ICL – Image Exchange, Adjustment and Return
August 28, 2022
ICL – Image Exchange, Adjustment and Return
React and so forth. So, you definitely want to keep a copy of that saved to your favorites.
And as I’ve said, neither UCC nor reg CC prescribed how banks exchange checks between themselves or check images, that is always by agreement. When you agree to go through the Fed, you are abiding by Federal Reserve regulation J and their accompanying, operating circular 3, and as such you have the exchange platform available to you and the returns and adjustments, those warranties and indemnities that live in reg CC and UCC of apply to that exchange, as do a couple of warranties that live in reg J. When you are engaging in a private exchange, which is what you’re doing through ACBB, you need a set of rules and that’s where the ECCHO rules come in. So when you send your image cache letter to the, to ACBB as ECCHO members, you are agreeing to use the ECCHO rules. I’m going to stop there a second. Somebody asked me once: why do we need rules for exchange? And the purpose of rules for exchange, whether they go through the Fed or a private exchange, is that everybody has to know when, why, how, and where to exchange the images so timing delivery obligations, and all of that stuff, that’s what reg J and the ECCHO rules cover. So, again, with a private exchange, those reg CC and UCC warranties still apply, but when you exchange through an ECCHO-governed exchange and not through the Fed, the ECCHO warranties, especially rule 9, do apply. So, it’s important to understand that anything that goes through the Fed is not governed by the ECCHO rules, forward or return. So rule 9 only applies to forward cash letters and incoming cash letters and returns that are through an exchange that are governed by the ECCHO rules, doesn’t touch the fit.
So to begin with what rule 9 is, all about are forgeries and counterfeit. And some of you may have heard me talk about a landmark case in 1762 called Price vs. Neal. This was a forgery case that was decided in English court, and you’ll notice 1762 was before the American Revolution. So, at that time U.S. was a colony. So, those laws of England applied to the U.S. and when the U.S. became a country, they adopted a lot of the laws that were already in place. So this Price vs. Neal was an important case that said that the paying bank, the person in the best position to know the maker’s signature, the drawer’s signature, is the party that assumes loss on unauthorized checks. So, in other words, a depositary bank, unless that check is drawn on them, is not going to know whether that drawer’s signature is a forgery or a counterfeit. So consequently, the responsibility for a forgery and a counterfeit is placed on the paying bank because they are the party that can verify the signature and I should say that, whenever we use the word person in rules and regulations, we’re talking about entity, not individuals. So Price vs. Neal and in 1762, the outcome there was the forger was hanged. A little bit extreme and we don’t do that today, but the outcome today is that in the UCC presentment warranties found in articles 3 and 4, it specifically states that the presenting bank, the depositary bank, has no knowledge that the signature of the draft is unauthorized. So, when you are exchanging through the Fed and a you as a paying bank learn of counterfeit or forged check, that is not a breach of warranty on the part of the depositary bank. They tell you, I don’t know this; I don’t know whether this is a forgery or a counterfeit. I have no knowledge. Now, what’s important to remember also is that UCC 4-401 tells the bank when they may charge their customer’s account. It says a bank may charge their account of a customer for a check that is properly payable. And that is defined as authorized by the drawer. Now, the term drawer means the person who writes the check. So, a check that is authorized by the drawer and in accordance with any agreement between the bank and its customer is the check that the bank may charge against its customer’s account. So, what you learn from that is that paying bank may not charge its customer’s account for something that is not properly payable.
So, I’m hearing a little noise in the background. All of you make sure that all of you mute your lines so that we keep it clean here.
