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RDC Mobile: Duplicate and Holder in Due Course
Copyright© 2014 by the Electronic Check Clearing House Organization
Phyllis MeyersonExecutive Vice PresidentECCHO
Electronic Payments Conference - WACHA
This session provides an overview of various aspects of the check payments systems including legal and rules framework for check image exchange. Responsibility for compliance with image exchange rules and/or legal, operational and regulatory requirements applicable to check image exchange remains at all times with the financial institution participating in check image exchange and/or the individual or company using a check image exchange service.
This presentation and the information contained herein is not intended as legal or compliance advice or recommendation to any person or company.
This document could include technical inaccuracies or typographical errors and individual users are responsible for verifying any information found in this presentation.
Financial institutions should consult with their legal counsel regarding legal and operational requirements applicable to any check image exchange program they may offer or in which they participate.2
Disclaimer
Session Overview• ECCHO Overview • Duplicates
– Duplicate Background– Rules and Warranties– Holder in Due Course– Prevention and Detection– Represented Duplicates– Scenarios
• Resources• Q&A
3
ECCHO Overview
• Electronic Check Clearing House Org– Not-for-profit, created in 1990– Owned by its membership
• Current membership – over 3,000
– Every depository financial institution is eligible for membership• Only DFIs are eligible for membership
– Only national private sector Image Rules Org.– All ECCHO members have equal coverage under
rules– Vendor and Solution Independent
• Rules designed to work with all solutions
– ECCHO Rules apply to Check Image Exchanges between ECCHO Members
– Three functions – Rules, Advocacy and Education5
ECCHO Overview
Duplicate Background
Definition• Webster’s New Collegiate Dictionary
– Copyright 1977• Duplicate
– Consisting of or existing in two corresponding or identical parts or examples
– Being the same as another– Either of two things that exactly
resemble or correspond to each other– Two copies both alike– To make an exact copy of7
There are No Duplicates!!• Check 21 implemented October 2004• No double debit warranty under Check 21 and other
image exchange rules• By early 2005 duplicate substitute checks
– Print issues – mostly remedied– System issues – mostly remedied
• Image exchange caused image duplicates– System issues – mostly remedied– RDC issues ???
• RDC Duplicates– Outside control of banks– Industry issue and concern– As RDC continues its growth, duplicates will continue
• Fraudulent intent – “Sammy Shyster”• Unintentional Error – “Sammy Stupid”
8
Rules and Warranties
• Reg CC, ECCHO Rules, Reg J and OC3 duplicate warranty– With minor variations the warranty reads (ECCHO) (Section
XIX(L)(7))• “Sending Bank warrants to Receiving Bank with respect to each
Electronic Image sent to the Receiving Bank that: (7) the Receiving Bank and any other person will not receive a transfer, presentment or return of, or otherwise be charged for, the Electronic Image, the Related Physical Check of that Electronic Image, or a paper or electronic representation of the Related Physical Check such that the person will be asked to make a payment based on an item that it already paid;”
• NACHA rules have similar provisions against presentment of original item for check conversion
• No duplicate warranty exists on original item• Intended to protect Receiving Bank regardless of form of
duplicate item10
Duplicate Warranty
• Warranty breach can occur in a number of ways– Warranty limited to situation where Receiving Bank
pays item already paid• Not applicable where Receiving Bank returned and reversed
settlement of first item, then receives second item– Receiving Bank only paid single item
• Reg CC Commentary states– Warranty given even if demand for duplicative
payments results from fraudulent substitute check about which warranty bank had no knowledge
– Example provided • Electronic version sent to both Bank A and Bank B, creates
substitute check to Bank C• Bank A and Bank B both made warranties to Bank C• Bank C could pursue warranty claim for loss as result of
duplicative payment against either Bank A or Bank B11
Duplicate Warranty
BOFD A
Paying Bank CCustomer
Company
BOFD B
Statement
IMAGE
Electronic Indorsement RT # of
BOFD A
Electronic and/or Physical
Indorsement RT # of BOFD B
Duplicate Example
12
Agreement
IMAGE StatementIMAGE
BOFD Subject to Claim
• Who can Paying Bank C make claim?– To either BOFD A or BOFD B– BOFD A and BOFD B both made warranty to Paying Bank C
• Paying Bank has option to either– BOFD B being second does not limit Paying Bank to make claim
• Reg CC and image language the same13
BOFD A
Paying Bank C BOFD B
IMAGE
IMAGE
Return/Adjust as Duplicate
Return/Adjust as Duplicate
Either/Or
Claim Between BOFDs• Is there basis for claim between BOFDs?• Rules and check law does not address claims
between BOFDs– No exchange between BOFDs, no warranty made– Warranties arise from exchange of check images
• Reg CC does not address this for substitute checks
– Unknown if there is basis for loss sharing under other law• Consult legal counsel• Discuss with 2nd BOFD to reduce or share loss
• Holder in Due Course issue– How is duplicate claim effected when one party has
original check14
Claim Between BOFDs• BOFD A and its customer has agreement,
usually requiring customer to secure original paper check– That agreement is contract law between
BOFD A and its customer• No other party is subject to that agreement
• Nothing in any rule set regarding not “securing original paper”– For reason of BOFD B to reject claim– For reason of BOFD B to make claim to
BOFD A
15
BOFD A
Paying Bank C BOFD B
IMAGE
Return/Adjust as Duplicate
Claim Between BOFDs
IMAGE
Does BOFD B have Claim against
BOFD A??
