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Wednesday, September 25, 2002
U.S. House of Representatives,
Subcommittee on Financial Institutions
And Consumer Credit,
Committee on Financial Services,
Washington, D.C.

    The subcommittee met, pursuant to call, at 10:12 a.m., in Room 2128, Rayburn House Office Building, Hon. Michael Oxley [chairman of the full committee] presiding.

    Present: Representatives Royce, Lucas of Oklahoma, Kelly, Gillmor, Grucci, Ferguson, Tiberi, Waters, Watt, Bentsen, Sherman, Moore, Ford, Hinojosa, Lucas of Kentucky and Inslee.

    The CHAIRMAN. [Presiding.] The committee will come to order.
    The chair would like to announce that the reason that Chairman Bachus is not here is that his 85-year-old mother had fallen and broken her hip this morning and he is now en route to Alabama to be with her. Obviously, all of us on the committee wish Chairman Bachus' mother a speedy recovery. I will begin the hearing and stay as long as I can, and then Ms. Kelly will assume the chair.
    I want to begin by thanking Chairman Bachus for arranging this important hearing on the bipartisan legislation introduced by the gentleman from New Jersey, Mr. Ferguson and the gentleman from Tennessee, Mr. Ford. I would also like to thank the panel of witnesses who have come to testify before the subcommittee and give their insights into the need for this legislation. In particular, I want to welcome Mr. Lee Schram of NCR, based in my home state of Ohio in Dayton, and Mr. Joe Biggerstaff of AirNet Systems, based in Columbus, Ohio. I am looking forward to your thoughts and comments. I want to particularly thank Chairman Bachus for having two Ohioans testify before his committee.
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    When I became chairman of the Financial Services Committee, one of my primary goals was to ensure that U.S. financial institutions have the tools to operate in the most efficient manner possible, while maintaining the safety and soundness of the financial system. I believe we must implement the technological advances made in the field of payment systems to provide customers with expedited access to capital and credit, while ensuring that they are protected from fraud. The Check 21 legislation clearly achieves that goal.
    Additionally, significant cost savings to customers and financial institutions will be realized with increased electronic check presentment. Too often we are hamstrung in our efforts to provide U.S. businesses and customers with access to the most effective means of dealing with one another.
    There is another important reason why this legislation is needed. The terror attacks of last year forced us to reexamine how our country operates under adverse circumstances. This committee has been at the forefront of the efforts to ensure the integrity of our capital markets, to protect the U.S. money supply, to provide insurance against terror attacks, and with Mr. Ferguson's proposal and Mr. Ford's proposal, to safeguard the U.S. payment system against interruptions in transportation services.
    So I anticipate we will hear from several of the witnesses. The days following September 11, 2002, placed the U.S. payments system in crisis when the flights that normally transported checks between banks across the country were grounded. With the enactment of Check 21, the need for the physical transportation of checks between financial institutions will be reduced, and any threat to the transportation system will not affect the presentment of checks in the payment system.
    Finally, I would like to thank the Federal Reserve for its hard work in helping develop H.R. 5414 in consultation with this committee and other interested parties. I am hopeful we can achieve broad bipartisan support to move this proposal early in the next session. I am looking forward to the discussion on this legislation on future innovations in the U.S. payments system.
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    I now yield to the gentlelady from California, the ranking member of the subcommittee.
    [The prepared statement of Hon. Michael G. Oxley can be found on page 40 in the appendix.]
    Ms. WATERS. Thank you very much, Mr. Chairman.
    We are here today to discuss the Check Clearing for the 21st Century Act. This legislation considers the transformation of our nation's payment system from a physical one to an electronic one. I have heard many arguments for and against this legislation, but my concern today is to ensure that we have a balanced bill that also focuses on issues that are vital to consumers. I am not opposed to the principle of having an efficient payment system in our country which would reduce significantly the check clearing time and provide substantial savings to the federal government and financial institutions as it relates to the transportation of physical checks. If this process requires elimination of paper checks, then so be it. Personally, I do not receive my checks back from my bank and that is by choice. This legislation should be about choice. It is my understanding that this legislation will eliminate the ability of millions of U.S. customers to get their checks back. There are currently 45.8 million households who enjoy receiving their checks back with their bank statements. This legislation will force them to change their practices. I do not support the fact that consumers have to give up their rights to receive their checks back. These 45.8 million American households should have the choice to say no to substitute checks.
    Another concern I have is the issue of recredit. For example, if a check is paid twice or for the wrong amount, it is my understanding that this legislation does not grant the consumer an automatic right to a recredit of the disputed funds. In fact, consumers whose accounts are governed by a voluntary check truncation agreement will not receive the right of recredit. Instead, they will have to wait months to get their funds returned since there is no limit on how long the bank can take to resolve a dispute about a check. My question is, what are the additional levels of protection a consumer has that proponents of this legislation are talking about? Does this proposed legislation cover this?
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    The issue of privacy is also a big concern of mine. There is a great deal of personal information conveyed on the face of a check, such as the name, address, telephone number and the Social Security of the issuer as well as the payee's name. When this information is captured and stored in a shared database through electronic imaging, banks can determine the consumer's check spending habits. Information about the consumer's religious, political and lifestyle affiliations can be revealed easily. Will this legislation take the invasion of a consumer's privacy under consideration?
    What about the issue of availability? If customers accounts are going to be debited faster, will the funds be made available to them faster. Is the legislation taking this into consideration?
    Having brought up the aforementioned issues to light, I look forward to the testimonies of the distinguished witnesses on the panel today and I hope to find answers to my questions.
    I yield back the balance of my time, and I thank you.
    The CHAIRMAN. The gentlelady yields back. Are there further opening statements?
    The gentlelady from New Jersey—well close enough..
    Mrs. KELLY. New York.
    The CHAIRMAN. Yes.
    Mrs. KELLY. We do not consider it close enough. We like the state as it is.
    Thank you, Mr. Chairman.
    Last week, the gentleman from New Jersey, Mr. Ferguson, and the gentleman from Tennessee, Mr. Ford, introduced H.R. 5414, Check Clearing for the 21st Century Act, or Check 21. This builds on a legislative proposal that the Federal Reserve submitted to Congress last December. We are very pleased to have the Federal Reserve represented here by Mr. Ferguson, as well as the distinguished group of other public and private sector witnesses.
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    Characterized by innovation, efficiency and speed, our nation's payment system has no equal in the world. And yet one of the many hard lessons that we learned in the aftermath of September 11 terrorist attacks is that this system is not without vulnerabilities. With planes grounded and the nation's air traffic system at a standstill, the check collection process which relies heavily on air and ground transportation to move checks around the country experienced serious disruptions. Since one of the terrorists' stated goals is crippling the U.S. economy, it is clearly in our national security interest to take those steps reasonably necessary to insulate the payment system from the effects of future terrorist attacks that target our financial centers and other critical infrastructures.
    While there has been a marked decline in the use of paper checks in recent years, as consumers rely more heavily on credit and debit cards and ATMs and other forms of electronic payments, Americans still write more than 40 billion checks annually, according to the Federal Reserve estimates. In processing this huge volume of paper checks, banks and credit unions are already realizing significant benefits for themselves and their customers through the use of electronic presentment and check imaging technology. H.R. 5414 will help speed those innovations in the marketplace by removing legal impediments to electronic check processing, thereby promoting greater efficiency in the overall payment system and reducing the system's current reliance on the nation's transportation grid.
    Consumers will benefit from a more electronic banking environment. Already, many institutions are deploying new technology to offer their customers enhanced products and services, including access to images of checks they have written on secure web sites and even ATMs. The Federal Reserve has identified other potential consumer benefits from the proposed changes to the payments system, such as broader deposit options and more timely account information and faster check collection and return.
    Since receiving the Federal Reserve's check truncation proposal last December, the committee has engaged in extensive outreach to all interested parties including regulators, the banking and credit union industries, and consumer groups. H.R. 5414 is the product of all these consultations. While it does not reflect perfect consensus on all issues, the legislation is an excellent first step toward the creation of a payment system for the 21st century.
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    Let me again commend Mr. Ferguson and Mr. Ford for their collaboration on this important work. Thank you. I yield back my time to the chairman, the gentleman from West Virginia—or close enough.
    The CHAIRMAN. All right. Touche.
    Are there further opening statements? The gentleman from New Jersey, the author of said legislation.
    Mr. FERGUSON. The gentlelady from New York and the gentleman from Ohio are both welcome in New Jersey anytime they would like.
    Mr. Chairman, I want to thank you and Mr. Bachus for scheduling this important hearing on legislation that will help modernize the nation's check payment system and bring paper checks into the electronic age. As you know, current law requires banks to physically present and return original checks. This is a tedious and antiquated process that is inefficient, expensive and it is rife with potential for fraud. Today, millions of paper checks are physically transported between banks every day—a system that has historically relied on the steady flow of air and ground traffic in order to ensure that checks are presented to paying banks in a timely manner.
    When the horrific events of September 11 halted all air traffic in the United States, hundreds of millions of checks did not move and the U.S. payments system was stalled. This created a situation that severely threatened our economic security. As a result, the Federal Reserve after consulting with the banking industry and technology companies and consumer groups, submitted a proposal to Congress that would reduce the need for physical transportation of checks through increased electronic truncation. Since the Fed's proposal, this committee has been actively engaged in a dialogue with many interested parties, many of whom are represented here today.
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    Last week, Congressman Ford and I introduced the Check Clearing for the 21st Century Act, or Check 21, which builds on the Federal Reserve's proposal to modernize the nation's check payment system by allowing banks to exchange checks electronically. The legislation strengthens our economic security by capitalizing on existing technology to make the collection process faster and more efficient, while improving customer service, access to funds, and anti-fraud protections. By reducing the dependence of the check payment system on transportation networks, Check 21 will help to avoid negative economic impacts from unexpected disruptions to the outdated transportation system, whether caused by weather, natural disaster, terrorist attack or any other type of crisis. It will help to provide the framework for new financial infrastructure that is stronger, smarter and allows financial institutions to better serve consumers with quality, efficient products and services at greater cost savings.
    I am pleased with the constructive feedback that we have already received from many of our witnesses here today and others, as well as the interest and support that my colleagues that expressed on this issue. While I believe that the Check 21 legislation is a sound product that reflects a multitude of views, I recognize that there is much work that needs to be done before we move toward a final product. I look forward to hearing the testimony and certainly welcome our witnesses and appreciate the testimony that they will be sharing with us here today on this important issue.
    I yield back.
    The CHAIRMAN. The gentleman yields back. The chair would indicate unanimous consent for any member to submit an opening statement for the record. Without objection, so ordered.
    The chair would note that there are a series of votes—three votes on the floor of the House. What I would like to do is get started with the witnesses and then we will suspend and return. Let me introduce our first panel, the Honorable Roger W. Ferguson, Jr., vice chairman of the Board of Governors at the Federal Reserve. Mr. Ferguson, welcome back to the panel. Our second witness on this panel, Mr. Robert M. Fenner, general counsel of the National Credit Union Administration. I think this is your first appearance before the committee, is it not?
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    Mr. FENNER. In some years.
    The CHAIRMAN. In some years. Okay.
    Well, it is good to have both of you here and we appreciate your participation in this hearing. Mr. Ferguson, we will go with you first.


