CUNA Regulatory Comment Call

January 23, 2002




The Federal Reserve System Board of Governors approved a final draft of the Check Truncation Act (Act) that it has sent to Congress. This Act is intended to promote widespread check truncation. The proposed law aims to increase the ability of financial institutions to convert paper checks into electronic checks and to use electronic checks in the check collection/return process. CUNA would like your comments on the Act, before CUNA attends a meeting with the Federal Reserve to discuss this and other pending issues. Please submit your comments to CUNA by Monday, February 4, 2002.

This draft of the Act differs slightly from prior versions, although the basic tenets of the Act remain the same. The differences are described below:

Please feel free to fax your responses to CUNA at 202-638-7052; e-mail them to Associate General Counsel Mary Dunn at -and to Assistant General Counsel Michelle Profit at; or mail them to Mary and Michelle c/o CUNA’s Regulatory Advocacy Department, 601 Pennsylvania Ave., N.W. South Bldg., Suite 600, Washington, D.C. 20004. For the current version of this "Check Truncation Act" please press here


Currently, the law requires that paper checks be returned to the issuing institution unless the parties agree to accept check information electronically. The requirement that institutions have a formal agreement in place limits the ability of financial institutions to engage in widespread check truncation. Thus, the Check Truncation Act would allow institutions to send checks electronically without a formal agreement beforehand.


The final draft of the Check Truncation Act sent to Congress differs from the previous versions of the draft in three fundamental respects. First, this draft includes new, special procedures for Treasury checks. It requires any credit union that truncates a Treasury check to send the original check to a Federal Reserve Bank for safekeeping, but the Treasury check must be sent in a manner so that it is not handled as a forward collection item. Second, this draft appears to grant the Federal Reserve broader authority to write regulations under this Act. Third, the Act allows a credit union to reverse a recredit with new conditions. The conditions allow the credit union to reverse the recredit when it provides the original check to the member and provides the member with use of the reversed funds. The credit union must honor payments as though the funds had not been reversed for five business days. Thus, a member’s share drafts to third parties would be honored if they would have been paid without the reversal of the recredit. However, a credit union does not have to allow the member the ability to make personal withdrawals on these funds.

The rest of the Act remains much the same as older versions and is described below. The draft law would permit a financial institution to collect or return electronic checks with other financial institutions that agree to accept electronic checks. If a financial institution does not agree to receive electronic checks, then the originating financial institution would not send an electronic version of the check, but would send a substitute paper machine-readable copy of the check ("substitute checks"). No prior agreement is required before a financial institution may return or send for collection a substitute check. Any financial institution would be required to accept the substitute check. In the collection process, the original check could be converted into an electronic version and back into a substitute check as required by the receiving financial institution.

This draft law would become effective one year after enactment and it would supersede any law that is inconsistent with it, including federal law, state law, and the Uniform Commercial Code. The Federal Reserve would write the regulations for this law and may modify the requirements of the Act to further the purposes of the Act.

A substitute check would be the legal equivalent of the original check for federal laws, including IRS laws, and state laws. These substitute checks must be accurate and legible and bear the legend: "This is a legal copy of your check. You can use it the same way you would use the original check." The reconverting bank (a bank that converts an electronic check into a substitute check) shall ensure that the substitute check has the endorsement of previous institutions that indorsed it. In addition, a reconverting bank would have to identify itself on the substitute check as the converting institution.

Financial institutions that transfer or present substitute checks and receives consideration for them make two warranties to subsequent financial institutions and persons who use them. First, they warrant that the substitute check meets the requirements to be legally equivalent to the original. Second, they warrant that no institution will be required to pay twice on the same substitute check because of its alternate forms.

In the proposal, a reconverting bank would indemnify subsequent parties for losses due to receipt of a substitute check instead of the original check. The indemnity would be up to the amount of the check, plus interest and expenses as well as attorney fees if that loss would not have occurred if the recipient had the original check. If the loss is partially the fault of the financial institution/person indemnified, then that person shall be responsible for a proportionate amount of the loss. If the indemnifying bank produces the original check, it is liable only for losses that are incurred up to that time, and all excess money it paid must be returned. Production of the original check does not absolve the indemnifying bank from any liability on a warranty that it has given under this Act or other law.