So, let’s talk about the returns, the return requirements. In reg CC, a paying bank makes a warranty, when it returns a check, that it did so within the UCC midnight deadline, which says the paying bank may revoke the settlement and recover it, if before it has made its final payment, it returns it before the midnight deadline. Then it says, or within the reg CC expeditious return requirement, which requires the the returning bank, the paying bank to get that return check back to the depositary bank on the second business day following the banking day in which that check was presented. So, let’s just walk through that. This morning, all of you were working your exceptions: your NSFs, your accounts not found, your payments stopped. The point there is, you’re doing that so that you can flag those to be returned, create that return cash letter, and get it out of your shop by midnight tonight so, that those items are back to the depositary bank tomorrow. the second business day following presentment because what you were working this morning is what was presented to you yesterday. So it comes in yesterday has to go out of your shop by midnight tonight. so that it is back to the depositary bank by 2 p.m. their time tomorrow. Notice that, there is no exception. It doesn’t say, unless it is a forged check or unless it is a counterfeit. So that means a paying bank has to discover a forged or counterfeit check the day after presentment so that they can return it and get it back to the depositary bank by the second business day following presentment. So that’s a very important thing to always know and keep in mind, and as I’ve said before the warranties are not made for checks drawn on the Treasury, U.S. Postal Service money order, or a check drawn on a unit of government, which means they’re got drawn on the government not drawn on a bank.
Do remember that you cannot return a check past that deadline for any reason. Again, there’s a lot of misunderstanding. I’ve had banks tell me that, well, I can return a stale date check for a year. No, you have to look at that warranty. And it says, when you return a check, you have to do so timely. However, and that’s the big however, tThere is no rule 9 to the rescue. Rule 9 is an ECCHO rule and it’s for members only. Now, some of you might be wondering what does rule 9 mean. Rule 9 is a leftover from the California Clearing House, where the banks in California, who were participating in a clearing house, agreed that they would exchange, or they would accept returns past the deadline if a check it was a forgery or a counterfeit and then the depositary bank would accept it as a return if they still had the funds. And that got incorporated into the ECCHO rules, which is an electronic exchange. ECCHO rules were written specifically for the image exchange of checks, not the paper exchange of check. So rule 9 is to handle forged and counterfeit checks recognized by the bank customer and notified to the bank after the return deadline. And we know that’s generally what happens. Our customers don’t look at their accounts every single day and say, yesterday you charged me for a check that I didn’t write and they let you know so that you can return it today. That rarely happens unless you have business customers particularly with positive pay and we’ll talk about some some of those products. So what rule 9 does is provides the paying bank an avenue of recourse when it learns of a forged, or counterfeit check past that midnight deadline. It’s available only for check images exchanged among ECCHO members. So, if you are presented a check through the Fed –and you will be – those are not governed by the ECCHO rules or by rule 9. So, when you have incoming cash letters, and you will get two cash letters, one that comes from non-ECCHO members, who send your items that they accepted to the Fed and then thB Fed will present that to you through ACBB or ECCHO members around the country that accepted items drawn on you. They’re going to be sending them to ACBB on your behalf, under the ECCHO rules. And that kind of exchange is governed under the ECCHO rules and rule 9 does apply there. So, you have to have agreed to exchange under the rules, you have to have a receive that image through an ECCHO-governed exchange. Now the ECCHO rules do permit members to opt out of rule 9 and there are, I think, about 14 banks that actually have opted out and we’ll talk about that process in a little bit.
The why of rule 9 is that it shifts the liability for a forgery or a counterfeit back to the depositary bank and ultimately its depositing customer. Rule 9 has the effect of making the depositary bank’s customer responsible for that loss when they deposit a forged or counterfeit check.
Let’s look at the wording of rule 9, and you have access to the ECCHO rules as ECCHO members and you’ll find this in section 19. All the ECCHO rules is in Roman numerals. So if you can tell what year a movie was made, you can read those ECCHO rules. So this is 19-O is where you going to find rule 9 and specifically, it says the sending bank, the depositary bank warrants that the signature of the drawer is not forged or otherwise unauthorized. And the related physical check is not counterfeit, that does a complete 180 on that UCC presentment warranty that we looked at that says, I have no knowledge.
But the ECCHO rules does is varies that warranty which provisions of articled 3 and 4 may be varied by agreement. So, when you agree to exchange, you agree to this variance. That says the depositary bank says, nope, it’s not a forgery. it’s not a counterfeit, and that warranty begins with a depositary bank. And as I’ve said it applies only to ECCHO exchanges, only covers image exchanges. And it only covers member-to-member exchanges, but it will not apply to members who choose to opt out. So, the benefits of rule 9 is it provides the potential avenue of recourse to the paying bank if they learn of a forgery or a counterfeit, past the midnight deadline. And what it does is creates an obligation of the depositary bank to reimburse the paying bank if they still have the funds. And that’s an important point. Rule 9 does not impose a loss on the depositary bank. So what it says is if the paying bank learns of a forgery or a counterfeit past the midnight deadline and they make a rule 9 claim, if the depositary bank still has the funds, then they are going to return those back to the paying bank. There are timing requirements, and we’re going to look at that. But that’s a lot of information. Let’s stop and see if there’s any questions so far.