    Mr. FERGUSON. I would like to thank the subcommittee for inviting me to discuss H.R. 5414, the proposed Check Clearing for the 21st Century Act. Since many of the members have already referred to the work of the Federal Reserve system, I would like to also do something which is frankly unprecedented, and acknowledge the strong work of three of the staff members who are here with me today—Stephanie Martin, Louise Roseman and Jack Walton.
    This bill, which is similar to a proposal the board sent to Congress late last year, will remove existing legal barriers to the use of new technology in check processing, and holds the promise of a more efficient check collection system. The board commends Representative Ferguson and Representative Ford for introducing this bill.
    Check processing is far more efficient than it once was. Less than 50 years ago, clerks hand-sorted millions of checks each day. In the 1960s, the banking industry began to use mechanical high-speed check processing equipment to read and sort checks. Today, banks, thrifts and credit unions, which I will collectively refer to as banks, process, as you have already noted, more than 40 billion checks that consumers, businesses and the government write each year.
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    Legal impediments, however, have prevented the banking industry from fully using new electronic technologies such as digital imaging, to improve check processing efficiency and provide improved services to customers. This is because existing law requires that the original paper checks be presented for payment unless the banks involved agree otherwise. During each step of the check collection process, the check must be physically shipped to its destination by air or ground transportation from the branch or ATM of deposit to the bank's operations center and often through one or more intermediaries before being delivered to the bank on which it was drawn. Of course, banks can agree to accept checks electronically, but the large number of banks in the United States makes it unfeasible for any one bank to obtain such agreements from all other banks, or even a large proportion of them.
    Therefore, legal changes are needed to facilitate the use of technologies that could improve check processing efficiency, which should lead to substantial reductions in transportation and other check processing costs. H.R. 5414 makes such changes. The proposed Check Clearing for the 21st Century Act solves a longstanding dilemma—how to foster check truncation earlier in the check collection or return process, without mandating that banks accept checks in electronic form. The Act facilitates check truncation by creating a new negotiable instrument called a substitute check which would permit banks to truncate the original checks, to process the check information electronically and to deliver substitute checks to banks that want to continue receiving paper checks.
    A substitute check, which would be the legal equivalent of the original check, would include all the information contained on the original check—that is, an image of the front and back of the check, as well as the machine-readable numbers that appear on the bottom of the check. Under this Act, while a bank could no longer demand to receive the original check, it could still demand to receive a paper check. Because substitute checks could be processed just like original checks, a bank would not need to invest in any new technology or otherwise change its current check processing operations.
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    This change would permit banks to stop transporting original checks and would enable the banking industry to reduce its reliance on physical transportation, thereby reducing the risk that checks may be delayed in transit, for example, due to inclement weather. The banking industry's extensive reliance on air transportation was underscored in the aftermath of the September 11 tragedy, when air transportation came to a standstill and the flow of checks slowed dramatically. During the week of the attacks, the Federal Reserve banks' daily check flow ballooned to more than $47 billion, which is more than 100 times its normal level. Had the proposed legislation been in effect at that time, banks may have been able to collect many more checks by transmitting electronic check information across the country and presenting substitute checks to paying banks.
    The Act might also better position banks to provide new and improved services to their customers. For example, banks might allow some corporate customers to transmit their deposits electronically. Further, if banks begin to transmit check images from the point of deposit to their operations centers for processing, they may be able to establish branches or ATMs in more remote locations and provide later deposit cut-off hours to their customers. Because the Act will likely encourage greater investments in image technology, banks might also be able to expand their customers' access to enhanced account information and check images through the Internet. In addition, banks might be able to resolve customer inquiries more easily and quickly than today by accessing check images.
    We recognize that the most challenging policy issues in the proposed law and the aspect of this legislation that has generated the most spirited discussion relates to customer protections. Current check law protects customers if there is an unauthorized debit to their accounts. A customer already has a claim against its bank for an unauthorized charge, and the bank may be liable for interest on the amount of the unauthorized charge and consequential damages for the wrongful dishonor of any subsequently presented check.
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    The proposed legislation applies these existing check protections to substitute checks. There are, however, differing views as to whether additional customer protections are necessary for substitute checks and if so, how extensive those protections should be. We believe that in determining the form these protections should take, the associated benefits and costs will need to be carefully balanced. There are some technical matters in the current version of the bill that could be improved or clarified and we look forward to working with the committee as it further considers this legislation.
    In conclusion, although an increasing number of payments are being made electronically, it is clear that checks will continue to play an important role in the nation's payments system for the foreseeable future. We believe that over the long run, the concepts embodied in the proposed Check Clearing for the 21st Century Act will spur the use of new technologies to improve the efficiency of the nation's check collection system and provide better services to bank customers.
    It is important to recognize three fundamental facts. First, the proposed Act merely replaces one piece of paper, the check, with another piece of paper, the substitute check, both of which contain exactly the same information front and back. Secondly, the proposed legislation lightens the regulatory burden on banks. And the third benefit is that it removes barriers to progress in this important area of payment systems. Because the Act should also result in substantial cost savings, it would also be desirable to begin obtaining these savings in the near future, ideally before the bill's proposed 2006 effective date.
    Thank you for your time, and I would be happy to answer your questions.

    [The prepared statement of Roger W. Ferguson Jr. can be found on page 62 in the appendix.]
    The CHAIRMAN. Thank you, Mr. Ferguson. It is the intention of the chair to recess the committee to go over to the floor and vote, and then we will begin with Mr. Fenner when we return. The committee stands in recess for probably 20 minutes.
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    The CHAIRMAN. The committee will reconvene. Before recognizing Mr. Fenner, the chair would ask unanimous consent that the imaging exhibit that Mr. Ferguson referred to in his testimony be made part of the record so that the members can actually get a look at the process. Without objection, so ordered.
    We now turn to the aforementioned Mr. Fenner. Mr. Fenner, I am sorry for that delay, but you are now recognized for your testimony.


    Mr. FENNER. Thank you, Chairman Oxley and members of the subcommittee. I am pleased to be here to report on NCUA's experience with truncation of sharedrafts in the credit union system. From 1974 when NCUA first authorized sharedraft accounts, which are the credit union version of checking accounts, until 1982, NCUA regulations actually required truncation. Truncation was an integral part of the early proposals that were developed in the credit union system for sharedraft programs, and NCUA believed that requiring truncation would foster the development of a more efficient system of checking accounts for credit unions and their members.
    In practical terms, what truncation in credit unions meant then and what it means now is that when a member writes a check on the member's account at the credit union, the draft or the check proceeds all the way through the clearing process to the point where it is truncated or held by either the credit union or its corporate credit union or other processor. At that point, the information on the draft is stored electronically and printed on the member's monthly statement. In some cases, electronic images of the draft are returned with the statement, but that is not required.
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    When a member requests production of the original draft or a copy, the issue of fees is determined by agreement between the credit union and the member, and also issues of liability in the case of fraud or improper debiting or the like are determined under the Uniform Commercial Code and other relevant law. Since 1982, NCUA has not required truncation, but rather our regulations now leave that decision to the individual credit unions. Nonetheless, today 20 years later, 91 percent of all credit unions that offer sharedraft accounts do utilize truncation. We believe that that is the best evidence that truncation has been both a cost-effective innovation and one that is well accepted by credit union members.
    Moreover, our evidence suggests that truncation has not been a frequent source of credit union member complaint. Surveys of our regional offices over the last two years have revealed no unusual hardships to credit union members, and only two instances of complaints made to NCUA. Both of those complaints related to fees associated with obtaining the original or a copy of a canceled draft, and that is an issue that we believe should be determined in the marketplace, and not by government regulation.
    In closing, considering our positive experience with truncation, we are pleased to support the initiatives being considered by the subcommittee that would facilitate truncation at a much earlier stage in the collection process than the practices that exist in credit unions today, and also allow truncation of the check return process. We believe this legislation would clearly facilitate broader use of truncation and in our view it would improve the efficiencies of the payment system.
    Thank you.

