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THE PAYMENTS INSTITUTE — July 10-13, 2011
Georgetown University Hotel & Conference Center, Washington D.C.
Introduction to Checks &
Image Products
Mary Gilmeister AAP
President WACHA
mgilmeister@wacha.org
Introducing: The Check
WILD WHEELS, INC. 2048
100 Park Street June 23, 2001
San Francisco, CA 94345
11-99/1210
PAY TO THE ORDER OF Susan Jones $ 1,095.00
One thousand and ninety five dollars and 00/100’s
dollars
Last National Bank
REF: 00987
/:072400998: //:0544519999// 2048
Parties to a Check
• Maker (aka, drawer): the party making payment;
the writer of the check
• Payee: the party receiving payment
• Paying Bank (aka, drawee bank): the bank
holding the maker’s checking account
• Depositary Bank (aka, the Bank of 1st Deposit or
the Depository Bank): the bank where the check
is deposited or cashed
• Indorser: a payee who has assigned the right to
collect the amount to someone else
3
Check History
• 1956 MICR (Magnetic Ink Character Recognition) line
was formed.
• The MICR consist of the following:
– Field 1 The amount of the check
– Field 2 The number of the check
– Field 3 The account number on which the check is drawn
– Field 5 The ABA routing number
– Field 7 The auxiliary number appearing only on commercial
checks
4
The Routing Number
• Used for all financial institutions in the U.S.
• Each FI has a unique number; some have
more than one
• Two forms are currently used:
– MICR form
– Fractional form
• Both forms appear on most checks,
although only MICR form is used in
automated item processing
5
Routing Number:
MICR Form
• Called the ABA Routing Number
• Has 3 components:
– Federal Reserve Routing Symbol (4
digits)
– ABA Institution Identifier (4 digits)
– Check digit (1 digit)
6
Federal Reserve Routing Symbol
• 1st 2 digits represent Fed district
01 Boston 07 Chicago
02 New York 08 St Louis
03 Philadelphia 09 Minneapolis
04 Cleveland 10 Kansas City
05 Richmond 11 Dallas
06 Atlanta 12 San Francisco
• 3rd digit represents branch office serving the bank
12th District:
1 San Francisco 2 Los Angeles
3 Portland 4 Salt Lake City
5 Seattle
• 4th digit has different interpretations in different Fed
districts
7
Fractional Form
91-03 Numerator includes a city (1-49) or
1221 state (50-99) prefix followed by the
ABA institution identifier
» Denominator is the Federal Reserve routing
number
» ABA and FR routing numbers match
corresponding numbers in MICR form
91-03/1221
without leading zeros
» Additional letters or numbers may be
printed if paying bank wants
» - May be printed in one of two forms
8
UCC Article 3:
Negotiable Instruments
• Covers
– Definition and requirements of a negotiable instrument
– Negotiation, transfer and endorsement of these
instruments, and
– Liability of the parties
• Sample topics:
– Standards of care required for processing checks
– Establishing the identity of the payee
– Negligence of maker in case of forgery or alteration
– Forgery and fraud loss allocation
– Employer’s responsibility for employee fraud
9
A Negotiable Instrument Is:
• A written order signed by the maker
• An unconditional promise or order to pay a
fixed sum of money
• Payable on demand or at a definite time
• Payable to order of a named payee or to
bearer
10
Definition and Requirements
• Unconditional promise to pay. 3-106
• Fixed amount of money. 3-104(a)
• Payable on demand or at a definite time. 3-108
• Date of instrument. 3-113
– Check not dated it would be when it first comes into
possession of the holder.
