[House Hearing, 107 Congress]
[From the U.S. Government Publishing Office]
IS THE PAYROLL INDUSTRY AT RISK DUE TO
ACH SYSTEM USED FOR DIRECT DEPOSIT?
=======================================================================
HEARING
before the
SUBCOMMITTEE ON
TAX, FINANCE, AND EXPORTS
OF THE
COMMITTEE ON SMALL BUSINESS
HOUSE OF REPRESENTATIVES
ONE HUNDRED SEVENTH CONGRESS
SECOND SESSION
__________
WASHINGTON, DC, APRIL 9, 2002
__________
Serial No. 107-52
__________
Printed for the use of the Committee on Small Business
79-639 U.S. GOVERNMENT PRINTING OFFICE
WASHINGTON : 2002
____________________________________________________________________________
For Sale by the Superintendent of Documents, U.S. Government Printing Office
Internet: bookstore.gpr.gov Phone: toll free (866) 512-1800; (202) 512�091800
Fax: (202) 512�092250 Mail: Stop SSOP, Washington, DC 20402�090001
COMMITTEE ON SMALL BUSINESS
DONALD MANZULLO, Illinois, Chairman
LARRY COMBEST, Texas NYDIA M. VELAZQUEZ, New York
JOEL HEFLEY, Colorado JUANITA MILLENDER-McDONALD,
ROSCOE G. BARTLETT, Maryland California
FRANK A. LoBIONDO, New Jersey DANNY K. DAVIS, Illinois
SUE W. KELLY, New York BILL PASCRELL, Jr., New Jersey
STEVE CHABOT, Ohio DONNA M. CHRISTENSEN, Virgin
PATRICK J. TOOMEY, Pennsylvania Islands
JIM DeMINT, South Carolina ROBERT A. BRADY, Pennsylvania
JOHN R. THUNE, South Dakota TOM UDALL, New Mexico
MICHAEL PENCE, Indiana STEPHANIE TUBBS JONES, Ohio
MIKE FERGUSON, New Jersey CHARLES A. GONZALEZ, Texas
DARRELL E. ISSA, California DAVID D. PHELPS, Illinois
SAM GRAVES, Missouri GRACE F. NAPOLITANO, California
EDWARD L. SCHROCK, Virginia BRIAN BAIRD, Washington
FELIX J. GRUCCI, Jr., New York MARK UDALL, Colorado
TODD W. AKIN, Missouri JAMES R. LANGEVIN, Rhode Island
SHELLEY MOORE CAPITO, West Virginia MIKE ROSS, Arkansas
BILL SHUSTER, Pennsylvania BRAD CARSON, Oklahoma
ANIBAL ACEVEDO-VILA, Puerto Rico
Doug Thomas, Staff Director
Phil Eskeland, Deputy Staff Director
Michael Day, Minority Staff Director
------
Subcommittee on Tax, Finance, and Exports
PAT TOOMEY, Pennsylvania, Chairman
STEVEN J. CHABOT, Ohio JAMES LANGEVIN, Rhode Island
DARRELL ISSA, California GRACE F. NAPOLITANO, California
EDWARD SCHROCK, Virginia ANIBAL ACEVEDO-VILA, Puerto Rico
TODD AKIN, Missouri DANNY K. DAVIS, Illinois
FRANK LoBIONDO, New Jersey ROBERT A. BRADY, Pennsylvania
JIM DeMINT, South Carolina MIKE ROSS, Arkansas
JOHN THUNE, South Dakota
Sean M. McGraw, Staff Director
C O N T E N T S
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Page
Hearing held on April 9, 2002.................................... 1
WITNESSES
Dawson, Chip, Co-Founder & Chairman, Payroll 1, Royal Oak,
Michigan....................................................... 3
Antich, Nick, AD Computer, President, Center Valley, Pennsyvlania 5
Brunskill, Dena, President, IPPA, Palm Desert, California........ 7
Krause, Gene, ACH Direct, Director of Business Development,
Cathedral City, California..................................... 9
Zeidner, Rita, Manager, Government Relations, American Payroll
Association, Washington, DC.................................... 11
APPENDIX
Opening statements:
Toomey, Hon. Patrick......................................... 19
Prepared statements:
Dawson, Chip................................................. 25
Antich, Nick................................................. 31
Brunskill, Dena.............................................. 37
Krause, Gene................................................. 45
Zeidner, Rita................................................ 67
Additional Information:
Written Testimony of Elliott McEntee, President & CEO,
NACHA--The Electronic Payments Association................. 73
IS THE PAYROLL INDUSTRY AT RISK DUE TO ACH SYSTEM USED FOR DIRECT
DEPOSIT?
----------
TUESDAY, APRIL 9, 2002
House of Representatives,
Committee on Small Business,
Subcommittee on Tax, Finance and Exports,
Washington, DC.
The committee met, pursuant to call, at 2:04 p.m. in room
2360, Rayburn House Office Building, Hon. Pat Toomey (chairman
of the committee) presiding.
Chairman Toomey. At this time I would like to call the
hearing to order and ask the witnesses to take their seats at
the witness table, please, if they would.
[Pause.]
Thank you. This afternoon the Small Business Committee on
Tax, Finance and Exports convenes to hear from some of our
nation's small payroll processing providers and third-party
vendors about the problems they are encountering with the
automated clearinghouse system that is used for direct
deposits. The purpose of this hearing is to learn about the
concerns of small payroll processing companies as they endure
often significant financial liabilities as a result, in part,
of the existing ACH system.
The ACH system, and that stands for the automated
clearinghouses, began operating about 30 years ago in response
to the increased complications associated with a large volume
of paper checks. In an effort to reduce both the number and
cost of paper checks, banks in California began experimenting
with ACHs. After much success, banks in different regions
across the country began similar programs, and in 1974, the
regional ACHs coordinated nationally under the National
Automated Clearinghouse Association, which goes by the acronym
NACHA. NACHA is now the private regulatory organization that
oversees ACHs and the direct deposit payroll system.
