New law to sink floating checks
On Oct. 28, banks will begin implementing the Check Clearing for the 21st Century Act — better know as Check 21 — aimed at updating the processing of checks from the equivalent of the Pony Express era to the Computer Age.
Consumers and businesses won't see big changes right away. But over the next year or so, some of the paper checks they write will no longer come back with their statements. Instead, they'll get photocopies of their checks.
Because these images can be transferred electronically, they'll clear so fast that consumers will have to learn to live without "float." Float is the delay in check processing that has allowed consumers to write a check at the grocery store on Wednesday in hopes that it won't clear their account until their paycheck is deposited on Friday.
Banks and other financial institutions already have begun notifying customers about what's coming.
"We want to make sure they don't view this as penalizing them," said Wilton Dolloff, executive vice president of operations and technology at Huntington Bancshares in Columbus, Ohio.
"It's just that banking is changing, and paper is being pushed out of the system."
One reason is that it costs billions of dollars to transport the 40 billion checks consumers write each year by truck, rail and air from retailers to banks to clearing houses to banks and back to consumers. It's the process used since Pony Express.
Another reason is national security.
"The terror attacks on Sept. 11 [2001] were the catalyst for this legislation," said John Hall of the American Bankers Association trade group in Washington, D.C.
"After Sept. 11, planes were grounded, and the payment system in this country came to a standstill."
The nation's top banking regulator, the Federal Reserve, estimates that shifting to the electronic movement of checks will reduce processing costs from about $8 billion a year to $6 billion.
What the Check 21 legislation does is require financial institutions to accept image-replacement documents, essentially photocopies of checks that can be transmitted electronically.
The image will include numbers encoding how it was processed by the receiving bank; once photocopied, the original paper check will be destroyed.
It's the first step in what John Feldman of the Bank of America in Charlotte, N.C., sees as "a much-needed evolution in checking."
At first, consumers who still get their checks back each month — about 36 percent of bank customers — will start seeing paper-replacement documents among them.
Those already getting images of their checks with their statements will see some of the photocopies, too, distinguishable by the marking "this is a legal copy of your check."
Internet customers
The same thing will occur for Internet banking customers who view their cleared checks online.
At first, many paper checks and even check images will still move by air and road around the system. But banks have been upgrading their processing systems to begin exchanging the images electronically.
"Over the next year or so, say by the end of 2005, you'll begin to see banks do small volume-production exchanges," said Feldman.
"Into 2007, that's when we think we'll see industrial-strength volume, significant volume moving from paper to electronic."
As that happens, consumers will see more and more substitute checks. Eventually, no paper checks will be returned.
Swift check clearing
Consumers also will find that instead of taking two or three days for their checks to clear, it could happen on the same day they write their checks.
This loss of float has some consumer advocates worried that more consumers will overdraw their accounts and be subject to penalty fees, sometimes as high as $35 per overdraft.
Many banks already are notifying customers about the new law, but some say that may not be enough to stave off a rash of unexpected overdraft penalties.
"It depends on how well-educated consumers are about the change and how many change their behavior. There's a lot more that needs to be done," said Gail Hillebrand, a senior attorney at the San Francisco office of Consumers Union, a national watchdog group based in Yonkers, N.Y.
But as Hall said: "No one should write checks for amounts they don't have. That's just good personal-finance discipline."
Financial institutions have been trying to reduce the handling of paper checks for a number of years.
Credit unions, for example, aren't required to return paper checks; they simply list cleared checks on their customers' statements.
And some banks in recent years have begun "truncating" checks by turning them into electronic debits against the check writer's account. These show up as a line item on customers' statements, and the paper checks are destroyed.
Costly switch
The Check 21 modernization is coming at high cost to the banking industry.
Some banks are updating as many as 100 different processes to accommodate Check 21, said Gary Cawthorne, managing partner for Unisys, an information-technology-services company in Blue Bell, Pa. Others are outsourcing check-clearing operations to companies like Unisys, which operates processing centers.
Aaron McPherson of the research and consulting firm Financial Insights in Framingham, Mass., estimates that the industry is investing about $1 billion this year in new check-imaging technology and will spend an additional $1.6 billion to $2 billion next year.
Initially, it will cost banks more to process the check images than it costs to handle the paper checks, McPherson said. But as more banks move to electronic transmission, the cost will fall.
The change will eventually save banks billions, but it may not have the same beneficial effect on consumers.
"The savings to the banks are potentially quite large, but what the consumer will get out of it is not a whole lot," said Jamie Milne, a Barre, Vermont, financial planner who is chairman of the National Association of Personal Financial Advisors. "It's hard to believe the banks will pass on those savings."
McPherson thinks that as the clearing process speeds up, consumers will write fewer checks.
"If there's no float advantage to writing a check — and the risk I might bounce it — why shouldn't I just use a debit card?" he asked.
Using a debit card triggers an immediate electronic withdrawal from a bank account.
He also said he expects an increase in online and telephone banking "because consumers will want to check their balances more often before they write checks."
Material from Knight Ridder Newspapers and Reuters is included in this report.
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