• Payable to bearer or to order. 3-104, 3-109
– Effect of endorsement 3/109c
11
11
Date
• The day on or after which the transfer of the amount of the
check may take place
• Needed to satisfy the definition of negotiability
• Post-dated checks:
– A bank may charge a customer’s account even though
payment is made before the date on the check unless
the customer gives the bank notice of the postdating
(UCC 4)
• Stale-dated checks:
– A bank may, but is not obligated to, pay a check
presented more than six months after its date (UCC 4)
12
Amount
• The value which will pass from the account of the
maker to the account of the payee
• Required for negotiability
• To inhibit unauthorized alteration, it should appear
twice on the check
– Amount in numbers is called the “convenience
amount”
– Amount in words is the “legal amount”
• Although automated scanning equipment may read
the convenience amount, if there is a discrepancy in
the amount, the legal amount takes precedence
(UCC3)
13
CAR/LAR
• Courtesy Amount Recognition & Legal
Amount Recognition
– The ability to locate, analyze and recognize
handwritten or machine-printed courtesy and
legal amounts on documents
14
When a Bank May Charge a
Customers Account
• Overdrafts, 4-401a
– May create overdraft
• Postdated checks, 4-401c
– Customer must give notice
• Stale dated items, 4-404
– No obligation to pay
• Altered and incomplete checks, 4-401d
– Good faith
15 15
Payee
• The name of the person or organization that is to
receive the amount of the check
• Usually preceded by the words: “Pay to the
order of...” or “Pay to...” or “Pay...”
• Required for negotiability
• Identity of the payee is determined by the intent
of the maker
• Joint payees:
– If check is payable to A or B, then either may
endorse and negotiate
– If payable to A and B, then both must
endorse and negotiate
16
Signature
• Authorizes the paying bank to disburse
funds
• Required for negotiability
• Must coincide with the conditions of
payment on the signature card
• May contain restrictive notations for which
bank may require an indemnity
17
Unauthorized UCC 3-402
• A person is not liable on an instrument unless he or
she signs it. If a person’s name is signed without
authority, the signature is unauthorized.
• Ratification
– A son borrowed a check from his Mother’s
account and forged her signature. The Mother
allowed it as it was her son. The signature was
ratified and once this is done it cannot be
reversed.
18
Employer’s Responsibility
• An employee of the company and it
also includes an independent contractor
and employee of an independent
contractor retained by the employer.
– Checks written, stamped or deposited
fraudulently using the companies account.
• The employer is liable and not the Paying Bank
19
Unauthorized
UCC 4-406(f)
• Provides that without regard to the care or
lack of care of the customer or the bank,
the customer has to within one year from
the date that the statement was made
available to the customer to report an
unauthorized signature to the bank.
20
The Indorsement
• Transfers ownership to another party
• Payee must endorse check to deposit,
cash or transfer ownership of the
instrument (although bank need not
require endorsement to deposit to payee’s
own account)
• Also called Endorsement
21
Indorsements UCC 3-4
• Referred to throughout
– definition, 3-204
• Types, 3-205 and 206
– special, 3-205a
– blank, 3-205b
– anomalous, 3-205d
– restrictive, 3-206
• Unauthorized, 3-403
– employer’s responsibility, 3-405
• Depository bank becomes holder, 4-205
22 22
Payee Indorsements
• Required to negotiate check, unless
depositing to own account
• Must include authorized signature or
stamp
• Payee endorsement need not be in the
exact name of the named payee. The
endorsement need be only made in a
name “substantially similar” to that of the
payee
23
Types of Payee Indorsements
• Blank
– Payee simply signs his/her name
– The check becomes a bearer instrument and
can be transferred to anyone simply by giving
the check to another party
• Special
– Transfers the check to a specified payee
– Negotiation then requires that person’s
subsequent endorsement
• Restrictive
– Imposes limitations on transferring the check
24
Types of Indorsements
• Anomalous
– An endorsement made by a person who is not
the holder of the instrument.
• A check is made payable to Joe Cool and Joe
does not have a banking account in the city to
which he is located but his friend Happy Mary
does. Mary and Joe go to the bank together. Joe
endorses the check and so does Mary.
