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US banks increasingly battle costly check fraud schemes


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US banks increasingly battle costly check fraud schemes

Check fraud is surging, forcing US banks to beef up their prevention technology or risk losing millions to criminal check fraud schemes that are more sophisticated than ever.

Suspicious activity reports (SARs) for check fraud at depository institutions more than tripled between 2018 and 2022, up 201.2% between those years, according to Financial Crimes Enforcement Network (FinCEN) data. With 447,525 SAR check fraud reports in 2023 through October, this year is on track to beat the 2022 surge. Check fraud SARs have increased more for personal or business checks than for any other financial instrument.

Check fraud is also becoming more prevalent compared to other types of fraud, making up more than one-third of all fraud at depository institutions so far this year, excluding mortgage fraud.

The increase is exacting a heavy toll on banks such as Regions Financial Corp., which lost $135 million to check fraud this year through Sept. 30. The losses of $82 million in the second quarter and $53 million in the third quarter were abnormal compared to normalized check fraud levels, but the problem will not go away, and executives said quarterly fraud losses will normalize around $25 million per quarter, higher than its historical run-rate.

Regions' experience exemplifies a growing, industrywide problem that is costly to banks.

After Regions disclosed its check fraud losses, "I got a call from three of my peers; it's the same thing," CFO David Turner Jr. said during a conference presentation in November. "It is hitting everybody. It's just not hitting them enough where they need to have the kind of public disclosure readout because nobody wants to talk about."

This year, banks such as SB Financial Group Inc., ServisFirst Bancshares Inc. and Truist Financial Corp. also reported check fraud losses.

ServisFirst's noncore expenses increased by $1.4 million due to legal expenses related to credits, check fraud and credit card fraud, CFO William Foushee said during the company's third-quarter earnings presentation. At Truist, check fraud contributed to a $33 million increase in operating losses during the third quarter, CFO Michael Baron Maguire said during the company's first-quarter earnings call.

As fraud operations become more sophisticated, it is important for banks to invest in the proper technology for fraud detection. Investing now will be cheaper than falling victim to a large check fraud scheme in the future, industry experts said in interviews with S&P Global Market Intelligence.

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Preventing check fraud

Much of the technology banks rely on for check fraud prevention dates back to the 1990s, and the cost of investing in newer tech is affordable, even for community banks, according to Point Predictive Chief Fraud Strategist Frank McKenna.

"It's a fraction of the cost of the fraud," McKenna said. "AI, pattern recognition and machine learning, all that has come a long way."

One example of an effective way to combat check fraud is texts to customers to confirm unusual transactions, McKenna said. The emergence of artificial intelligence should make it easier for banks to prevent fraud. Specifically, AI can help banks vet transactions more quickly, said Jay Venkateswaran, head of the financial services and technology business unit at WNS.

"It takes a human being about 90-plus minutes to review each case," Venkateswaran said. "Generative AI is a perfect fit for this particular process because what used to take 90 minutes can now be done in under 30."

After falling victim to large check fraud schemes this year, Regions beefed up its technology and controls and increased the numbers of teams it has looking at check fraud, a necessary step that "wasn't overly expensive to do," the company's CFO said during the November conference.

"We now have better technology and awareness, and I think we'll be under better control," Turner said.

Consumers can also take steps to prevent check fraud, such as making payments electronically, according to Paul Benda, the American Bankers Association executive vice president for fraud, operational risk and cybersecurity. Businesses can also avoid using checks and instead opt for automated cash management services, Benda added. Electronic fraud is easier to detect than check fraud, Benda said.

While banks can educate their customers on those safer forms of payment, some people might still be reticent to adopt electronic forms of payment.

"Banks have been struggling with their traditional back-end systems and a customer base which is not quite ready to make that shift," Venkateswaran said.

For those customers, banks should warn them against sending checks via United States Postal Service (USPS) — a large target for stolen checks.

"I don't think anyone quite understood how easily the mail could be compromised," Benda said.

The evolution of check fraud

Criminal networks became flush with money after a wave of pandemic-era fraud and are taking advantage of the fact that checks are fundamentally insecure and very easy to alter or counterfeit, Benda said. Fraudsters steal arrow keys from postal workers, steal checks from USPS collection boxes or pay post office insiders to siphon checks out, Benda said.

In one example, federal prosecutors seized $400,000 in September from a Washington, D.C., postal worker who allegedly stole $1.7 million in checks.

In addition, fraud operations are becoming increasingly sophisticated, Venkateswaran said. Fraudsters can replicate checkbooks or individual checks, forge signatures and obtain customers' personal information to authenticate transactions, Venkateswaran said.

Breaking into USPS blue collection boxes for checks has evolved into scanning signatures and using software such as Photoshop to create numerous fraudulent checks, Georgia State University criminal justice professor David Maimon said in an interview.

"These guys have tentacles all over the place," Maimon said. "They use this information to continue to target the victims."