16
Proposed Reg CC• New indemnity by BOFD A to BOFD B – Truncating
Bank Indemnity• BOFD A is truncating bank
– Did not receive original check– Receives settlement or other consideration– Does not receive check returned unpaid
• BOFD A’s potential liability arises when it permits customer to truncate check and deposit image– Customer retains original check and may intentionally or
mistakenly deposit paper check in another bank
• BOFD B receives indemnity from BOFD A– Receives original check for deposit
• Not through RDC
– Indemnification for BOFD B losses due to check having already been paid
17
Proposed Reg CC• This indemnity permits BOFD B that accepts original
paper check to make claim against BOFD A that permitted customer to truncate– Claim made to any truncating bank, even if multiple truncating
banks– Claim only exists if check returned to BOFD B due to fact check
already paid– Allows BOFD A to allocate loss to its depositing customer by
agreement
• Fed’s Rational– Believes BOFD A receives benefit from customer RDC– It should internalize risk or cost to other banks
• Fed requests comments– Any unintended consequences– Would BOFD B be able to identify BOFD A– Are there other remedies to address problem18
Bank A (BOFD A)
Paying Bank Bank B
(BOFD B)
Remote Deposit
Customer
Indemnity Claim
19
IMAGE
IMAGE
RDCAgreement
Return as Duplicate
Proposed Reg CC
IMAGEAgreement
Different Indorsements• Do different indorsements indicate different
paper checks?• Duplicate arose from same image, paper check
source of image or other image of same original check– If two payments arose from two different original
checks, then no duplicate claim• Two different indorsements not determination of
different paper checks– Additional review and investigation needed
20
Identification Examples• Payee customer has electronic overlay
indorsement by RDC– Customer indorses to check casher– Two images have different payee and bank
indorsements– Check images arose from same original paper check– It is a duplicate
• Payee customer signs/indorses paper check and deposits through RDC– Customer opens second account and deposits– Same payee indorsement, but different bank
indorsements– Check images arose from same original paper check– It is a duplicate21
Identification Examples• Fraudster creates multiple counterfeit checks and
deposits at different banks– Checks look the same– Different payee and bank indoresments– Check images arose from different original checks– Not a duplicate
• Customer prints and signs two identical checks– Same amounts and payees– Drawer Customer mails two checks to Payee Customer– Payee Customer uses RDC to deposit checks at same or
different BOFDs– Two check images created from different original checks– Not a duplicate
22
Holder in Due Course (HIDC)
Consumer RDC• Recently Holder in Due Course (HIDC) claims and
duplicate warranty raised • Changes to RDC landscape
– RDC volume growing as more banks offer service
• Possible sources of duplicate presentment in RDC – Customer Errors– Fraud– Theft From Customer
• RDC duplication different from banks’ past experience– Internal Bank Duplication: Caused inside banking system
• No HIDC outside of banking system – Customer RDC Duplication: Caused outside of banking system
• HIDC may have original check and may demand payment from drawer
• Duplicate warranty covers HIDC duplicate warranty claims24
HIDC• Holder: Person that comes into
possession of negotiable instrument• Holder in Due Course (HIDC): Type of
holder that: – Takes check for value, in good faith and
without notice check is overdue or been dishonored
• Holder may make claim against drawer regardless of certain defenses– Not every holder qualifies as “holder in due
course”• Depends on facts and circumstances25
HIDC Scenario
26
BOFD A
Paying Bank Customer DrawerBOFD BCheck Casher
HIDC
Return or Adjust
Duplicate
(3)(3)
Charge Account
(3)
HIDC Claim
(4)
Agreement
IMAGE
Statement
IMAGE (ICL)
(1)(1)
(1)
(2)IMAGE(ICL)
IMAGE(2)
(2)
(2)
Statement
HIDC Scenario• Check Casher took check in good faith without knowledge of issue
with check– Is Holder of item– Has original item– Not all check cashers or other claimants have HIDC status or have valid