It should be noted that NACHA was offered an opportunity to
testify today, but due to previous commitments they are not
able to participate. They have, however, submitted testimony
for the record.
A quick description of the ACH system I think is in order
here. ACH is basically a batch processing system. A payroll
processing company will calculate and develop a file with all
the relevant payroll information each pay period for each
employee that they process.
These files are forwarded to the company's bank, which will
initially sort of any internal accounts to identify employees
that use the same bank as the company. The remaining files are
then forwarded to the ACH, sorted by destination, and then
forwarded to the appropriate bank.
As a result of federal banking regulations, should there be
an occasion of nonsufficient funds in an employer's account on
payday the payroll company, which is often held liable for
these situations, is not allowed to do a reversal transaction
to collect the funds back from the employee's account, and
herein lies a major part of the problem.
If a client of a payroll processing company, namely, an
employer, has insufficient funds to cover a payroll, the
payroll processing company can be made to cover the shortfall.
The subcommittee will hear several small payroll providers
and third-party vendors who are experiencing problems with the
existing system, and I trust any corrections if my account of
how the systems works is in any way in error.
But I want to specifically thank a number of folks,
starting with Mr. Nick Antich from AD Computer; Ms. Dena
Brunskill, the president of Independent Payroll Processors
Association; Mr. Chip Dawson from Payroll 1; Mr. Gene Krause
with ACH Direct; and Ms. Rita Zeidner with the American Payroll
Association for their participation in this hearing.
I look forward to the testimony of the witnesses before us
today, and I want to particularly thank my constituent and a
member of the panel, Mr. Nick Antich, for bringing this concern
about this issue to my attention.
At this time I will be happy to yield to my good friend,
the subcommittee's ranking member, Mr. Bill Pascrell, for his
opening comments.
Mr. Pascrell. Thank you, Chairman Toomey, and good
afternoon.
Today, no one can doubt the wide saturation of computers
and information technology in business. Small businesses led
the way during the 1990 economic boom. The numbers speak for
themselves. Contributed new technology, software and services
that capitalized on emerging information super highway we call
the internet.
Even outside the technology sector computers are pervasive.
Our one recent survey said 80 percent of small firms use
computers for business purposes. Offices today have moved away
from paper toward completely electronic business communications
and transactions from e-mail to e-commerce, and we persuaded
them, we have encouraged that. All the subcommittees of small
business have encouraged that movement away from massive
paperwork that we still are swimming in.
One survey reported that 27 percent of small firms use the
internet for sales, and 44 percent of small firms used the
internet for purchasing. Employees too are becoming more
computer savvy. More than half of all employees regularly use a
PC, and they are frequently taking advantage of electronic
services such as internet banking, online bill payments, and
shopping on the web. Clearly, we are living through a
revolution in the basics of how we do business.
One of the paperless transaction systems that evolved
steadily during the last 15 years is direct deposit. It has
evolved during the eighties as a novelty, and then flourished
during the nineties when the mantra of better, faster and
cheaper pushed information technology to new limits and
capabilities.
Capitalizing on the new revolution in electronic commerce
direct deposit systems now offer substantial savings and money
and time by cutting bank processing fees, paper costs, check
replacement charges and delays in a time that employees once
wasted in line just to deposit their own checks.
However, as useful as direct deposit is to thousands of
corporations and millions of their employees, there are
significant barriers to these time and cost saving systems.
Small businesses often simply do not have the resources to take
full advantage of direct deposit, and as a consequence they
waste more time and waste more money with older methods of
paying their employees.
One of the barriers they face is the prefunding requirement
that many direct deposit automated clearinghouse services
require. This is a demand that small businesses keep their
payroll account flush with cash prior to payday. Unfortunately,
many small business simply cannot spare that kind of seat saver
money. So they don't take advantage of the service.
Another problem is the fees for direct deposit services.
Many of those fees are outlandish. Many banks charge more for
their service than small businesses can afford, and if the
small businesses cannot fulfill the prefunding requirement the
fees charged by the clearinghouses to cover the risk usually
push the cost even higher out of range, so that is why we are
having this hearing.
When transaction systems are automated and paperless, small
businesses can concentrate on what they do best. This constant
push for new ways of doing things is one of the reasons
American workers are the most productive in the world.
I look forward to hearing from our witnesses today, Mr.
Chairman, and I thank you for bringing this problem to our
attention.
Chairman Toomey. I thank the gentleman from New Jersey.
At this time let me just explain very briefly the way the
process will work from here. I will recognize each of the five
panelists. If you could please keep your remarks to five
minutes. There will be a light system which will be green at
the beginning, it will go to yellow when there is one minute
left, and go to red when your time has expired.
And after each of the panelists have had a chance to make
their presentation, then I will ask a series of questions,
followed by ranking member Pascrell, and then any other members
of the committee who join us will get their chance at that
point.
So at this time I would like to welcome and invite to share
with us his testimony, Mr. Chip Dawson.
STATEMENT OF CHIP DAWSON, CO-FOUNDER AND CHAIRMAN, PAYROLL 1,
INC.
Mr. Dawson. Good afternoon, Chairman Toomey and Mr.
Pascrell.
Chairman Toomey. If you could take the microphone and bring
it right up to your mouth, please, that will enable us all to
hear you.
Mr. Dawson. How is that?
Chairman Toomey. I think that is going to work.
Mr. Dawson. Okay. Good afternoon. My name is Chip Dawson. I
am co-founder and chairman of Payroll 1. I would like to do
three things today: Provide a brief background, frame the
problem, and conclude by offering two solutions, one short term
and one long term.
