The daily news is filled with personal stories about bad experiences with banks. Here’s a recent example. In November 2024, a charity inadvertently accepted a fake check from a would-be donor.
The charity’s bank allowed the charity to deposit the check, crediting it with the funds. A few days later the bank discovered the fake, but only after the charity had transferred some of the “donated” funds back to the donor, a scammer. The bank then raided the charity’s bank account for the full
amount, leaving the charity out of pocket.
Readers will find this story disturbing. Banks are
supposed to protect scammed customers, not kick them while they are
down, especially charities. Many of us will wonder if the payments system needs to be fixed.
But
payments systems are complex organisms that have evolved over many
centuries. When viewed from afar, what appears to be a glitch is often
actually an element of a balanced whole. Solving the problem of fake
check scams would upset this balance, introducing new complications
further down the payments process.
Let’s look a bit more closely at the scam.
The anatomy of a fake donation scam
Approached by a stranger who wanted to donate money, Motorcycle Missions – a Texas-based charity that helps helps veterans and first responders with post-traumatic stress disorder – was sent a $95,000 paper
check in the mail. Motorcycle Missions proceeded to deposit the check at
its bank, Chase, which immediately credited the charity for the full amount. A few days later, the stranger asked for some of the money back. His assistant had made a mistake, the stranger claimed, and the check was supposed to be for just $50,000. So Motorcycle Missions helpfully wired $45,000 to the stranger’s account.
But
it was a scam. The check, donation, and donor were all fake.
Unfortunately, the $45,000 that flowed out of Motorcycle Missions’s account and into
the account of the scammer was very real. Chase promptly seized $95,000 from the charity’s account as
compensation for the amount of money that it had created upon
accepting the fake check. Because it had paid out $45,000 to the scammer, the charity was left $45,000 out of pocket.
Unjust? It seems so. Charity gets tricked by scammers only to have his fat cat banker, the one
who processed the check, refuse to help him. Unfortunately, scams like
this are all too common.
Exploiting the check timing gap
In
addition to exploiting the constant need of charities for funding, fake donation scammers exploit a weakness in the check payments system. Specifically,
they target the timing gap between a bank’s initial crediting of funds
to a depositor’s account and the point at which a check’s authenticity
is finally verified.
When someone accidentally brings a scammer’s
fake check to the bank, banks will do their best to catch it. But some
fakes sneak through. This is where the timing gap opens up.
The
amount indicated on the face of the fake check is credited to the
depositor’s bank account. The customer can then spend it (or be duped
into paying off their scammer). But behind the scenes the actual
processing and settlement of the fake check grinds on. A few days or even weeks later
the check’s true nature is eventually discovered. But, by then, the
sneaky scammer has already received their electronic payment.
So why don’t we just fix things by removing the timing gap?
The tradeoff between speed and security
The
payment system is a combination of tradeoffs and sacrifices. We can
remove the check timing gap, but this means introducing other weak spots
into the checking system.
For instance, we could easily put a
quick end to all fake donation scams by stipulating that banks only credit
funds to depositors’ accounts after the paper check has been
irrevocably confirmed to be legitimate. In that case, if Motorcycle Missions
were to accidentally deposit a fake check, it needn’t worry. The check
will eventually be caught and the charity won’t be hit with a $45,000 charge.
Knowing that the system has a perfect defence, scammers would stop check
scamming.
But there are consequences to fixing the timing gap.
All of us check-users would now be required to wait days, even weeks in
some cases, before we can spend our money.
Speed is an important
feature of any payments system. Because Motorcycle Missions was probably a longtime
and trusted customer, Chase allowed the charity to use the amount printed on
the face of the check immediately, even though the check hadn’t
definitively settled. In bank-speak, banks will lend or grant provisional credit to their check-cashing customers.
This service is important to us. We may have bills due two days from now. We can’t wait weeks for our checks to be 100% settled.
In fact, check speed is considered so important that according to U.S. law, specifically Regulation CC, all checks deposited must be made available for withdrawal by the business day after the day of deposit.
Since the only way for banks to meet these standards is to grant
provisional credit, the timing gap is legally baked into the system.
And
into this gap scammers stream. We accept these chinks in the check
system because we want the overall process to move more quickly.
Who bears the costs of speedy checks?
If
society has decided to tolerate the fake check problem in order to get
more speed out of the check system, someone has to bear the extra credit
risk of these fakes. Which unfortunate party is held responsible?
Commercial law places this risk
squarely in the lap of bank customers. (See also). When a bank puts money in a
customer’s account upon deposit of a check, it is lending to them. As
with any loan, the lender can collect should the borrower default (say,
because the check was fake).
That’s exactly what happened with Motorcycle Missions. It was granted $95,000 in provisional credit after depositing a fake
check, only for the loan to be called when the fake was discovered.
We
might not think this is fair. Surely banks are better at evaluating
whether a check is fake or not than customers. So why not shift the
burden of absorbing the cost of fake checks onto banks and away from the
public?
We could certainly design a payments system along these
principles. Now when Motorcycle Missions deposits a fake $95,000 check, and its bank
credits it the amount, Chase must absorb the $45,000 expense when
the fake is discovered.
In this system, not only would banks make
check payments go fast by offering provisional credit. They would also
take on all of the risk of fake checks. What a win for bank customers!
We’d get maximum speed and complete safety.
But it’s not that easy.
To
absorb the costs of extra credit risk, banks like Chase would probably increase
monthly checking account fees. Rather than passing on the costs of fake
checks exclusively to the scammed customers, as in the current system,
every customer would bear part of the burden in the form of higher
fees.
This spreading-out of costs is a win for vulnerable
customers who, given the precariousness of their business or personal lives, are more likely
to fall for fake check scams and be hurt by associated penalties. But the rest
of the bank’s customers may not be as thrilled, preferring charges fall
on those who make mistakes.
In sum, what happened to Motorcycle Missions is unfortunate. But solving the problem of fake checks isn’t
as easy as one might think. Changes to a tightly-wound system like the
check system involve tradeoffs. You don’t get something for nothing.
P.S.: Please consider donating to Motorcycle Missions here.
[A version of this article was originally published at the AIER’s Sound Money Project.]
