The U.S. Payment System ECM Chapter 4 STFM Chapter 8

1
The U.S. Payment System
ECM Chapter 4
STFM Chapter 8
2
The Cash Flow Timeline
Order Order Sale
Cash Placed Received
Received

Accounts Collection Inventory

Time Accounts Disbursement
Float Invoice
Payment Cash
Received Sent
Paid
3
Learning Objectives

• Explain, understand, and calculate float
• Explain the roles of the two major components of
  the payment system
• Describe the major paper-based and
  electronic-based payment systems
• Understand the ACH and how its fits with the EDI
• Use an availability schedule
• Explain the uses of an account analysis statement

4
Feds Involvement

• Circulate new money
• Check processing, 17 billion chks/yr
• Check settlement
• ACH
• FedWire
• Regulate availability schedules

5
Types of Paper-Based Instruments

• Paper Checks
• Preauthorized Drafts/Checks
• Money Orders
• Traveler's Checks

6
Terminology for Domestic Check System

• Requires presentment to and acceptance of the
  check by the payors (drawee) bank.
• Presentment of check through clearing agents like
  the Fed, correspondent bank, or clearing house.

7
Magnetic Ink Character Recognition (MICR) Line

• Machine-readable information that facilitates the
  check clearing process.
• Contains information about the drawee bank and
  the payor account.
• There are seven fields for business checks with
  the first four fields referred to as the transit
  routing number.

8
MICR CODE
3011 567/1012
5
Pay to the
xxxxxxxx7.75

Order of
Dollars
ABA Bank
Chk Sequence
Check Digit
Fed Bank Code
Fed District Code
Account Number
Encoded Field
00003011 10 12 0567 1 062789392019
000000775
9
MICR Line, Exhibit 8.5

• 2 digit Fed Bank Code
• 2 digit Fed Office Code
• 4 digit ABA Code
• 1 digit verification code
• Account number
• Sequence number
• Encoded amount

10
The Clearing Process
writes check
11
How Checks Are ClearedClearing Channels

• On-Us Check Clearing
• Clearing Houses/ Local Items
• Federal Reserve Bank/Transit Items
• Correspondent Bank/Transit Items

12
On-us Items

• Payee deposits check in the bank on which it is
  drawn
• Bank credit depositors account
• Bank debits payors account

13
Local Items

• Checks may be sent by courier to be swapped for
  checks drawn on itself at another bank
• Checks may be processed through correspondent
  bank relationship
• Local clearing house may be used

14
Transit Items

• Direct send
• Corresondent bank
• Fed Reserve

15
How Checks Are ClearedFactors Influencing the
Selection of Clearing Channel

• Bank processing time
• Geographical location and availability schedule
  of clearing agents.

16
How Checks Are ClearedAvailability

• Availability-when funds deposited will become
  available to the clearing bank.
• Availability is granted if check reaches the
  endpoint before the deposit deadline.
• Endpoints are locations established by clearing
  agents.
• Clearing agents establish availability schedules
  which define the number of days' delay for each
  endpoint.

17
How Checks Are ClearedFactoring Determining
Availability for a Particular Check

• Drawee Bank Location
• Time of Deposit
• Encoding by Company Vs Bank
• Rejected Items by Processing Equipment.

18
How Checks Are ClearedClassification of
Endpoints

• City items-checks drawn on banks located in
  Federal Reserve cities.
• RCPC Items-checks drawn on banks served by a
  Feds regional check processing center.
• Country Items-checks drawn on banks located
  outside the area served by Fed city or RCPC.
• High Dollar Group Sort Item(HDGS)-checks drawn on
  RCPC or county banks. Requires second
  presentment to banks with more than 10m in
  checks presented from outside their Fed district.

19
How Checks Are Cleared

• Same-Day Settlement
• Electronic Check Presentment (ECP)

20
Ledger Vs Collected BalancesCrediting/Debiting
Accounts

• Ledger Balances-accounting entries affecting a
  bank account regardless of deposit float.
• Collected Balances-ledger balances minus deposit
  float.
• Ledger balance charges against accounts.
• Collected balances overdraft charges.

21
Value of Float

• The delay in value transfer from the time a check
  is written until it finally is charged to the
  payors account.
• Value of float is based on differences in present
  value based on time delay.
• PV CF
• _----------------------
• 1 ( i/365 n)

22
Types of Float

• Collection float
• Disbursement float

23
Components of Float

• Mail float
• Processing float
• Clearing float

24
Fed Float

• When the Fed grants the depositing bank credit
  according to a preset availability schedule, but
  is not always able to present the check to the
  drawee bank for payment within the same period.
• Methods used to reduce float
• check truncation
• high-dollar group sort
• interdistrict transportation system
• later presentment and deposit deadlines

25
Deposit Float

• Deposit floatsum of each check deposited
  multiplied by its availability in days.
• Various methods are used to compute deposit float.

26
Electronic Payment Systems

• Automated Clearing House (ACH)
• Fedwire
• Clearing House Interbank Payment System (CHIPS)
• Society for Worldwide Interbank Financial
  Communication (SWIFT)

27
ACH Transactions Vs Paper Checks

• More reliable
• More efficient
• More cost-effective due to batch processing
• More information can be transmitted than that
  contained in a standard check.

28
Types of ACH Transactions

• ACH credit-funds are moved from the originator
  account to the receiver account.
• ACH debit-funds are moved to the originators
  account from the receivers account.

29
Types of ACH Formats

• Prearranged Payments or Deposits (PPD)
• Cash Concentration and Disbursement (CCD)
• Cash Concentration and Disbursement Plus Addendum
  (CCD)
• Corporate Trade Exchange (CTX)

30
Settlement of ACH Transactions

• Transactions carry settlement dates which
  determine funds availability.
• Settlement occurs one or two days after payment
  information is entered into the system.
• Simultaneous settlement among banks eliminates
  the float.

31
ACH Advantages

• Reduced banking costs
• Reduced reconciliation time and therefore costs.
• Faster inflows by reducing delays.
• Control of payment of timing.
• Increased accuracy of cash flow forecasts.
• Increased reliability.
• Enhance services for customers and employees.

32
ACH Disadvantages

• Reduction in disbursement float.
• Loss of control with direct debits.
• System start-up costs.
• Renegotiation of payment terms with customers
  when start-up occurs.

33
Fedwire

• More expensive than check or ACH transactions.
• Real-time method of transferring funds.
• Transactions are final when the Fed confirms
  receipt of the wire order.
• The Fed guarantees the transaction in the event
  that the originating bank fails to settle the
  transaction.

34
Daylight Overdraft

• Intra-day exposure when an account is in the
  overdraft position during the day.
• To limit daylight overdraft, sender net debit
  caps and Fed pricing is used.
• Caps are based on a Fed schedule relating to a
  banks financial condition.
• Fed charges are based on the magnitude and
  duration of the overdraft.

35
Characteristics of ACH Formats

• CCD is the only corporate format that does not
  allow addenda records.
• CCD is also used for the Treasury Vendor Express
  program.
• CCD contain an 80 character, free-format addenda
  record.
• CTX contains an addendum that can carry up to
  9,999 records of up to 80 characters each.

36
Electronic-Based Payments

• Wire transfers
• Automated clearinghouses
• POS debit cards

37
International Payment Systems

• Paper-based systems
• Giro systems
• Value dating
• Electronic payments
• Clearing House Interbank Payment System, CHIPS
• Society for Worldwide Interbank Financial
  Telecommunications, SWIFT