claim• Paying Bank returns or adjusts item back to BOFD B, who charges
check casher– Paying Bank could make claim to either BOFD B or BOFD A
• Check Casher makes claim directly to Drawer as allowed under UCC– With demand letter outside banking system– Can only make to drawer
• Drawer already paid item when posted to its account at Paying Bank• Drawer pays Check Casher due to fear of potential bad credit• Drawer requests reimbursement from Paying Bank for item it
already paid• Paying Bank can make claim to BOFD A under duplicate warranty27
HIDC Scenario
28
BOFD A
Paying Bank Customer Drawer
BOFD BCheck Casher HIDC
Agreement Statement
IMAGE IMAGE (ICL)
(1) (1)
(1)Adjust Duplicate
(7)
Return or Adjust
Duplicate
(3)(3)
Charge Account
(3)
Statement
(2)
IMAGE(ICL)IMAGE
(2)
(2)
(2)
HIDC Claim(4)
Drawer Pays HIDC Claim
(5)
Bank Reimburse Drawer
$$$(6)
HIDC• Paying banks and customers encouraged not pay HIDC
claims if believe holder not have legitimate claim for payment of item– Example, customer or paying bank reason to believe holder
participated in fraud or theft
• ECCHO Rules and Fed OC 3 do not provide warranty directly to drawer – Warranty against double payment made only to Paying Bank– ECCHO Rules do not address relationship of drawer to its bank
• Application of warranty against double payment consistent with Check 21, Regulation CC and Rules– Protect Paying Bank and Drawer– Sending bank introduces risk by allowing customer to engage in
RDC• Appropriate to bear risk of loss from double payments
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HIDC Alterative Scenarios• Check Casher took check in good faith without
knowledge of issue with check• Paying Bank returns or adjusts item back to BOFD B• BOFD B attempts to charge Check Casher
– Check Casher is HIDC– BOFD B cannot reject claim just because they or customer is
HIDC
• Alterative 1– BOFD B tells Paying Bank it or its customer has original item, is
HIDC and will make claim• Paying Bank makes claim to BOFD A
• Alterative 2– BOFD B makes claim to BOFD A
• Tells BOFD A it or its customer has original item, is HIDC and will make claim
• Legally there is no claim between BOFD B and BOFD A30
HIDC Alterative 1 Scenario
31
BOFD A
Paying Bank
Agreement
Customer DrawerBOFD BCheck Casher
- HIDC
IMAGE
Statement
IMAGE (ICL)
(1) (1)
(1)
Statement
IMAGE(ICL)
IMAGE(2)
(2)
(2)
(2)
Return or Adjust
Duplicate
(3)
(3)
Reject Claim
(4)
Return or Adjust Duplicate
(5)
HIDC Alterative 2 Scenario
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BOFD A
Paying Bank
Agreement
Customer DrawerBOFD BCheck Casher
- HIDC
IMAGE
Statement
IMAGE (ICL)
(1) (1)
(1)
Statement
IMAGE(ICL)
IMAGE(2)
(2)
(2)
(2)
Return or Adjust
Duplicate
(3)
(3)
(4)
Advantages to Alternatives• Alternatives could avoid some complications of HIDC
claims and subsequent warranty claims• Drawer customer does not receive direct claim from
check casher/HIDC– Resolution of duplicate payment claim handled within banking
system
• More expeditious claims process • Appropriate for BOFD A to bear risk of loss from double
payments– BOFD A introduced risk by allowing customer to engage in
remote deposit capture– Customer did not secure original paper– BOFD A in best position to collect on claim from customer
• Customer and bank typically have legal contract, protecting bank
33
Prevention and Detection
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• Forward and Return Processing – Prevention performed by institution that truncates
check and creates image or IRD– Detection performed by institution receiving image or
IRD– Determine level of prevention/detection needed
• Risks to Payments System and Industry– Financial loss to bank and/or customer
• Expense of resolving duplicates– Customer dissatisfaction/lost customer relationship(s)– Reputational risk to FIs, exchange system (network)
and banking industry– Perception of high risk in RDC/check/image exchange
• Tools to prevent or detect duplicates– Software– Cross bank duplicate detection
Considerations
ATM
IMAGE
Branch
INTERMEDIARY
IMAGE
PAYING BANKBOFD
IMAGE
Sub Ck
or
Sub Ck
or
CUSTOMER