Our firm is headquartered in Michigan. We provide payroll
processing for 10,000 businesses across the country. We operate
from eight states. A few among them are Pennsylvania, Illinois,
Missouri, and California.
Payroll 1 serves small businesses from one to several
hundred employees, and our average size payroll is 15 to 20
people. Among our services is direct deposit, and we do that
utilizing NACHA.
We are testifying today on behalf of our clients and the
hundreds of thousands of clients of other payroll processors
across the country for whom this system of moving money
presents potential hardship.
Direct deposit is a smart way to get paid. It is safe, it
is confidential, it is convenient, and we continually look for
the most cost-effective and efficient way to provide that
service to our clients. NACHA statistics indicate that more
than 80 percent of large companies offer direct deposit, but
100 plus employee companies represent a mere fraction, less
than two percent in fact, of American businesses.
Among smaller businesses direct deposit has not grown
significantly until recently despite being available for many
years. That is changing as demand for direct deposit picks up
momentum in our ever-expanding electronic age.
But the fees many banks charge for originating direct
deposit transactions have increased over the years, to the
point that they are just too high for small businesses to bear.
These high bank fees have compelled payroll companies to search
out alternatives for direct deposit processing.
Now, one method we found is to consolidate direct deposits
for multiple employers through a single ACH originator, such as
one bank. That way a payroll company is able to create enough
volume to attract third-party vendors to provide services at
substantially lower fees than banks will offer. However, the
single source is not the employer's bank, and therefore will
not bear the risk of insufficient payroll funds, so it is up to
the payroll company to make that choice.
The ACH system of today is a batch processing system that
relies on overnight transmissions, and consequently the payroll
company, the way we operate, is the initial receiver of the
funds and cannot be certain in some cases that sufficient funds
were transmitted until after employees have already been paid
and receive their monies.
As a result of this uncertainty, small businesses are
frequently disadvantaged in obtaining direct deposit services
because they must choose from a series of unattractive options.
A small business has three basic choices:
It can have its payroll company send direct deposit files
directly to the employer's bank. As I have said, that results
often in high bank fees and likely diminished use of direct
deposit by small businesses.
It can have its payroll company use a third-party vendor to
send direct deposit files. This alternative is unacceptable to
a responsible payroll company because it puts them at risk of
NSFs.
Now, this risk can be mitigated by the employer either by
prefunding the account well in advance of payday or executing a
letter of credit in favor of the payroll company, but arguably
neither is the most efficient use of capital in a small
business.
It can choose one of the largest payroll processors who may
accept the NSF risk, but then the employer is losing the
individualized attention and personal service that is often the
fundamental reason for choosing the smaller payroll company in
the first place.
I would conclude by offering two possible solutions. For
the short term, change the NACHA rules to permit payroll
companies to reverse entries from employee bank accounts in the
event that the employer does not fund the payroll. And for the
long term, to utilize a different system. Take advantage of
newer technology as the funding source for direct deposit in
the ACH network.
For example, automated teller machine or point of sale
network operates in real time, and thus could enable an ACH
originator to verify funds at the time a transaction is
initiated rather than finding out later that the funds are
insufficient.
I thank you for the opportunity to testify here today on
this important issue, and I will be glad to try and answer any
questions you might have.
[Mr. Dawson's statement may be found in appendix.]
Chairman Toomey. Thank you very much, Mr. Dawson.
At this time I would like to welcome and recognize Mr. Nick
Antich, AD Computer in Center Valley, Pennsylvania. Welcome.
STATEMENT OF C. NICHOLAS ANTICH, PRESIDENT, AD COMPUTER
CORPORATION
Mr. Antich. Good afternoon, Chairman Toomey, and members of
the subcommittee.
My name is Nick Antich. I am president of AD Computer
Corporation in the Lehigh Valley, Pennsylvania. We are a
payroll processing company.
I am here today to alert you to the fact that when the
automatic clearinghouse is used for payroll direct deposits,
the small independent payroll computer company is put in peril
and at great risk when there is a nonsufficient funds
situation.
With the advent of automated electronic bill payments, ATM
machines, the internet, and debit cards, the public has become
accustomed to electronic funds transfer. This has resulted in a
great increased demand for payroll direct deposit over the last
few years. There has been a switch from just the largest
companies offering direct deposit to their employees to the
very smallest companies. We are talking about companies with
two to three to five to ten employees.
Small companies want to have the same efficiencies as the
larger businesses. In addition, they have to offer similar
options to their employees to retain them.
In the U.S., there are three major public national payroll
companies, and there are several behind them, and then there
are approximately 3300 small independent payroll computer
processors.
The problem I am bringing to light is really a problem for
the small, independent payroll computer processors. As was
already stated, when direct deposit is offered, the small
payroll processor must offer direct deposit to be competitive
with the large payroll companies, a file is created of which
there are multiple transactions. There is one debit from the
employer's account and a credit to each of the employee's
account.
This file is then sent to an originator that originates or
sends it through the ACH system. In the past that has always
been the bank that the employer dealt with, that he had his
accounts with. And if there were multiple companies dealing
with the same bank, the payroll company would put all of the
companies on one file, send that to the bank once a day, and
then those transactions would be processed.
The bank had determined particular limits that the direct
deposit file could have for each customer based on their risk
assessment and their relationship with the customer. Therefore,
there was very, very minimal risk of an NSF. Should that direct
deposit exceed their limit, they would not originate the funds
until they contacted their customer to make sure there would be
funds or made other arrangements.
Third-party ACH vendors were established. This has
eliminated the sending of the files to the banks, and therefore
have put the small payroll companies on a level playing field
with the large national public payroll companies.
The big problem is that banks are more dependent on fee
income today than they ever have been for their earnings, and
they are charging sometimes five and ten times what they charge
for the exact very same service that we had in the eighties and
early nineties, and some of the consolidation in the banking
industry is responsible for this.
That is the bottom line of the problem. The fees are too
high. The small companies cannot afford to go that route.
