enforce, meaning you gave the value to the holder, to the payee.
Is it endorsed properly? If there’s multiple payees, are all those payees’ endorsements on there, and if there are multiple payees and it’s not payable alternatively, which means Nikki or Dal, but means payable to Nikki and Del, then it’s got to go into an account that both of us have access to. You all know what happens after income tax refund time when there’s a divorce going on. One of the parties takes that income tax refund, that’s payable to husband and the wife, and they put it in the husband’s account, or the wife’s account. And the other party doesn’t have access. That would be a breach of that warranty that you’re entitled to enforce.
When you look at a check you accepted for deposit, who’s the drawer of that check and really, you know, you can’t necessarily determine that but determine if that alone is indicator of fraud but is it is the drawer of that check a unit of government? Treasury or a business that is well known? Maybe it’s a payroll check, those kinds of things and obviously it’s a properly signed and dated? Dated is it stale dated? Is it future dated? Remember that a bank may pay a stale dated or future dated item unless their customers told them not to, but when you’re the depositary bank, you don’t know if their customer told them not to. There may very well be a stop payment on that check if it’s future dated or stale dated.
And then obviously, is it a check? You know, in the old days again when we issued paper checks, a lot of businesses would also give a voucher with that check as well. For example, a paycheck that would go the deductions, etc. etc.
How many times does a bank take for deposit the voucher instead of the check? Is there MICR on that check? Those are the things you want to look at.
Here’s another weird risk where someone steals my checkbook. But instead of taking my checks and forging them, they instead steal my deposit slip. Why would they do that? Well, they take a forged check counterfeit, check deposited into my account and then take cash back. So it looks like a legitimate deposit, looks like, you know, it’s a customer. They just getting cash back on a deposit. But guess what? The depositor is not the customer.
So always verify the identity when you have a cash back transaction, that person who’s making the deposit is it in fact the owner of the account.
Now, availability always comes into play because you have to make certain checks available the next business day following the date of deposit. And because the return time frame doesn’t necessarily mean it’s going to get back to you on the second day, particularly like we talked, Treasury checks, U.S. Postal Service money orders, checks issued on government, any check drawn on the Fed, that kind of thing. So, the second business day, you know, you have to make the first $225 of the deposit available. The third business day, you have to make the remainder of the deposit available up to 5,525. Any amount over that you can hold for a reasonable amount of time as an exception, large dollar hold. So the holds aren’t necessarily rather. the yeah a hold isn’t necessarily going to protect you because certain kinds of checks could come back to you. And the point is, when you accept a check for deposit, certain kinds have to be made available before you would likely get that returned back to you.
Now, there are exception holds, a new account, and that means an account that’s been open for 30 days or less. You can hold checks for longer days. If this is a large dollar item, single or aggregate, 5,525, any amount over that can be held for a reasonable amount of time. A reason a redeposited check and that’s where we talk about substitute checks, you can place holds on those. If an account has repeated overdrafts, which is defined as six or more times in the last six months or two or more days overdrawn 5,525 or more. You can put an exception hold on deposited items. And then there is this one: the reasonable cause to doubt collectability. What that means that’s defined as any reasonable person would say that this check looks fishy, but you can’t base it on a particular class of check or a particular kind of person depositing that check. For example again, and I’m always going back in history cash advance checks. Those were always problematic, but you can’t put a hold on it just because it’s a cash advance check. So you have to have reasonable cause to doubt the collectability.
Alterations. What is an altered check? That’s defined in UCC 3407. It means an unauthorized change in an instrument that purports to modify in any respect, the obligation of the party. Could be changing the payee name or adding words or numbers, or an incomplete instrument. Remember that if a check has to start his life is paper, which means that paper can be fiddled with, and the bank that accepts it for deposit warrants to the paying bank that it has not been fiddled with. It is not altered.
So how does that happen? Well, lots of scams there. If you live in a rural area where you have mailboxes where people put outbound mail into their mailbox and put a flag up. Fraudsters love to drive down those dirt roads, see what’s in that mailbox going out. If it’s a check made payable to, for example, a mortgage company. Boom. Let’s take that. And acid, wash it. Let’s change the payee name. Let’s maybe add a couple of zeros.
Business checks, where there’s a check that was issued legitimately to ABC company and somebody takes that check and types Mary Smith above that.
So does that handwriting of the payee or the or the font of the payee match? So when you see Mary’s name, Mary Smith over ABC company, is it the same font? If it’s typed, I think still typed, you know, and does the handwriting of the payee and the drawer’s signature match.
That’s not always an indicator of alteration because sometimes I might write a check, sign a check, and give it to someone and say, put your name in there and off you go. I would only do that with someone I really trust, but it’s not a good idea. Never a good idea. So again, is the font consistent throughout all of the writing on that check and then consider this does a deposit history, support the check that’s being deposited. For example, you might have an account that gets regular direct deposit. Are they usually writing checks? Or, they normally deposit, a check from their employer. And now, here’s the check from someone else. Does it make sense? Is that consistent? This is where you have to know your customer.
