Check 21 Legislation

What must be done now and what can wait
regarding the Check 21 Act

Many of our customers have asked us about the federal "Check 21" legislation. This article is intended to explain what the Check 21 Act is and what impact it will have on your institution and your customers. Finally, we will address the long-term planning vs. short-term action items.

Check 21, or “Check Clearing in the Twenty-First Century Act”, is an initiative by Congress to revise the rules governing the exchange of checks between financial institutions, which essentially enables a more electronic check collection system for the country. While it does not require banks to change the way they collect checks it does make check reproductions an option, and therefore indirectly does require any bank and its customers to accept such paper reproductions of original checks when requested by any institution choosing that option.

Check reproductions are called Image Replacement Documents, or IRDs, and are produced from digitized images of the original checks. They must include an image of both the front and the back of a check, have specific wording to identify them as replacement documents, and each IRD must have the check-writer’s bank routing number, account number, and the dollar amount of the check in magnetic ink along the bottom just like the original check. The MICR requirement naturally enables high-speed processing by check sorters.

Check 21 legislation is intended to reduce the costs and delay of paper processing and transportation requirements of check clearing as it is today. The Federal Reserve Board first proposed the legislation to Congress at the end of 2001 after an extensive study of the current system, but the concept gained significant momentum after 9-11 when airport closures of several days held checks from moving from city to city for collection. These events underscored the need for a more reliable way to collect check payments by enabling a bank to capture and transmit check images electronically, instead of transporting paper for collection.

The Check 21 Act enables an entirely new possibility of electronic exchange by requiring any payor bank to accept an electronic transmission of check payment information. Images can also be transmitted on request, still keeping the collection process entirely electronic. In the event a payor bank requires paper documentation, IRDs can be printed from the electronic images and presented to the payor bank as well. In this case the payor bank will still receive the checks in paper form, namely the IRDs, while the collecting bank still gains some benefits from electronic delivery. The electronic exchange of checks is also referred to as "check truncation".

Imagine, for example, a bank on the East Coast presenting checks to payor banks on the West Coast. Sending an image file electronically instead of putting checks onto a plane (check truncation) could mean collecting many checks one day faster and having the funds one day earlier. It also means that fog or snow will not delay the collection of the checks. When an image file is received by a correspondent bank, the Fed, or a service bureau, that party can print and deliver IRDs, speeding up the overall collection process.

Bank customers become affected when a bank returns checks to their customers with monthly statements or when copies of checks are requested by customers. In either case these customers will now receive whatever IRDs the bank has received. Check 21 legislation includes a number of safeguards for the bank and its customers. Banks that create an IRD have to warrant their accuracy and have to ensure that the IRD is produced in accordance with industry standards for quality. How many IRDs will start showing up in your incoming check presentments and how soon is difficult to predict. Right now the change seems more likely to be gradual than rapid.

The Reserve Banks will be offering new services to support Check 21, but in the short run you are likely to see more in the way of new requirements imposed by the Fed. For example, as of October 28th, 2004, the Fed will require the use of check stripping equipment on any repaired items submitted to them in High Speed Cash Letters rather than the use of older document carriers. The new requirement to perform check repair using check strippers centers around the simple reality that, with the Fed now scanning all items, current check scanning equipment does not register adequately clear images of items held in document carriers.

In the long-term, the Check 21 Act will give the country a more electronic check collection system, reduce risk, reduce cost, and accelerate funds availability for consumers and businesses. It should also contribute to further progress in electronic check presentment and check safekeeping, in which banks do not return paid checks to their customers; and the growth of online bill payment in place of check-writing.

Check 21 is also likely to make image systems and services more prevalent as banks look at opportunities to send and receive check images electronically. Inevitably, as that happens, they will promote more check image services to their customers, including image statements and making images accessible through online banking. If more customers start using online banking services to look up check images, they will become better acquainted with their banks’ array of online services, including electronic bill payment. This could give impetus to conversion of more check payments to electronics, especially among those consumers who until now have been less prone than others to go online and to go electronic with their payments.

In conclusion, while the arrival of IRDs in the check presentation process will be gradual, the here and now requirements of Check 21 minimally means you must ensure your check repair operation employs the use of check stripping equipment. If you need help converting your check repair processing to utilize check strippers or are looking for a low cost check repair solution for low volume sites please contact a Banker’s consultant for a full consultation and proposal.