So far so good.
All right. So look, let’s look at how this warranty flows. I’ll tell you what, this is the most common question I get and lots of misunderstanding about the warranty. So, here’s a visual to help you really break it down. It does not apply to a non-ECCHO member exchange. So, if you got that check from depositary bank is not an ECCHO member, rule 9 is off the table. It does not apply to exchanges through the Fed if that nth item was presented to you through the Fed and you learn that it’s a forgery or counterfeit past that return deadline, you have no recourse. ECCHO rule 9 does not apply, and it doesn’t apply, obviously, to foreign bank deposits nor does it apply to paper exchanges. There are still some banks that do exchange paper. I don’t think there are many anymore, but there were some and, remember that the ECCHO rules is for image exchange. Unless, you know, the two of you were exchanging images agree to include rule 9, and that’s entirely up to you.
All right, so it’s an interbank warranty. It’s a bank-to-bank warranty from depositary bank to paying bank. It doesn’t govern how the banks interact with their customers. So, if you have a customer that deposits any kind of check with you and it comes back for any reason, NSF payment, stopped, or whatever, your customer agreement says, we’re going to charge that back to you. So, you know, the important thing is, is know your customer. You don’t want to be an avenue or a conduit for fraud. Now, it’s important to understand that your customer itself might be the victim of fraud. So, in other words, they’re not deliberately depositing a forged or counterfeit check, but someone may have written them a forged or counterfeit check and they’re going to take the responsibility for it, if a rule 9 claim is made back to that ECCHO member bank or that ECCHO exchange, and the funds are still in the depositary account.
Now, the depositary bank, may choose whether it wants to absorb the loss or charge their customer’s account. There are some banks that will say, okay, my customer has plenty of money, but I’m not going to charge them, but they have to honor their rule 9 warranty. So, they could choose to absorb that loss. They can’t disclaim if it chooses not to charge their depositor’s account but a sufficient funds are available. So that’s an important point. So, you as depositary banks, if you have a particular account that deposited a forged or counterfeit check and a rule 9 claim comes back to you and you have the funds, you can’t disclaim it because you don’t want to charge that customer’s account who happens to be the brother-in-law of the owner of the bank. Can’t do that.
Now there’s what’s called a sufficiency of funds test, and what that means the depositary bank has to verify if there are funds available in that depositary bank or in that depositary account before they just automatically disclaim it. If there are insufficient funds, the depositary bank can disclaim, and then the law stays with the paying bank.
So, the claims process, the rules define them, but they don’t say how you do it. And that’s where you really need to work with ACBB and Angie and her team to understand how do you make a rule 9 claim. And how can you, how do you receive them. So, in ECCHO rule 19 0 12, it says, the paying bank may only bring a warranty claim by delivering the claim directly to the sending bank, that is also the depositary bank. And it says a receiving bank that is not the depositary bank, shall reject any warranty claim that is delivered to it by s paying bank. So, in other words if you sent it to the wrong depositary bank, they’re going to reject it. Say, I’m not the depositary bank. The intermediary bank is not subject to that claim. So the collecting bank, ACCB, be for example, they are not that inter -, they’re not the depositary bank. So when you make that rule 9 claim you have, have to let them know, you’re making a rule 9 breach of warranty claim and when you are sending the image back to them, you’re going to make sure that you say don’t redeposit or represent this item or some similar language.
Now you can send, you can deal direct by sending a claim letter directly through the depositary bank. And we have a sample letter in the rules and also on our website. And I’m going to show you one here in a couple of couple of slides.
Now, the paying bank may make that warranty breach claim by actually returning it if your intermediary, your correspondent agrees to do so. And this is where ACBB provides you with an adjustment platform that will let you use a return Reason code 5, which says this is a rule 9 warranty breach claim and you can make that warranty breach claim by we’ll be returning it through your adjustment process platform that ACBB provides you. You can also attach to that return warranty claim the customer’s written statement, and you definitely want to do that. And I’ll show you why in a second. So, part of the claims process is you have to get a written statement from your customer saying this is a forgery, this is a counterfeit.
