Check Fraud Checkup

Originally published: 10.01.08 by Frank W. Abagnale


This fast-growing crime could cost your company. Assess your liability and follow proper procedures.

Mark Twain wrote in 1897, “… the report of my death was an exaggeration.” So, too, was the predicted demise of the paper check in 1973. Thirty-five years later, not only are checks still being used, but they represent the largest category of non-cash payment instruments. Not surprisingly, check fraud is the most dominant method of fraudulent payments and produces the greatest losses. Check fraud continues to be one of the U.S.’ fastest — growing and least-prosecuted financial crimes, and every checking account holder is at risk of becoming a victim, including your company.

In the Payments Fraud and Control Survey released by the Association of Financial Professionals (AFP) in March 2005, 55% of the organizations that responded confirmed that they had been victims of payments fraud. The vast majority — 94% — indicated they were victims of check fraud. This was true whether the organization was large or small.

In the AFP survey, only 7% of the companies reporting a fraud attempt did not lose money. That means 93% of those reporting a fraud attempt

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did lose money.

How much is check fraud costing? The Nilson Report, a leading information source for the paymentsystems industry, indicates that annual check fraud losses now exceed $20 billion, up from $5 billion in 1993. BankInfoSecurity.com stated in November 2007 that while reported check fraud cases decreased between 2003 and 2006, the average loss per case increased 57%, from $1,098 to $1,727.

These statistics show that financial institutions and businesses with checking accounts face a substantial shared risk from check fraud.

Business owners must answer these questions: How do we assess our risk? How much financial exposure are we willing to assume? What real and hidden costs will we bear if we become victims of check fraud? How might our image and reputation be damaged? How much are we willing to spend to reduce our risk?

To properly answer these, companies need to know the extent of their liability as the account holder.

The legal basis for liability in check fraud losses is found in the Uniform Commercial Code (UCC). The UCC places responsibility for check fraud losses on both the bank and its customers.

Responsibility for check issuers and paying banks falls under the term “ordinary care.” Ordinary care requires account holders to follow “reasonable commercial standards” prevailing in their area and for their industry or business. Under Sections 3-403(a) and 4-401(a), a bank can charge items against a customer’s account only if they are “properly payable” and the check is signed with an authorized signature. If a signature is forged, the account holder may still be liable if one of the following exceptions applies:

  • First, if account holders’ own failures contributed to a forged or altered check, they may be restricted from seeking restitution from the bank. Section 4-406 requires customers to reconcile their bank statements within a reasonable time and report unauthorized checks immediately. Typically, this means reconciling bank statements as soon as they are received, and always within 30 days of the bank statements being mailed.
  • Second, the concept of “comparative negligence” in Sections 3-406(b) and 4-406(e) can also shift liability from the bank to the check issuer. If both the bank and the account holder have failed to exercise ordinary care, a loss may be allocated based on the extent that each party’s failure contributed to the loss.

The internal controls used by a company when issuing checks will be questioned to determine negligence. Since banks are not required to physically examine every check, companies may be held liable for all or a substantial portion of a loss even if the bank did not review the signature on the fraudulent check.

Placing a Stop Payment on a check does not end your liability to pay the check. Further, a company can be held liable for counterfeit items that look virtually identical to its original checks.

Read your bank contracts to understand your liability for fraud losses under the UCC. This specifically includes the small print on signature cards and disclosure statements. It is clear from recent court cases involving fraudulent checks that a bank’s intentions must be stated clearly to prevail in a check fraud case against a customer. Accordingly, banks are re-writing their signature card agreements to include new provisions and requirements in their disclosure statements. For a summary of the revised UCC, visit http://www.FraudTips.net.



Articles by Frank W. Abagnale

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