Therefore, we had to use the third-party ACH vendors in order
to offer an affordable direct deposit system for small
companies which eliminate bank fees.
The problem is we do not have any financial relationship
with that customer, neither does the third-party vendor.
Therefore, if there is a nonsufficient funds, it is the payroll
company who by default is looked to to make good for the funds.
In summary, the ACH system has not been updated to utilize
today's technology. It was developed in the seventies when
Richard Nixon was president, before PCs, before companies had
fax machines, when typewriters were used instead of word
processing. Can you imagine doing today's business with the
tools of the seventies?
There is a solution, and that can be automatic electronic
authorization prior to originating the file, and those tools
can be developed with the software companies who develop the
ACH and the electronic authorization today, for example, with
debit cards.
Thank you very much for the opportunity to testify here
today, and I will be very happy to answer any questions you may
have for me regarding this important issue affecting all small
business.
[Mr. Antich's statement may be found in appendix.]
Chairman Toomey. Thank you very much, Mr. Antich.
Next, I would like to welcome and invite Ms. Dena
Brunskill, the president of IPPA from Palm Desert, California.
STATEMENT OF DENA L. BRUNSKILL, PRESIDENT, INDEPENDENT PAYROLL
PROVIDERS ASSOCIATION; CEO, COMPUTER PAYROLL COMPANY
Ms. Brunskill. Thank you. Good afternoon, Chairman Toomey,
and to your committee.
My name is Dena Brunskill, and I am president of the
Independent Payroll Providers Association.
Chairman Toomey. Excuse me, Ms. Brunskill. Could you bring
the microphone closer?
Ms. Brunskill. It will not go.
Chairman Toomey. That is all it will go. Okay. Well, then
we will just listen carefully.
Ms. Brunskill. Sorry.
[Pause.]
Ms. Brunskill. How is that?
Thank you. Would you like me to start over?
Chairman Toomey. If you could, please.
Ms. Brunskill. Okay. Good afternoon, Chairman Toomey, and
to your committee.
My name is Dena Brunskill.
Chairman Toomey. A little closer still. Sorry. We are going
to get this just exactly right.
Ms. Brunskill. My name is Dena Brunskill, and I am
president of the Independent Payroll Providers Association,
IPPA.
Our organization represents 107 independent payroll service
bureaus across the United States. Our members service
approximately 50,000 small, medium and large employers, with an
estimate of two million employees nationwide.
IPPA's primary focus is to provide forms and resources to
assist our members in advancing their respective organizations
by facilitating the exchange of best practices and top business
resources. IPPA's board of directors come from Kansas,
Virginia, California, and Minnesota. Our executive offices are
located in Kansas City, Kansas.
My comments today will focus on how our members provide
direct deposit service to their clients and the liability to
which they are exposed to. For some members that exposure
occurs 200 times plus a day. We are here before you to seek
your guidance and support in creating a solution to this
crisis, both short term and long term.
Many of our members have been directly impacted by this
exposure and all feel as if this is aland mine waiting to be
stepped on.
There are several different software packages our members
use to send their direct deposit files for input into the fed
line. The software is dictated by the automated clearinghouse,
ACH originator they have chose to do business with.
Banks are the more prevalent choice for an ACH provider.
However, third-party vendors are becoming a viable
consideration when our members reevaluate their current
vendors.
Regardless of the software they use, the ACH originator
converts and/or transmits the files into a format required by
the National Automated Clearinghouse Association, NACHA, for
ACH to the fed line. It appears every region and every ACH
originator have differing windows of time in which the payroll
provider has to transmit its data. Fees for these services are
just as regional.
Our members have implemented in-house procedures and
processing steps along with checks and balances to ensure the
accuracy of these transactions. Believe me, in our business it
really does pay to do it right the first time.
Because this is a repetitive set of steps, it is fairly
easy to perfect the procedure as long as the audits are
performed within the prescribed time frame. Audits need to be
performed by the ACH provider, the payroll provider and the
employer. It is the ethical obligation of each to inform the
other parties of any problem that would hinder the successful
completion of this task.
The most crucial element of the whole equation is timing.
Each party has a different timing requirement.
The employer has to know how much and when to make certain
the funds are in his account to cover his payroll obligations.
He also needs to notify his payroll provider within 24 hours if
there is a problem with his service.
The payroll provider has to create schedules based on the
client's check dates and the ACH originator's windows to ensure
that all the necessary calculations are done by all parties in
time to fund the employee's account. The providers are totally
dependent upon the employer for the accuracy of the input dates
they agreed to during the start-up process. They are also
responsible for correctly inputting the employer's information
into their software, calculating the data, and completing all
segments of the payroll process.
The ACH originator must follow its mandated procedures to
ensure all of its checks and balances for its outside auditors
and to fulfill the features of its service contract with the
payroll provider. They have total control of the NSF
information. The timing of furnishing this information to the
provider varies. It can be anywhere from 24 hours to seven
days. I have been told by my ACH originator a dispute can be
submitted up to 30 days after settlement date. In reality,
anything longer than four hours is too late.
Payroll providers and ACH originators need to know if the
employer has enough money to fund the employees' pay checks
electronically before the credit is sent to the employee,
bottom line.
The real significance of the situation is who really has
control of this process. The employer dictates which employees
to pay, how much to pay, when to pay, and what to do with the
pay. The ACH originator dictates when the transactions go into
the system and when the payroll provider is notified of a
problem. The only responsibilities of the payroll provider are
the accuracy of the data and to complete the steps of the
process.
We believe the technology is available today in some
already proven format for a real time solution.
My time is over so I will go ahead and sum up.
Chairman Toomey. Finish your thought if you would like,
sure.