25
Depository Bank as Holder in Due
delivers an item to a depositary 302
• If a customerCourse UCC 3 - bank for collection
• (1) the depositary bank becomes a holder of the item at the time it
receives the item for collection if the customer at the time of delivery
was the holder of the item whether it is endorsed or not.
• (2) the depositary bank warrants to collecting banks, the payor bank
or other payor, and the drawer that the amount of the item was paid
to the customer or deposited to the customer’s account.
26
Negotiation
Occurs as the result of a transfer of
possession of an instrument by a
holder to another person (e.g., a
bank) who becomes a holder as a
result of the transfer
Depositary
$ Bank
The payee is the holder of the check. She exchanges it for
money at her bank. Now the bank is the holder of the check.
Indorsements by Depositary
Bank and Any Subsequent
Processing Institutions
Provide a warranty to the Paying Bank that:
• Prior Endorsements are genuine and
authorized
• No alterations have been made to the
check
• Warrantor has no knowledge that maker’s
signature is unauthorized
• Its customer has been paid (either in cash
or deposited into the account of payee)
28
Paid vs. Cashed
• When a check is exchanged for cash,
it is said to be “cashed.”
• When a check is debited from a
checking account, thereby reducing
the balance, and cancelled, it is said to
be “paid.”
• Only the paying bank can “pay” a
check, but anyone who rightfully holds
it can “cash” it.
29
A Check:
• Is a draft which is payable on demand
and drawn on a bank
• Its purpose is to transfer a specific
amount of money on or after a specific
date to a specific person or to bearer
• The transfer is authorized by the genuine
signature of the maker of the check
• The data on the front and the back of the
check are necessary for the proper
processing of the check through the
payment system
30
Types of Checks
• Other Types of Checks
– Cashier checks
– Certified Checks
– Money orders
– Government checks
– Traveler’s checks
– Warrants
– Payable-Through drafts
– RCC Remotely Created Checks
– Substitute Checks
31
Cashier’s Checks
• Are checks that a bank draws on itself
• Include
– Cashier’s checks
– Treasurer’s checks
– Official checks
• They are a direct obligation of the bank
• Can be used
– To pay its own bills
– As a service offered to its customers/members
• Are often regarded as an equivalent of cash
32
Money Orders
• A form of draft that a person may purchase from
a financial institution, post office or sales agent
for the purpose of paying a debt or transferring
funds
• Typically used by persons without checking
accounts
• Typically issued with the amount printed on its
face by the issuer
• Drawn on issuing agent
• Status under UCC depends on form (bank
money order, personal money order, etc.)
33
Government Checks
• Instruments payable on demand
and drawn by the U.S. government
on the government itself are
generally regarded as checks,
even though they are not drawn
on any bank.
• Such instruments are demand
drafts under the UCC
• They are treated as checks and generally
referred to as “government checks”
34
Warrants
• Issued by state or local government
agencies
• Are generally treated as checks if they are
payable on demand
• Many, however, are actually payable
through drafts
35
I.O.U. Warrant
Not a Check
36
What is a Remotely Created
Check?
• The holder of a checking account authorizes a
payee to draw a check on the account but does
not actually sign the check
A.K.A. telecheck, preauthorized drafts and paper
drafts:
• Example: I was late in paying my electric bill so I called the
WE Energies and they created a draft
• Example: An insurance payment
37
Remotely Created Check
• Legal Definition according to the Regulation:
– Means a check that is not created by the paying
bank and that does not bear a signature applied,
or purported to be applied, by the person on
whose account the check is drawn.
– Includes a remotely created check that has been
reconverted to a substitute check.
– Includes an account held by a consumer,
corporation, unincorporated company,
partnership, government unit, or trust
38
Remotely Created Checks
39
Signature
• Instead of the account holder’s signature it
usually bears a statement that the
customer authorized the check or bears
the customer’s printed or typed name.
