Positive Pay, Payroll Cards Help Prevent Hot Checks

By Jim Jordan

Jim Jordan is director of construction services for Dallas/Fort Worth-based Weaver and Tidwell LLP.

In the time it takes to read this column, thousands of hot checks will have been written in the U.S., some to unsuspecting contractors. Profits are hard to come by in our industry. They deserve to be protected.

Despite popular perception, one of the oldest forms of larceny still creates more havoc  than computer hacking or any other form of high-tech skullduggery. The biggest threat to corporate finances, experts emphasize, remains old-fashion check fraud.

According to the Office of the Comptroller of the Currency, a bureau of the U.S. Department of the Treasury, more than 1.2 million fraudulent checks are written every day – more than 13 per second. Moreover, annual check fraud losses in the U.S. exceeds $20 billion, quadrupling since 1993, according to The Nilson Report. Those costs do not include the expense of litigation, oversight and auditing investigations.

For contractors, fraudulent checks are particularly worrisome. In this day of high-powered computer and scanning equipment, bogus checks aren’t particularly difficult to create. Moreover, it only takes a few bad checks to cause a lot of financial damage.

Despite the problem, many contractors don’t protect themselves. The best defense for contractors is a program that relies on safeguards provided by their financial institutions.

One of the best – and simplest – is commonly referred to as “positive pay.’’ It works this way: A contractor produces an electronic file that lists all checks to be written that month and includes the checks’ numbers, dates, account numbers and amounts. The file is transmitted to the bank, where officials match every check that comes through against checks delineated on the electronic file. Checks that do not match are not paid, unless the contractor grants special approval.

Positive pay allows a contractor and bank to detect check fraud by identifying items presented for payment that the contractor did not issue. Stop payments, voided checks and manual checks can be included in the electronic file provided by the contractor.

Some contractors may find it difficult to regularly compile or transmit lists of checks to their banks. Many banks offer “reverse positive pay,’’ plans in which the bank informs the contractor about checks as they come in. It then becomes the contractor’s responsibility to provide approval for payment. Generally, banks charge a fee for the service.

Positive and reverse-pay systems provide an efficient checks-and-balances structure and can go a long way toward reducing fraud. They do not reduce administrative costs related to accounts payable.

There is another option that can reduce administrative costs while reducing the potential for fraud. This system uses pay cards, which are similar to debit cards, and can be issued to certain employees or the entire staff.

According to industry research, employers pay about $1.90 to print a paycheck but only about 15 cents to make a direct deposit. Hence, an increasing number of companies are converting their payrolls to electronic direct deposit. However, many contractors hire workers who do not have bank accounts. These employees are referred to as “the unbanked,” and there are an estimated 10 million such households in the U.S.. In response to employers’ desire to find a safe and dependable way to pay these workers certain credit card companies, financial institutions and third-party vendors have developed payroll debit-card products and services. About two million unbanked employees are currently using some form of pay cards, according to research firm Celent Communications.

Payroll cards are similar to debit cards in that they require the use of personal identification numbers. Pay cards are linked to one financial institution and are established by the company rather than the employee. The employer creates a payroll card account for each unbanked worker, or creates an aggregate account for all wages paid to all employees participating in the payroll card program. The financial institution where the aggregate account is held tracks all the employee-level debits and credits associated with each individual worker’s card. The employer then begins to fund either the individual or aggregate accounts before each pay period.