    [The prepared statement of Robert M. Fenner can be found on page 55 in the appendix.]
    The CHAIRMAN. Thank you, Mr. Fenner.
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    Let me begin the questioning with Mr. Ferguson. In the Fed's initial proposal, Treasury checks were exempted from being electronically truncated. Can you explain to the subcommittee why this provision was included in the initial draft? Assuming that there will be universal security precautions, shouldn't we be able to assume the safety of both federal checks and of private checks?
    Mr. FERGUSON. That is obviously a very good question. You are right to note that in the draft that had been originally sent up from the Board, an exemption for the Treasury was included. That was included explicitly after some discussion with the Treasury. I do note that in H.R. 5414, there is no such exemption. From my personal point of view, and I think others who have thought about this would share this perspective, if the government through the course of the Congress and then through legislation signed by the president, believes that this approach as put forward in H.R. 5414 is a proper approach, then I would think it is quite reasonable for representatives of the Treasury to come forward to Congress and explain why it is that one set of checks issued by the government should be exempt from a procedure when we are allowing it for others.
    The other thing to recognize is, as I have said before, this is really a question in which there are options being presented. Truncation is not being mandated. I do not think we should have the debate about truncation, so much as about whether or not one piece of paper should be allowed to substitute for another. But to answer your question again on the Treasury, I think it is appropriate since it is not included in the Act, for them to simply come forward and explain their rationale. That seems to me a perfectly reasonable place to start this discussion.
    The CHAIRMAN. We appreciate the Fed's efforts in this regard to modernize our payments system. Have you had any estimates as to how much money the government can save as a result of this legislation?
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    Mr. FERGUSON. What we know overall, not just the government, but overall in the country, the cost of processing checks is about 50 cents per check, which is about $20 billion given that there are 42-43 billion checks written. It is very hard to get a sound estimate of the savings that would emerge out of this proposed bill for the following reason. The way the bill works, it is really up to each individual bank to decide the degree to which they want to pursue this process of creating substitute checks, as opposed to sending paper checks through the system. The bill does something very clever, and I commend you for it, it puts the onus, if you will, on banks to look at both the benefits and the costs to determining whether or not they want to pursue this path. Since we do not know at this stage the answers from all of the banks that might be open to using a substitute check, it is very hard to figure out what the cost savings would be.
    I would also encourage you—I know there will be some bankers who may have some experience and some exposure in this area—they may be able to give you the individual institution's perspectives, but we have not attempted to try to quantify particular savings here for the country overall, recognizing that there are decisions that will be made by individual institutions.
    The CHAIRMAN. Thank you.
    Mr. Fenner, NCUA adopted truncation back in 1980, and it did so even though there were some objections raised by the opponents for such a change. What has been your experience in this change? Is there any potential undue harm done to consumers because of the system that you have developed?
    Mr. FENNER. The potential is always there, of course, but our experience has been very positive.
    The CHAIRMAN. Have you had any horror stories in those 20-some years?
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    Mr. FENNER. No, we do not. We actually first authorized sharedrafts for credit unions way back in 1974. From that time until 1982, we required truncation. We stopped requiring it when we deregulated in 1982, so for the last 20 years, it has been the choice of each individual credit union whether to truncate the drafts or return them to the member. There is something in the range of 6,000 credit unions offering sharedraft programs today. Over 90 percent, over 5,000 of them still make the choice to truncate. What that suggests to us is that they find it to be more efficient and that their members accept it.
    The one specific piece of information I can give you about consumer complaints is that we did survey our regional offices. In the last two years, we have had only two complaints come to our attention from credit union members, and those were complaints about the fees that they were assessed for obtaining an original or a copy of a draft that they needed.
    The CHAIRMAN. If you could just take me briefly through—I am a member of the Wright-Patman Federal Credit Union here on the Hill. I write checks to all kinds of folks. Take me through the process as to how the system works today, versus what it was before 1980. I would not notice any real difference unless I insisted on having my canceled checks, right?
    Mr. FENNER. The only difference which I think is immaterial to the credit union member is that until 1980, credit unions were required to use what we call a payable-through bank and truncate at that point. Now, they are allowed to truncate at the credit union, at their corporate credit union or at their other processor. But in all of those situations, it is the case that truncation for credit unions takes place very late in the clearing process, either at the credit union or at the point where their processor receives the draft.
    The CHAIRMAN. It is true, though, that the sooner in the process, earlier in the process you can truncate, the more savings that are acquired?
    Mr. FENNER. The more cost-efficiencies in the collection and processing of the system, and that is why most credit unions truncate today. This legislation, if it were enacted, would give them the ability to truncate at an earlier stage and provide more efficiencies.
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    The CHAIRMAN. Very good.
    My time has expired. The gentlelady from California, Ms. Waters?
    The gentleman from Texas?
    Mr. BENTSEN. Thank you, Mr. Chairman.
    I do have a couple of questions. Governor Ferguson, the bill has certain consumer protections that I want to ask you about, then I want to ask you about the whole clearance and payments. This is a pretty low-tech issue, but thinking about this bill, I have had a couple of experiences of my own. I was talking to staff about one where I had paid a phone bill back in Texas, and went through a six-month debate with the phone company over whether or not I had actually paid the bill. Finally, they said you are going to have to send us a check, and my bank has an image form check that they give you of just the front. So then I had to order from the bank the image form front and back and fax it to the phone company, which of course was a disaster because then they could not read the fax. Ultimately, seven months later, the phone company realized that the check I wrote them for $39.50 or whatever it was had been deposited in a wrong account and so they credited my account and we worked it all out and the phone company did not go bankrupt because they did not get my $39.50.
    I had another instance where I had a check from a prior employer some years back that I deposited in my account, and for whatever reason the number was misread on the back and it did not go into my account, it went into some omnibus account within the bank. Ultimately, I went back to my employer, got the check as it cleared. They found that in fact it did not go in there. Well, it was a de minimus amount of money, it was not a huge amount. Nonetheless, how are we certain that this bill will be structured that everyday consumers are certain that they can make sure that their funds end up where they are supposed to, and they do not have to pay $10 fees or $15 fees to get a copy of the check just to make sure that they are protected? I understand the high-tech aspect of this, and it makes perfect sense, but how are we certain that this bill will protect that? And then I have a follow-up question.
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    Mr. FERGUSON. Very good questions. Obviously, many of your two anecdotes deal with things outside of the banking system. They deal with the telephone company and their ability, so we should recognize that some of these problems are not in the world of the check. To answer your specific question about how we can be certain, one of the things that the bill does is it creates again in the institution that initially decides to convert the check from the original paper to the image that you are looking at now, a number of warranties and indemnities that travel throughout the system. The warranties are quite important. They say two things basically from the original bank that converted the check. It says first that this image is an accurate image of everything on the check that is relevant to the payment process. And then the warranty also says that there will not be any double-debits of the type of you might have mentioned, or you sort of implied.
    It is quite important, because if you look through the rest of the bill, when you get to the section that deals with indemnities, where in fact all the banks in the line, but ultimately the one that originally converts the check, agree that if something goes wrong and they are notified of it, that they will indemnify for the results, the bad things that have happened. Under the part where it deals with warranties, they will not just simply pay whatever the face value of the check was, but also any of the damages that the bill calls proximately caused by the failure of those warranties, which gives a potentially very broad range of protections. It also gives the banks involved in this an economic incentive to get it right because they know that if at the end of the day if they do not get it right, they will have to pay potentially not just the face value of the check that went wrong, but if it is the failure of the imaging process or the use of the image or the electronics, they may have to pay a broad range of damages that resulted from that failure. That is really I think a very strong set of consumer protections.
    Mr. BENTSEN. I appreciate that.
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    Let me ask another question before my time is up. The way I understand this Act from your testimony, the clearance system could almost work electronically, and even though banks conceivably could do it now under the law, it would be mandated now so that I write a check on my account at Wright-Patman or wherever, or Acme Bank and Trust in Texas, and it goes to Acme Phone Company—they clear that check almost simultaneously. Does EFAA give the Fed the authority, then, if this were to become law, where there is same-day settlement on the check so that the money comes out of my account—basically, are we going to be able to shorten the time frame with which funds are available from what it is under the law?
    Mr. FERGUSON. Let me give you some facts and then answer your question. First, now about 93 percent of checks clear overnight. We should recognize that we really have an extremely efficient check processing system. This bill, if it becomes law, will make it dramatically more efficient, but we are working with a system that is pretty efficient. There might be a few pockets of change where you would see that come down because of this for sure. Under the EFAA, Congress has in fact required the Fed to reduce the holds on most checks to try to get things moving sooner and we will continue to follow that process. If the banks under this law, which is really not mandatory, really quite optional—it does not mandate truncation; it mandates only they accept the electronic image which they may then—someone may reconvert to paper. If as a result of this indeed time is compressed, then under EFAA the Fed should be watching that closely. If it does lead to that kind of result, then that is what we should do. It is not clear to me yet what the result is going to be, but obviously that is what the—
    Mr. BENTSEN. Madam Chair, if I might very quickly, this is very important—right now, if you deposit an out-of-town check in your account, I think it is a two-day or three-day hold period on the check.
    Mr. FERGUSON. Right.
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    Mr. BENTSEN. If in fact that check can clear immediately through an electronic image, should the consumer—in what is in effect same-day funds for the banks—should the consumer get same-day funds as well?
    Mr. FERGUSON. We should be careful about understanding what happens in terms of the clearing. What this will allow to have happen first is moving the presentment faster. The bank will then still have to see if there is sufficient funds. They will have to go through their process to see if there is a return. And so while the process will speed up quickly, I do not want to leave the impression that everything happens sort of instantaneously. So to keep going, to answer your question, insofar as there are benefits that emerge here, and again we have not seen them all yet, the EFAA does require us to monitor that closely and to change—now, as you observe in some cases, a three-day hold or a two-day hold for some checks—to change that. I do not know yet if that is what will happen, but that is what the EFAA requires us to do. So by definition, we will have to monitor closely and change the holds that are required here. But we also want to understand how all this works before I can commit to you that it will definitely come down exactly the way you have suggested because we do not have the facts yet. But the law requires us to monitor closely and to respond in the way you indicate, but I cannot in all honesty commit that is—
    Mr. BENTSEN. That answers my question. Thank you, governor. Thank you, Madam Chair.
    Mrs. KELLY. Thank you very much.
    It apparently is now my turn to question, and I have a bit of business I need to do first, and that is I have two letters that have been handed to me—one from the Information Technology Industry Council and another from the NAFCU that I would like, with unanimous consent, to enter into the record. With unanimous consent, so ordered.
    [The following information can be found on page 112—113 in the appendix.]
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    Vice Chairman Ferguson, I want to make it clear that I am a supporter of Congressman Ferguson's bill, but I am wondering what the Fed would think about going further than the bill? Currently, the bill allows checks to be truncated when the bank in which it is deposited receives it. What if we were to expand truncating to the point of service? Is this something that the Fed would consider? Would the Fed support further refinement and clarification of the rules to eliminate the paper checks from the system at the retail level?
    Mr. FERGUSON. My view on this is that what we should do first is observe how this works. This gives a number of options. It does not mandate truncation. It allows it to happen. If it turns out that indeed this process works very well, then I think Congress—not the Fed—the Congress should be open to thinking further. This bill does not mandate truncation. So my perspective on this is that we need to see how this bill works.
    The other question that is important here is the question of these warranties—the consumer protections I talked about. It is quite important to understand that if the bank is willing to provide the same kind of consumer protections that are discussed here, that might make your proposal in some sense easier. It is quite important that we understand where the warranties are and that the interaction between benefits and costs or risks are similar to what is in the bill. So it is really a possibility. But my advice, frankly, is to work with the structure that is here, observe it, see if we can expand quickly, and that may allow us to go in the direction you are talking about. But I see no reason why we would object to what you have said. Being a cautious central banker by definition, I would like to see how this first approach works before I firmly say that what you propose is the obvious thing that must be done relatively quickly. And it does depend again on managing this question of warranty, so we that we can keep the level of consumer protection at the right level.
    Mrs. KELLY. I think there is some concern on the part of retailers. I think they are concerned about routing information on the check reflecting the financial institution, where the check is drawn; intentional mutilation of the checks, the MICR line on the checks. I think the retailers are also concerned that they may not be given the customer's identifying information on a returned ACH item. That is why I brought this question up. I do not know if you have thought about those things or have an opinion on them or not, but if you do, I would appreciate hearing.
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    Mr. FERGUSON. I have thought about it a bit, and I am obviously being forced to think about it here again. I am not sure that there is, while I respect everyone's degree of concern about something new, I am not sure that there are sufficient facts to support some of these concerns. The current check procedure, for example, has very little of the kinds of problems that you have just alluded to, and I see no reason to think that because we are under this bill allowing the option of taking a check and turning it into an image, that the kinds of concerns you have raised, or other fraud or misbehavior concerns, should necessarily rise. There is nothing inherent in taking one piece of paper and converting it electronically to another piece of paper that creates the kinds of problems that you have alluded to.
    The same thing applies with respect to return. In order for a return item to work smoothly, then you have got to have the right set of ABA numbers and return identifiers on the check in order for this whole process to work. And so I again think that while in a new world that is being discussed in this bill one might have some concerns, but I do not think the kind of concerns that the retailers appear to be raising strike me at this stage as a credible set of concerns that should slow us down in thinking through this process.
    I go back to the other point with respect to warranties. Again, the incentives on the part of the bank that decides to use electronics to convert the original checks to a substitute check are to do it properly because the cost to that institution, while it is hard to predict at this stage, could be larger than simply the amount of money to be paid on the check because of the point that I have made in response to the earlier question with respect to damages that may flow from it. So the incentives are all to do it right, and the reality of this process is such that I do not think it creates any new opportunities for fraud or misuse of the paper check. So I am actually, while I always respect those who are concerned, am relatively calm that the kinds of concerns that you have raised seem to me very remote and highly unlikely possibilities.
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    Mrs. KELLY. I want to ask one further question. Since we are talking about the element of speed here, I want to know whether or not you would expect the Fed to reduce the amount of time that banks put holds on deposited checks, if that is something that you have any idea about or how short this time could become. It seems to me that that is a potential possibility that we could look it.
    Mr. FERGUSON. Well, as I said in response to the earlier question, the EFAA does require us to continue to monitor this. We recognize that now we have got holds that, depending on where the check is written, are in the three-day range. I want to be careful not to commit to anything at this stage, but on the other hand I also want to say that the law requires us to continue to look down this path and we will obviously continue to do that. If this process as envisioned in the Act if it becomes law suggests that indeed there is room to reduce the degree of holds, and by definition that is what we are mandated to do. And so that is what we will do. The law will not push us there. I think it is the result of behaviors and observations of changes in behaviors that may allow us to go to that point.
    Mrs. KELLY. Thank you very much.
    Mr. Hinojosa?
    Mr. HINOJOSA. Thank you.
    I would like to ask a question of Governor Ferguson. In following up with the questions that my friend from Texas, Ken Bentsen, was asking, are there any time limits on how quickly the banks and the credit unions must respond? If there is not, should there be one?
    Mr. FERGUSON. If you look in the proposal as written, the consumers have 30 days, potentially extended to another 30 days, to inform a bank that they recognize a problem. The banks then, and I think in this one it is 10 days they have to—10 days in order to respond to that and to do if appropriate an initial recredit. There are some safe harbors that might allow the banks not to do that if it turns out that there have been, for example, any evidence of overdrafts or it is a brand-new account. But the answer to your question is basically after the 30-day or 60-day notification from a consumer, 10 days for the original recredit, and the amount to be recredited is either the lesser of the face amount of the check or $2,500. When we did some research on this, the $2,500 covers the vast majority of checks that are being written. So given the fact it is unlikely to be a major problem, I think again the range of days here one could argue is certainly a reasonable place to start discussion.
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    Mr. HINOJOSA. Are small-and medium businesses utilizing this new technology to try to pay off a bunch of their bills electronically? If not, why?
