In the UCC, is Midnight the Deadline, or Do You Have Other Options?

Your customer calls to let you know that an unauthorized check has cleared their account.  It’s a regrettable but a common occurrence in the world of banking.  Whenever you get word that an unauthorized check was presented to your bank, your first thought may be to return the check to the bank where it was initially deposited.

What you will quickly find out, though, is that your window to return checks is limited by the “midnight deadline,” which requires checks presented for payment be returned by midnight on the banking day after the banking day on which the check is presented (UCC 4-301).  In other words, if the check is presented on a non-holiday Monday, the bank must decide to pay or return the check by midnight on Tuesday, the following banking day.  Most unauthorized checks caught by your customers will not be reported quickly enough for the bank to make a return before the midnight deadline.  It is unfortunate, but it is a daily reality.  So, what happens if you miss the midnight deadline?  The rest of the article is dedicated to answering this question.

Does the customer take the loss? Does your bank take the loss? Is there a way that the bank which first took the deposit can take the loss?  It depends on the facts of the situation, but there are ways in which any of those three questions above could be answered with a “yes.”  Who takes the loss will depend on several factors, the first of which involves the customer and your account agreement.

In your account agreement you give your customer a certain amount of time to discover errors on their statement and report those errors to you (UCC 4-406).  This amount of time varies from account agreement to account agreement, so there’s no fixed amount of time, and it’s largely dependent on bank policy.  Once you determine what that amount of time is, the question is, did the customer report this unauthorized check within the time you give them to report errors?  If the answer to this question is no, then the inquiry is generally concluded with the customer bearing the loss.

However, if the customer exercises reasonable promptness and reports the error to you within the time frame you give them in their account agreement, then the facts will determine whether your bank takes the loss, or whether you can make a claim that the bank of first deposit should take the loss.  The mechanism by which you would make this assertion against the other bank would be to claim that they breached their warranty to you.  Which may make you ask, “how does the other bank provide a warranty to my bank?”

As part of the UCC, when a check is presented to the bank on which the check is drawn (paying bank), the bank presenting the check provides a “presentment warranty” to the paying bank.  The presentment warranty is a guarantee that 1) the bank presenting the check is entitled to obtain payment, 2) the check has not been altered, and 3) to the knowledge of the bank presenting the check, your customer’s signature is genuine (UCC 4-208).  The genuineness of your customer’s signature may present a problem for you under the presentment warranty, but we’ll come back to that in a bit.

The most common scenario for unauthorized checks is an altered check (UCC 3-407), on which information was either changed (such as the name of the payee) or was added without authorization (such as filling in the amount when one is not listed).  If the bank of first deposit presents you with an altered check, they have breached their presentment warranty and it is generally your right to make a claim against that bank. There are narrow exceptions, but in general, the depositary bank should take the loss, not yours.

Back to your customer’s signature.  The presentment warranty doesn’t cover your customer’s (the maker’s) signature because although the bank of first deposit is in a better position than your bank to identify altered information, they wouldn’t have any idea what your customer’s signature looks like.  So, although they warranty that to the best of their knowledge the signature is genuine, if it turns out not to be, your bank (the payor bank) bears the loss.  The principle of your bank taking the loss for a problem with your customer’s signature is so old it predates the United States itself and comes from a 1762 decision from the Court of the King’s Bench (Price v. Neal, if you’re interested).

For one final thought, it is generally the case that for a check to be considered “altered” it must be a genuine check.  For the bank of first deposit to be guilty of breaching a presentment warranty, the altered item must first be a real check.  A loss stemming from the payment of a check that is counterfeit and not a real check will be borne by your bank, the paying bank.  I say this is “generally” the case because the matter has been litigated all over the U.S. in state courts, with courts overwhelmingly holding that counterfeit checks are not subject to presentment warranty claims.

A few caveats: 1) the UCC is state law, so although it is “uniform” there are slight variances from state to state, so check your state law before acting; 2) because state law is involved, state courts are also involved, and state courts make interpretations that only apply to that state, so it’s best to check with counsel about any relevant court decisions before acting; and 3) this is a discussion of rights under the UCC, however your bank may be party to clearinghouse rules (such as ECCHO) which might give you different rights and different time frames as a matter of contract, if the bank of first deposit is a party to those same rules, so you’ll want to confirm your bank’s third-party agreements which could give you alternate rights against certain institutions.