Now, you can never send that rule 9 claim through the Fed. I just have to keep emphasizing that because that happens more often than it should. So if you try to make a rule 9 claim through the Fed, that’s going to be a late return unless that thing came through yesterday. But making a rule 9 claim through the Fed by returning a check past the return time frame is a breach of that warranty that we talked about that a paying bank makes that our returns a check timely. So do understand that rule 9 has nothing to do with the Fed, forward, incoming, or return.
So here’s a sample letter and you can get this, here’s the URL. You can find it under the check resources tab on the ECCHO home page. And basically, it says we’re making a rule 9 claim to you and the item was, in fact, a forgery or a counterfeit, so please reimburse us. So this can be a deal direct kind of scenario. And obviously this is a sample letter. So, you want to review with your own legal counsel and make sure that it abides by all your terms and conditions before you actually use the letter.
When, as I said, when you’re making that rule 9 claim include a copy of the customer’s written statement. And why that’s important is that you can dramatically reduce the timing of that claim. And also include the settlement instructions, when you’re dealing direct, send us a cashier’s check.
Now the depositary bank gets this claim. What do they have to do? They have to verify whether or not the depositing account has the, the sufficient funds to cover that client. If they are, they have to honor the claim. Again, I said the depositary bank, the ECCHO rules don’t require the depositary bank to debit their depositor, but it has to honor the claim if there are funds in that account.
Dal, we just had a question come in and it actually is that. So it says it’s the depositor doesn’t have the full amount of the claim remaining in their account. Can the BOFD send only what is left in the account or does it have to disclaim entirely?
Well, the disclaim process, and the reason for disclaim is that are there are not sufficient funds, but that’s an excellent question. Because here’s where you you do want to deal direct. You might, you would contact that paying bank, and say, I don’t have all the funds but I have some of it. Do you want me to return some of that funds, those funds and you can do that by by agreement? So the ECCHO rules say the depositary bank may disclaim if there are not sufficient funds, but the depositary bank and the paying bank can agree to return and accept whatever funds are there. And that’s a the reason that that’s a very good point is that when you as a depositary bank learn that your customer deposited a fraudulent item, unless that customer is the victim themselves, you certainly do not want to be a conduit for that fraud. You want to make sure that your your depositing customer, who is trying to defraud, gains no benefit from it. So thank you for that question. Any others?
Get myself off from you. Yes, there is would you asked for a hold harmless, if the full amount is not satisfied.
Yeah, that would be, that would be appropriate. You know a hold harmless letter is someone sometimes misunderstood the hold harmless reason for a hold harmless letter is when two banks agree to something that the rules and the regulations don’t require them to do. So again, the ECCHO rules say depositary bank, if they don’t have sufficient funds, then they can disclaim it, but they might say, you know what, I’ll send back what I have if you give me a hold harmless letter so that depositary bank can disclaim that warranty if the account is closed, if the funds in the claim amount exceed the funds in the account and again, that’s when you can agree to return what you do have, or if the claim was not made timely as defined in the rules, and we’re going to show you that timing in a second.
The the set of the depositary bank can also disclaim that if they were not, in fact, the depositary bank or if they had opted out, and then of course, there’s legalese other defenses as provided by other applicable law.
So, are there any more questions? I didn’t stop and ask you that, Nikki.
No, that’s okay. All right.
All right, so here’s a copy of the disclaimer form that you can also find in the same way same site and it’s also in the rulebook as well. So, it basically says, and if you look at it, the disclaim reasons would be the account is closed, the claim amount exceeds the funds in the account, the claim was not timely, the paying bank’s customer did not provide a written statement within 60 calendar days, and we’re going to go through this timing on a more clear slide.
So just be aware that there are reasons to disclaim. Timing very important. Your customer, if you are paying bank, has to notify you within 60 calendar days from the statement date that the check is a forgery or a counterfeit.