    Mr. FERGUSON. What we have noticed over the history of checks over the last 25 years or so, one is that the number of checks seems to have peaked about 1995 and has come down. But more interestingly, the average value of checks has also come down, which is suggesting that businesses in general are starting to use these technologies. The question of small-and medium-size businesses versus large businesses I think is one in which our data does not give us a clear answer. However, I would say that small businesses and medium-size businesses have exactly the same incentives as any other business to try to become much more electronic, because if you get the canceled check back then you have a real question of storage.
    If you find that what you have gotten—and this law allows, by the way, to get paper back, as I have indicated a couple of times, if what you find is that you are working with an institution that truncates checks, and about 30 percent of the checks in the country are now truncated, then you get more than enough information to link to the books and records of your system. So from my perspective, I know that businesses in general, or those who have tended to write larger checks, have moved more in the direction of electronics. We know that about 30 percent of checks are truncated, and I think small-and medium-size businesses should have exactly the same incentives as any other business to go down that path.
    One of the things that has been difficult in the world of electronification of payments overall is the linkage between the payment system and the back office books and records of many businesses is at this stage pretty much nonexistent. So it makes it very hard to have end-to-end electronics. This bill as proposed would do nothing about that, and I am not suggesting that it should, but perhaps one of the challenges for small-and medium-size businesses is indeed that it is very hard to get the kind of interfaces that some large institutions have at this stage because the services, while they are available on the part of the banks, the investment on the part of a small business may be more than they want to take on.
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    Mr. HINOJOSA. How do you feel if our committee were to request that the banks do whatever it takes, through surveys or through forms, to be able to tell us whether the small and medium businesses, and even we could go further and say those that have the small business designation, are utilizing it, so that if they are not, that we can try to possibly earmark some money and do some education and help to those so that they can keep up with all of this technology that is available.
    Mr. FERGUSON. Obviously, I think in large part you should ask the banks what they think about that. Obviously, one of the things that is proposed here that one could talk about is the need to have consumer education broadly defined. So insofar as that consumer education includes any customer that comes into the bank, I think it is written as ''customer''—then that would pick up small-and medium-size enterprises as well, so they would be educated as are you and I with respect to what at least a substitute check is insofar as that becomes part of what they are doing. But certainly, I would say talk to the banks about their willingness or interest in doing this, and obviously if the wisdom of Congress suggests that there be money put forward from Congress to help in the process, that is always something to which I obviously could not object.
    Mr. HINOJOSA. Thank you, Mr. Ferguson. And thank you, Madam Chair.
    Mr. GRUCCI. Thank you for your statements and your comments. Madam Chair has left and she will be back shortly.
    Mr. HINOJOSA. I apologize.
    Mr. GRUCCI. That is okay.
    The chair recognizes Mr. Watt for his questions.
    Mr. WATT. Thank you, Mr. Chairman. I will be brief. I want to apologize to the witnesses for missing their testimony, and just have one question of Mr. Ferguson. If I understand correctly from your response to earlier questions, about 30 percent of the process is currently using some variation of this?
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    Mr. FERGUSON. About 30 percent of checks are currently truncated.
    Mr. WATT. In the same way that this bill basically provides for?
    Mr. FERGUSON. Well, this bill does not mandate truncation, as you know. It just simply makes that an option or makes it perhaps a more attractive option because it allows for this new form of paper called a substitute check. What is currently happening with truncation is not that substitute checks exist. There are two things that are happening with truncation at this stage, and our credit union friend may also want to comment on this. One is that it is just purely electronic from end to end, if you will, and paper does not follow. More of the truncation I believe is a truncation with the original check to follow. And so we have some experimentation with truncation—some of the experimentation is 30 percent.
    Mr. WATT. So would it be fair to say that you do not view this as being anything radical that is being proposed?
    Mr. FERGUSON. I do not view this as being radical in the least. I view it as moving things forward.
    Mr. WATT. You made some passing reference to possibilities of improprieties taking place in the system as it exists now. Are you satisfied that the technology is such that those possibilities are either not increased or even reduced?
    Mr. FERGUSON. I am satisfied that those possibilities are certainly not increased. They may be reduced because this process allows what is called the return side of the process to go much more quickly, which is just saying if the individual finds that he or she has been given a check to which there is insufficient funds in the account on which the check is drawn, or that account has been called, will learn about that more quickly under this process.
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    Mr. WATT. I understand the advantages of that. What I am concerned about is it does—I just want to be clear on whether you think the possibility of other forms of inappropriate activity such as hacking into the electronic process—things that I guess if you hack into the system now, you hack into it and you take the check. Are you satisfied that the electronics of this do not increase the risk to customers? I guess that is the bottom line.
    Mr. FERGUSON. To be very clear, I am satisfied—to answer the question the way you phrased it—I am satisfied that the electronics of this—
    Mr. WATT. The technology, I guess. Electronics is not the future word—the technology, yes.
    Mr. FERGUSON. I am satisfied that risks do not go up.
    Mr. WATT. Okay. I appreciate your response, and unless Mr. Fenner has some affirmative response, I will yield back the balance of my time.
    Mr. GRUCCI. The gentleman yields back the balance of his time.
    I have just one quick question for the vice chairman. We are going to change a policy that people who have been accustomed to doing for a number of years, and in fact when we have questions now in our own personal home financing, my wife will go back to the checks or I will go back to the checks and pull that one out. People have become very accustomed to that. I understand that in the modern age we try to speed things up and we try to make them even more efficient than what they have been.
    By truncating the check process and allowing it to be done through the Internet, how do we compensate, A, for those people who may not have access to an Internet, or have access to a public library or do not live in a community, or simply do not know how to use that system? What will be happening to those people? How will they track their checks and their records?
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    Mr. FERGUSON. Let me be very clear. This bill that we are discussing now does not require truncation. For an individual who has received a piece of paper called a check, this bill still allows that individual to receive a piece of paper that shows exactly the image of the check front and back as it has gone through the system. It also will have a little stub on it that basically says, this is an image of your check and it is the lawful equivalent of your check. So while 30 percent of the people do not get checks back under truncation currently or 30 percent of checks are truncated, for those who want to hold onto a piece of paper to prove that indeed a bill was paid, nothing in this law as far as I can read I will stop them from doing that if their bank continues to offer that service. There is nothing in this law that requires a bank to stop offering that service.
    So if you are with a bank today that will give you your check back, as long they do not change their policy, and this law does not require them to change their policy, then you can get either, depending on what happens in their system, the original check if they have just only gone with the original, or you can get another piece of paper that is about the same size of the check that has all of the information on it. So those who are used to getting back month to month a small packet of paper that has gone through the system will get once a month a small packet of paper that has gone through the system. Now, I happen to not do that, and I have heard Ms. Waters describe that she does not do that, but there are people who do and there is nothing in this bill that will mandate any bank to stop doing that.
    Now, the bill would allow banks to decide if it is in their business interest to try to encourage or incent their customers to move away from getting those pieces of paper and some of the benefits that might accrue to the banks may also accrue to customers, which is true of many services in banks, for example ATMs. But for an individual who wants that paper and must have that piece of paper, they can get a piece of paper that shows them all of the information they need to sleep comfortably at night. I therefore think that from your standpoint, if anyone is attached to a canceled check, they will get something that should give them exactly the same degree of comfort.
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    Mr. GRUCCI. Providing that the bank continues that kind of a policy. If the bank chooses not to, how would they then get that document?
    Mr. FERGUSON. Well, there are a couple of things. One is they can always call the bank and get the information, if that is very important. Individuals will keep track of, presumably if they fill out their check register properly, the check number and the amount and the payee. They can always call the bank and ask for the image, and that image because it would either be the best evidence available if they needed some evidence; it would be potentially a substitute check if they have gone down the path of creating substitute checks; or they can go back to the process and get the original check if it still exists.
    The other point to make, if you look at the indemnity section here, if the original check still exists, there would be incentives for the bank to bring that forward. If the original check does not still exist, there are still important warranties and indemnities about the quality of the substitute check and the information thereon. So if something has gone wrong in the system, the fault will go back to the institution that originally got rid of the original check and went to the substitute. So there is plenty of room to get all the information that either will come to you regularly or through a simple phone call you can get it, or on the Internet or going to your bank to get it. So if you have a banking relationship, the bank still has the information, if they have not sent it to you in one form or another, and it is a simple question of picking up the phone, going to the bank, going to the Internet, et cetera. And there are many different ways, and in some cases on the ATMs, I suspect, may emerge—you may hear from the NCR representative about that.
    So I would say insofar as information matters, you need not worry. My staff has just send me a note here that part of the answer I was not going to give you, but to make them happy, I will.
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    By definition, if you do not like what your bank has done, you can go to another bank. The reason I did not give that answer originally, is having been in the process of opening and closing checking accounts, I know it is not an easy thing, but by definition if you do not like what your bank has done, you can always move to another bank. So when all is said and done, all these centers are to serve customers fully through a range of services that respond to their needs, either to encourage them to stay or to go to another bank.
    Mr. GRUCCI. For the benefit of your staff, if all the banks are doing the same thing, it really does not matter which bank you would go to. If they are all competing with each other and one bank is not, then they all are not going to do—
    Mr. FERGUSON. Let me jump in and defend something here, though. If there is a broad demand among consumers for getting pieces of paper back, banks are profit-maximizing institutions, there will be banks that provide that. There will be banks that will advertise that as a service if there are sufficient numbers of consumers that want it. Under this law and under basic economics, the probability that all banks would do only one thing is very low if there are consumers who want some other service, just as we know all shirts are not white, though I happen to wear white shirts all the time.
    Mr. GRUCCI. I see that my time has expired. I will take the liberty, though, of just asking one final question. What happens to all of these checks? Where do they go?
    Mr. FERGUSON. There is a process called safekeeping, where the bank that originally receives them may store them for a period. I think frankly to be honest with you, in the credit union and other systems, that period in which they are stored is a relatively short period of time. In other cases, it may be a very long period of time, but there need be no concern about that because the way laws in general operate, there is a concept called ''best available evidence.'' If the original check is no longer available, then the image becomes the best available evidence and everything flows off of that. So the existence or lack of existence of the original check from the standpoint of anything that a consumer might care about really should not be that major a deal because laws are structured to allow for whatever the best evidence is to come forward.
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    Mr. GRUCCI. Thank you.
    Are there any other further questions from any of the members? Hearing none, I would like to thank the panel for their time and their consideration and their insight on this issue. The chair notes that some members may have additional questions for the panel which they may wish to submit in writing. Without objection, the hearing record will remain open for 30 days for the members to submit written questions to these witnesses and to place their responses on the record. I will adjourn the first panel and convene the second panel.
    Let me take the liberty of introducing our next panel. We have first Mr. Curtis ''Curt'' Hage, chairman and CEO of the Home Federal Bank; Ms. Gail Hillebrand, senior attorney, Consumers Union; Mr. David Walker, president and CEO, Electronic Check Clearing House Organization; Mr. Lee Schram, vice president and general manager of Payment Solutions, NCR Corporation. For the purposes of our final introduction, I yield to my colleague, Mr. Pat Tiberi.
    Mr. TIBERI. Thank you, Mr. Chairman.
    It is a pleasure for me to introduce a constituent of mine. Joe Biggerstaff has served as the AirNet Systems chairman of the board since August of 2000, and has served in other capacities since March of 1999. He has worked in the transportation industry for 23 years. AirNet is an integrated air transportation network based in Columbus, Ohio in my congressional district, and the system operates between 100 cities in more than 40 states and delivers over 18,000 time-critical shipments each working day. It is the leading transporter of canceled checks and related information for the U.S. banking industry, meeting more than 2,200 daily deadlines. So it is great to have you here, Joe.
    Mr. GRUCCI. Thank you, Pat.
    Without objection, your written statements will be made part of the record. You will each be recognized for five minutes in summary of your testimony, and we will start with Mr. Hage.
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    Mr. HAGE. Mr. Chairman and members of the subcommittee, I am Curt Hage, chairman and CEO of Home Federal Bank in Sioux Falls, South Dakota. I am chairman of America's Community Bankers and I am here today representing the five major banking and financial services trade associations—ACB, the American Bankers Association, the Consumer Bankers Association, the Financial Services Roundtable, and the Independent Community Bankers of America.
    I am pleased to present our views on the proposed Check Clearing for the 21st Century Act—Check 21. It is somewhat exceptional that all of our groups fully agree on any topic. However, we all support efforts to increase the efficiency of the nation's payments system that benefit both consumers and financial institutions. I would like to extend our appreciation to both Chairman Bachus for holding this hearing, as well as to Congressman Ferguson and Congressman Ford for introducing this legislation. We also appreciate the outstanding efforts of the committee and Federal Reserve staffs who have worked tirelessly to address the issues of all concerned.
    While electronic payments are increasing, traditional paper checks remain the dominant form of non-cash payment. Checks will continue to play a significant role in the payment system for years to come. Processing these checks is enormously expensive and labor-intensive. Current law generally requires physical checks to move through the entire clearing process from the bank of first deposit to the payer bank. While physical checks continue to move through this process, an increasing number of consumers do not have their original checks returned to them. Instead, they receive detailed information about their check transactions in their monthly account statement. Passage of legislation like Check 21 will build on this experience and facilitate efforts to remove paper checks from the settlement process. Those banks that choose to process paper checks could use substitute checks that would retain the legal equivalence of the original.
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    Most importantly, the proposal does not require the industry to adopt a fully electronic check clearing system. We could adapt to electronic check clearing over time without interfering with the existing paper check process. Expanding electronic check processing will also minimize the effect of unexpected disruptions to air and ground transportation systems. It will result in faster check collection, make funds available sooner, and help combat fraud.
    Check 21 will also help increase the use of check imaging. Many consumers already benefit from this process. Rather than dealing with bundles of canceled checks, consumers receive concise and convenient summaries of their transactions. Many can access check images on the Internet, helping them to quickly verify their transactions, identify potential errors, and detect fraudulent transactions sooner. Identifying errors and potential fraud quickly helps banks minimize customer inconvenience, control losses, and gives law enforcement an important time advantage.
    Check 21 could provide real benefits to rural communities. In South Dakota, we are constantly challenged to meet our federally mandated funds availability deadlines due to adverse weather conditions and limited access to air courier services. One Home Federal branch operates in a remote part of the state that is nearly a five-hour drive from our central processing point. We often have just enough time to meet the federal funds availability requirements. Home Federal customers pay a premium for moving checks across the state. Check 21 would allow Home Federal and other rural community banks to transmit electronic images of checks rather than sending them on unnecessary physical journeys.
    Some critics are concerned about relying too heavily on check images. Our industry's experiences show that these concerns are unfounded. Home Federal began offering checking accounts around 1980. From the beginning, we provided customers with the convenience of check safekeeping. They receive detailed information about checks drawn on their accounts, while the original physical check is microfilmed and stored at our check processing facility. Consumers receive a convenient summary of transactions and avoid the burden of receiving and storing reams of canceled checks. Banks reduce mailing and handling costs. These savings can be passed on to our customers.
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    Home Federal began offering the option of having checks retained several years ago. Still, fewer than 10 percent of our customers choose this service. Home Federal will soon offer full image statements of processed check and online access to images. We expect that once these image products are available, almost all or our customers will choose not to have their original checks returned.
    Check 21 makes no fundamental change in existing check law, so we believe that new consumer protections are not necessary. The banking industry and millions of consumers have an established history of dealing with truncated checks and image documents. This experience demonstrates that existing law provides adequate protections. Check 21 establishes a complicated expedited recredit and reversal and recredit structure for consumers and banks. The banking and financial services trade associations believe this provision is unnecessary and may result in unintended consequences.
    Today, banks respond to customer claims of check fraud or processing errors in a timely and effective manner. Complaints are rare. In fact, Federal Reserve staff has indicated that an informal review of the consumer complaints filed with all the banking regulatory agencies reveal no significant consumer issues relating to existing check protections. Complicated new recredit procedures would confuse customers, create compliance headaches for banks, and expose banks to fraud.
    Our associations support the general principle outlined in the Check 21 Act to facilitate innovation in the check collection system. We believe, however, that existing law and regulations work. We urge Congress to preserve existing law with respect to substitute checks authorized under this proposal.
    Thank you for considering our views.

