Banks process checks that customers deposit with them. A bank’s check processing department clears the checks. The use of paper checks is being replaced by the use of electronic payment methods, according to the Federal Reserve Bank of New York, and the number of checks written in the United States has been falling since the mid 1990s. Whether a check is processed as a paper check or processed electronically, however, a bank’s function in clearing the check remains the same.
Same Bank Checks
These checks, called "on-us" checks, are deposited at and drawn on the same financial institution. These made up 20 percent of the checks paid in 2006, according to the Federal Reserve Bank of New York. To clear "on-us" checks, a bank's check clearing department makes the right entries on its books to credit the depositor's account and to debit the payer's account.
These are checks that are deposited into and drawn on two different banks. These sorts of checks accounted for 80 percent of checks paid in 2006, according to the Federal Reserve Bank of New York. To clear these interbank checks, a bank’s check clearing department could present the checks directly to the bank the check is drawn on or forward it to a correspondent for collection. It could also exchange the checks with a group of banks participating in a clearinghouse arrangement. Or it could forward the check to a Federal Reserve Bank for collection.
In recent years, the number of paper checks being drawn has gone down and more electronic payments are being used. With electronic processing, banks don’t have to transport and process paper checks. Based on this trend, the Federal Reserve Banks are reducing the number of places at which they process paper checks. The movement towards electronic check processing gained traction with the Check Clearing for the 21st Century Act of 2004. This act introduced the concept of a substitute check, which is a paper copy of the front and back of a check that is the legal equivalent of the original paper check. The 2004 act allowed banks to process checks electronically, with the provision that if in the process of clearing the check they encounter an institution that requires a paper check they provide it with a substitute check.