And that probably coincides with the timing of specified in your account agreement in general that they must let you know of any unauthorized signatures or alterations within 60 days, 60 calendar days. So that’s why the rules try to align with the general Industry standard. So, just know that if your account agreement says greater than 60 days or less than 60 days, under the ECCHO rules, your customer has 60 calendar days to notify you. When they notify you, you have 15 business days to make that claim to the depositary bank. And why I say it’s so important to include the written statement with your initial claim is, if you don’t and the depositary bank wants it, they have 15 business days to ask you for it or just flat-out disclaim it because they don’t have funds. If they do ask you for the written statement, then you have 15 business days to provide it. So, if upfront you provide that written statement, you’re going to knock out 30 business days from that timing.
Okay, any questions about the timing? Take that as a no.
All right. Let’s look at a visual here, the claims process. Here’s the depositing customer. He deposit the check with his bank, Mr. Blue Guy’s bank, the image goes off to the paying bank, customer looks at a statement and starts to sweat because he realizes that he was charged for a forged or counterfeit item.] And so he lets the paying bank know within 60 calendar days of having received that statement. Paying bank then makes that claim directly to the depositary bank or through your adjustment platform. If if the correspondent bank provides you with that, do that.
So what’s important is that the written statement wants to ride with that. If it didn’t, then the depositary bank has 15 business days to ask for it. Paying bank has 15 days to give it back. If you give the depositary bank that written statement, then the depositary bank can charge its customer or absorb the loss themselves. And if there were no funds, they can disclaim. So again, you can cut out a lot of time if when you make the rule 9 claim, you include the customer’s written statement.
Now, opt out; there are banks that choose to opt out. The participation is the default in ECCHO rule. So when you join ECCHO, you are opted in and some sponsoring organizations, like ACBB, may not permit you to opt out and I don’t know whether ACBB does that Anjali? Do you know?
I haven’t had anybody who would ask the opt-out. Okay, all of all kinds and some members as so far. Perfect, okay.
If you choose to] opt out and again, if your agreement with a CB permits you to opt out, then it has to be made by an authorized representative of your institution. You got to communicate that to ECCHO and ECCHO will confirm that in the minimum amount of time that you can stay up that out is six months. You can opt out because you don’t want to get a claim but then tomorrow you want to make a claim in the opt back and doesn’t work that way. And you can go to our this URL and look at the complete process. And you can also see the banks that have opted out.
So, you know when paying bank in high-volume, I mean really just we don’t look at every check that is presented to us anymore after it’s deposited at the depositary bank. It’s not looked at or touched by anyone. In fact, most of the time checks are deposited at the depositary bank, through remote deposit. So, nobody touches that check. So when checks are presented to paying banks, they just charge it against their customer’s account because you don’t look at every check that’s presented. You wouldn’t have time to do that. Some banks do a manual review of higher dollar items. You might choose to look at the drawer signature every item presented over a certain dollar amount. And the point there is you’re trying to minimize your risk of loss. If that’s a fifty-thousand-dollar check, you want to know about it the day after it’s presented so you can return it that same day. Now, you may offer also positive pay products for your high volume, high value customers, which requires them to upload a file every day of all the issue checks, and then all the incoming checks that are being charged against that account are matched against that. And if there are variances, if there’s something that was charged against their account, that they didn’t issue, that’s going to be an exception that they have to tell you about, so you need a strong agreement with that positive pay customer saying, you must look at your account exceptions every single day and let us know timely. And what that does is that protects them from being charged for a counterfeit or forged check and it protects the paying bank from suffering a loss because they’re notified in time to return it.
So there you have it. Knowledge is power. Know the risk, know the rule, know your customer. Do we have any other questions?
Not at the moment.
Wow. Well that was quick. We went through that in relatively short amount of time. I hope that was clear. Definitely use the handout as a resource document for you. And if you have questions on the specifics of how to make that claim through ACBB, that’s what Anjali and company are, are there to help you. If you have questions about rule 9 and you just want to talk it through or go through a specific scenario that you have their are other ways to get a hold of me. Don’t hesitate to do that. As ECCHO members, you have access to our education library. You have access to on call support so you can get a hold of me anytime happy to talk to you not just about rule 9, but any check issue you have, and you certainly want to take advantage of all of the resources that we have on our website. So if there are no other questions, then, thank you all very much for your attention. And we’ll talk to you guys next week.
Fantastic. Thank you guys.
Be safe out there.