Ms. Brunskill. As my colleagues have stated, payroll
providers need to offer direct deposits to their clients in
order to compete with the big guys--end of the story. We have
lost hundreds of thousands of dollars paying someone else's
employees, not to mention the time and effort expended to
collect those losses.
I would like to thank you for this opportunity to present
the views of our membership and we look forward to working
together to solve this most urgent problem.
Thank you.
[Ms. Brunskill's statement may be found in appendix.]
Chairman Toomey. Thank you very much.
At this time I would like to welcome and introduce Mr. Gene
Krause from ACH Direct.
Mr. Krause.
STATEMENT OF GENE P. KRAUSE, DIRECTOR OF BUSINESS DEVELOPMENT,
ACH DIRECT, INCORPORATED
Mr. Krause. Mr. Chairman, Congressman Pascrell, good
afternoon, and thank you for granting the opportunity to appear
before this subcommittee, hearing recommendations pertaining to
the ACH network as it relates to credit transactions,
specifically the impact on companies performing payroll
processing and those that process the direct deposit payroll
transactions.
My name is Gene Krause, and I am the director of business
development for ACH Direct, Incorporated, a California-based
company.
My profession and the company I work for evolves centrally
around the Federal Reserve's ACH system. We are a company that
is commonly referred to as a third-party ACH processor, a
company that develops value-added technologies and services for
the users of the ACH network, as well as performing ACH
transaction processing.
Approximately one month ago, I received correspondence from
a company who performs payroll processing, in turn, providing
direct deposit via the AHC network for their clients'
employees. This correspondence came at an interesting point in
time as this topic has been central to our company focus in
recent time.
Relayed in the correspondence were frustrations and
limitations pertaining to the ACH system as well as thought of
alternative solutions to the issues they were faced with. We
have known for some time that many share those same
frustrations as they are voiced regularly to our staff.
As many end-user companies view it, the electronic
distribution or deposit of their company's payroll should not
be a difficult task. On the surface, most anyone would draw the
same conclusion. These personal theories are borne from the
basic principal of thought that because funds must first be
debited from the client company's account before being credited
to the employees' accounts, there should be no risk or problem
in doing so.
Unfortunately, for this industry the ACH network does not
provide for real time settlement finality. This operating
limitation of a 72-hour risk of return window is then made
significant because it requires various levels of collateral or
risk alleviation measures to be utilized.
Additionally, the industry or the payroll processing
service providers have time constraints brought about by their
clients, most of which cannot provide data four days in advance
of the deposit credits to employees or for one reason or
another do not want their company's operating account debited
four days before deposit credits are issued.
The ACH network operates effectively and efficiently under
most operating environments.Unfortunately, in the case of
credit transactions for the purpose of direct deposit payroll it does
not provide the ultimate solution. The central limiting factor, being
the lack of real time settlement finality for the debit or funding
transaction from where the credit dispersements come from. This
limitation creates a severely unbalanced risk-to-reward scenario for
any company performing ACH transactions assuming a 72-hour hold of
funds has not been imposed.
Without a 72-hour hold of funds, our company would be
exposed to a potential loss that is 14,000 times greater than
the profit received.
While the ACH network does have operating limitations, the
alteration of any rules governing its use would most probably
not alleviate the issue of settlement finality. Any alteration
to or adaptation for the ACH network that might provide for
real time settlement would, in essence, be the creation of a
new transaction network.
It is most probable that a solution be found from one of
the following areas: One, adaptation of a merging technology
that can provide for funding settlement finality; or two,
integrated use of additional transaction methodologies for
funding settlement with the ACH network being used for credit
dispersement transactions.
Either one refers to the use of ATM networks and recent
advancements made to them. Over the past year our company has
dedicated a good percentage of resources towards the
integration to ATM networks which would provide for company
growth in the area of debit transactions. To utilize these
systems for direct deposit purposes, a few things are still
needed:
One, rules adaptation for business account debits; two,
increased participation from financial institutions which
currently is growing.
Item two refers to the supplemental use of other existing
transaction methods such as wire transfers which could
eliminate the processor's risk for funding, ideally reverse
wires would be used with the origination notification provided
by the transaction processor, leading to a more automated
solution. This potential solution also has limitations,
including the availability. Not all financial institutions are
capable of handling reverse wires, (b) increased costs. Wire
transfers are much more expensive than ACH transactions. Risk
exposure, with reverse wire risk exposure is not eliminated,
but rather is transferred to the funding party.
In summary, the current system makes for an unfavorable
risk-to-reward scenario which, in turn, makes it difficult for
payroll service providers, particularly small companies, to
acquire a transaction processing that is flexible enough to
meet their needs, and in turn, their clients' needs. There is
no doubt that the larger of the payroll processing companies
have less difficulty in acquiring and providing for this
service, but no matter who is the company or how large they are
the risk of exposure is a constant. Only the management thereof
can be an effective variable.
And in an effort to be efficient with time, I have limited
my oral testimony. I welcome your questions pertaining to it or
to my more detailed written testimony.
I thank this subcommittee for allowing our voice to be
heard. Thank you.
[Mr. Krause's statement may be found in appendix.]
Chairman Toomey. Thank you, Mr. Krause.
At this time I would like to welcome and introduce Ms. Rita
Zeidner from the American Payroll Association here in
Washington.
STATEMENT OF RITA ZEIDNER, MANAGER, GOVERNMENT RELATIONS,
AMERICAN PAYROLL ASSOCIATION
Ms. Zeidner. Thank you so much for having me, and I
apologize for coming up here and squirming. I injured my knee
in a ski accident about a month ago, and I am anxiously
awaiting surgery which will speed up the recovery. So if you
see me a little squirmy up here, I apologize.
On behalf of the American Payroll Association, I am pleased
to address the issues related to the automated clearinghouse
system.
