CUNA Regulatory Comment Call

March 9, 2001

Revised Check Truncation Act



The Federal Reserve has redistributed a draft of the Check Truncation Act, which is slightly different from the version that the Federal Reserve System distributed earlier. The Federal has also extended the comment period until March 30. As a result, CUNA is modifying its comment call to reflect changes in the proposal. Changes are highlighted. And new questions that the Federal Reserve asks for comment on are highlighted and attached at the end of old questions in this revised comment call. Basically, the Check Truncation Act remains the same, 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. The Federal Reserve would like comments by March 30, 2001. Please submit your comments to CUNA by March 23, 2001.

Please feel free to fax your responses to CUNA at 202-371-8240; e-mail them to Associate General Counsel Mary Dunn at or to Assistant General Counsel Michelle Profit at; or mail them to Mary or Michelle c/o CUNA’s Regulatory Advocacy Department, 805 15th Street, NW, Suite 300, Washington, DC 20005. Here is the current version of "Check Truncation Act".

Credit unions also should comment to the Federal Reserve directly at several regional meetings held by the Federal Reserve Banks. Credit unions must preregister with the appropriate Federal Reserve Bank contact beforehand. The schedule and contacts for these meetings are listed below.

Place Time Contact
Seattle Wednesday afternoon, February 14th Jeffrey Lewis

Teri Bahl
Los Angeles Thursday afternoon, February 15th Doris Burnham
Denver Wednesday morning, February 28th Diane Cook
Dallas Wednesday afternoon, March 7th Agnes Mitchell
Chicago Thursday afternoon, March 22nd Wilda Belk
Atlanta Tuesday afternoon, March 27th David Morrisset
Philadelphia Wednesday morning, March 28th Tony White
215/574 -6460


This proposal seeks to eliminate barriers to widespread adoption of check truncation caused because some financial institutions do not accept electronic checks and are reluctant to invest in truncation technology when it is rarely used.

The draft law would permit a financial institution to truncate all checks into 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"). Every 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.

An electronic check and a substitute check would be the legal equivalent of the original check for federal laws, including IRS laws and state laws. An electronic check is the legal equivalent of the original check for all purposes, including federal and state law, and for all persons, including those if it is accurate, legible, convertible, and meets industry standards. These electronic checks would also be subject to applicable laws that are consistent with the Federal Reserve's proposal.

Two financial institutions may make an agreement that alters some provisions of the proposal, but they may not vary the terms of the recredit procedures or reduce the rights of a consumer.

Financial institutions that originate electronic checks would have to provide a warranty that an electronic or substitute check is an accurate representation of the original check and that a financial institution would not be asked to pay a check it has already paid. This situation could occur if both an original and an electronic check are presented. In addition, a financial institution that converts a paper check into an electronic check would have to identify itself on the electronic check as the converting institution. Any paying financial institution that returns an electronic check would also have to specify the reason for the return, which is the same procedure it would follow for any other check.

In the proposal, a financial institution that converts a paper check into an electronic check (and subsequent financial institutions) would indemnify subsequent parties for losses due to the unavailability of an original check. The indemnity would be up to the amount of the check, plus interest.

A member or financial institution 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 demand that the original check be produced; and sufficient information to identify the check and to investigate the claim. If a financial institution seeks a recredit, then it must provide the following: a notice of intent to recover; 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. However, the credit union must submit the claim to the indemnifying financial institution within 120 days after the date of the transaction that gave rise to the claim. If that happens, then the indemnifying financial institution must produce the original check or provide expedited recredit rights. The recredit amount is limited to the amount of the check or $5,000, whichever is less, no later than the next business day for a member. The financial institution must credit the consumer's account for the remainder of the amount of the claim, plus expenses and interest, on the business day following the banking day on which the institution determines that the consumer's claim is valid, but this must be within 10 business days. The recredit amount for another financial institution is due within 10 business days. 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 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 (U.C.C.) or other law.

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. The duty to indemnify exists until the statute of limitations ends. An indemnifying financial institution that provides a recredit may attempt to recover from another party based on a warranty or other claim.

This proposal follows the warranty rules found in other statutes. As a result, liability for breach of warranty or other liability under this proposal shall be governed by the U.C.C. or other applicable state law. If a breach of warranty occurs when there is an expedited recredit procedure, then there will be damages owed for a breach of warranty. These damages will include costs and attorney’s fees, as well as losses caused by the late recredit.


