April 2006 Legal Briefs

Increased Deposit Insurance Limits for Retirement Accounts

1. “Self-Directed” Requirement
2. Multiple Accounts
3. Credit Unions
4. Funding Opportunities
5. Statement Stuffers
6. Future Increases in Deposit Insurance
7. Feasibility Studies

Other Details of Deposit Insurance Reform Legislation

1. Merged Insurance Fund
2. Modified Reserve Ratio
3. Dividend of Excess Funds
4. Credit against Assessments
5. Fund Restoration Plans

Cross-Border Scams–Overpaying by Check, Wiring Back Money

Procedures to Avoid Losses on Check Scams

Increased Deposit Insurance Limits for Retirement Accounts

As of April 1, 2006, deposits in retirement accounts will be insured by the FDIC for up to $250,000 per individual, instead of $100,000.  This change will primarily affect regular IRA’s and Roth IRA’s, because these two categories represent most of the retirement accounts held by banks.

1. “Self-Directed” Requirement

Technically, the same $250,000 insurance limit will apply to all of an individual’s bank deposits held in a broad range of retirement accounts, including self-directed Keogh accounts, “457 Plan” accounts for state government employees, and also employer-sponsored “defined-benefit plans” (such as 401(k) plans) that are self-directed by the employee—as well as IRA’s. The “self-directed” requirement, however, is an especially limiting factor.  In most employer-sponsored retirement plans, a trustee or fund manager makes the investment decisions, not the employee.  Occasionally a bank holds deposits for a self-directed Keogh, but only rarely does a bank hold deposits for a self-directed 401(k).  An IRA, on the other hand, is always “self-directed,” and will always qualify for the increased deposit insurance limit. 

2. Multiple Accounts 

All of an individual’s retirement accounts at the same bank must be added together.  There will be only one $250,000 deposit insurance limit for one individual’s retirement accounts of all types, combined.  For example, an individual could have several regular IRA’s and several Roth IRA’s at the same bank, but they all must fit within one $250,000 insurance limit.

(There are no changes in other types of deposit insurance coverage—individual accounts, joint accounts, and P.O.D. coverage.  Each of these categories will have the same deposit insurance limits as before.)

3. Credit Unions

The same $250,000 deposit insurance limit for retirement accounts held by banks will also apply to credit unions, beginning April 1. The NCUA (the deposit insurer for credit unions) has issued its own regulation, identical to the FDIC rules. 

4. Funding Opportunities

Retirement accounts are an extremely attractive source of funding for banks.  These are stable, long-term deposits—with higher balances than most other time deposits.

Some older customers have total IRA deposits exceeding $100,000—and until now have been forced to place IRA’s at more than one bank to be fully insured.  The new $250,000 deposit insurance limit for retirement accounts will allow these customers to maintain all of their IRA’s at the same financial institution.  Holding all IRA’s at one bank will also somewhat simplify the issue of required minimum distributions, and IRS reporting.

No doubt, a bank will have the opportunity to take some additional IRA deposits away from another nearby bank, because of this change in insurance limits; but the “flip” side is that the same increased deposit insurance will allow the other bank to take away some IRA deposits currently held at your own bank.

5.  Statement Stuffers

The FDIC has prepared statement stuffers describing the increased insurance limits for retirement accounts.  Banks are encouraged to download these print-ready documents, for reproduction and mailing to customers.  The FDIC website, at www.fdic.gov/deposit/deposits/stuffer/index.html has both a longer and a shorter version of statement stuffer.   
In addition, the FDIC’s April 2006 Special Edition of the FDIC Consumer News, appearing online at www.fdic.gov/consumers/consumer/news/special/index.html also describes the increase in deposit insurance coverage.

6. Future Increases in Deposit Insurance

The same Federal legislation that is increasing the amount of insurance for retirement accounts will also require all deposit insurance limits to be indexed for inflation, once every five years.  (There will be no increase now in the $100,000 limit for non-retirement accounts, but the mechanism to increase this limit at regular intervals (beginning five years from now) is in place.)

The first “inflation adjustment” to the $100,000 coverage limits will be an amount determined as of April 2010, and will become effective on January 1, 2011.  The new $250,000 limit for retirement accounts will also be adjusted every five years, on the same schedule, with the first increase becoming effective January 1, 2011.