A member of a credit union may claim that a substitute check cannot be properly charged to a consumer's account or that it breaches a warranty and an original check is needed in connection with the claim. If a consumer seeks a recredit, then (s)he must provide to the indemnifying institution the following items: a description of the claim; a statement that the member suffered a loss and the amount of the loss; a reason why only the original check will suffice; and sufficient information to identify the check and to investigate the claim. The consumer must make this claim within 60 days after the relevant statement or check is made available to the consumer. This time period can be extended for extenuating circumstances.

Once a consumer makes a claim, then the credit union must both produce the original and show that it was properly payable or recredit the consumer's account. The recredit applied to the account would be for the amount of the check or $2,500, whichever is less, by the business day following the banking day of the claim. The credit union must credit the remainder, the part over $2,500, within 20 business days following the banking day of the claim. A credit union must make recredited funds available for withdrawal by the start of the next business day after the recredit is required to be applied to the account. Under most circumstances, this would be the start of the second business day following the banking day of the claim. A credit union may delay availability of the recredit until the twentieth business day following the banking day if the account is less than 30 days old; if the account is frequently overdrawn; if there is a reasonable belief that there is fraud; and in cases of emergency.

A financial institution may make a claim against a bank that indemnified it if a consumer makes a warranty claim related to the substitute check or the bank wants to assert such a claim. To recover the bank must have suffered a loss or been forced to pay a consumer recredit and the original check must be necessary to verify the charge. The bank has 120 days after the day of the transaction that gave rise to the claim. A credit union may reverse the recredit to the member's account when it provides the original check to its member, as long as the substitute check is a proper charge to the account. Providing a recredit does not absolve a financial institution from liability for wrongful dishonor under the Uniform Commercial Code or other law.

If a financial institution seeks a recredit, then it must provide the following: a description of the claim; a statement the original check is necessary; a statement that it has suffered a loss and how much the loss is for; and sufficient information to identify the check and to investigate the claim. If that happens, then the indemnifying financial institution must produce the original check or provide expedited recredit rights. The recredit is due within 10 business days. Providing the recredit does not absolve the indemnifying bank from liability for additional damages.

If the indemnifying credit union produced the share draft after the 10 days has elapsed, it has a right to a refund of any amount it had previously recredited to the other institution that exceeds legitimate losses incurred up to that time. The indemnifying credit union may recover from any indemnified party if the charge to the member account is appropriate or the warranty claim has no merit. An indemnifying financial institution that provides a recredit may attempt to recover from another party based on a warranty or other claim.

Any warranty action must be brought within one year of this cause of action. If a claim is raised later than 30 days after a claimant has reason to know about the claim, then the financial institution is not liable for losses that result from the delay.


  1. Do you support the requirement that financial institutions that truncate Treasury checks should send the original Treasury check to a Federal Reserve Bank for safekeeping. Please explain.

  2. Do you support the changes in the Act that appear to give the Federal Reserve Board broader authority to promulgate rules to administer the Act? The section allows the Board to clarify or otherwise implement the provision of this Act.

  3. Do you support the change in the revised Act that would require a credit union to present the original check to the member in order to reverse the funds?

  4. If a credit union reverses a recredit, then it allows the member to use the funds that were reversed for five business days. In other words, for five days the credit union must honor check payments to third parties that it would have honored if the funds were not reversed. Do you support this new requirement in the Act? Please explain.

  5. Under the Act damages for breach of warranty or failure to meet any requirement of the Act would include attorney fees. Do you agree that damages should include attorney fees? Please explain.

  6. Should CUNA support this proposal in its entirety? Should CUNA support only some provisions? Please explain.

Eric Richard • General Counsel • (202) 508-6742 •
Mary Mitchell Dunn • SVP & Associate General Counsel • (202) 508-6736 •
Jeffrey Bloch • Assistant General Counsel • (202) 508-6732 •
Catherine Orr • Senior Regulatory Counsel • (202) 508-6743 •