Positive Pay and Its Impact

¶ … positive pay and its impact on the reduction of check fraud issues. The writer explores how a positive pay system can help reduce the incidence of check fraud for individual companies and corporations.

There were five sources used to complete this paper.

USING POSITIVE PAY at the LARGE CORPORATION

As the world of technology continues to increase, mankind has reached heights never before imagined. Today, with the click of a mouse one can plan and pay for vacations, manage stock portfolios, shop around the world and research any topic they are interested in. It has been a significant benefit to mankind, however, with the positive aspects of technology also comes some negative aspects of its use.

Check fraud losses are on the rise throughout America. In 1999 there was an estimated loss of $15 billion due to check fraud according to statistics compiled by the United States government (Statistics (http://www.ipsboston.com/pdcfpps_statistics.htm).The losses were not confined to one or two financial institutions either. Reports indicate that 99% of all large banks experienced check fraud loss (Statistics (http://www.ipsboston.com/pdcfpps_statistics.htm).

Experts believe that these figures are an under estimate because many companies do not want to admit or broadcast the fact that they have been victims of check fraud.

In 1999 there were a reported 447,342 cases of check fraud in the United States committed against large financial institutions (Statistics (http://www.ipsboston.com/pdcfpps_statistics.htm).

That number has continued to increase each year. In 2003 there was a 17% increase in the incidence of check fraud and in the following year there was another 28% increase in the incidence of check fraud (Statistics (http://www.ipsboston.com/pdcfpps_statistics.htm).

Ernst & Young LLP estimates that more than 500 million checks are forged each year, with losses exceeding $10 billion. According to an American Banker report check fraud losses are expected to grow 25% annually. For the period of April 1996 through January 1, 1999, the FBI received 53,085 Suspicious Activity Reports (SARs) for criminal activity related to check fraud, counterfeit negotiable instrument and related schemes. These schemes accounted for 35.5% of the 149,532 SARs filed by U.S. financial institutions (excluding Bank Secrecy Act violations), and equaled approximately $1.76 billion in losses (Statistics (http://www.ipsboston.com/pdcfpps_statistics.htm)."

In a cash management survey conducted by PSI Global, of the 16 banking services surveyed positive pay was one of the least used. Only 51% of companies over $249 million in sales used positive pay services, 20% of companies with sales between $100 and $249 million, and only 5% of companies surveyed with sales of less than $100 million used positive pay services (Statistics (http://www.ipsboston.com/pdcfpps_statistics.htm)."

As check fraud problems for businesses continue to rise, the use of the system by multi-billion dollar corporation should be examined and increased.

Check fraud losses are estimated to be more than 15 times greater than losses due to credit card and ATM fraud and bank robbery losses combined. (4) During the late 1980's and early 1990's, approximately 60% of the fraud reported by financial institutions related to bank insider abuse. Since then, external fraud schemes have replaced bank insider abuse as the dominant Financial Institution Fraud problem (Statistics (http://www.ipsboston.com/pdcfpps_statistics.htm)."

Using a positive pay system with the bank can help significantly reduce the number of check fraud successes, thereby increasing the company's bottom line.

SOME FACTS

In researching check fraud scams some interesting information came to light. The FBI recently performed a study that concluded a full 65% of all check fraud cases that involve more than $100,000 are committed by a non-bank employer insider (Statistics (http://www.ipsboston.com/pdcfpps_statistics.htm).

January, 1997 Ernst & Young's Annual Cash Management Survey reported that 83% of the 76 banks participating in the study offered positive pay for general disbursement items, up from 80% in 1996. Among the largest U.S. banks, an average 31% of their reconciled checks were on positive pay, up from 26% in 1996(Statistics (http://www.ipsboston.com/pdcfpps_statistics.htm)."

In another survey by the Federal Reserve it was found that the average turn around for a check to go from the depository bank to the paying bank and then back to the depository bank was 5.5 days (Statistics (http://www.ipsboston.com/pdcfpps_statistics.htm).

Another recent study determined that "44% of the criminal referrals submitted to the FBI by financial institutions in fiscal year 1996 were for counterfeit and other fraudulent checks. The FBI estimates, that approximately 50% of the stolen and counterfeit check activity is driven by organized criminal groups, including ethnic and other domestic groups (Statistics (http://www.ipsboston.com/pdcfpps_statistics.htm)."

The cost of check fraud to the average sized company is more than $360,000 annually as was reported in a study that surveyed over 2,000 large United States companies. United States merchants are also seeing an increase in check fraud and have taken in more than $13 billion fraudulent checks annually for the past few years (Statistics (http://www.ipsboston.com/pdcfpps_statistics.htm).

Other statistics that have been uncovered during check fraud research include:

99% of all large banks ($5 billion + in assets) incurred check fraud losses in 1995(Statistics (http://www.ipsboston.com/pdcfpps_statistics.htm).

96% of medium sized banks ($.5 to$5 billion in assets) incurred check fraud losses in 1995. The check fraud losses incurred by commercial banks in 1995 were about 1% of their profits (Statistics (http://www.ipsboston.com/pdcfpps_statistics.htm).

The estimated value of all check fraud losses at commercial banks, credit unions and savings institutions in 1995 was $615 million. (Although the reported $615 million consists of large dollar items that would cause an investigation by an institution). Checks drawn on local banks accounted for approximately 72% of total dollar losses in 1995(Statistics (http://www.ipsboston.com/pdcfpps_statistics.htm)."

The FDIC stated that most experts estimated losses in the U.S. from stolen, forged, and counterfeit checks to exceed $10 billion annually. (2) an estimated 65 billion checks are written in the U.S. each year, 80 billion in the rest of the world combined.