Just to emphasize in the presentment warranties, the depositary bank says to the paying bank, this draft has not been altered.
Now, let’s talk about endorsement fraud, and this gets back to that warranty that the depositary bank makes that it is entitled to enforce. When a check is made payable to multiple payees and not alternatively. So again, Nikki and Dal. It can’t just be endorsed by me and go into my account. That is a breach of your warranty. So either Nikki and I both have an account or you want Nikki to be there and you cash it, get Nikki’s endorsement and my endorsement, and make sure that you gave the money to both of us. Make sure that that check payable to a payee, goes into the payee’s account and not into a different account. This kind of, I guess, we’ll call it an error because it isn’t necessarily deliberate fraud, but it often happens with lockbox processors.
I’m writing checks to the electric company and to the water company, and I put the wrong check in the wrong envelope. And the check, payable to the water company goes into the electric company’s account, etc. That’s a breach of that warranty.
And again, identify the payee, get their identification, because I find a check payable to Nikki. I like forger endorsement and off I go. Well, the depository bank that would accept that check or negotiated for me, reaches its warranty that it’s entitled to enforce.
Now the other one, this is called a special endorsement, which is a legal endorsement a check payable to me. I happen to owe Nikki that same amount of money. So I endorse it and say pay to the order of Nikki. And give it to Nikki and she can negotiate that check and that’s perfectly fine. That’s a perfectly legal thing to do. But let’s say that Nikki takes that check and forges my endorsement. And then makes it payable to me or to her. So when you are as a depositary bank, looking at one of those checks, know your customer.
Is that first payee’s endorsement forged? That’s the heartburn of that special endorsement.
And remember that, that warranty, that the depositary bank makes that it is entitled to enforce. They have seen UCC, which has the 3-year statute of limitations.
So the depositary bank could get a warranty breach claim because they did not give value to the payee for up to three years from the date that check is presented to the paying bank. So keep that in mind.
And that’s what that warranty, the warranter is a person entitled to enforce the draft or authorized to obtain payment or acceptance of the draft on behalf of a person entitled to enforce the draft. That’s all bunch of legalese. And remember that person means entity, really, not individual though. A depositary bank is saying to the paying bank, I gave value to the payee.
All right. So what are some ways to help prevent loss as the depositary bank? Again, we talked about this always verify the identification of the payee. Make sure that you see their signatures match their identification.
Does the endorsement match the payee name if it’s payable to Nikki has it been endorsed by Nikki?
If there are multiple payees and it’s payable to them, not alternatively. In other words, it says, Nikki and Dal not Nikki or Dal, because essentially what that means of the absence of the symbol or word “and” is going to mean “or,” that means it’s payable to them, alternatively. If it’s not payable to them, alternatively, are all the payee signers on the account? You see that sometimes we’re checks are payable to joint account owners. As long as it goes, into the joint account, you’re cool.
It’s a third-party check, again that special endorsement, where a check payable to me, I endorse it make payable to someone else who deposits it. If that check comes back up to three years, as a warranty claim, warranty breach claim. Can you recover from that loss? If you can’t, you’re going to take the loss because that warranty is not conditional. Same thing with all through checks, by the way, that warranty is not conditional on that. Are the depository bank to be able to recover from its depositor. The warranty is made by the presenting bank, the depositary bank, and if they end up suffering a loss because they breach that warranty, they cannot refuse to honor their warranty.
Any questions about any of that so far?
Right, guys are good.
So kiting. This is a favorite. A customer deposits a check with your institution that is drawn on their account at another institution.
So now they have a balance with you, and then they turn around and write a check on that account and deposit that into the account, into the bank, where they have the account of the check that they just deposited with you and they go back and forth. And if a bank pays against uncollected funds, you are risking being a victim of kiting and the kiter is going to keep repeating it until they’re caught. And the game is always the first bank to detect that kite and collapse it is going to be the winner.
So make sure that, you know your customer
Are checks drawn on another financial institution for the same name as your account holder being deposited into their account? Is that current balance a collected balance or are you paying checks against an uncollected balance? You want to know that.
Are checks written on the account being made payable to the other account holder and deposited? So you can tell that you might look at checks that you’re paying and see what bank presented them to you etc. etc. So make sure that you know that account history, make sure you know the overdraft history, the chargeback history. Look at the velocity reports. How quickly does money go in and come back out.
And some considerations, review large dollar items paid and be very . . . um, I don’t want to say suspicious, but review large dollar items being deposited.
Look at your kiting and velocity reports, you’re your core provider generally will have those kinds of reports available to you. Velocity means again how fast is money going in and coming out. Look at the NSF and uncollected balance reports and look at your balance fluctuation reports. And that really means is yesterday there was 5,000 dollars in the account today there’s two bucks. Day before that, there was two bucks, the day before that there were six thousand dollars in that account. Boom. Boom. Boom. It’s going up and down. Why? you want to know that.