    [The prepared statement of Curtis ''Curt'' L. Hage can be found on page 70 in the appendix.]
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    Mr. GRUCCI. Thank you, sir.
    I should have pointed out at the beginning of the testimony that there are a series of lights. We try to stay within five minutes. We are not going to ask you to truncate your statements, but certainly we would ask you to monitor the lights, and if you can stay within the five minutes, that would be great.
    Let's move now to Ms. Hillebrand.


    Ms. HILLEBRAND. Thank you, Mr. Chairman and members. I am Gail Hillebrand from the West Coast regional office of Consumers Union. Since 1936, Consumers Union has been in the business of protecting U.S. consumers and their interests. Our mission is to test, inform and protect. Needless to say, I am in the protect part of our organization. My written testimony today is joined by several other national consumer organizations—Consumer Federation of America, U.S. PIRG, and the National Consumer Law Center.
    Let me start by saying we are not against technology and efficiency. However, we are against the Check 21 Act in its present form. I will tell you why. We think that Congress needs a very good reason before disturbing the existing payment and financial management habits of somewhere above 45 million U.S. households. We are concerned that the Check 21 Act essentially changes the processing of checks to be much more similar to the processing of electronic payments of other kinds—debits and electronic funds transaction acts such as your regular recurring mortgage debit, without providing the same protections to all consumers.
    The Act is ingenious in that each consumer who now gets their original paper check will get a different piece of paper called the substitute check. But the Act does not guarantee that any consumer can receive a substitute check, and you heard Governor Ferguson say that will be up to the marketplace. The Act also does not guarantee that any consumer can get the original if the consumer needs it for a particular reason, such as a landlord or a phone company who does not understand the ''best evidence'' rule and wants to see the original, not whatever the bank has on hand.
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    The original will not even be at the consumer's bank anymore. It will be somewhere else in the check processing. Quite a bit earlier in the processing scheme than today, where usually if you have truncation at all, you have got it right there at your own bank or at the pass through bank. Passing this Act would permit banks to blame any customer dissatisfaction with this change on Congress. Sorry, we cannot give you original checks back anymore. Congress says we can give you this piece of paper instead. That will not be quite true, but if your bank no longer has the original check, they will not be able to give it back to you.
    We estimate 45.8 million U.S. households are now getting their checks back. That is a very conservative estimate, because it is based on numbers that were provided by members of the banking industry about the percentage of consumers who get so-called voluntary truncation now. The numbers we heard this morning from Dr. Ferguson would suggest quite a higher number of households getting their checks back, because he said it was only 30 percent nationwide who have truncation.
    So what is the difference? What is the new error rate—the new potential error? We do not know because this system has not been used. But we do know that Congress has said when we have electronic funds transfers, we have consumer protections in the nature of a 10-day recredit under regulation E, and an ability to get that money back into the consumer's hands for use very promptly. You have something in your Act in section six that looks very much like the reg E 10-day recredit. The reason it does not work and cannot work for consumers is banks can take it away simply by saying to the consumer, look, you are not going to get back your original check anyway, so we would like you to just say we are not going to send you these foolish paper substitutes either. Instead, we will give you electronic image; we will give you online image; we will give you a set of copies, but they will not be the legal equivalent to your original check and you will not get that protection of the 10-day recredit.
    We do not know exactly what the new risks are. We suspect they could include duplication of the electronic image so that the check is paid twice, or what was described at one of the many meetings on this Act before the Fed, leakage of the original check back into the check system, so that both the original and the image might move through and at some point become two electronic images.
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    Since the Fed estimates only one-quarter of checks are subject to electronic presentment now, that through bank-to-bank agreement, we cannot know what will happen if that is 100 percent of checks, or some number higher than the current level. But we do know that existing law gives us rights as consumers when we pay with our debit card and we do not think it makes any sense to say, if you pay with a check, you have one set of rights; if you get not your original, but these substitute checks back, and a different set of rights if you do not get your substitute checks back.
    I would also note an important issue related to consumer privacy. There is a lot of personal information on a check. It is available now. People could pick it up off the check. But it is expensive to pick information up off of paper, and when that information can be picked up off of electronic images, we have a greater risk for privacy.
    You will be hearing from my colleagues, the bankers, that check truncation has been around for decades—it is not really a problem. We do not know whether it will be a problem because consumers have been able to choose yes or no to check truncation up to now. This will essentially prevent the consumer from getting the original returned on a regular basis. That means it would not be surprising to have a small number of complaints from consumers who have chosen check truncation voluntarily, but when it is imposed on them, we may see some different results. But even taking the bankers' numbers—they gave us an estimate in one meeting of 1.1 billion checks and 480,000 customers asking for their checks back—if you take that same ratio on the 35 billion checks written per year in the U.S. or maybe a little higher according to the Fed's testimony, that is 15 million consumers a year who need their original check for one purpose or another. That is a lot of people.
    I would like to close by talking about what is not in this Act. We see the key thing that is not in the Act is a right of recredit that applies to every check which is not returned to the customer—every check that is electronically imaged along the way, regardless of what the very last step is where something is or is not returned to the customer. We also see that it has no privacy protections for the use or creation of databases containing information about consumers' payment habits in checks. It has no requirement that checks be credited to consumers any sooner. You heard Governor Ferguson say quite accurately that the Fed is not making any commitments at this time in that regard. It places no obligation on the bank to every provide the original check when the customer feels that they need that check. It places no obligation on the bank to provide the substitute check if the customer is not previously set up for substitute check returns. It places no obligation on the bank to offer accounts that the customer can use for substitute checks, and it places no restriction on how much more those accounts might cost than other accounts.
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    We respectfully suggest that if Congress is going to revamp the check system to give all of us the benefits of additional electronic efficiencies, it needs to do so in a way that gives consumers the same protections for electronically imaged checks that we have for other electronic payments.
    Thank you.