40
What is included in the
Definition
• Checks created by the payee
– Telemarketer
• Checks created by the consumer’s agent
– Paypal, Yahoo
• What is not included
– Not included consumer’s bank internet
banking services
41
Collections
Traditional Paper
Collection
Check Check Check
Intermediary
BOFD
Paying Bank
Substitute Check Collection
Check Intermediary Sub Ck
Image
BOFD Paying Bank
42
What Is a
“Substitute Check”?
• Contains image of front and back of check
• Conforms to industry standards
– MICR
– Physical characteristics of check
• Suitable for automated processing
• Must accurately represent all information on original check
• The substitute check MUST contain a legend that reads…
– “This is a legal copy of your check. You can use it the
same way you would use the original check”
• Includes all indorsements
43
Substitute Check
44
Substitute Check
45
Parties to a
Substitute Check
• Truncating Bank
– The Financial Institution that truncates the original check
– If a person other than a Financial Institution truncates the original
check, the first Financial Institution that transfers, presents, or
returns, in lieu of such original check, a substitute check or, by
agreement with the recipient, information relating to the original
check(including data taken from the MICR line of the original
check or an electronic image of the original check), whether with
or without the subsequent delivery of the original check.
46
Parties to a Substitute Check
Substitute Check
• Reconverting Bank
–The Financial Institution/correspondent
bank that creates a substitute check
–If a third party processor creates a
substitute check (Metavante, FISERV) the
bank of First Deposit is the Reconverting
Bank
47
Reconverting Bank Examples
• ABC Bank sends substitute check
information to a Correspondent Bank who
prints the substitute check on ABC Bank’s
behalf. The Correspondent Bank is the
Reconverting Bank.
48
Parties to a Substitute Check
• Claimant Bank(Paying Bank)
– Means a Financial Institution that submits a
claim for a recredit for a substitute check to an
indemnifying Financial Institution.
49
Eligible Checks?
• ALL CHECKS are eligible for replacement
with substitute checks, for example:
– Retail checks
– Non retail checks
– Government warrants
– Treasury checks
– Money orders
– Controlled disbursement
– Payable through drafts
– Etc.
50
On-us and Transit Items
• In check processing, there are two basic kinds of
checks: on-us and transit
• On-us checks are drawn against accounts at
your own financial institution (i.e., the Depositary
Bank and the Paying Bank are one and the
same)
• Transit checks (aka, off-us or on-other) are
drawn against accounts at other financial
institutions
Check Collection System
“Day in the Life of a Check Image”
On-Us
Image Image
Items
Individual Individual Image
Clearing Banks
Payor Payee
/Correspondent
or Image
Remote Deposit
Capture
Corporate
Image Bank of First Image Image
Payor Deposit
Federal
(BOFD)
Merchant Reserve
Paying Bank
or
Corporate Payee
Typically Day 1 Typically Day 2
Settlement Occurs
52
Types of Image Exchange
Image Cash Letter: Digital images of paper
IMAGE CASH LETTER cash letter; includes both the MICR data record
and the transmitted check images
(ICL)
IMAGE
CASH LETTER
IMAGE or
DEPOSIT CASH LETTER
CHECK
SENDING BANK
CUSTOMER (BOFD)
RECEIVING BANK
RECONVERTING BANK PAYING BANK
Substitute Check: A paper
Reconverting Bank: reproduction from an electronic record
STORE CHECKS First FI to create or of (or image of) an original paper
transfer the substitute check that was previously truncated.
check Must meet the definition of a substitute
Truncation: Stop processing of
check from Reg CC Subpart D and
physical paper item(s) and
applicable standards (X9.100-140)
forward electronic image(s)
53
and MICR data
Types of Image Exchange
LOCAL/REGIONAL
EXCHANGE
Other Exchanges
Other Banks Federal
(i.e., Viewpointe,
Endpoint Exchange, SVPCO) Reserve
Exchange Network
Member Banks
Private Sector
Settlement Rules (ECCHO)
Bank
54
Cover Exchanges
55