In a couple of situations, a scheduled five-year increase in the amount of deposit insurance might not occur.  The first is if the Congress acts to reject a  proposed increase announced by FDIC (an unlikely scenario).  Secondly, FDIC can decide not to make a five-year inflation adjustment because of the condition of the insurance fund, economic conditions, and/or potential problems affecting banks.  This second scenario is also unlikely, unless serious conditions exist.

Each five-year adjustment to the $100,000 and $250,000 coverage amounts must be in $10,000 increments.  Any five-year inflation adjustment must be rounded down (not up) to the nearest multiple of $10,000.  For example, if the FDIC decides in April 2010 that the correct five-year inflation adjustment of the $100,000 amount is 12%, or $12,000, that number would be rounded down to the nearest $10,000 multiple, and insurance coverage for ordinary accounts would become $110,000 on January 1, 2011.

A similar 12% inflation adjustment of the $250,000 limit for retirement accounts would be $30,000 (an exact multiple of $10,000), and on this particular assumption the coverage for retirement accounts could increase to $280,000 on January 1, 2011.  (This is just an illustration.)

There has been no increase in deposit insurance limits for more than 25 years, and the “real value” or purchasing power represented by the maximum insurance amount has steadily declined with inflation during that time. The inflation adjustments that finally will be made, starting five years from now, will at least prevent further deterioration in “real value” of the amount insured.

Although the insurance limit for retirement funds is increasing dramatically, this may not result in any great increase in the total dollars of deposits that FDIC is insuring.  Very few people have any substantial amount of money in uninsured retirement accounts today.  Instead, if their retirement funds exceed $100,000, they have been splitting those funds between banks, so that everything is insured.  For this reason, the change to $250,000 may have little impact on the adequacy of the FDIC insurance fund, and by itself may not have much impact on the required amount of future deposit insurance premium assessments. 

7. Feasibility Studies

The bill passed by Congress requires the FDIC and NCUA to prepare a study within one year concerning the feasibility of increasing the insurance limits on public funds.  This will give a better picture of what a possible increase in public funds coverage would “cost” in terms of insurance premiums.  The same study will evaluate the feasibility of adding a voluntary deposit insurance system for banks that want insurance for deposits exceeding the standard limits. 

Other Details of Deposit Insurance Reform Legislation

In addition to insurance coverage provisions discussed above, the Federal Deposit Insurance Reform Act of 2005 (FDIRA) makes changes to the deposit insurance fund and to the method of assessing deposit insurance premiums. 

1. Merged Insurance Fund

When Congress eliminated the Federal Savings & Loan Insurance Corporation (FSLIC), the deposit insurance function for savings associations was transferred to FDIC.  The former FSLIC insurance fund was taken over by FDIC under the name Savings Association Insurance Fund (SAIF).

Bankers who paid premiums into the previously existing FDIC fund (which became the Bank Insurance Fund, or BIF) were apprehensive that their insurance premiums might be used to “bail out” failing S & L’s, instead of banks.  Accordingly, the BIF was left as a separate fund to cover bank deposits, with its own assessment structure.  Savings associations have continued to pay premiums for their insurance (at a different assessment rate) to the SAIF fund.

Over many years, savings associations have changed their activities to become increasingly like banks—to such an extent that consumers can’t tell the difference. Today, both savings associations and banks are financially stable, and the reason for maintaining two separate insurance funds has gone away.

Section 2102 of FDIRA required FDIC to merge the BIF and SAIF funds into a single fund, to be called the Deposit Insurance Fund (DIF).  FDIC acted quickly, completing this step at the end of March.

Without the merger of the SAIF fund with the BIF, combined with an adjustment in the minimum reserve ratio, banks would have had a deposit insurance premium assessment in the second half of 2006. 

2. Modified Reserve Ratio

Until now, FDIC has been required to maintain the deposit insurance fund at not less than 1.25% of estimated insured deposits.  If the ratio dropped below 1.25% (through insurance fund payouts, increase in estimated insured deposits, or both) this would trigger semiannual assessments to banks to increase the insurance fund ratio.

Under the new provisions, the required reserve ratio is not a number, but a range–not less than 1.15% of estimated insured deposits and not more than 1.5% of estimated insured deposits.

