[House Hearing, 107 Congress]
[From the U.S. Government Publishing Office]





                     H.R. 5414--THE CHECK CLEARING
                        FOR THE 21ST CENTURY ACT

=======================================================================

                                HEARING

                               BEFORE THE

                            SUBCOMMITTEE ON
               FINANCIAL INSTITUTIONS AND CONSUMER CREDIT

                                 OF THE

                    COMMITTEE ON FINANCIAL SERVICES

                     U.S. HOUSE OF REPRESENTATIVES

                      ONE HUNDRED SEVENTH CONGRESS

                             SECOND SESSION

                               __________

                           SEPTEMBER 25, 2002

                               __________

       Printed for the use of the Committee on Financial Services

                           Serial No. 107-84


83-587              U.S. GOVERNMENT PRINTING OFFICE
                            WASHINGTON : 2002
____________________________________________________________________________
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                 HOUSE COMMITTEE ON FINANCIAL SERVICES

                    MICHAEL G. OXLEY, Ohio, Chairman

JAMES A. LEACH, Iowa                 JOHN J. LaFALCE, New York
MARGE ROUKEMA, New Jersey, Vice      BARNEY FRANK, Massachusetts
    Chair                            PAUL E. KANJORSKI, Pennsylvania
DOUG BEREUTER, Nebraska              MAXINE WATERS, California
RICHARD H. BAKER, Louisiana          CAROLYN B. MALONEY, New York
SPENCER BACHUS, Alabama              LUIS V. GUTIERREZ, Illinois
MICHAEL N. CASTLE, Delaware          NYDIA M. VELAZQUEZ, New York
PETER T. KING, New York              MELVIN L. WATT, North Carolina
EDWARD R. ROYCE, California          GARY L. ACKERMAN, New York
FRANK D. LUCAS, Oklahoma             KEN BENTSEN, Texas
ROBERT W. NEY, Ohio                  JAMES H. MALONEY, Connecticut
BOB BARR, Georgia                    DARLENE HOOLEY, Oregon
SUE W. KELLY, New York               JULIA CARSON, Indiana
RON PAUL, Texas                      BRAD SHERMAN, California
PAUL E. GILLMOR, Ohio                MAX SANDLIN, Texas
CHRISTOPHER COX, California          GREGORY W. MEEKS, New York
DAVE WELDON, Florida                 BARBARA LEE, California
JIM RYUN, Kansas                     FRANK MASCARA, Pennsylvania
BOB RILEY, Alabama                   JAY INSLEE, Washington
STEVEN C. LaTOURETTE, Ohio           JANICE D. SCHAKOWSKY, Illinois
DONALD A. MANZULLO, Illinois         DENNIS MOORE, Kansas
WALTER B. JONES, North Carolina      CHARLES A. GONZALEZ, Texas
DOUG OSE, California                 STEPHANIE TUBBS JONES, Ohio
JUDY BIGGERT, Illinois               MICHAEL E. CAPUANO, Massachusetts
MARK GREEN, Wisconsin                HAROLD E. FORD Jr., Tennessee
PATRICK J. TOOMEY, Pennsylvania      RUBEN HINOJOSA, Texas
CHRISTOPHER SHAYS, Connecticut       KEN LUCAS, Kentucky
JOHN B. SHADEGG, Arizona             RONNIE SHOWS, Mississippi
VITO FOSSELLA, New York              JOSEPH CROWLEY, New York
GARY G. MILLER, California           WILLIAM LACY CLAY, Missouri
ERIC CANTOR, Virginia                STEVE ISRAEL, New York
FELIX J. GRUCCI, Jr., New York       MIKE ROSS, Arizona
MELISSA A. HART, Pennsylvania         
SHELLEY MOORE CAPITO, West Virginia  BERNARD SANDERS, Vermont
MIKE FERGUSON, New Jersey
MIKE ROGERS, Michigan
PATRICK J. TIBERI, Ohio

             Terry Haines, Chief Counsel and Staff Director
       Subcommittee on Financial Institutions and Consumer Credit

                   SPENCER BACHUS, Alabama, Chairman

DAVE WELDON, Florida, Vice Chairman  MAXINE WATERS, California
MARGE ROUKEMA, New Jersey            CAROLYN B. MALONEY, New York
DOUG BEREUTER, Nebraska              MELVIN L. WATT, North Carolina
RICHARD H. BAKER, Louisiana          GARY L. ACKERMAN, New York
MICHAEL N. CASTLE, Delaware          KEN BENTSEN, Texas
EDWARD R. ROYCE, California          BRAD SHERMAN, California
FRANK D. LUCAS, Oklahoma             MAX SANDLIN, Texas
BOB BARR, Georgia                    GREGORY W. MEEKS, New York
SUE W. KELLY, New York               LUIS V. GUTIERREZ, Illinois
PAUL E. GILLMOR, Ohio                FRANK MASCARA, Pennsylvania
JIM RYUN, Kansas                     DENNIS MOORE, Kansas
BOB RILEY, Alabama                   CHARLES A. GONZALEZ, Texas
STEVEN C. LaTOURETTE, Ohio           PAUL E. KANJORSKI, Pennsylvania
DONALD A. MANZULLO, Illinois         JAMES H. MALONEY, Connecticut
WALTER B. JONES, North Carolina      DARLENE HOOLEY, Oregon
JUDY BIGGERT, Illinois               JULIA CARSON, Indiana
PATRICK J. TOOMEY, Pennsylvania      BARBARA LEE, California
ERIC CANTOR, Virginia                HAROLD E. FORD, Jr., Tennessee
FELIX J. GRUCCI, Jr, New York        RUBEN HINOJOSA, Texas
MELISSA A. HART, Pennsylvania        KEN LUCAS, Kentucky
SHELLEY MOORE CAPITO, West Virginia  RONNIE SHOWS, Mississippi
MIKE FERGUSON, New Jersey            JOSEPH CROWLEY, New York
MIKE ROGERS, Michigan
PATRICK J. TIBERI, Ohio