    [The prepared statement of Gail Hillebrand can be found on page 77 in the appendix.]
    Mr. GRUCCI. Thank you very much for your testimony.
    Mr. Walker?


    Mr. WALKER. Mr. Chairman and members of the subcommittee, my name is David Walker. I am the president of the Electronic Check Clearing House Organization known as ECCHO. I am very pleased to be here today on behalf of ECCHO to discuss the Check Clearing for the 21st Century Act. ECCHO applauds Congressmen Ferguson and Ford for introducing the Act. We also commend Chairman Bachus and this subcommittee for holding a hearing to consider this important legislation.
    I would first like to provide some information about ECCHO and our role in the check clearing process. ECCHO is a nonprofit nationwide bank clearing house. Our member financial institutions hold approximately 60 percent of the total U.S. deposits. ECCHO has developed an extensive set of clearing house rules. These rules cover multiple check electronification scenarios, including electronic check presentment and check image programs. During 2001, ECCHO member institutions exchanged approximately two billion checks totaling approximately $3 trillion under one of the various check electronification programs supported by the ECCHO Rules. In addition, the Federal Reserve also provides check electronification services. The Fed used these services to process about 37 percent of the 17 billion or so checks they collected in 2001.
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    Because of our involvement with electronic check programs, ECCHO has been working with our members and other interested parties on issues relating to substitute checks since the Federal Reserve first introduced the concept a few years ago. For example, we have for some time been working with the standard-setting organizations to develop technical and operational standards for substitute checks. As I indicated a few moments ago, check electronification and check imaging are in wide use today. However, check images can be exchanged only if the bank on which the check is drawn and its customer have agreed to accept the image instead of the original check. Accordingly, banks today must support two check collection processes. They need one process for checks they send to banks and their customers who have agreed to check imaging, and they need another process for checks they send to banks and their customers who have not yet agreed to check imaging.
    The Act will encourage even more check electronification. Banks will be able, if they so choose, to convert all of their paper checks to images and deliver substitute checks only when necessary. In short, the Act will help bridge the gap to a fully electronic check collection system. As a result, the Act will significantly benefit all stakeholders in the check collection process. These benefits include exciting new products and services for customers, a significant reduction in the cost of check collection, and better insulation of the nation's payments system from disruptions to the air transportation network, such as occurred after September 11.
    ECCHO supports the Act as it has been introduced by Congressmen Ferguson and Ford. We do have concerns with a few provisions of the Act, and we have provided a detailed discussion of these concerns in our written statement. There is one significant concern with the Act that I would like to address here today—the January 1, 2006 effective date. There is no need for delayed implementation. Sending banks will create substitute checks only when they are ready to do so. The receipt of the substitute check also will have no adverse effect on the receiving bank or its customer. This is because the substitute check can be processed just like the paper check, and because the Act provides that the substitute check is the legal equivalent of the paper check.
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    The financial services industry will shortly be ready to go with substitute checks. The industry standards for substitute checks have already been under development for over a year. We anticipate that they will be ready for use within the next few months. A delay in the effective date until January 1, 2006 will only delay the many benefits that the Act provides to banks, their customers, and the nation's payments system.
    ECCHO appreciates this opportunity to present our views to the subcommittee on the Check Clearing for the 21st Century Act and I would be pleased to answer any questions the subcommittee might have. Thank you.

    [The prepared statement of David Walker can be found on page 91 in the appendix.]
    Mr. GRUCCI. Thank you, Mr. Walker.
    Mr. Schram?


    Mr. SCHRAM. Chairman Grucci and members of the subcommittee, thank you for the invitation to testify today. My name is Lee Schram and I am the vice president of payment and imaging solutions at NCR Corporation. We are a global provider of financial and retail technology solutions, with over 100 years of experience in consumer transactions. NCR is the world's leading provider of ATMs and a global market leader in retail point-of-sale products. For over a decade, NCR has been providing imaging technology to banks and our solutions touch more than 70 percent of check transactions in the United States.
    Mr. Chairman, I represent NCR as well as a consortium of high-tech companies, including IBM, Unisys and others. In fact, I have submitted this morning a letter from the Information Technology Industry Council in full support of House Resolution 5414. This legislation will make the check payment system more efficient, user-friendly, and provides clear direction and adequate protection for all parties involved.
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    Imaging technology is critical for successful bill implementation. Thus, it is important to understand the advanced state of this technology to demonstrate its readiness and to dispel concerns. Check imaging was introduced in the late 1980s. Most major and over 50 percent of community banks have been using it for over a decade. Internationally, many countries truncate checks. Imaging technology is readily available, secure and reliable today. Image quality is superior to checks, better than microfilm, and each image can be uniquely identified and linked to the original check.
    While the required technology is ready, concerns have been raised which I will address. First, while consumers may not be able to readily access the original check, image technology provides them with more options to access information, including online banking and image statements, while maintaining an audit trail to the original check transaction. A second concern is the number of times a substitute document may be converted to a digital check. Ideally, truncation would occur at original point of presentment with no subsequent conversion. However, at least initially substitutions will occur, but digital checks can be reliably created from substitute documents. Auditing processes exist to prevent duplicate entries prior to account posting, thereby maintaining consumer protection.
    A third concern, check readability, is eliminated as technology allows these images to be displayed in a wide range of sizes to meet consumer needs. The benefits of the bill far outweigh these concerns. Changes in banking laws written in an era when checks were cleared across town, rather than nationwide, have not kept up with technology advances, resulting in a costly, time-consuming, and fraud-ridden check clearing process. Today, a check presented to a retailer or a bank is typically handled over 15 times. Check 21 implementation would utilize technology advances to streamline the payment process, and at the same time provide new value-added services to the consumer, like image-enabling ATMs in more convenient locations.
    With Check 21, retailers, where over a third of all consumer checks are written, will now know within seconds if a check is good and fraud-free. Consumers and retailers will gain quicker access to deposits as transactions clear electronically in minutes, not days. Image-based transactions can be archived for years and quickly accessed by customers online via the bank's web site. For consumers not having online access, bank service centers will access images instantaneously upon request.
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    The elimination of moving paper checks around the country will take significant cost out of the system, from couriers transporting checks to mail handling. One major banks spends $25 million annually on courier service, while another spends $20 million opening envelopes. Market forces will ensure that consumers realize the savings that result from imaging. The bill will also virtually eliminate payment system logistical interruptions such as the grounding of commercial air service for several days following 9-11.
    Now is the time to leverage advances in communications and information storage to facilitate a more efficient payment clearing system. The benefits of check imaging should not be withheld from consumers and financial institutions for another three years, as currently proposed.
    NCR commends Director Roseman of the Federal Reserve and the Financial Services Committee staff who have worked in a cooperative manner to deliver a bill that is balanced, protects consumers and recognizes the immediate and future needs of the payment system. Through existing proven technologies, consumers, financial institutions and businesses can enjoy the benefits of checking accounts with the more effective payment system.
    Mr. Chairman, I thank you and the subcommittee for your time and attention.