Within this range, FDIC will designate a target reserve ratio each year.  The FDIC must take economic conditions into account, allowing the ratio to build up somewhat during good times and to decline somewhat during bad times. FDIC is supposed to avoid making sharp swings in the assessment rates from year to year.

3. Dividend of Excess Funds

For the first time, a statutory 1.5% cap is placed on the insurance fund ratio. If the reserve fund exceeds 1.5% of estimated insured deposits, FDIC must pay dividends to insured institutions in an amount that will reduce the reserve ratio to1.5%.

This provision basically recognizes the principle that financial institutions have paid the premiums into the fund, so any excess should be returned to the financial institutions that paid the money in.

Normally, however, the reserve ratio will not reach 1.5%.  If the reserve ratio exceeds 1.35% at the end of any calendar year, the FDIC must dividend half of the excess above 1.35% to insured depository institutions. With this provision, the reserve ratio normally will not increase above 1.35%, except slowly.

There is an exception to FDIC’s requirement to pay dividends:  If FDIC determines that there is a “significant risk of losses” to the insurance fund in the next year, the reserve ratio can be built up above 1.35%, or even above 1.5%, without any dividends being paid, to protect against the anticipated risk of loss.

A significant feature of the “dividend” requirement in Section 2107(a) of  
FDIRA is that FDIC must determine each institution’s relative contribution to the insurance fund in order to calculate that institution’s share of dividends. An institution’s dividends will not be based solely on that institution’s insured deposits today as a percentage of total insured deposits.

(Many institutions have grown rapidly in recent years, but may have paid very little in deposit insurance assessments during the period that the insurance fund has been strong enough to avoid imposing assessments. FDIRA takes the approach that those banks that actually paid assessments into the insurance fund over many years should get the dividends.  By contrast, banks that have paid little or nothing into the fund—even though they have grown rapidly in recent years—will get little or nothing back as dividends, at first.)  

In determining each bank’s eligibility for dividends, FDIC is required to calculate the institution’s relative position in the total assessment base as of December 31, 1996, as well as the institution’s total assessments paid in at all times on or after January 1, 1997 (ignoring any higher assessment paid by an institution that has higher risk).  Not later than November 5, 2006, FDIC must adopt regulations setting out the appropriate dividend formula in more detail.  Because the FDIC reserve ratio will not be at 1.35% or higher in the near future, this formula will have no application until the reserve ratio actually increases enough to trigger a dividend to banks.

4. Credit against Assessments

Section 2107 of FDIRA also creates a “one-time credit” based on banks’ share of the total assessment base as of December 31, 1996.  This credit is intended as a “fairness” adjustment or “catch-up” provision, to deal with relatively new banks that have not paid assessments to the FDIC insurance fund since they were formed, as well as those banks that have experienced rapid growth over the last several years without paying historical assessments proportionate to the size that those institutions now enjoy.

The aggregate amount of the “one-time credit” for all FDIC-insured financial institutions will equal 10.5 basis points times the combined assessment base of the BIF and SAIF insurance funds as of December 31, 2001.  The portion of this aggregate credit to be allocated to any one institution will be calculated by using the ratio of that institution’s assessment base at December 31, 1996, compared to the assessment base of all FDIC-insured institutions on the same date.

Not later than November 5, the FDIC must issue a regulation setting out in more detail how the amount of this “one-time credit” will be determined for each bank.  Once calculated, each institution’s specific dollar amount of “one-time credit” can be applied, until used up, to avoid paying future insurance fund assessments.  

Whenever in the future FDIC imposes an assessment on all insured institutions at a particular rate, the institutions that are newer or have experienced rapid growth in recent years will have to pay all or nearly all of the assessment, because they will have little or no “one-time credit” to offset against the assessment.  Institutions that have been around for many years and have grown only at a normal rate will have an amount of “one-time credit” that is substantial in relation to their future assessments. They will be able to avoid paying most of their future FDIC assessments for a while, by first using up their credit.

Stated differently, the newer or faster-growing institutions will pay “full fare” to the assessment fund for a while, but the pre-existing, slower-growing institutions may have enough “one-time credit” to pay a “sharply reduced fare.” Eventually, the new and rapidly-growing institutions’ full assessment payments will catch them up to a “fair” amount compared to other, older institutions.  

There are a couple of restrictions on the use of this “one-time credit.”  First, for assessment periods beginning in fiscal years 2008, 2009 and 2010, banks will have to pay at least 10% of their assessment, and can offset no more than 90% of their assessment by applying the “one-time credit.”

