The Region

Expedited Funds Availability Act: Was it Worth the Cost?

David Fettig | Managing Editor

Published December 1, 1989  | December 1989 issue

The reviews are in on Regulation CC—the new rules governing the availability of deposited funds.

And about one year after the implementation of those rules, the reviews are decidedly mixed:

    "Extremely favorable."

    "Morass of requirements."


    "Periods of trauma."

    "A non-event."

Those quotes are from industry officials describing the impact of Reg CC on consumers, banks (used in this article as a generic reference to financial institutions) and the Federal Reserve System. Reg CC, implemented in September 1988, was written by the Fed as ordered by the Expedited Funds Availability Act (EFAA) of 1987. Congress passed EFAA to reduce the time a financial institution may hold a check before making the funds available to a depositor.

While consumers, banks and the Fed have all been affected by Reg CC, in the end, the regulation may ironically have the greatest continuing impact on the operations of the author—the Federal Reserve System.

Generally, a Positive Impact on Consumers

But that's not to downplay the effect on consumers and banks. In its June 1989 report to Congress, the Fed said Reg CC has positively affected consumers. In November 1988, three months after Reg CC went into effect, the Fed asked nine consumer groups to determine the regulation's impact on consumers.

Eight of those groups said they received insufficient information in the form of complaints and feedback to adequately assess Reg CC's effects, so they did not formally respond to the Fed. The one group that did file a report showed "extremely favorable" responses, according to the Fed, with over 50 percent of surveyed banks having shortened their hold policies as a result of the regulation. Also, there was a marked decrease in consumer complaints.

Of the eight groups that did not respond, the Fed had this to say:

"Prior to the implementation of [EFAA], these groups had received numerous complaints from consumers regarding the funds availability policies of banks. Because the number of complaints received by these groups apparently decreased, it can reasonably be assumed that [EFAA] has had a favorable effect on consumers and their ability to withdraw funds."

A recent survey by the American Banker reveals an equally subdued response from consumers. Of 1,009 respondents throughout the United States, 35 percent said their checks were available more promptly since Reg CC went into effect, 45 percent said there has been no change, 12 percent said slower and 9 percent were unsure.

While that may not be an overwhelming positive response to legislation that was intended to have sweeping changes in the industry, Peter Kinzler, former staff director for the Consumer Affairs Subcommittee of the Senate Banking Committee, believes the legislation was successful.

Kinzler, now legislative director for Sen. Christopher Dodd of Connecticut, wrote the first funds availability bill introduced to the Senate in 1982. He said during the first few months following implementation of Reg CC last year, the Senate Banking Committee heard "next to nothing" from consumers about the bill. Most consumer response dealt with complaints about banks that had actually lengthened their hold times after Reg CC, because their hold times were even shorter than those required by the regulation.

While Kinzler said the committee did not concern itself with such complaints because the hold times still fell within the "fair" guidelines of Reg CC, the complaints addressed the fact that most banks already had acceptable check hold policies. Indeed, critics of EFAA say the legislation was an elaborate method of nabbing a few malefactors, and it has since encumbered the entire industry with added costs.

Bankers Dispute Need for Regulation

Jackie Dinkel of the Kansas Bankers Association, who completed a Reg CC study this summer, reinforces the point:

"It is ironic to note that a law intended to give customers earlier access to their funds has instead given customers in Kansas later access to their funds. Fortunately this did not occur to a great extent because of scrupulous Kansas bankers." Dinkel's study was printed in the Kansas Banker (July 1989).

According to Dinkel's study, 93 percent of Kansas bankers offered same day or next-day availability of funds before Reg CC, and if those banks followed the Reg CC schedules, they could have actually extended their current hold times. Some did: After Reg CC the rate of Kansas bankers offering immediate or next-day availability fell to 85 percent.

"Reg CC was implemented because of institutions that were denying customers the use of their funds far beyond the time it took for a bank to receive credit for a deposit," Dinkel wrote. "However this was not a practice in Kansas."

Nor, does it seem, was it the practice over much of America. The Fed's June 1989 report to Congress, which included a survey of 521 financial institutions, found that 75 percent of those respondents offered next-day or immediate availability for deposits; just 2 percent placed holds equivalent to the maximum time periods permitted under the new rules.