Sub Ck
Duplicate Detection/Prevention
P P P/D
D DP/D
Detection Prevention
Detection• Where to detect• Methods of detection• Multiple days and multiple channels
– Minimum of 5 days• “Legitimate” duplicates
– Re-deposits– Counter and rebate checks
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Prevention• Sources of duplication• Methods of prevention
– Establish procedures for handling physical checks
– Manage ICL file delivery• Prevention “tools”• Prevention controls
P/D
Goal – Protect Customer from Unintended Impact
RDC
• Duplicates typically affect innocent parties• Returns vs Adjustments
– Industry trying to determine how to best handle Duplicates
• Returns– Faster – Timely Settlement– May have negative impact on innocent parties
(depositing customer and drawer customer)– Use correct return reason code for Duplicate
• May avoid some negative impact
– Personnel not familiar with process– Do not lose right of return
• Significant issue if item is counterfeit or forged and not duplicate37
Resolutions
• In 2011 Board proposed to modify “Refer to Maker” as insufficient return reason– Almost all commenters opposed
• In 2013 proposal Board continues to believe “refer to maker” is instruction, but recognizes circumstances in which necessary
• Recommending to clarify commentary– May be used when drawer has positive pay and
instructs bank to return check– May not be permissible when check being returned
for duplicate• Payee not drawer have information as to why check returned
• New X9.100-187 incorporates reason ‘Y’ for duplicates38
Proposed Reg CC
• Adjustments– Made to appropriate party– Minimum negative impact to customers– Handled within banking system– Personnel familiar with process
• Historically resolve these issues – Less efficient than returns
• Less timely settlement• More paperwork
– May have dollar limits and/or fees associated with adjustments– May lose right to return item
• Waived right to return within midnight deadline• Significant issue if item is counterfeit or forged and not duplicate
• Decision to return or adjust at discretion of bank– Bank performs its own risk analysis– Encouraged to seek legal counsel on potential legal risks
39
Resolutions
Paying BankBOFD
IMAGE
Image Adjustment
Image Return
or
Sub Ck
Drawer Customer
Duplicate
Sub Ck Return
Deposit CkIMAGE
Depositing Customer
Returns vs. Adjustments
• Known operational duplicates may be resolved as adjustments
• During initial work on duplicates industry felt adjusting duplicates was best– Adjusting made sense when caused within banking
system– Minimize customer impact
40
Returns vs. Adjustments
• RDC duplicates caused by customer, outside banking system– Return likely to get to customer faster when funds may still be
available– When cause unknown, fraud may be involved
• Return would protect legal rights
• Timing is key – Before midnight return deadline, option to return or adjust– After midnight return deadline, not eligible for return
• Only option is to adjust41
Paying BankBOFD
IMAGE
Deposit Ck
Image Adjustment
Image Return
and
or
Sub Ck
Drawer Customer
Duplicate
Sub Ck Return
IMAGE
Depositing Customer
Handling Duplicates• FRB – PAID (Duplicate) Adjustment
– Receiving Bank determines which item to pursue– Item identified must be presented by Fed
• Use published guidelines for PAID investigation type (iTYPE)
– Reporting Timeframes• With Entry
– Within six months - Same day provisional entry• Without Entry
– Six months to one year - No entry, information on source provided
– Both sources required– Fed will pass claim to depositor quickly– Subsequent disputes – Deal direct
• Handled between institutions outside adjustments process
42
Handling Duplicates• ECCHO Rules provide two options to
resolve duplicates:– Adjustment process
• Duplicate Adjustment type– Timing – 180 days with entry– Both sources required
– Return process• Used under administrative returns function
at some institutions
43
Represented Duplicates
Represented Duplicates• Duplicate warranty limited to situation where Receiving
Bank pays item already paid– Not applicable where Receiving Bank returned and reversed