Second, if a financial institution is required to pay a higher assessment based on its financial, operational and compliance weaknesses, then that portion of the total assessment that exceeds the regular assessment rate must be paid currently, and only an amount determined by applying the regular assessment rate can be avoided by applying the “one-time credit.”

5. Fund Restoration Plans

Based on Section 2109 of FDIRA, if the FDIC insurance fund drops below 1.15% of estimated insured deposits, or is projected to drop below that level within six months, FDIC must adopt an insurance fund restoration plan designed to restore the fund ratio to at least 1.15% within not more than five years (or longer in extraordinary circumstances.)  

If a fund restoration plan is in place (in other words, while FDIC is trying to get back to 1.15%), FDIC may restrict insured institutions’ offset of their “one-time credit” against their current assessments.  However, even under such circumstances FDIC must allow an institution to apply “one-time credit” equal to at least 3 basis points on its assessment base against its current assessment.  Only that portion of the total assessment that exceeds 3 basis points can be required to be paid currently, even if a restoration plan is in place, while the institution has “one-time credit” remaining.

Of course, FDIC has authority to impose assessments whenever it believes they are necessary to maintain an appropriate reserve ratio. In normal times FDIC regularly imposes assessments to build or replenish the insurance fund, and it certainly is allowed to do so even if the reserve ratio is above and will remain above 1.15%.   During times when FDIC assessments are expected to keep the ratio above this level, FDIC cannot limit an institution from applying its “one-time credit” against assessments, except as noted earlier. 

Cross-Border Scams–Overpaying by Check, Wiring Back Money

During March (Fraud Prevention Month), the Federal Trade Commission (FTC) put out an alert on “check overpayment” scams, which involve someone sending the bank’s customer a check that is too large.  (The overly-large check gets explained by some last-minute mistake, a logistical hang-up, or some further task the bank’s customer is requested to perform, etc.)  The customer is asked to deposit the too-large check, then to wire the excess funds back to the sender (or someone secretly working with the sender).

The person on the other end of the transaction emphasizes that the bank customer needs to wire the “excess” money as soon as the bank makes funds available for the deposited check.  The money that is wired back comes out of the customer’s bank account, and is real.  Unfortunately, the deposited check turns out to be bogus, and the bank customer’s account ends up overdrawn by thousands of dollars (the “excess” that was wired out).

There can be a variety of explanations given for why a too-large check arrives in the mail, including the following:  (1) The bank’s customer has won the lottery, and the sender is enclosing the first payment, but the bank customer needs to wire back some money to pay certain fees or taxes so that the remainder of the prize can be released.  (2) A buyer wants to buy something (such as a motorcycle or classic car) that the bank customer has advertised for sale on the internet, but through mistake (or to cover some other step the sender asks the seller to do) the buyer sends several thousand dollars too much, with the bank customer asked to wire the excess somewhere.  (3) The bank customer signs up for a “work at home” arrangement, and receives a check in the mail as an advance, but, before going further, the customer is required to use part of the money to pay for some expensive special supplies or to make some other payment.  (4) In another variation, a person is hired to be a “secret shopper” to test the level of customer service by the persons who are selling money orders at a certain store. The bank customer gets a check in the mail, deposits it, and withdraws about 90% of the money to use to buy store money orders that are then sent back to the testing company.  The bank customer is instructed to keep about 10% of the overall check as payment for his time.  

The common thread to all of these stories is the ending: The check bounces, and the customer’s account is seriously overdrawn.

In the cases described above (which all have occurred in Oklahoma), the cashier’s check that is received in the mail may be very professional looking (but phony).  The bank’s funds availability policy allows the deposited money to be withdrawn before the bogus check is returned to the customer’s bank. The sender always presses very hard to get the customer to wire money back as soon as the bank’s funds hold expires—because without this step, the scam will fail. And then the deposited check comes back unpaid.

In some cases, the bank should have noticed something suspicious, if it had examined the check more closely.  But in many cases the bank’s opportunity to cut off the scam exists only if the bank is able to recognize that the surrounding facts don’t make sense—the check is written on a distant (maybe foreign) bank, and the whole transaction is of a type that this customer would never be involved in normally.  The bank should inquire until it understands the transaction better, if the circumstances just don’t look right.  