    [The prepared statement of Lee Schram can be found on page 86 in the appendix.]
    Mr. TIBERI. Thank you.
    Mr. Biggerstaff?

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    Mr. BIGGERSTAFF. Good afternoon, Chairman Tiberi. I appreciate the opportunity to appear before this distinguished subcommittee in order to testify on proposed legislation known as the Check Clearing of the 21st Century Act. I am Joel Biggerstaff, CEO of AirNet Systems, Inc., a critical time-shipment carrier based in Columbus, Ohio.
    With over 130 aircraft and with Department of Defense certification, AirNet is recognized as an industry leader in the transportation of checks, time-sensitive medical shipments, cargo charter, passenger charter, critical parts and other top priority deliveries. AirNet employs over 1,100 team members nationwide, with over 300 ground couriers supplementing industry-leading door-to-door service.
    As a participant in the payment system for some 30 years, AirNet applauds your efforts to improve the overall efficiency of the nation's check clearing system. We are proud of the part our company has always played in ensuring the swift and reliable collection and processing of our checks. We estimate that AirNet flies 65 to 70 percent of all checks that are flown from point to point throughout the nation on a nightly basis. The remaining checks are flown either on the Federal Reserve's check relay network by large integrators such as UPS, or on commercial airlines.
    On September 11, 2001, we, like you, were in shock at the news that our country was under attack from the air. The Federal Aviation Administration's response, of course, was immediately to ground all aircraft nationwide that morning. This was the one and the only time the FAA has ever acted to close domestic national airspace, hereafter referred to as NAS. Despite the closing of the NAS, however, we at AirNet were called upon to make several flights on September 11 for the American Red Cross under what is known as lifeguard flight status. We were in the air at 3:37 that afternoon on the first of four flights that day.
    The next day, September 12, we flew another eight lifeguard flights while NAS was still closed. Our banking customers, of course, still had checks to move. To solve that challenge, we put into place a massive ground operation to cover as much territory as possible for our bank customers while NAS was closed. On September 13, with the reopening of NAS scheduled for that evening, AirNet received a call from the Federal Reserve. The Federal Reserve was requesting our assistance to coordinate the massive movement of checks that had been awaiting processing since the 11th. We were happy to respond. In fact, Mr. Chairman, we were in contact with this committee during that time to advise of our ongoing work plans and to seek logistical assistance with the Department of the Treasury in clearing our aircraft. On the evening of the 13th, AirNet helped move over 500,000 pounds of checks, five times the normal amount transported on a typical night, and moved another 275,000 pounds later that weekend.
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    One letter of thanks from a customer illustrates the quality of our performance, and I quote, on behalf of float management at Bank of America, I would like to express our sincere thanks for your dedication to service during the recent tragedy. Your commitment to your customers has always been evident in your customer service and delivery quality, and recent events have proved your competent staff to be exceptional. Thank you again for your dedication to keeping the payment system moving, end quote. That quote is from the senior vice president, Bank of America. With your permission, Mr. Chairman, we would also like to offer for the record a number of similar commendations from our customers, including the Red Cross.
    [The following information can be found on page 115—126 in the appendix.]
    The FAA took the right and necessary decision on September 11. It was essential that NAS be closed. However, with all due respect to some in support of the measure being considered, reducing the impact of air service dispruption to the payment systems does not require the passage of new legislation. The impact of the disruption could have been significantly reduced, and perhaps been completely avoided had the transportation of checks in the payment system been given lifeguard status. The electronic transmission of check images is no guarantee of uninterrupted check processing. Electronic systems are much more sensitive to disruption than air transportation, and indeed cyber-terrorism is perhaps one of the greatest threats we now face.
    Moreover, even with passage of the Check Clearing for the 21st Century Act, truncation would not be mandatory and air transportation would continue to be critical. Should events in the future ever cause the closing of NAS again, the air transportation of checks can be guaranteed by the simple designation of lifeguard status to these critical shipments. The electronic transmission of check information, side by side with air transportation, represents a fundamental principle of safe and sound banking redundancy. The full functioning of these two methods of check processing ensures the long-term integrity of the payment system. Indeed, a policy that dismantles the air transportation infrastructure could represent a threat to the integrity of the payment system.
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    In this regard, the Federal Reserve along with other agencies recently requested comment on a draft white paper entitled Sound Practices to Strengthen the Resilience of the U.S. Financial System. The white paper refers to core clearing and settlement organizations which it defines as firms that provide critical clearing and settlement services for critical financial markets in sufficient volume or value to present systemic risk and their sudden absence, and for whom there are no viable immediate substitutes. The events of last September illustrate that AirNet is a core clearing and settlement organization. Its ability to operate was and is essential to the functioning of the U.S. financial system. We therefore urge that this subcommittee during future deliberations on this legislation seriously consider conferring lifeguard status for air transportation activities associated with the payment system.
    Mr. Chairman, by supporting the lifeguard designation for the payment system, by supporting the policy to protect redundancy in check processing infrastructure, and by supporting transportation as a core clearing function, you will promote and improve the overall efficiency of the payment system, which is the stated goal of the legislation.
    Thank you, Mr. Chairman, for this opportunity to testify. I would be happy to answer any questions of you or members of the subcommittee.