settlement of first item, then receives second item• Receiving Bank only paid single item
• Paying bank return system should interface timely with duplicate system– How long maintain items for duplicate detection
• Proper Handling of Represented Item– Avoid incorrect identification as duplicate– Proper use of return reason codes on representment in file
• Without return reason, item may be flagged as duplicate by intermediary bank with no knowledge item was returned
• Do not re-image original item– Use IRD– No longer has previous indorsements and/or return reason
45
Represented Duplicates• Not required to use original
– Check 21 language says “Substitute check is accurate representation of original at time item was truncated”• Original item already truncated
– Very difficult to use original and properly populate return codes in file
• Example: Using original item incorrectly– RDC customer pulls original for representment– Item returned needs some physical correction such
as:• Payee Indorsement; or• WIC stamp
– Put indorsement/required stamps on IRD46
Represented Duplicates• Can customer deposit IRDs through RDC
– Previously most banks did not allow– Now some analyzing
• Allowing customer represent returned IRD, can potentially help with duplicates– If IRD represented then return reason code
and all endorsements on it• Allowing paying bank more easily and accurately
determine represented check• When not allowed to represent IRD, customer may
pull original item and redeposit making duplicate detection more difficult
47
Scenarios
Duplicate Scenario
Bank A
Bank Z
Bank Y
Bank B
Bank X
IMAGE
IMAGE
IMAGE
IMAGE
Statement
Statement
IMAGE
Note: Banks are all members of same clearinghouse
Statement
49
IMAGE
Bank A
Paying Bank
Agreement
Remote Deposit
Customer
Payments Galore
Statement
StatementIMAGE
Note: Banks are all members of same clearinghouse
Duplicate Scenario
50
IMAGE
Bank A
Paying Bank
Agreement
Sammy Shyster
Payments Galore
StatementIMAGE (ICL)
Electronic EndorsementRT # of Bank A
Statement
Bank B
IMAGE(ICL)
Physical and/or Electronic Endorsement
RT # of Bank B
Note: Banks are all members of same clearinghouse
Duplicate Scenario
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IMAGE
Bank A
Paying Bank
Agreement
Sammy Shyster
Payments Galore
Statement
Note: Banks are all members of same clearinghouse
Electronic EndorsementRT # of Bank A
IMAGE (ICL)
IMAGE (ICL)
IMAGE (ICL)
Statement
Federal Reserve
Bank B
Physical and/or Electronic Endorsement
RT # of Bank BElectronic Endorsement
RT # of FRB
Duplicate Scenario
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Cashier’s Check for $160,000
Bank A
Paying Bank
Sammy Shyster
IMAGE
Agreement
Bank B
5 ½ Months Later
IMAGE
Bank C
Note: Banks are all members of same clearinghouse
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Duplicate Scenario
Paying BankBank of First Deposit (BOFD)
Sub Ck Return
Is It A Duplicate???
IMAGE
IMAGE Representment
Adjust as Duplicate
(4)
Image Return
(2)
NSF
Deposit Ck
(1)
Original Ck Representment
(3)
54
Duplicate Scenario
Additional Information• For additional information please see the following
– Avoid Duplicates!• http://www.eccho.org/documents/Duplicates_000.pdf
– A Guideline Document on Duplicate Image/IRD Prevention and Detection
• http://checkimagecentral.org/pdf/DuplicatePreventionAndDetection.pdf– Resolving Duplicates as Adjustments versus Returns
• http://checkimagecentral.org/pdf/ResolvingDuplicatesAsAdjustmentsVersusReturns.pdf
– FIs offering RDC should review and implement FFIEC guidance on RDC which addresses FI responsibility to identify and control risks
• http://www.ffiec.gov/pdf/pr011409_rdc_guidance.pdf– White Paper: Additional Issues Regarding Possible Duplicate Payment
of Check items• http://www.eccho.org/uploads/WhitePaperDuplicateIdentiticationVersion_08_
05_2013(1).pdf • http://www.eccho.org/uploads/HIDC%20White%20Paper%20(2)%20Aug%20
2013.pdf
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Wrap-Up and Adjourn
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Thank YouPhyllis Meyerson
Electronic Check Clearing House Organization
3710 Rawlins Street; Suite 1075Dallas, Texas 75219
www.eccho.org