The APA is a nonprofit professional association
representing nearly 21,000 companies and payroll professionals
in all 50 states and Canada. Our membership includes all
employees as well as large firms and spans virtually ever
sector of the economy, including financial services, retail
manufacturing, restaurants, educational institutions, and state
and local government. We represent payroll software developers
and several hundred third-party payers, including all of the
large firms, and hundreds of small and independently owned
payroll service providers.
As an organization, we represent our members' interests in
a broad range of areas, including the administration of federal
and state wage and hour laws, employment tax withholding,
remittance reporting and garnishment administration, and
needless to say the efficient and cost effective running of the
electronic banking system is an integral part of our members'
success.
The overwhelming--the majority of our members favor direct
deposit as a method of paying workers. In general, they find
the system eliminates many of the administrative problems
associated with traditional paychecks.
While the savings that can be directly attributed to direct
deposit vary from company to company, and are often difficult
to quantify, respondents to a 1999 APA direct deposit survey
reported that they could save as much as $5 per payment.
Because most states don't allow employers to require their
workers to be paid by direct deposit, many of our members
conduct elaborate direct deposit campaigns during the workday
offering prizes and other incentives to induce their workers to
abandon their allegiance to paper checks.
When all other direct deposit marketing efforts fail, some
employers adopt policies that make it cumbersome for workers to
receive a paper check. For instance, they might insist that
paper checks be mailed to the workers' homes with the
accompanying risk of late or lost payment, or they may charge
an employee for a replacement check, or they may refuse to
issue advance payments to workers who will be away on business
or on vacation on payday.
Some employers have even looked into the legality of making
direct deposit a condition of employment for new hires.
Employers in 16 states have succeeded in convincing their state
lawmakers to allow mandatory direct deposit. In all of these 16
states the employer can require workers to receive their pay
via direct deposit so long as the worker is permitted to choose
the financial institution.
And I give you that introduction just to give you an idea
of how popular direct deposit is among our members.
My detailed testimony gives some explanation about how
employers work with the ACH system, and I think most of the
witnesses have already given that presentation, so I will skip
over that. But I wanted to talk a little bit about the
relationship of employers with payroll processors.
Information circulated by this subcommittee suggests that
there are more than 3,000 independent payroll processors
handling payroll for U.S. employers. Many of these processors,
along with the larger public companies, are members of the
American Payroll Association. Both the independents and the
large processors vie aggressively for business among APA's
21,000 employer members. These payroll processors market to our
members by buying advertising in our magazines, exhibiting in
our conferences, and sponsoring payroll-related events, such as
National Payroll Week.
In fact, several hundred of these vendors will be leasing
space in our exhibit hall during our annual meeting next month
in San Antonio.
The active marketing presence of so many payroll processors
suggests that competition is stiff, and the fact that about
half of our members use a payroll processor to assist in all or
part of the payroll administration suggests that business in
this industry is thriving.
An informal survey we conducted of our membership in
preparation for this hearing supported that premise. As part of
this informal survey, we sent an e-mail to several hundred
American payroll association members, asking about the fees
they pay to originated direct deposit.
And I see I am running a little bit long to. Should I
summarize our may I continue?
Chairman Toomey. Finish the thought you are on. You have a
little time left.
Ms. Zeidner. Okay. I received a broad array of answers, and
in some instances the banker service bureau processing the
payroll charge to flat fee. In other arrangements the employer
was charged a flat fee per transmission, plus a fee per direct
deposit transaction.
Responses to our informal survey suggested that fees
generally range from about three cents to 10 cents per
transaction. Some companies paid only per transaction, and in
these instances the fee seemed slightly higher, around 15 cents
per transaction.
I asked our members whether loss of float figured into
their decision to offer direct deposit or not. Information
circulated by this subcommittee suggests that at least one
smaller payroll processor believes--he or she believes she is
at a disadvantage because he or she must ask employer clients
to prefund their payroll to ensure that the employer has the
funds on hand on payday.
The vendor suggested that the larger service bureaus
generally do not have the prefunding requirement. The majority
of respondents, including APA's own payroll director, said that
prefunding was not an issue for them. Rather, they understood
it to be part of the cost of doing business. Companies that
were concerned with lose of float took that into consideration
when negotiating other fees with their service provider and/or
their bank.
And what I would like to do is quickly summarize. I was
asked to respond to three proposals, and I would like to
quickly go over those.
May I have the time?
Chairman Toomey. Okay, if we could do that briefly.
Ms. Zeidner. Okay. You asked us how we felt about
regulating the fees that banks can charge for direct deposit or
via the fed wire system. We do strongly oppose this proposal.
Regulation is generally seen as a way to correct market
imbalances or stop abuses, and our members don't feel that
that's taking place. If they felt that they were being abused,
then I think we wouldn't see direct deposit as popular as we
see it today.
You also asked us to comment about proposal to allow
payroll companies to do reversals from employee accounts when
an employer doesn't fund its accounts.
I think it's important to note that NACHA has very specific
rules spelling out when an electronic payment can be reversed,
and an employer's failure to fund the payroll doesn't seem to
fit in with this rule. Reversals for ACH items can be only
carried out within five days of the originating settlement date
for the item, and they are allowed for only two reason:
duplicate payments or erroneous payments.
Some of the service bureau members we interviewed suggested
that reversals wouldn't even help them solve the problems they
face by underfunded employers. These respondents noted that by
the time the service bureau would attempt to recoup the
misappropriated funds it's likely that the payee would already
have withdrawn the money and therefore the funds would no
longer be available to debit.
Because of the problems inherent in initiating a proposal,
including the questionable legality under the NACHA rules, and
the fact that the money wouldn't be available anyway, several
of the service bureaus that responded stressed that risk
management was a far more effective means of limiting exposure.
And lastly, regarding the ATM debit network, we don't
necessarily have any position on this proposal, but we do
support innovative ways of administering payroll, and have been
positively impressed by the rollout of payment card systems
such as the Visa Payroll Card, and I think Mr. Dawson spoke a
little bit about the expansion and use of ATM debit systems as
a means of paying folks, so I won't go over that.