  1. The Federal Reserve states that the principles for this proposal are to foster innovation without mandating receipt of electronic checks; to internalize the costs and risks related to the creation of an electronic check with the financial institution that chooses to convert; and to do no harm to a credit union or consumer receiving a substitute check. Are these principals appropriate? If not how should they be changed?

  2. The Federal Reserve uses account in its definition of "consumer" and in the expedited recredit sections to refer to the account on which a check is drawn or into which a check is deposited. Should account be defined? Should it include both an asset account (such as a checking account) and a loan account (such as a credit card account that permits consumers to write checks)?

  3. The proposal requires a converting financial institution to identify itself on the electronic check as the converting financial institution in accordance with generally applicable industry standards. Is it technologically feasible for the converting financial institution to identify itself on the check? Specifically, can a credit union distinguish between original checks and substitute checks it is converting from paper to electronic form? This proposed requirement would make it easier for those who wanted to make an indemnity claim directly on the converting financial institution rather than going back up the collection or return chain.

  4. This draft limits the indemnity to the amount of the check plus interest. Generally, existing check warranty damage provisions in the U.C.C. do not provide for consequential damages. Limiting the damages to the amount of the check makes it easier for indemnifying financial institutions to ascertain their potential liability when deciding how long to retain an original. On the other hand, including consequential damages would be in keeping with the overall goal of holding harmless financial institutions that have received substitute checks without an agreement to do so. Should recovery for consequential damages be allowed?

  5. In the proposal, any claim under the indemnity must be made within the time limits under the U.C.C. or other applicable laws for making a warranty claim, or, for claiming an unauthorized signature or alteration. Should the UCC time limits apply, or should the statute provide for different time limits? The proposed statute currently states that an indemnity claim must be made within three years after the claimant has settled for the check. (There is a general, 3-year time limit to sue on a case in U.C.C. 4-111. Also, there is a one-year time limit to detect and report a forgery of your signature in UCC 4-406, and there is a general, one-year time limit in Regulation CC § 229.38(g)).

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

  7. The Electronic Check Clearing House Organization (ECCHO) has suggested that the Check Truncation Act not apply to checks truncated under programs where the banks involved have agreed to truncate/image checks under another framework, such as the ECCHO rules. Do you agree with this request?

  8. If an electronic check is created from a paper check that has been handled in a carrier envelope, can the endorsements on the carrier envelope be carried through with the electronic check?

  9. In the Check Truncation Act, there is a special rule for redeposited checks. A substitute check that is redeposited after it has been returned (either in paper or electronic form) by the paying bank may be the legal equivalent of the original check even if it does not contain the endorsements of the depositary, collecting, paying, or returning banks that previously handled the check. Is this special rule appropriate? The rule would enable the depositary bank, on redeposit, to strip all prior bank endorsements from a substitute check resulting in a cleaner back. Payee and other non-bank endorsements would have to be retained. Is there ever a need for the endorsements of the banks in the prior collection and return chain? The identification of the original truncating bank would have to be retained (assuming the Act requires that identification).

  10. Currently, if the indemnifying bank produces the original check, it has a right to a return of any funds it has paid under the indemnification in excess of losses incurred up to that time that are covered by the indemnity. Should this paragraph be expanded to give the truncating bank a right to return of the funds under the indemnity if it produces a good image of the original, when an image would support the charge to the drawer's account or the warranty claim?

  11. Should CUNA support limiting the recredit right that is automatically due to the consumer by the next business day to $5,000? Please explain.

  12. In order for a financial institution to obtain a recredit, the financial institution must submit the claim to the indemnifying financial institution within 120 days after the date of the transaction that gave rise to the claim. Should CUNA support a time limit? Should it be shorter or longer or remain the same? The Federal Reserve proposed the 120 -day period to allow time for the consumer to make a claim. This limit gives the consumer 60 days to review the account statement, which may be as long as 30 days following the transaction date, plus 30 days for the claim to pass through other preceding banks in the collection or return chain.

  13. Should the expedited recredit procedures provide a mechanism to cover those consequential damages or be limited to the amount of the check plus interest and expenses?

  14. The effective date would be the later of January 1, 2003 or one year after the date of enactment. Would this effective date provide enough lead-time to establish standards and train credit union staff?

  15. Are there interpretive or other issues that should be included in the statutory text or in report language? Should the Board or other agency have regulatory or interpretive authority?

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 •