Now when you’re in RDC BOFD, we talked about this, you’ve got risk, you have a person who is virtually depositing checks and you’re not looking at those paper checks, so you can’t necessarily determine from the image if it’s altered.
You can’t identify the payee because it’s a virtual deposit. So is that endorsement a forgery? How will you know that? You got to know your customer. And remember that every bank that presents a check to a paying bank, regardless of whether they took it in paper form or through RDC, warrants to the paying bank that no one’s going to be asked to pay the same check twice, we call that the no double debit warranty that lives in reg CC, which has a one-year statute in limitations.
So what obviously we know the drill that happens and this more often happens with consumer RDC than it does business RDC where your consumer, customer takes a picture of a check deposited with you through RDC and takes that physical check and cashes it at a check casher or another bank or deposits it through RDC at another bank, and another bank, and another bank, the most number of banks that I’ve heard up with a duplicate situation was 12, which is amazing.
Remember that the RDC depositary bank is considered under reg CC to be the truncating bank, which means they stop the paper, but they never got the paper and you have no control over it. And that’s why there’s that RDC indemnity that lives in reg CC. What that says is protects a depositary bank that accepts the paper check without a restrictive endorsement. For example, a restrictive endorsement would say for mobile deposit only to ABC bank and now that paper check with that restrictive endorsement is attempted to be deposited into XYZ bank. Well, that restrictive endorsement, a check like that should not be accepted by XYZ bank. So a paper bank, a depositary bank that accepts the paper without that restrictive endorsement, if it suffers a loss because that check has already been paid so they get a return or adjustment and can’t recover from their depositor, they have recourse against the RDC depositary bank. And here’s the final text rule. The indemnity is provided by a depositary bank that is a truncating bank because it accepts the deposit of an electronic image of the original check. It doesn’t receive the original check, but it receives settlement for it and it doesn’t receive that check returned as unpaid. That bank will indemnify a depositary bank, that accepts the original check for deposit for losses that is incurred by that depository bank if that loss is due to that check having already been paid. And again, if the depository bank took that paper check with a restrictive, endorsement inconsistent, with the means of deposit. Again, that restrictive, endorsement says, for mobile deposit only to ABC bank, and XYZ is accepting that paper item with that endorsement, they cannot make that Indemnity claim.
Now, do pay attention to the language here. The indemnification is not provided to the depositor. For example, a check casher cashes that paper check, gets returned back to them as having already been paid, and they suffer a loss. They are not subject to that indemnity because that indemnity indemnifies the depositary bank.
So again, some RDC operational control considerations, we talked about that, dollar limits. What kinds of items will you accept through remote deposit? Certainly review new account activity, and consider enforcing a restrictive endorsement requirement, with the full understanding that if you see that restrictive endorsement on the image that was deposited, that that is not evidence it’s on the piece of paper. The game there is I take a picture of the front of a genuine check. I know that you require restrictive endorsements. So, I put a restrictive endorsement on a piece of paper that is the same size as the check. And now I deposit that front and back and to you it looks like I put a restrictive endorsement on the check, but the physical paper doesn’t bear that restrictive endorsement.
So that’s the gambit that fraudsters use. Monitor NSF chargeback, particularly paid adjustment activity. Establish and enforce those acceptable thresholds.
Yes, I’m about six minutes left and we’re creeping up on five. So just kind of update that good.
Thank you. All right. So let’s review the no double debit warranty. It says no person is going to receive the image for a check. That has already been paid. Every presenting bank makes that warranty. So duplicates. They cause all kinds of problems. They can affect innocent parties. They create reputational risk, potential loss of customers. They result in, lots of time spent on adjustments, etc. etc. etc. Potential holds are in due course issues. And we’ll talk about that in another session.
So here’s the thing. I always say, don’t give remote deposit to anybody who just has a pulse. Always have some customer qualification requirements, have strong agreements, regular reviews and keep your risk assessments current. The point here is knowledge is power, when you know the risks, you can put in procedures and training and education to help mitigate that, Your frontline people are really your gatekeepers to help you mitigate your rod, your risk. So make sure they know all the all the things that they need to know. Understand the warranties, know the risks. Know the mitigations in place.
And that my friends, is my story. You can find more of our education sessions on our education page. If you’re an NCP, you get continuing ed credits. So don’t hesitate to check that out. You have questions about this particular session or if you are an ECCHO member, you can contact me any old time about any kind of question you have, and I’m happy to help you. Here’s my email address, don’t hesitate to use it.
Are there any questions before we leave?
And I just wanted to say thank you to all the attendees and thank you too, Dal, for your time again today. And we’ll be back here. Same time. Same place next week. Look forward to seeing you all there. Take care everybody.
ICL – Check Warranty Breaches and Dealing Direct