I would like to thank you so much for the opportunity to
testify here and for your interest in this interesting issue.
[Ms. Zeidner's statement may be found in appendix.]
Chairman Toomey. Thank you very much, and I will begin with
some questions. I have a number of questions. I would like to
first make sure I understand the nature of the problem a little
bit better.
First of all, it strikes me that a business model that is
all about providing the service of computing the payroll and
administering and preparing the payroll need not necessarily
also have with it the credit risk component of whether or not
an employer has sufficient funds on hand. I do not see why
those two features need to go together.
And I guess I want to make sure I understand exactly why
they do, so correct me if I am wrong here. But prior to the
advent of ACHs, this really was not a problem; is that correct?
Mr. Antich. [Nodding.]
Mr. Dawson. [Nodding.]
Chairman Toomey. But since the advent of the ACH system the
problem occurs. Now, perhaps Mr. Antich could address this.
Others feel free to as well.
Does the problem occur because the payments actually are
run through your accounts of your company, and you have an
obligation, you have made a credit, and you are waiting for a
credit on the other side?
Can you help us with mechanically how is it that you are
out of cash when there is nonsufficient funds?
Mr. Antich. Well, first of all, we have been doing direct
deposits since 1980, and in many cases, and we still do also
send files to the bank where the customer has their accounts.
There is not a problem in that scenario because the bank has a
financial interest with their customer. The bank has the credit
limit that they have ascertained because of their risk
management and so forth, and they electronically check that
file. They know what the funds are for the company that has
their account with that bank, so that is not where the issue
is.
The issue is really when, because of the extremely higher
fees, and as I mentioned, five to ten times as much now as they
were in the eighties for the exact same service, when you have
a small company with two to five employees they can be charged
$100 a month to $125 in order for them to just electronically
send this file through the system. That is as much or more than
our entire service.
The problem is that there is no real time authorization.
The file is now sent to a third party ACH vendor. Neither one
of us has any knowledge whatsoever of what the employer has,
whether he has funds or not.
There is a date for the credits to hit the employees
accounts. This is sent through. Now,sometimes you might debit
the account a day or two ahead of time, but still you may not find out
for three days after that that there were nonsufficient funds.
So since it is not real time, it is just done, the credits
are just sent out. You then find out there is a nonsufficient
funds, and if it is after the fact, even if it is the same day
as the credits, they are already there, and that is where the
transaction has to be made whole. Somebody has got to make good
for those credits that went into those accounts.
Chairman Toomey. So who is the enforcer on this? Is it one
of the banks? Is it a bank employee or is it the bank for the
employer, and when they come to you, and they call you up and
say this is how much we were short, write us a check? Is that
what happens?
Mr. Antich. Well, it is going to be in this case the third-
party ACH vendor, and Gene might be able to add on to this,
they are going to be looking to the company who sent that file,
which is the payroll company.
The payroll company is certainly going to try to get the
money from the employer, but they may be belly-up. They might
be out of business. And if the payroll company goes out of
business, then it seems to me it's the third-party ACH vendor
who is going to have to make good.
Chairman Toomey. So Mr. Krause, in this scenario the first,
in the information that there is insufficient funds comes to
your firm, and then you, in turn, turn to the payroll
processing company; is that what your company does?
Mr. Krause. Correct. In our model of business, ultimately
the risk lies with us. However, I mean, if we cannot get the
money from Nick's company, we are assuming the risk, and so
whatever payroll has not been funded that comes out of our
pocket.
Really the whole issues lies around one central point, and
that is the lack of settlement finality from the funding of the
client company's payroll. The RDFIs have by law 72 hours to
respond.
Chairman Toomey. Excuse me. What is an RDFI?
Mr. Krause. Receiving financial institution.
Chairman Toomey. Okay.
Mr. Krause. In this case the client company's bank is an
RDFI because the funding for the payroll is actually a debit
from their account. Then we in turn send out credits to the
employees.
Chairman Toomey. Right.
Mr. Krause. So theoretically, and I will refer you to page
4 of my written testimony, theoretically a company could
deposit a paper check on Friday, which is when they send off a
file for the ACH transactions to us. They fund their bank
account with a paper check. It shows up on the ledger as there
being money in there.
We go on Monday and debit that account, send the funds out.
We are able to do that because the ledger says there is money
there. A day later they come back to us and say, hey, there is
no money there. Well, that company all of a sudden is out of
business or for whatever reason we cannot get the money. That
is where the risk lies and that is why these companies are
having a hard time.
Chairman Toomey. And given the technology that we have and
we talked briefly about other kinds of electronic transfers,
ATM, debit cards, mechanism that are in widespread use, seem to
work very well as far as I can see, what is preventing a more
modern way of solving this problem so that you can look in real
time and know that there is money there or there is not, and
you have that finality you are talking about? What is the
obstacle here?
Mr. Krause. We need a few more good programmers and a
little bit more money.
Chairman Toomey. I do not understand.
Mr. Krause. We are working on a solution.
Chairman Toomey. I mean, the technology exists, right?
Mr. Krause. Yes, it does.
Chairman Toomey. Has it not been adopted by this network?
Is that the problem?
Mr. Krause. Exactly. We are the first company in the
country that is integrated with the Star ATM network which may
be a solution to this problem. There are a couple of limiting
factors in that the rules are yet to be clarified as to what
you can do with this network.
At this moment we are able to look into a DDA or a bank
account and find out if there is money there. We are able to do
that right now. By the end of this year we will be able to
debit in real time, or actually capture or freeze funds, and
then the account will be funded the next day. So that is real
close to being accomplished.
We have got a couple of issues. Number one, how many
participating financial institutions are there to make this
worthwhile for this particular industry; and number two--I lost
my train of thought here. Oh, the rules pertaining to the
business debits. The network essentially was set up for
business to consumer, yes, business to consumer transactions.