                            C O N T E N T S

                              ----------                              
                                                                   Page
Hearing held on:
    September 25, 2002...........................................     1

Appendix:
    September 25, 2002...........................................    39

                               WITNESSES
                     Wednesday, September 25, 2002

Biggerstaff, Joel, CEO, AirNet Systems, Inc......................    29
Fenner, Robert M., General Counsel, National Credit Union 
  Administration.................................................     8
Ferguson, Hon. Roger W. Jr., Vice Chairman, Federal Reserve Board     6
Hage, Curtis L., Chairman & CEO, Home Federal Bank...............    21
Hillebrand, Gail, Senior Attorney, Consumers Union...............    23
Schram, Lee, Vice President and General manager of Payment 
  Solutions, NCR Corporation.....................................    27
Walker, David, President and CEO, Electronic Check Clearing House 
  Organization...................................................    25

                                APPENDIX

Prepared statements:
    Oxley, Hon. Michael G........................................    40
    Ford, Hon. Harold E. Jr......................................    41
    Gillmor, Hon. Paul E.........................................    43
    Grucci, Hon. Felix J. Jr.....................................    44
    Royce, Hon. Ed...............................................    46
    Sherman, Hon. Brad...........................................    47
    Biggerstaff, Joel............................................    48
    Fenner, Robert M.............................................    55
    Ferguson, Hon. Roger W. Jr...................................    62
    Hage, Curtis L...............................................    70
    Hillebrand, Gail.............................................    77
    Schram, Lee..................................................    86
    Walker, David................................................    91

              Additional Material Submitted for the Record

Kelly, Hon. Sue W.:
    Information Technology Industry Council letter, September 25, 
      2002.......................................................   112
    National Association of Federal Credit Unions letter, 
      September 25, 2002.........................................   113
Biggerstaff, Joel:
    Airnet Timelines.............................................   115
    Snapshots, November 2001.....................................   126
Association of Corporate Credit Unions, prepared statement.......   127
Association for Financial Professionals, prepared statement......   131
Chen-Yu Enterprises LLC, prepared statement......................   137

 
                     H.R. 5414, THE CHECK CLEARING
                        FOR THE 21ST CENTURY ACT

                              ----------                              


                     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.
    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.
    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?
    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.
    [Laughter.]
    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.
    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.
    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.
    [Laughter.]
    The Chairman. All right. Touche.
    [Laughter.]
    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.
    [Laughter.]
    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.
    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?
    Mr. Fenner. In some years.
    The Chairman. In some years. Okay.
    [Laughter.]
    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.

STATEMENT OF HON. ROGER W. FERGUSON, JR., VICE CHAIRMAN, BOARD 
              OF GOVERNORS, FEDERAL RESERVE SYSTEM

    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.
    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.
    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.
    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.
    [Recess.]
    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.

STATEMENT OF ROBERT M. FENNER, GENERAL COUNSEL, NATIONAL CREDIT 
                      UNION ADMINISTRATION

    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.
    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.
    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?
    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?
    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.
    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.
    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.
    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.
    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.]
    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.
    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.
    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.
    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.
    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.
    [Laughter.]
    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?
    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.
    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?
    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.
    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.
    [Laughter.]
    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.
    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.

 STATEMENT OF CURTIS ``CURT'' L. HAGE, CHAIRMAN AND CEO, HOME 
                          FEDERAL BANK

    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.
    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.
    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.]
    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.

 STATEMENT OF GAIL HILLEBRAND, SENIOR ATTORNEY, CONSUMERS UNION

    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.
    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.
    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.
    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?

STATEMENT OF DAVID WALKER, PRESIDENT AND CEO, ELECTRONIC CHECK 
                  CLEARING HOUSE ORGANIZATION

    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.
    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.
    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?

STATEMENT OF LEE SCHRAM, VICE PRESIDENT AND GENERAL MANAGER OF 
               PAYMENT SOLUTIONS, NCR CORPORATION

    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.
    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.
    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?

    STATEMENT OF JOEL BIGGERSTAFF, CEO, AIRNET SYSTEMS, INC.

    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.
    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.
    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.
    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.
    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.
    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.
    I am just going to continue to ask questions here. This is 
a pretty good position to be in.
    [Laughter.]
    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?
    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.
    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.
    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.
    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.
    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.]


                            A P P E N D I X

                           September 25, 2002


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