    [The prepared statement of Joel Biggerstaff can be found on page 48 in the appendix.]
    Mr. TIBERI. Thank you, Mr. Biggerstaff. Without objection, Mr. Biggerstaff's documents will be included in the record. No objections.
    Mr. Biggerstaff, first question is for you. You mentioned the first lifeguard flight on September 11 was approximately 3:30 in the afternoon of September 11. When do you normally take off on any given day with checks?
    Mr. BIGGERSTAFF. Our system goes into operation basically at the close of the banking day. Our initial flights occur late afternoon and continue through the night until mid-morning the following morning, moving checks around the country, hubbing three times through Columbus, Ohio in the process.
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    Mr. TIBERI. So your point being in your testimony that if lifeguard status had been issued for that day, there would have been no interruption of service.
    Mr. BIGGERSTAFF. That is absolutely correct. Our system operates independently of other systems and is very specifically tailored to the payment system needs. We could have easily functioned in a normal manner that night.
    Mr. TIBERI. In your testimony, you mention that the Fed had called upon AirNet to help the day that airspace was reopened, to handle the backlog. Would AirNet be able to run its own system and the Fed system?
    Mr. BIGGERSTAFF. Absolutely. The Fed system and our system are basically duplicative at this time, operating from the same points of origin and serving the same end points at the same time. With capacity availability in both systems, it would be very easy for a single management structure to create significant efficiency and improve the service of the system. I found it interesting earlier that I think the percentage of checks cleared overnight is 93 percent, as mentioned by the Federal Reserve. For those checks that flow through our system, we consistently average in excess of 98 percent in terms of on-time delivery and subsequent clearance of those financial instruments.
    Mr. TIBERI. Mr. Schram, I am sorry I missed part of your testimony. I was voting. Can you talk to us about the costs for implementing a comprehensive system of electronic check presentation and truncation?
    Mr. SCHRAM. The cost really depends on the size of the bank and the size of the check volume. So if you look at a large major bank in the United States—the Bank of America, for example, being the largest check volume today, about 15 percent. Their cost is going to be more just because of the volume in terms of putting the system in, versus a cost that is in, let's say, a smaller community bank. Really, volume drives the imaging technology in terms of the cost.
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    It depends also on how far you are going with electronification. Let me give you an example of what I mean by that. If you are just capturing the check image at truncation point, that is the capture piece of the check. There is a cost involved in that piece and again that depends very much on the size of the bank and the volumes. Then there is also a cost to store the check in terms of the archive application. Again, that is dependent on the volume and the size of checks going into that archive.
    So what we see today in our company is the size of putting in these systems. I will give you a general range. It ranges between maybe $4 million and $5 million, to $15 million. Again, it depends very much on the size. Those would be for a major bank application. Again, a smaller community bank would be—we do check imaging applications for them that are well under $1 million, as an example. So again, you have to look at check volume, the through-put, the bank process in order to really get to a finite number in terms of the cost to put in a check imaging solution.
    And what we have to do in order to do this today with the banks is to prove a business case payback. We have to be able to go back to the banks and say, by putting in our check imaging solution, we are able to give you a more cost-effective operation. Generally what we do with the banks is sit down and go through how much is it costing to do an application today or run their operation today, and we have to make business-case paybacks that they put on our technology. I think that is a very important thing here. So they have to get the proof that our solutions can actually provide benefit to them and their customers.
    Mr. TIBERI. So your belief is that the cost to community banks would not be prohibitive.
    Mr. SCHRAM. I do not believe so at all. In fact, like I said, we are providing this technology today and similar to the major banks, they go through a payback analysis with us, and we sit down and cost-justify our solution and our technology versus the benefits it provides to the banks and their consumers. It runs the same whether you a major bank or whether you are a very small community bank.
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    Mr. TIBERI. NCR is a leader in technology. Some would say that if we went to this system tomorrow, because of some vulnerabilities in technology networks, peer networks, the computer infrastructure would be vulnerable from maybe some sort of cyber attack. Can you give your thoughts on that issue?
    Mr. SCHRAM. Security is a major concern. It comes up often. But there is encryption technology, closed network technology that basically surrounds what we do in terms of imaging technology today that is very similar to ACH and debit and credit card technology. So the technology exists out there today. I think it is important that as you also follow the check through the capture point of the image all the way into the archive, there is archive security around not being able to change the check image that is in the archive; not be able to move things around. I mean, there is all sorts of technology both in the hardware and the software side that supports the security around the check. So it is all things that we are readily doing today and that are available today.
    I might also make a comment on ANSI standards, because one of the things that we are working with is the ANSI standards committee basically to draft and develop standards around check signatures, to make sure that those signatures are only and can only be assigned to one check. That is very important as well. So we are not only pushing the encryption and the closed network technology and strengthening that. We are also working with them on other standards that we can continue to do to even improve security even more.
    Another final comment I think is very important is, paper checks today are not totally secure either. We continue to read where courier services, checks are stolen from them. There are a lot of stories out on check washing. Finally, there is a lot of fraudulent paper checks and signature forgeries that can be done as well. So I think you have to look at the balance between this. We really believe that the security is there today around imaging.
    Mr. TIBERI. Thank you, sir.
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    I am just going to continue to ask questions here. This is a pretty good position to be in.
    Mr. Walker, opponents of the legislation have objected to allowing recredits to be granted only to customers that request substitute checks instead of other forms of check truncation or safekeeping. Can you address the objections and share with me, at least, your views of why additional notification would not be a viable option?
    Mr. WALKER. The history and the experience in the industry is that for the last 30 years, banks and other financial institutions have been involved in check truncation and safekeeping processes. As Vice Chairman Ferguson indicated earlier, approximately 30 percent of existing check volume does not get returned back to customers today. We would suggest that this history indicates that there really is not a need for additional protections for the consumers; that consumers are adequately protected today when they receive check images. In fact, the experience that we have gained from the banks as well as from the Federal Reserve and from credit unions and other organizations would indicate that there are very few customer complaints in the area of check truncation and imaging.
    So the difference that you are talking about is in fact created by the Act itself. If there is a need for some additional protections in this more electronic process, the additional protections should only be provided to the customers where they have not agreed to get their original checks back, and they only receive substitute checks back. So the difference in consumer protections that you are asking about is in fact created by the Act itself. Even in the absence of lsuch protections, we think there is adequate protection under the existing check law, and there is no significant evidence to the contrary.
    Mr. TIBERI. Thank you, Mr. Walker.
    Ms. Hillebrand, I was here for most of your testimony, and your primary concern seemed to rest with the consumer's ability, the customer's inability to receive their original check back under this proposed legislation. Don't the benefits of the security issue that we talked about, the increased effectiveness, the expedited check presentation—do not those things outweigh the concern that you have, based upon the fact that we can at the end have a substitute check?
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    Ms. HILLEBRAND. Let me respond to that, and then amend slightly your question. We have two primary concerns, and you identified one of them, which is getting the checks back. There are a lot of possibilities that have been raised about benefit, but the statute does not require that those benefits be delivered to consumers. In the Federal Reserve Board summary of the Act, they say I think quite candidly that this could reduce bank operating costs, quote, with savings passed on to shareholders in the form of higher returns, or to consumers in the form of lower fees, unquote. We do not know whether these so-called benefits will exist for all consumers.
    Certainly, some consumers are in the electronic age and want imaging and there is some customer demand for that. Those consumers are being served today in the marketplace. But other consumers who do not want that are going to lose something that they now have, which is the paper check. But more importantly, even those consumers who have said no thank you, I do not need to get my checks back, their checks will be processed differently. Their checks will be processed more electronically. You have that exhibit that Governor Ferguson gave you that shows, bank one, bank two, bank three, bank four. Today, when truncation occurs, it occurs right there at the end at bank four. Under the Act, it is going to occur somewhere near the beginning, probably at bank one or maybe at bank two. And then it will be converted in and out of electronic and substitute form. We think that that process creates for consumers the same kinds of risks that we face when we pay with a debit card. We should get the same kinds of protections.
    And the Act does have some protections, but it sort of gives them in section six, and then it takes them away by saying, well, if your account agreement does not call for substitute checks, you do not get those protections after all. I have a hard time explaining this to my colleagues, and I cannot imagine explaining it to my mom, or you explaining it to your constituents. If you insist on your original checks back, you will not actually get them, you will get something else, but you will have certain rights that you will lose if you say, oh, no thank you, the copy the bank is going to send me looks just like the substitute check. I cannot get my original checks back anyway; I may as well agree to the copy; maybe the account is a dollar a month cheaper. Consumers are not going to know that they are losing that important recredit right.
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    So the Act kind of creates the right and then takes it away at the same time through what is essentially a waiver by agreeing to voluntary truncation. We do not think that makes any public policy sense.
    Mr. TIBERI. Mr. Hage, could you comment on the same issue?
    Mr. HAGE. Our experience at Home Federal has been that 90 percent of our customers have chosen to do business with us and have their checks truncated since the beginning of our offering checks. Ten percent of our customers have elected to keep a paper form. The feedback that we are getting from our customers is that when we go to check imaging, those 10 percent who are now getting the paper back have a high propensity to convert to check imaging. So the notion that there is a mass of consumers out there who are clinging to the paper as a security blanket I think is unfounded in today's world.
    This Act does not require nor force any bank to refuse to process paper. It only allows those banks who find it advantageous for themselves and for customers to now have a legal choice to use a substitute check, which facilitates then the use of the electronic form of transmitting those checks. When you think about the number of times that paper is handled, and at a minimum it is five to six times per check, think about all the risks that are embedded in that. If you can transmit this information electronically, you reduce that down to two to three handlings, and from that point on the data is secure in an electronic form that cannot be altered and can be passed on to any point of use in the system. There is certainly a lot more security in an electronic form of transmitting this kind of information. There is a lot less risk of losing, mutilating, losing, otherwise inadvertently destroying or having limited access to the paper.
    I also encourage you as a committee to think in terms of the private sector forces, the market forces that are in play here that are very real. My company spends several hundred thousand dollars a year in marketing to attract customers to come and do business in our bank. We are not going to turn our backs on them and we are not going to fail to give them the quality of service that they are going to demand in order to continue to stay loyal customers to our bank. I think that is true in every bank in this country. We pay dearly to get customers, and we work very hard to keep them. So if there is a sentiment among customers that they are being mistreated or misrepresented, we are going to respond to that.
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    Mr. TIBERI. Just to follow up on your comments, then—you believe that if there is an outpouring of customers who say, I want my paper check, you think there will be some banks who may respond to that? Is that what you are saying?
    Mr. HAGE. Absolutely, and my bank is one of them. The reason we added paper check processing to our system was because we acquired a bank where the majority of the customers at that bank were used to getting paper back. And we did not want to lose contact with those customers or drive them out of our bank to another bank. So we incurred the expense to provide paper check returns to satisfy that segment of customers, and they are very happy with the way we have done it. Our response to them now is that more competitors in our marketplace are offering check imaging, and our customers are saying, when will Home Federal do that? We are going to offer it in the next 30 to 45 days.
    Mr. TIBERI. Responding to the market.
    Mr. HAGE. Responding to the market.
    Mr. TIBERI. Mr. Walker, do you have any thoughts on the same subject?
    Mr. WALKER. I do not recall, sir, whether you were here at the time that Mr. Bentsen was describing scenarios that he had experienced earlier.
    Mr. TIBERI. I was not.
    Mr. WALKER. In his scenarios, he described checks that he had written and some difficulty he had in being able to get back information about those checks. These scenarios involved traditional paper checks. One of the key benefits that we think customers would begin to see with check imaging very early on in the cycle would be improved customer service on the part of the bank, because having access to electronic records of all of those checks would make it much easier to find and then provide the answers to customers about their questions than if you had to find either a microfilm copy in storage someplace, or physically go find the paper check, if the check is safe-kept.
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    In this world where you would have electronic images, including pictures of all of those check's front and back, the banks' customer service areas would more readily have access to that information, and frequently would be able to answer a customer's questions while they are still on the phone, not several days or weeks later when the bank might be able to physically access the piece of paper.
    Mr. TIBERI. You guys are not in the banking business, but any thoughts?
    Mr. SCHRAM. Just one other thing. Think about yourself personally and if you have a check that you want to cash today, or if you want to deposit it today. You walk up to an ATM machine. The technology is coming right now and available where you can basically put that check into the ATM machine and what will happen is an image of the check will automatically come up on the screen, and it will ask you to confirm whether the deposit amount is correct or whatever. And it will automatically then be able to start flowing down the check payment system. Whereas today, you walk in, you put an envelope in and you do not necessarily know where it is going, where it is flowing. You know you put the paper in, but what you will get immediately at that point of presentment is the opportunity to know, yes, I deposited that; yes, I validated the amount; and yes, I now know that once it has left my hands now and it is going down the payment system, I will be able to know that that image is a good image and I will know immediately at that point in time, rather than waiting, and did that black hole that is just went into actually accept my check and what happened to it, and so on and so forth.
    So we believe the technology is a real nice place for all parties involved in this, especially for the consumers.
    Mr. TIBERI. Joe, any comments on this issue?
    Mr. BIGGERSTAFF. I would like to address one comment made relative to justification from a security standpoint, from migration to an electronic platform. In our company's history, we have never had a theft of canceled checks that we carry in the form of consolidated cash letters. So from a security standpoint, we do not have that issue of losing checks in transit.
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    Mr. TIBERI. A good way to end it. Just a note, again to thank Chairman Bachus for having this hearing today. He was pretty excited yesterday about kicking this off and beginning this debate. Let's think of him as he helps his mother in the coming days. I know this issue will be on our plates in the coming weeks and coming months. I really appreciate you all coming out today and spending some time and talking to us about the issue.
    The chair notes that some members may have additional questions for this panel, which they may wish to submit in writing. Without objection, the hearing record will remain open for 30 days for members to submit written questions to these witnesses and to place the response in the record.
    This hearing is adjourned. Thank you.
    [Whereupon, at 12:53 p.m., the subcommittee was adjourned.]