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“Change is one thing,
progress is another,” stated early 20th century British
philosopher and mathematician, Bertrand Russell. In the world of payment
processing, Russell’s observations hold much relevance today. Check
processing, in particular, is at the center of some of the most heralded
change in recent memory, marked by a relatively new law called the Check
Clearing for the 21st Century Act, or Check 21.
What is Check 21?
With the Federal
Reserve as chief sponsor, Check 21 became law last October and promised
big changes for banks, consumers, and merchants alike. The new law is
designed to accomplish a fundamental goal – to improve the speed and
reliability of the check-clearing process by taking as much of the paper
out of the process as possible.
Prior to Check 21
going into effect, all check processing involved physically moving each
paper check – tens of billions of them annually – through the system
from the bank of first deposit to the bank on which the check is
written. To speed up processing, Check 21 allows banks to transfer the
legal status of a paper check to a new legal form of tender, a
substitute check (a physical rendering of the front and back image and
MICR information), that can be processed in the same manner as a
original paper check. The substitute check becomes the new negotiable
instrument used in the clearing process. The original paper check is
destroyed. |
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In addition, Check
21, while not mandating, creates an environment where banks, through
mutual agreement, may exchange electronic images of the checks. Known
as image exchange, this process is the ultimate goal of Check 21 –
accept the original check, convert it to an electronic image, and settle
the transaction electronically.
A Big Deal. But
How Big?
How revolutionary is
Check 21? Many payment-processing innovations, such as point-of-sale
(POS) check conversion or online bill presentment and payment, may seem
more technically sophisticated. However, these and other examples merely
leverage existing payment mechanisms. They just do it in new ways. Check
21 is profoundly important for several reasons. First, it creates a new
form of legal tender, the substitute check. Second, it enables banks and
payment processors to leapfrog the paper process and begin to build out
an entirely new, electronic network for the exchange and settlement of
digital-check images and data between one another.
Check 21 didn’t
exactly slip by unnoticed when it became law last October. Indeed, it
garnered widespread consumer press attention that primarily highlighted
the benefits of the law for banks and the consequences for consumers.
For banks, Check 21 will reduce the need for physical check
transportation and its inefficiencies and costs. For consumers, the new
law portends the demise of a check-writing benefit most of us have
always enjoyed, perhaps even relied upon – a few days of float before a
check clears. In a mature Check 21 world, including image exchange,
checks will begin to behave more like some card-based debit
transactions, with funds moving more rapidly after tender.
But the majority of
Check 21 press coverage overlooked two vital angles:
1) A realistic
discussion of progress made to date in making this new law a practical
reality.
2) The impact of
Check 21 on retailers and other merchants, utilities, direct marketers,
and high-volume check acceptors.
Laying new rail –
Where is Check 21 today?
Despite the hype,
Check 21 today remains more in its infancy than in practical every day
reality. The various constituencies charged with the task of
implementing Check 21 have made limited progress despite their
diligence, and banks are processing relatively few substitute checks
today; even fewer are settling check payments via image exchange. Chalk
it up to the sheer complexity of the undertaking. Developing the image
exchange and settlement network – the new “rails” over which the
original check transactions will flow – is a major factor. Additionally,
many banks still need to make the up-front investment in digital imaging
systems that allow them to participate. Given these hurdles, check
processing via Check 21 won’t begin in earnest until sometime in 2006,
with many pundits predicting significant volume not building until 2007.
Impact on check acceptors – on the cusp
of new opportunities
Retailers and other
companies that accept high volumes of checks have much to gain in a
Check 21 world. One benefit is obvious. As Check 21 starts to gain
momentum, it provides a healthy pressure on the ACH payments network to
make modifications to stay viable. Check 21, combined with the ACH
network, will give merchants the opportunity to deploy new
check-processing options that deliver greater efficiencies, lower
processing costs, and ultimately make the check an even more viable
method of payment acceptance. These new check-processing options promise
to cure many of the shortcomings inherent in current, so-called
state-of-the-art, check-processing systems.
For instance, POS
check conversion allows merchants to electronically capture vital check
information at the point of sale, return the check immediately to the
customer, and then complete the transaction electronically. Hoping for
greater transaction efficiencies, many smaller retailers have deployed
this check processing option over the past several years. More often
than not, the ROI fell short of expectations, in particular for large
retailers. POS check conversion deployments involved more capital,
employee training and customer confusion over how the transaction takes
place than originally anticipated.
Check 21 facilitates
a relatively new way to manage check payments called back office check
conversion (BOC). BOC allows retailers, or any company that accepts a
high volume of check payments, to realize the efficiencies promised by
services like POS check conversion without the upfront costs, training
issues, and customer confusion. With BOC, merchants accept the check at
the point-of-sale with no change in consumer behavior or employee
training, then convert that check in the “back office” where it will
subsequently be processed as a substitute check, via check-image
exchange, or ACH.
While Check 21 is the
primary enabler behind BOC, forecasted changes to existing ACH
processing rules are expected to add a beneficial, new wrinkle. The
National Automated Clearinghouse Association (NACHA), the organization
that governs transactions conducted over the Federal Reserve-supported
Automated Clearing House (ACH) is fielding requests to change its
transactions rules to allow checks accepted in a BOC environment to be
processed electronically via the ACH.
Combined with Check
21 processing capabilities, this rule change would allow a merchant (or
its processor) to select the least costly route to process each check,
whether it’s via the ACH, check-image exchange, or substitute check.
Should NACHA make the appropriate rule changes, merchants that have long
sought a complete check-processing alternative that helps them reduce
costs may finally get their wish. Carried out to it fullest potential,
it is reasonable to expect a BOC application to reduce costs by 50%.
A more important message for merchants
Merchants continually
work to develop payment acceptance strategies that balance payment
flexibility for their customers with their own efforts to reduce costs.
Perhaps no message about Check 21 is more important for merchants than
this: Not only will Check 21 help improve the viability of the paper
check as a method of payment acceptance, but that viability will provide
a cost offset to other, more costly forms of payment acceptance.
However, that message is sometimes overshadowed.
According to the
Federal Reserve statistics, check transaction volume is on the decline.
However, checks are still the most prevalent form of non-cash payment in
the United States. Paper checks might be on their way out, but not
anytime soon. As Check 21 transitions from change promised to progress
realized, merchants, now more than ever, need to make the paper check,
and its derivative, the ACH, a central component of their payment
acceptance strategy. |