These scams produce serious losses–sometimes as much as $10,000.  The bank has wired good money on the customer’s instructions, and wants to be repaid when the customer ends up with an overdrawn balance.  The customer will feel strongly that he hasn’t done anything wrong, and will be extremely unhappy that the bank expects him to make the loss good.  In many cases, the person who falls for the scam is elderly, or has little money, and cannot make up the loss—so the bank takes the hit. Often, a customer who has little or nothing is the one most likely to fall for a scheme like this, because he is grasping for any lifeline.  He wants so desperately to believe that the opportunity is real.  

Where previously there was a good relationship between customer and bank, a large economic loss on one of these scams will turn the whole situation sour. It’s greatly in the bank’s interest (and the customer’s interest) to detect these scams and cut them off before they succeed.  

The FTC states, “There is no legitimate reason for someone who is giving you money to ask you to wire money back.”  This applies in all of the situations outlined above, and more.  The FTC suggests that an individual should send back any overly-large check (instead of depositing it), and should insist on a replacement check in the correct amount.  Any check that otherwise might be deposited in these circumstances really ought to be sent for collection instead, and nothing of value should be released in exchange (funds wired back, cash withdrawn for various purposes, merchandise delivered, etc.), until final settlement is received—which usually will never happen, if a scam is going on.

The problem, for many bank customers, it that they become “latched onto” the beautiful opportunity that lies in front of them, and they cannot or will not see the snake in the grass.  An unexpected windfall has appeared, and they cherish it so much that they cannot believe it is a scam.  They don’t want to do anything to anger the person who sent them the check.  They don’t want the transaction to disappear.

The person who wins the Canadian lottery does not really want to send the check back, insisting instead on a “right-size” check.   The person selling goods over the internet at a very hefty profit does not want to lose the “bird in the hand” by refusing to take the check. The customer who finds a lucrative opportunity to “work at home” does not want to quibble over the details—nor does the “secret shopper” who is paid handsomely for doing nothing but buying money orders at a store and providing comments on the quality of service.

Sometimes a bank must almost “pound the customer over the head” to make him realize a transaction as a scam.  Some customers take offense if the bank tries to tell them what to do or not to do.  But it’s somewhat like the person who is about to jump off the top of a building:  How hard should you try to stop him (because the outcome will not be reversible)?  If the bank fails to intervene as strongly as necessary, there will quite likely be a large resulting loss to the customer or the bank.  If nothing else works, a bank may have to turn away the customer and his check, to avoid taking a loss on the apparent scam transaction.

Many customers respond to the lure of “something for nothing,” and don’t ask the relevant questions that are obvious from a detached perspective: Why would anyone pay me high wages to stuff envelopes from home? How can someone pay me hundreds of dollars for buying ten money orders at a store and reporting back on the level of service?  Why would someone bid an outrageous price for something I have listed for sale on the internet, and send me several thousand dollars more than than?  And how could I possibly win thousands of dollars in a lottery that I never entered?  (If the risk of harm to the customer is great, a bank needs to give its customer some perspective on the situation he is facing.)

Procedures to Avoid Losses on Check Scams

As suggested above, the bank’s innocent and respected customer can sometimes be a victim of fraud, unknowingly depositing a bad item that is part of an elaborate scam.  A bank perhaps has no reason to guard against anything this particular customer does.  And the customer, unaware of any fraud, will act completely normal.  This is where operating just on “character,” without standard preventive procedures, can break down.

To recognize a bad check or a scam transaction before either the bank or the customer sustains a loss, bank employees must remain constantly on guard against unusual transactions and circumstances–no matter what customer is involved. Following are several procedures or guidelines a bank might consider, to help reduce losses on scam transactions involving fraudulent checks:

First, if the customer is holding a check drawn on a bank located outside the U.S., operations personnel should recognize that the funds availability schedule in Regulation CC does not apply at all.  The bank is not required to provide funds availability on items that the regulation does not cover.  (The bank’s internal funds availability policy might require a certain availability, where Reg CC does not, but this can be amended.)