That sort of built-in compliance has seemed to take the edge off Reg CC, at least in terms of how it is affecting bank operations. "When Reg CC was first proposed, there was a lot of teeth-gnashing, but since then I haven't heard too much in the way of complaints," said Harry Argue, executive director of the North Dakota Bankers Association.

Tom Hilt, president of Community First Service Corp. in Fargo, N.D., and a member of the American Bankers Association Operations and Automations Executive Committee shares Argue's assessment. He said he hasn't heard many complaints from smaller banks in the Ninth District.

Barb Zvorak, vice president and cashier for Richfield Bank and Trust, Richfield, Minn., was surprised by the anticlimactic impact of the new regulations. "It's not affecting us much at all," she said. Zvorak also serves as chairwoman of the Minnesota Bankers Association (MBA) Operations and Security Committee. "At first we thought: my God, this is going to be awful. It really wasn't awful. It's been a lot to do about nothing."

Zvorak said the MBA Operations Committee planned to hold a seminar on Reg CC shortly after its implementation, but there was no interest. After the initial fuss and the training, Zvorak said, life has returned to normal for most banks.

But that doesn't mean all is rosy for the banking industry. The cost of the initial review and training was great, according to Zvorak, and could have been less if the 500-page regulation was less complicated.

Regarding the regulation's complexity, Dinkel's study estimated that Kansas bankers spent over $700,000 implementing Reg CC while the American Bankers Association puts national costs at $49 million this year and projects $35 million in subsequent years.

According to Zvorak, better use of that money could have been made by singling out the worst offenders of funds availability, a view shared by others in the banking industry.

"There must have been other options that could have been taken to monitor and prohibit only those banks which actually abused the use of their customers' deposits," according to Dinkel.

"I personally have nothing good to say about Reg CC," says Jim Koziol, manager of Norwest's Payment Operations Support in Minneapolis. While Koziol said Norwest has not realized increased overall operational costs due to Reg CC, he said changes in return item processing have increased costs for the banking industry in general. And those costs are ultimately passed on to consumers, he said, the very people the regulation was meant to aid.

Reg CC, which was written by the Fed and developed jointly by the Fed and representatives of the banking industry, contains three subparts. The third of those subparts—subpart C—spells out the new return item process, and Koziol believes subpart C was an overreaction by the Fed.

The Expedited Funds Availability Act and Reg CC were not only intended to establish maximum limits for funds availability, but they were also meant to streamline the flow of return items through the financial services industry and reduce risks to banks. But Koziol believes such attempts were unwarranted: "We never suffered big losses from archaic return items processing in the past."

"My beef is certainly not with the local Feds, but with Washington," Koziol says, where Reg CC was written. Indeed, he said he feels sorry for the employees at the regional Federal Reserve Banks who have had to implement Reg Cc's provisions—especially when it comes to return items.

Ted Umhoefer, vice president of the Minneapolis Fed's Check Department, would probably appreciate the empathy. And he admitted that through the first six months of Reg CC he had his doubts as to its merit. Now, more than a year later, he said 70 to 80 percent of return items are being processed faster than before, and 20 to 30 percent are slower. While some may view that as successful, the additional cost of processing those returns makes the success of Reg CC a matter of judgment, Umhoefer said.

But it must be remembered, Umhoefer said, that the Fed was directed by Congress to expedite the return item process and Reg CC was the Fed's response. The Fed could have done nothing and told Congress that any possible changes would be impossible to implement, but Umhoefer said he doubts Congress would have believed that argument. And, although critics of Reg CC have suggested that the return item changes were unnecessary, Umhoefer said a blanket regulation governing all financial institutions was the only effective, fair way to address the problem.

Increased Costs For the Fed

And the big problem—that of dealing with return items—has fallen largely in the lap of the Fed. Return items are those checks that are returned for such reasons as insufficient funds, missing endorsements or closed accounts. By requiring that return items be sent to the institutions where they were first deposited, on schedules that approximate those used for regular check collection, Reg CC has encouraged banks to give their return items to the Fed District Banks.