Chairman Toomey. Well, I am going to yield to my colleague,
Mr. Pascrell, but then I am going to go back and ask some more
questions, and I am going to try to follow up with a question
about whether there is existing legislation that in any way
impedes the development of this network that would be more
efficient or whether there is a need for new legislation to
facilitate it, but at this time I will yield to the gentleman
from New Jersey.
Mr. Pascrell. I just have a quick question, Mr. Chairman. I
have to run to the other end of the campus for another meeting.
My question to Mr. Dawson is, I mean, we're talking about a
lot of money here. Last year, I am looking at the, there was
eight billion ACH payments worth over $22 trillion. That is
pretty mind-boggling, so we are not talking about nickel and
dime stuff here. We are talking about something very critical.
And assessing risk is not an easy task. You know, I understand
that.
What exactly--I mean, we know that processing a check
actually cost the originating bank more than processing any ACH
transaction. Just very briefly, how do we assess risk in terms
of trying to answer what the Chairman just concluded with?
In order to answer his questions, we are going to have to
decide how to assess this risk. How do you assess it?
Mr. Dawson. Someone might have a better answer than this,
but we assess it as we do not want it at all.
Mr. Pascrell. That is the bottom line, is it not?
Mr. Dawson. We are not a banker.
Mr. Pascrell. Right.
Mr. Dawson. We are not a lender. We are not a credit
provider. We are a transaction processor. We get a small fee,
six-seven dollars----
Mr. Pascrell. Right.
Mr. Dawson [continuing]. For initiating a file, and I think
someone made the mention that the risk associated with that, if
we choose to accept it, is 14,000 times or something the
rewards, that six or seven dollars.
In our case at our company we choose not to accept that
risk. We require prefunding, which is an obstacle to ask a
small company four or five days ahead of its payroll to fund
its entire payroll.
Mr. Pascrell. So then how would you react, what is your
response, what is the answer in your mind?
Mr. Dawson. The answer to which question? I am sorry.
Mr. Pascrell. The one you just very--you clarified, you
crystallized. I mean, what is our response? Is it legislation?
Is it something we need that is already on the books to
enforce? What are you suggesting? Less regulation? More
regulation?
Mr. Dawson. You know, actually, I am not certain with the
technology being where it is today, that is, it looks like it
could provide the solution, I am not really sure what the
obstacle is, but it appears to be somewhere embedded in either
NACHA or the banking system, or there is a lot of resistance to
this occurring, and I really do not know where it is.
Mr. Pascrell. Yes, sir.
Mr. Dawson. Nick does.
Mr. Pascrell. Mr. Antich?
Mr. Antich. No, I do not.
Again, just a possible solution, and I know Gene mentioned
they are working on something. But number one, we have gotten
feedback that banks are not interested whatsoever in making any
change because they do not see the risk, and that is number
one. So this is really like a problem of moving mountains here.
But I do believe that the technology is available with the
software vendors today to come up with a solution. There are
various payment types in the ACH NACHA format, and there could
be, and this is just an idea, a new payment type, that if that
payment type is used, it would automatically interface into a
yet undesigned, electronic authorization system designed for
commercial accounts. If the account has the funds, the company
still has the use of those funds for earnings credit until
settlement date, which might be two-three days later, the
electronic authorization system would put a memo hold or a
reserve on those funds with the date of settlement, knowing
that this electronic debit is coming through on that date. To
me, that is certainly a potential solution, but we would have
to get the banking industry to embrace this. I know we could
get the software vendors to do it, and there would have to be
some changes in the NACHA rules as well, and formats and
payments.
Chairman Toomey. Thank you. I have a bill that is on the
House floor momentarily, and I am going to have to run down and
manage the floor debate on my bill. But I wanted to wrap up
with a couple of maybe questions and thoughts.
The changes that we have discussed, the potential solution
that Mr. Antich just referred to, and the idea of an
alternative, which is real time ability to evaluate whether the
money is here or not, is anyone of the opinion that that
requires actual legislation to make that happen, or is there a
legislative obstacle?
Mr. Krause. Depends on the rules that will come about. This
is new, this is new technology.
Chairman Toomey. Okay. At the moment is it fair to say that
the existing system and methodology and the rules for
participating in this network are designed by NACHA and they
are within the authority of NACHA, which is, I assume, a
voluntary association of members? Is that correct? Is it
really?
Mr. Krause. For the AMT networks, I am not sure that all
the rules reside within NACHA's operating.
Chairman Toomey. I am not referring for the ATMs. I am
talking about for payroll processing and settlements, current
system.
Mr. Krause. For the current system, yes, correct.
Chairman Toomey. Yes. Okay. And there is nothing that--
there is no legislation that anyone is aware of that governs or
regulates NACHA? I mean it is not--even the reversibility of
credits, for instance.
Mr. Krause. There are some FCC rules that----
Chairman Toomey. Okay.
Mr. Krause [continuing]. Taken into account, yes.
Chairman Toomey. Okay. Is there legislation that precludes
reversing out a credit to an account in the event that there is
insufficient funds, or is that just a rule of NACHA?
Mr. Krause. I believe that is just a rule of NACHA.
Chairman Toomey. Okay. Okay. All right, did anybody have
any closing thoughts, if they could be brief, that are
important that we have not touched on yet?
Okay, I would like to actually continue for some time with
questions, but I have to--unfortunately, leave and get down to
the House floor. But I want to thank you all very much for your
testimony. This has been very informative, and you have raised
some very interesting issues. And if you have any further
thoughts on this, please submit them to the committee. We will
take them under consideration.
Thank you very much. The hearing is adjourned.
Mr. Krause. Thank you.
[Whereupon, at 3:00 p.m., the hearing was adjourned.]
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