Reg CC

What is Local?
The Fed Reconsiders

The Federal Reserve Board has published an Advance Notice of Proposed Rulemaking ("ANPR") regarding the >
The Expedited Funds Availability Act ("EFAA") of 1987 provides a standard of two thirds as a rulemaking guide for the FRB. This means that the hold period for non-local checks should be approximately the time within which two thirds of returned checks are returned. This leaves banks holding the at-risk bag for only one third of the returned checks, a standard Congress deemed acceptable.

The FRB's review is driven in part by the fact that check clearing procedures are constantly improving - at least that is the assumption. This ANPR and public comment is the time to tell the FRB your bank's experience. Any future rulemaking - which would constitute a proposed regulatory change, a comment period, and a final rule - will be based on what the FRB learns from the industry in response to this ANPR. It may also be possible to persuade the FRB at this stage that the rule should not be changed. It all depends on you.

The first question - which is a question as well as an assumption behind the proposal - is whether the check clearing system has improved sufficiently to justify any change to Regulation CC's hold periods. This is a question of fact.

The FRB is basing its review on surveys of the system and of responses by selected banks. To refute the assumption that the clearing system has improved sufficiently to justify shortening hold periods for certain checks, banks will have to produce their experience supported with specific examples. There are several relevant issues to the issue of improvements in the system for returned checks: Has the number of days for receiving returned checks in fact been reduced by at least a day? Does the return rate differ at all for large and small banks, or for rural and urban banks? Do fraud losses relate to checks that are returned quickly, to checks that are returned slowly, or is there no correlation?

Does it make a difference to have a personal contact in a bank that has returned a check? Can your bank get faster returns?

If the Board concludes that reducing the hold period for certain non-local checks is justified, the next questions becomes how to do it. Here is where compliance nightmares begin. The underlying idea of this ANPR is to create three categories of checks, local, near-non-local, and far-non-local. The changes would not affect the exception holds, but would affect case-by-case holds as well as standard hold policies that use the maximum hold periods. This means that the front line, those highly skilled hold-placers with advanced degrees (high school or maybe junior college) would be dealing with three categories of checks instead of two as the base of the hold pyramid. Then there would be the additional calculations of time allowed for exception holds.

Do checks in the same Federal Reserve Bank district, even though not local, get returned faster than checks in other Federal Reserve districts?

Do checks within the state or a group of states get returned faster than checks drawn on banks located in other states?

Rulemaking at the Washington level of the Federal Reserve can very easily be focused on surveys and the statistical measurements of check returns. The statute itself directs the Federal Reserve Board to consider this.

But compliance may be a very different reality. The purpose for a public comment process is for the rulemaking agency to obtain information from the affected public (in this case, banks) about whether and how the proposed rule will work. To those in the compliance management profession, the most important question in this rulemaking procedure is not how fast checks are returned, but how effectively staff can be trained to carry out the regulatory requirements.

The top compliance problem in Regulation CC is placing holds incorrectly. Usually, the violation occurs for one of two reasons: failure to identify a check as local, or failure to calculate the number of days correctly. The ideas put forward in the FRB's ANPR would complicate, not simplify, what front line staff has to do.

Information on the feasibility of creating more hold categories that would be relevant to the FRB should include descriptions of your compliance training programs, the error rate in placing holds and preparing hold notices revealed in examinations and audits, and a description of the skill level and turnover of your teller line.

How easy or difficult this would be would depend on how the Regulation defined the 4-day and 5-day categories of non-local checks. One of the ideas put forward in the proposal is geographic proximity and transportation arrangements in the check clearing and return cycle.

One idea on the table is to reduce the non-local hold period from five to four days but permit a bank to certify that it does not receive at least two thirds of a category of non-local checks within fewer than five days. Thus, the bank could create its own category of non-local checks but would have to certify the return experience on a periodic basis. How frequently this would be done and how it would be done would also need to be established in the regulation.

The ANPR poses a series of questions. These include how to define categories of checks such as by pairing check processing regions, or the geographic proximity regardless of check processing regions. Related to the processing question is how banks should certify that a five-day hold period is appropriate and how frequently the bank should submit the certification. The FRB also seeks advice on the type of information that banks should collect to certify for the five-day hold period. Then there is the question of consumer disclosures. If the FRB were to implement a mixed system for non-local checks, how should notices communicate this information to consumers?

Finally, the goal is to strike the optimum balance between consumer interests in having access to their funds and prevention of fraud losses. Therefore, it will be relevant to provide information on the extent to which consumers are either served or inconvenienced by the current rule. Remember - if you don't offer specific information about the bank's experience, the ideas behind this ANPR will become a regulation. It's up to you.

ACTION STEPS

Review your hold notices for the past year. Calculate a percentage of errors and prepare a brief description of those errors. Break down the errors into exception holds and case-by-case holds.
Identify how many errors in hold notices involved identification of local and non-local checks. If you find a significant number of these (you decide how many is significant) use this information in a comment letter.
Review all returned checks for the past year. Chart out the number of days it took to receive the returns. Of the checks returned, how many were bad?
Talk with some branch managers about hold practices, check fraud, and suspicious activity. Your goal is to get a feel for how things work at teller stations and what the issues of concern are for your bank.
While you are talking with branch managers, find out what their customers think about the bank's hold policies. If your customers are not inconvenienced by the present system, there should be no need for change.
Now that you have compiled and worked over information relating to returned checks and check holds, estimate the cost of preparing a certification to the FRB on an annual basis to support a five-day hold.
Tell them what it would cost.