In the past, the Fed would only handle the return of checks that they had received during the initial collection—and not those from correspondent banks. Correspondent banks are large banks that, along with the Fed, process the country's checks. Under the new regulation, the Fed handles any return items it receives. And, a common reaction in the banking industry has been to allow the Fed to handle virtually all returns.

"In most cases, the correspondents didn't want to have any part of the return item process," Umhoefer said. As a result, the volume of returns handled by the entire Federal Reserve System has increased by 25 percent under the new provision.

That's because handling returns is a low-volume, high-risk operation. Although most banks make an attempt to identify the bank of first deposit and, when possible, deposit items that have been encoded with machine-readable magnetic ink, they generally deposit those items through a Federal Reserve Bank. The information printed with machine-readable magnetic ink ultimately routes the check to the appropriate financial institution.

Banks that choose to participate in the return item process also face tighter processing deadlines. Under the previous process an intermediate bank had until midnight on the day following receipt of a return to dispatch the item. Returning banks must now dispatch returns as quickly as they would deposit other funds—usually a matter of hours.

"The first few days our software was not working very well," Umhoefer said. "There were very significant quality problems, both internal and external. We calculated we could have done a hand sort faster than running them through the machine with all the jams and the problems."

And it wasn't just the Minneapolis Fed that experienced problems in September 1988, according to Umhoefer. "I think all Feds went through periods of trauma. It seemed the lower the volume the relatively easier it was. The real high-volume offices such as Los Angeles and Chicago really got hammered."

Nobody expected those problems when Reg CC was written, Umhoefer said, and the process has improved since last year; but, regarding the bottom line: "We are definitely spending a lot more money than we were before. Our costs both here and across the System are substantially higher, something on the order of two to three times higher than they used to be."

Specifically, the Minneapolis Fed increased its staff from 22 to 46 people between September 1988 and June 1989, with costs doubling from $80,000 to $160,000. For the Federal Reserve System as a whole, costs increased over $40 million, tripling pre-Reg CC costs.

In the end, Umhoefer believes Congress may have had a simplistic, overly-optimistic view: Congress believed the current process of handling checks could be improved, and it assumed the technology was available to quickly make those changes. But Umhoefer thinks the technology is five years away, at best, although he acknowledges that improvements will occur as the system adapts to the new requirements.

"I think we definitely bit off a big chunk in writing Regulation CC," Umhoefer said. "Its basic premise was that if an item is encoded [with machine-readable magnetic ink], it should be able to flow as fast the in return item process as it flows in the regular forward collection process. And that's just not the case."

Too Much Cost for Too Little Gain?

After about a year, EFAA and Reg CC appear to have benefited consumers; the regulations have placed extra costs on banks, especially in the short term; and, most dramatically, they have altered the operations of the Federal Reserve District Banks. Millions of dollars have been spent preparing, studying and implementing the new regulations: Were those regulations ultimately successful, or even necessary?

Many critics within the banking industry believe the answer to that question is probably no. Given that most financial institutions had already maintained availability schedules better than Reg Cc's, those critics believe that any benefits to consumers likely do not outweigh the costs.

One of the reasons EFAA was passed by Congress is that a minority of the country's financial institutions had excessively long check hold times. But critics say that Congress may not have realized that all banks would be subject to the compliance costs of the new regulation—not just the small minority that the legislation was meant to affect.

In the long run, those additional costs will gradually become a regular part of doing business as EFAA and Reg CC join a host of other regulations aimed at the financial services industry. However, while the changes incurred in September 1988 may eventually be forgotten, the impact of those changes, whether positive or negative, will be lasting.

As the Kansas banking study showed, some banks extended their hold times after Reg CC was enacted because the regulation's enforcement schedule was more liberal than those banks had previously allowed. Although there are no national statistics to prove the point, the Minneapolis Fed's Ted Umhoefer said the Kansas phenomenon may also apply to the whole country:

"The hold policies have changed in both directions. Some have gotten more lenient, some have gotten more strict. I offered to bet a colleague a cup of coffee that the total dollar amount of checks that were in a hold status in September of '89 would be greater than those that were in a hold status in August of '88. And I guess I would still be willing to place that bet."