The New Worry: ACH Fraud

As more governments take and make payments electronically, the spotlight on payment fraud has shifted toward the Automated Clearing House (ACH) network. Last year alone, ACH volume grew 21 percent, an increase of 1.6 billion payments in 2004, while the five ACH “e-Check” applications increased 112 percent. The e-Check applications, ARC (lockbox), TEL, WEB, POP (Point of Purchase), and RCK (NSF checks), combined for more than 2 billion payments in 2004.

How many of these transactions are fraudulent or considered unauthorized? According to NACHA, in 2004 3.27 million ACH debits were returned unauthorized. The number of unauthorized ACH debits in the first quarter of 2004 was 765,000, which is up 68.5 percent over the same period in 2001. At the current rate there will be 4.65 million unauthorized debits in the ACH network by 2006. Listed below is a brief description of each e-check application (which can only be executed for consumer accounts).

Unauthorized versus Fraudulent. An unauthorized transaction occurs when the customer advises their bank that this transaction was not authorized. Such a transaction occurs because the originator has not been authorized to debit the account. Just because the transaction is returned unauthorized does not necessarily mean that it is fraudulent. An unauthorized transaction can also occur when the dollar amount or date changes on a consumer debit and the consumer is not notified.

In the e-check environment, an unauthorized transaction can mean that no notice was provided regarding conversion of the check, regardless of whether or not it was posted at the point of sale or in their bill. If the customer claims they did not see the notice, it can be returned unauthorized. A transaction may also be returned unauthorized if it is for an incorrect dollar amount or it is an ineligible item (i.e., a corporate check, a home equity check, or a cashiers check, etc.). If it is a consumer transaction, the consumer has 60 days from the date it posted to their account to request that the receiving bank return the transaction as unauthorized.

How Does ACH Fraud Occur? ACH fraud is more likely to occur with WEB and TEL transactions. In a WEB or TEL transaction, you have to be able to identify or authenticate the person authorizing the transaction. In this type of transaction where there is no authentication or account numbers are stolen, the entry may be returned unauthorized. In a POP (Point of Purchase) transaction, again, the checks may be stolen, or consumer checks might be created using stolen corporate account numbers and presented for payment. Unlike a normal government transaction (i.e., a CCD, CTX or CBR) where the government customer must request the return of an unauthorized transaction within 24 hours, if a government has a WEB, TEL, POP, ARC, RCK or PPD transaction post to its account and the transaction is unauthorized, they would have 60 days from the settlement date of the original entry to return it as unauthorized (because the return time period is based on the type of transaction, not on whether it is a government or consumer account).

ACH fraud can also be perpetrated internally. Internal fraud occurs when an employee creates fraudulent files or steals account numbers and resells them at which point they enter the ACH network as fraudulent activity. Employee fraud is not only on the debit side of the transaction. It can also occur on the credit side for payroll or in a cash concentration environment. To prevent this type of fraud, dual controls are imperative, as is establishing file limits. According to the NACHA rules, an originating bank must set exposure limits and file limits as well as establish security procedures. A government can also reduce the possibility of fraud by accessing and verifying their account information on a daily basis via Positive Pay or online banking. Finally, if you use a third-party processor, make sure that the processor is executing transactions in accordance with the NACHA rules and that all necessary agreements are in place.

ACH Fraud versus Check Fraud. The American Bankers Association reported that check fraud in 2003 totaled more than $6 billion dollars and actual losses were more than $900 million. Any time you take a check and convert that check into the electronic environment, the fraud is apt to move with it.

While no comparable dollar figures are available for ACH fraud, in 2004 the overall return rate for unauthorized ACH transactions was 0.06 percent. Certain types of ACH transactions exceeded the overall rate, such as TEL debits at 0.19 percent, indicative of fraud.

Recently, the Fed released a proposal to amend Regulation CC by setting forth rules governing remotely created drafts (i.e., pre-authorized drafts). In place of a signature, a remotely created check bears a statement that the customer authorized the check or bears the customer’s printed or typed name. To reduce the potential of fraud, the amendments to Regulation CC would create transfer and presentment warranties to the depository bank. This means that, if a consumer or a government was to receive such an item, they would have extended timeframes to return it.

In order to reduce and prevent ACH fraud, NACHA is taking steps to address these issues. NACHA has developed workgroups and task forces and is in the process of developing rules to reduce the amount of unauthorized activity through the network.

Mary Gilmeister is President, WACHA—The Premier Payments Resource.

Panel of Economists

A Goldilocks Economy Again?

In the late 1990s, some economists described the era of moderate growth and low inflation as a “Goldilocks” economy because growth was neither too fast nor too slow. With some pundits beginning to describe the current economy as achieving a similar balance, Public Investor asked its panel of economists if the U.S. economy is now in a "Goldilocks" phase, where growth and inflation is neither “too hot” nor “too cold” but “just right.”

Lacy Hunt states that the current business conditions are doing well, but the underlying fundamentals of the economy are deteriorating. He highlights several forward-looking indicators that suggest that economic growth will be considerably weaker later in the year. The growth in the money supply has slowed to an annual rate of 2.5 percent in the past three months, which is far below the long-term trend line of 6.7 percent. The rate of growth in home equity loans has slowed to a growth rate of less than 15 percent, and mortgage applications have fallen. In addition, the yield curve has flattened dramatically. In general, a flat yield curve is a sign that investors expect economic growth and inflation to slow in future months.

Carl Tannenbaum states that the economy is showing stronger growth than expected and somewhat higher price pressures. He points out that, although this is not fully a “Goldilocks” economy, the levels of growth and inflation are still reasonable.

Employment, Economy Strengthening

Recent economic data show signs of strong growth. Non-farm payroll employment grew by 262,000 jobs in February, which was the strongest increase in five months. The latest Fed “Beige Book” reports that economic activity increased throughout the U.S.

Looking ahead, the Survey of Professional Forecasters, conducted by the Federal Reserve Bank of Philadelphia predicts that real GDP growth will average 3.6 percent in 2005 and 3.4 percent in 2006. The forecasters predict that the unemployment rate will decline from 5.2 percent in 2005 to 5.0 percent in 2006. At the same time, the survey predicts that CPI inflation will average 2.3 percent in 2005 and 2006.

RGM

Fed Does It Again

As expected, the Federal Reserve raised the Fed Funds rate by 25 basis points to 2.75 percent in late March. So far, the Fed has raised rates 175 basis points since it began a tightening cycle in June of last year. The Fed Funds futures market predicts that the Fed Funds rate will rise to 4.00 percent by the end of the year. Fed watchers expect that the Fed will continue tightening until the Fed funds rate is at a more “neutral” level that neither stimulates nor slows economic growth.

The most recent Survey of Professional Forecasters predicts that the three-month Treasury bill will increase to 3.2 percent by the third quarter of 2005, and 3.7 percent by the first quarter of 2006. The Survey predicts that the 10-year Treasury bond will increase to 4.7 percent by the third quarter of 2005, and 5.1 percent by the first quarter of 2006.

RGM

6-Month Treasury Bill
2-Year Treasury Note
30-Year Treasury Bond

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