According to the American Bankers Association only 54.5% of banks with over $5 billion in assets offer a positive pay service, while just 6.5% of midsized banks do so. On average there were 1.7 million returned or bounced checks each day, totaling $51 million daily (Statistics (http://www.ipsboston.com/pdcfpps_statistics.htm)."

As the power of technology continues to increase the problems with check fraud also are on the rise. With lower cost access to computers and the Internet than ever before it has become a common criminal activity to use the technology available to society to commit crimes against that same society including large corporations.

Laser printers and other tools of modern day technology have been utilized to create fraudulent checks to the tune of billions of dollars according to national statistics.

One recent study indicates that the funds lost to check fraud is more than 12 times the amount that businesses and banks lose to actual robberies.

WHAT IS CHECK FRAUD

Before one can begin to advocate the use of positive pay for a billion dollar corporation it is important that one have a solid understanding of what check fraud is, how it works and how it is done.

While many people think that check fraud is limited to accounts payable or accounts receivable the truth is check fraud encompasses a wide range of illegally gained money.

Some of the types of check fraud that larger corporation commonly encounter include:

Counterfeit

Altered

Forgery

Closed Account (Paperhanging)

New Account

Identity Assumption

Kiting (Check fraud (http://www.ipsboston.com/pdcfpps_typesofcheckfraud.htm)" counterfeit check is a check that is an exact replica or imitation of a real check. The checks have bank account numbers on the bottom of them that are of a valid and active bank account.

Some criminals that want to commit check fraud using counterfeit checks will gather bank information, and place an order with a check printing company. Once they arrive, they are imprinted with the bank account number on them and they are used to make purchases or pay debts but the money comes from the stolen bank account information until that corporation discovers the fraud.

Counterfeit checks, also includes checks that are presented for payment using fraudulent identification (Check fraud (http://www.ipsboston.com/pdcfpps_typesofcheckfraud.htm)."

Altered checks are used in check fraud scams by using a legitimate check and altering it without permission. One of the most common alterations on a check is the amount that it is drawn for. For example, a check may be written for $20,000 off of a corporate bank account. The criminal will take that check and alter it to read $200,000 instead.

Before doing the alternation most criminals will call the bank of the corporate check writer and be sure the funds are there to alter it so as not to raise suspicion by writing a check so large that it is returned as an overdraft. This provides the criminal time to get away before the fraud is discovered, and it allows the criminal to write more checks in the future because it will take time for the corporation to discover the fraud and put a hold or stop on the account.

Forgery refers to stolen checks. Legitimate, and unused, check stock is acquired by criminals who then create bogus checks and forge the payer signature (Check fraud (http://www.ipsboston.com/pdcfpps_typesofcheckfraud.htm).

Forgery also includes forged endorsements, where a valid check is issued but the is lost or stolen before the payee receives it. The payee's endorsement is then forged and a criminal represents himself as the payee (Check fraud (http://www.ipsboston.com/pdcfpps_typesofcheckfraud.htm)."

In addition to the above methods of fraud, criminals often write checks on a close account and it takes time for the corporation receiving the check to find out that the account has been closed.

Criminals also open bank accounts using either fraudulent identification or by assuming the identity of others and commit fraud by depositing bogus checks. Criminals exploit the lag between the availability of funds provided by the depositary bank and the notification by the paying bank of the returned bogus check (Check fraud (http://www.ipsboston.com/pdcfpps_typesofcheckfraud.htm)."

WHY POSITIVE PAY IS a VALID OPTION

With the advances current technology offers the ability for outsiders to commit check fraud continues to increase.

Along with the technological advances, decreasing costs and wide spread availability of these products have made even sophisticated tools affordable to obtain. Now almost anyone with a basic knowledge of computers and software can attempt check fraud. Criminals have easy access to all of the tools necessary to commit check fraud and with the aid of these tools no specialized knowledge or skills are needed (Increasing problem (http://www.ipsboston.com/pdcfpps_whyitsgrowing.htm)."

Because there are more than 65 billion checks processed through the nation's banks each year, there is no way for each bank to visually inspect each check anymore, which opens the door for check fraud to continue to increase as technology provides methods to full computer systems.

At times even visual inspection can't determine if a check is counterfeit. Using a positive pay service would identify counterfeit checks upon presentment. However, without positive pay any counterfeit checks may not be detected until a company receives and reviews their bank statement, which is too late to avoid losses (Increasing problem (http://www.ipsboston.com/pdcfpps_whyitsgrowing.htm)."

Using a positive system helps a company reduce or eliminate the cases of check fraud it might otherwise face.

The basic premise of positive pay is that the bank matches the check serial number and the dollar amounts against a provided list of written checks that the company provides to the bank. If the information matches, the checks are paid. If they don't match, the checks are not paid.

The easiest way to describe positive pay is that is an automated system, designed to detect fraud in checks. It is offered through the Cash Management Department of many of the world larger banking systems including most of the banks that are found in the United States (Overview of Positive Pay (http://www.positivepay.net/).

In its simplest form, it is a service that matches the account number, check number and dollar amount of each check presented for payment against a list of checks previously authorized and issued by the company. All three components of the check must match exactly or it will not pay (Overview of Positive Pay (http://www.positivepay.net/)."

These are sometimes referred to as trigger points.

The way it works provides a set of checks and balances that must be followed for the checks to be paid.

The bank receives a transmitted file of checks that the company issued that day. When the checks are presented to the bank for payment the checks are individually checked against that list of transmitted checks. This is all done electronically so it does not involve additional manpower, and it removes the possibility of human error or the desire to cheat the system by an inside criminal.