Section 229.2(k) of Reg CC defines a “check” as (1) a negotiable demand draft (or travelers check) that generally must be drawn on or payable through either a “bank” or the U.S. Treasury, or (2) a U.S. postal money order.  Section 229.2(e) basically defines a “bank” as any depository institution located in the U.S., or a U.S.-located branch of a foreign bank.  A check drawn on a bank in Canada, for example, cannot be a “check” within the meaning of Reg CC, because it is not drawn on a U.S. “bank.”  

Even a Canadian “cashier’s check” that is payable in U.S. dollars would not qualify as a check drawn on or payable through a “bank” (meaning a U.S. bank office).  It completely drops out of the funds availability schedule in Reg CC.  It is regularly emphasized to bank employees that they must give next-day availability on any “cashier’s check.” Scam artists know this, and count on the fact that a U.S. depository bank may give too-rapid funds availability for a dummy Canadian cashier’s check.  But Reg CC does not include non-U.S. items.  A bank is potentially setting itself up for resulting losses on scams, if it provides funds availability faster than a check can reasonably clear, and faster than the bank is legally required to provide availability.  

Of course, for competitive reasons, banks regularly give faster funds availability than Reg CC requires.  But very few business customers actually have a need to deposit checks drawn on non-U.S. banks, and for those that do, the bank can make an exception. The foreign item scam scenario is not about legitimate business depositors that have international transactions. Rather, the problem typically arises on a consumer account, where the customer rarely has any legitimate need to deposit foreign items.  If a bank simply extends the hold on all foreign items on all consumer accounts, this may eliminate the potential loss on a number of scam transactions.  (The bad item would come back before the customer has funds availability.)

Second, I believe a bank may be within its rights to refuse to accept any non-U.S. check for deposit, if that’s what it wants to do in specific circumstances. (Adding language to the deposit agreement, reserving the bank’s right to decline the processing of any foreign item, might be useful.)  A bank always has a potential for financial loss if it takes unfamiliar items for deposit.  A bank could simply say, “I’m sorry.  We don’t handle international items at all. (Or only for commercial accounts that have made special arrangements.) You will have to take this to a larger bank.”  

Third, to avoid turning down a foreign item altogether, a depository bank can always take the position that it is only willing to send the item for collection.  If the item actually pays, the bank isn’t harmed and the customer isn’t harmed.  Meanwhile, the customer doesn’t get funds availability, and can’t withdraw the funds to wire them back to a crook, send a cashier’s check for the difference, etc.  

  Fourth, for a suspicious-looking cashier’s check or other check that looks like it’s drawn on a U.S. bank, I believe the depository bank can refuse to take it for deposit, turning the customer away.  (This may sound extreme. I’m just trying to lay out your full range of options as you consider what to do.) Or the bank can offer to send the item for collection.  Either way, the bank avoids a possible loss to itself or the customer.  (Again, it might help to have something in the deposit agreement, stating that the bank reserves the right, in its sole discretion, to refuse to handle any item either for deposit or collection.)

Once a depository bank actually takes for deposit a cashier’s check that is apparently drawn on a U.S. bank, it forces itself into following the Reg CC funds availability schedule, providing next-day availability (at least for the first $5,000 of a cashier’s check, even on a new account).  Before boxing itself into that situation, the bank should consider whether that’s a scenario it wants to live with in the case of a particular suspicious item.

The most critical decision point for avoiding loss to either the customer or the bank (when dealing with a suspicious cashier’s check and/or any transaction that “does not make sense”) is probably the point when the bank is deciding whether to accept the check for deposit at all.  (Admittedly, most banks do not think of this as a decision point, and so they just continue forward.)  Tellers often get quite busy, and don’t have time to find out more about an item before taking it for deposit.  But a teller can call a supervisor to take over the transaction if anything seems unusual.  Then the teller can go on dealing with all of the other people standing in line, while the supervisor gives as much attention as the unusual item or transaction requires.  It’s enough to say, “Items of this type have to be handled by my supervisor, Mrs. Jones, who knows more about this.  Let me call her.”

Fifth, know your customer. Whenever a depository bank has a bad feeling about a check and/or wonders why the specific customer is even involved with such an odd transaction, the bank probably should try to get more information before accepting the item for deposit.   If the customer refuses to provide information (and depending on how unusual the check or transaction is), it may be appropriate for the bank to decline to take the deposit.  

