Positive Pay is an excellent example of software that has changed dramatically in its race against the criminal element. Simply defined, Positive Pay is an account reconciliation system that is operated by the customer1. Banks have provided account reconciliation services for decades until in-house accounting systems, such as Intuit QuickBooks™ began providing the recon services as part of the standard accounting system. However, unlike recon systems of the past, Positive Pay targets now include checks that are converted into ACH (ARC) items.

However, despite the progress, check image technology prevents Positive Pay from verifying the payee on checks and “washing” a payee’s name with chemicals and typing in a new payee is one of the most common forms of check fraud.

For most banks in the Check 21 environment, checks are captured and transmitted to the paying bank as images. The image format is very different than the text format that customers transmit to the bank in their Positive Pay-check issued file. Because the two formats are incompatible—they cannot be compared. Although this serious drawback has long been known in the technology/banking circles—the courts had not fully understood the impact of technology until Foster versus Wachovia.

On July 24, 2006, the U.S. Court of Appeals for the Seventh Circuit ruling in the case of Wachovia Bank, N.A. (paying bank) v. Foster Bancshares, Inc., and Foster Bank (bank of first deposit), was startling for many bankers and attorneys, not just because of the ruling, but the reasoning behind the ruling:

• Procedures for verifying large checks were called into question
• Verify the Payee information if a bank used a Positive Pay system
• Keeping paper checks for extended period (60-90 days) to preserve forensic data

The court ruled in favor of Wachovia in both the federal district court case and the appeal. The major contention of the court was the check was imaged and destroyed by Foster, which prevented forensic examination of the original check. Check images do not carry heat and watermark security features when imaged and blemishes caused by washing a check is very difficult to detect.

Another issue that was cited was not examining the payee information. Again, Positive Pay systems2 have not advanced to the point of being able to electronically compare images to text information.

Prior to this Wachovia v. Foster, the rule-of-thumb was simple: check alterations were the liability of the bank of first deposit and forgery was the liability of the paying bank. In its decision, the court stated, “So we have jurisdiction of Foster’s appeal and can turn to the merits. The bank argues that Wachovia, because it cannot produce the paper check, cannot prove that the check was altered.

“…Had the original paper check not been destroyed, it could be examined and the examination might reveal whether the check had been forged as just described or the payee’s name had been changed by chemical washing of the check or by some other method that utilized rather than replaced the original check.3”

In a world where truncating checks may soon be the norm, having the paper check could tip the scale of justice in favor of the bank with the paper check. It is also important to remember that when a substitute check is created, the image size of a commercial check is reduced significantly to fit on the form. This makes detecting alterations very difficult and in some cases—impossible.

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