Check 21 and NSF Checks

Check Clearing for the 21st Century Act

You conclude that a new customer is too risky to grant open credit, so you insist on COD. You authorize shipment only on the condition that your delivery driver picks up the check from your customer. The goods are delivered, but the check is returned “NSF.”

On October 28, 2004, an act known as the “Check 21 Act” went into affect. (Its official name is Check Clearing for the 21st Century Act.) This is federal legislation affecting all states. Check 21 changes the way that checks are processed in the United States, as well as the technology of check payment and acceptance. With Check 21, financial institutions are allowed to process checks electronically, instead of transporting the paper.

What is the impact of Check 21 and bad check laws? What steps do you need to take to enforce the bad check in light of Check 21?

Overview Of Bad Check Laws

State law governs bad check law and all states have such laws. These laws combat fraud: For example, when a buyer of goods leads you to believe that payment is being made by offering you a check (which turns out to be bad), and you release goods based on this, that can be fraud. However, the bad check laws do not protect credit or “open account” transactions.

Generally, you are required to establish the buyer’s intent to defraud and knowledge of insufficient funds for a valid claim under the bad check laws. Most states provide that it is prima facie evidence of insufficient funds if:

(a) the check was not honored, and
(b) the buyer did not pay the check after written notice of dishonor of the check.

Under the bad check laws, you may have claims against the buyer on both a civil basis (collection of the debt) and a criminal basis.

Overview Of Check 21

Approximately 75 percent of trade credit transactions are conducted by check. Check 21 focuses on the delay caused by a paper check being transported through the banking system.

Check 21 permits the depository bank, if it so chooses, to “truncate” the original check. Truncating a check means to take the check out of physical circulation by transforming it using a computer scanner into a digital image, also known as a substitute check. This digital image becomes the legal equivalent of the original check, provided it meets the criteria set out in the legislation. Truncating the check permits banks to process the digital image for payment in hours rather than days. As a result of image technology, delays attributable to weather or air travel are gone.

Bad Check Laws And Check 21

Pre-Check 21 And Bad Check Law

Prior to passage of Check 21, if you received an NSF check, you typically didn’t know it was bad until the bank returned it, often up to two weeks later. You could then redeposit the check with the bank. If the check did not clear, you could then send a demand letter to the customer. Of course, your risks were higher, as additional shipments could be made until you received notice from the bank of the NSF.

Post-Check 21 And Bad Check Law

Notification of NSF checks may change significantly post-Check 21. Post- Check 21, you may learn promptly of an NSF check because the float time is less and most banks will offer notice of NSF checks via email or on-line. Some banks may continue to mail notice of the NSF checks. Each bank may set up its standard for immediately notifying vendors of NSFs.

At this point, it appears that banks may set their own standards for the redeposit procedure, after the initial attempt fails. The bank may redeposit the check without returning the check to you, based on your instructions to them. Or, the bank may issue a substitute check stamped "Returned due to NSF" and return the check to you. The substitute check is the legal equivalent of the original, so you may use this for reporting to the police authorities.

Does The NSF Demand Letter Still Need To Be Sent?

Under most bad check statutes, you must send a demand letter to the customer requesting grounds for the check not clearing (such as stopping payment because of a quality of goods issue) for you to be entitled to treble damages.

Exhibit “A” is an example of this form of letter.

With Check 21, a customer likely will not have an opportunity to issue a stop payment as it will not have had an opportunity to inspect the goods prior to the check clearing. In most instances, because of the speed with which checks clear, when you receive an NSF check now, in the new “Check 21 environment,” it won’t be because of a customer protest. However, the bad check laws and demand letters have not yet changed as a result of Check 21.

Conclusion: Check 21 Will Make It Easier To Deal With The NSF Check

Check 21 better protects you from the risks of an NSF check, especially the typically lengthy time it takes to find out. As a result of image technology, you will receive notice of the NSF check and can take steps to protect your sale, as well as future orders the customer may desire to pay by check.