 It should always raise a red flag when the little old lady with no income except Social Security comes into the bank to deposit a $5,000 check because she has been hired as a “secret shopper,” or she wants to deposit a $9,500 cashier’s check drawn on a Canadian bank because she “has won the Canadian lottery.”  From a loss-control standpoint, if the bank just lets these situations go by without question, it’s asking for trouble.  A small-town bank is often in a better position than a metropolitan bank to know what transactions fit the specific customer, and what transactions don’t.

Sixth, even if a depository bank takes a check for deposit before realizing that there may be a problem with it, the bank can still take some “catch-up” steps afterward, to evaluate whether it needs to place a longer hold on the item or take other action.  Often the teller or a supervisor starts noticing the check more closely only after the customer has left.  For a foreign check, it’s still not too late to place an indefinite hold (because Reg CC does not apply).  For a check that appears to be drawn on a U.S. bank, the depository bank can do several things to determine whether the payor bank is “real” and whether the check is “good.” (More on this below.)

If the depository bank can determine, for example, that a check is so “bogus” that it’s drawn on a non-existent U.S. bank, then it’s not even really a “check,” because not on a U.S. “bank,” and the Reg CC funds availability schedule simply won’t apply. If sending it to the Fed would be pointless (not even drawn on a real bank), I would make a copy of the check, reverse the deposit, and ask the customer to pick it up. I quite possibly would file a suspicious activity report (but that’s optional, if the bank has no loss).  If the check has already started through the forward collection process when the depository bank learns that the item is drawn on a non-existent bank, the depository bank can reverse the deposit (it’s a “nothing,” not a check), or can impose a really long funds availability hold based on “reason to doubt collectibility,” waiting for the item to come back.

Seventh, I believe a bank can refuse to wire money on behalf of a customer. If the little old lady wants to wire back $5,000 to the Canadian lottery people, why can’t the bank just say “no,” if there’s no other way of explaining it to her or stopping her otherwise?  (It’s radical, but why can’t it be done?) Of course, she could always draw the money out and try to wire it from another bank. Maybe the shock of refusing to wire the money would slow her down enough that she could be stopped from taking the loss. Maybe even a quick call to the other bank in town, mentioning no names but suggesting that they not wire any money to Canada today, might be helpful, without violating privacy, if you really wanted to “throw yourself in front of the train” to save the little old lady from herself.   (Disclosures in the case of fraud, or to prevent fraud, are one of the permitted exceptions to the privacy rules.)  

There are a variety of methods that a depository bank can use to determine whether the bank on which a check is drawn is “real” and whether the check is “good.”  When the nature of the transaction (not the appearance of the check) suggests that a situation is a scam, you perhaps should assume that anything or everything on the check may be false, including the bank name, the routing number, the phone number to call regarding return items, etc.  All of it may be designed to defraud you, or to delay the check’s return to you.

When the transaction—or the check—is highly unusual, a bank perhaps should assume nothing, and try to independently verify everything that it can.  First, the depository bank can look up the ABA routing number that appears on the check, to see if it is a real routing number, and to verify that the routing number printed on the check actually belongs to the paying bank as shown on the check. (Of course, bank names change, such as by merger, but an old bank name that went out of existence a year or two ago is unlikely to be used on a cashier’s check dated this month.)

Crooks sometimes use one bank’s name and a different bank’s routing number on a dummy check, to cause delay in the processing and return of the item. (The two banks often try to send the check back and forth to each other.) If you discover a mismatch between bank name and routing number, and it’s not because of a merger situation, your bank should be on guard concerning the highly questionable nature of the item, possibly imposing an extended funds availability hold based on “reason to doubt collectibility.”  

If a cashier’s check looks good and has a routing number and paying bank name that match, but the nature of the transaction is still suspicious, the depository bank may be dealing with a dummy item drawn on a real bank.  In this situation, the depository bank should call the paying bank to determine whether the item is good.  However, if the item itself may be bogus, don’t automatically assume that the crook printed the correct “return item” phone number on the check.  (Why would he want to give you the correct number to find out easily that the check was bad?) In an elaborate scam, the phone number on the check may answer at or forward to an office connected with the crook who is perpetrating the hoax.  It’s best if you can independently search the internet (or use an ABA directory) to find the bank’s true address and phone number (to determine whether those match up with what appears on the check).  Then call the appropriate phone number to verify that the check is good.  Of course if the item is not good, the depository bank can place an indefinite funds availability hold on the deposit.