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Mr. Chairman and Members of the Committee, I am pleased to be with you today to discuss the Treasury Department's implementation of the law that requires the Federal government to issue its payments electronically after January 1, 1999. This new law, which excludes only tax refunds, has far reaching implications for millions of Americans, and I commend the Committee for providing an opportunity to examine the issues involved in this major initiative. The timing for this hearing could not be better, for just last week the Treasury Department published its Notice of Proposed Rulemaking to implement the new law.
The electronic funds transfer initiative -- what we refer to as "EFT '99" -- includes four distinct elements:
After July 26, 1996, all Federal payments (except tax refunds) to newly eligible recipients who have bank accounts, had to be made by EFT. Under this interim program over 85% of all new Social Security annuitants have signed up for direct EFT payments, reflecting a high level of acceptance of the program.
After January 1, 1999, all Federal payments, again with the exception of tax refunds, must be made by EFT.
Treasury is directed to ensure that individuals required to receive payments electronically will, for that purpose, have access to an account at a financial institution at a reasonable cost, and with the same consumer protections as other account holders at that financial institution.
The Secretary of the Treasury is authorized to grant waivers based on recipient hardship, for classes of checks, or where otherwise necessary.
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Treasury was given these responsibilities because of its role as the government’s chief disburser. Last year, Treasury’s Financial Management Service (FMS) issued over 850 million payments on behalf of non-defense agencies, including various types of benefits, Federal salaries, tax refunds, vendor payments, grants and loans.
The goal of the Department of the Treasury is to issue payments by a method that will provide the best service to recipients, the lowest possible cost to taxpayers, and the greatest degree of transaction security. Treasury has been issuing electronic payments for over two decades, and our experience is that EFT is substantially more convenient, cost-effective, and secure than paper checks. Attached to my written statement is a chart that clearly demonstrates the benefits of EFT:
EFT payments will save taxpayers money. The government’s cost for an EFT payment is only $.02, while check payments cost the government $.43 each. We estimate that full implementation of EFT '99 will save taxpayers over $100 million annually.
Payment inquiries and claims will be significantly reduced under EFT. Recipients are twenty times more likely to have a problem with a paper check than with an EFT transaction. Each year Treasury replaces over 800,000 checks that are lost, stolen, delayed or damaged during delivery. Waiting days for a replacement check is an inconvenience and a burden on recipients, especially those living on low incomes. EFT payments are much more convenient and secure. Misrouted EFT payments are never lost, and are typically routed to the correct bank account within 24 hours.
EFT will increase transaction security and significantly reduce opportunities for crime. On average, over 75,000 Treasury checks per year are forged and fraudulently negotiated. Forgeries, counterfeiting, and check alternation are non-existent with EFT payments.
Treasury's Guiding Principles
In developing the EFT '99 proposal, we have been guided by four principles:
The transition to EFT should be accomplished with the interests of recipients being of paramount importance.
Our policies should maximize private sector competition for the business of handling Federal payments, so that recipients not only have a broad range of payment options, but also receive their payments at reasonable cost, with substantial consumer protections, and with the greatest possible convenience, efficiency and security.
Recipients, and especially those having special needs -- the elderly, individuals with physical disabilities, and those living in remote or rural communities -- should not be disadvantaged by the transition to EFT.
We should strive through EFT '99 to bring recipients without bank accounts into the mainstream of the financial system.
Issues in the Rulemaking
As a prelude to the rulemaking, Treasury reached out to a broad array of interest groups whose members might be affected. For example, all of the organizations that will testify following this panel were involved in some form of discussions, written comments or meetings with Treasury on EFT '99. We also invited the public to comment on our interim rule, and over 33 comment letters were received. In addition, we worked closely with the Social Security Administration, the Veterans Administration, and other program agencies to identify key issues and coordinate the approach to their resolution. We obtained input from agencies through regional roundtables attended by over 1,100 agency representatives, and we established an EFT Interagency Policy Workgroup to examine key policy issues.
Finally, we conducted demographic research to determine the characteristics of Federal check recipients. This research indicated that approximately 18% of those individuals receiving Federal benefit checks do not have bank accounts. It should be no surprise that 75% of these "unbanked" recipients indicated that the costs associated with conventional bank accounts made it economically unattractive for them to hold such accounts, given their relatively low income levels. Over 80% of those without bank accounts cashed their checks at financial institutions (58%) or grocery stores (23%), while 8% used the services of check cashers.
As we analyzed the law against this background information, with a view toward proposing implementing regulations, we identified four key issues that required resolution:
What types of entities should be permitted to maintain accounts into which electronic government payments may be made?
Who should be permitted to receive payments in such an account as a representative of the beneficial owner of the payment?
Under what circumstances should we waive the requirement for EFT?
How do we perform our obligation to assure recipients access to an account at a financial institution at a reasonable cost?
I would like to explain our approach to each of these issues.
Who Can Maintain Accounts To Receive Electronic Transfers?
Two key factors influenced our thinking on this question: First, the new law itself defines the term "electronic funds transfer" as an instruction to a "financial institution" to credit or debit an "account." Thus, the law seems to clearly contemplate the establishment of a deposit relationship. Second, Federal EFT payments will be made primarily through the ACH network, and only depository institutions are eligible to receive ACH transfers.
In light of these factors, Treasury’s proposed rule provides that electronic payments will, with one exception I will describe, be transferred only into accounts held at institutions that are either federally insured or eligible to apply for federal insurance -- banks, thrift institutions, credit unions and agencies or branches of foreign banks.
I want to emphasize that this aspect of the proposed regulation relates only to the nature of the entity that may be the immediate transferee of Federal funds. It does not preclude entities other than financial institutions -- non-bank payments service providers -- from linking with financial institutions, or independently offering to recipients who hold accounts at financial institutions, to provide additional or ancillary payments services relating to EFT deposits or other funds of the account holder.
Who Can Hold Accounts in a Representative Capacity?
The new law contemplates that recipients may designate "authorized agents" to hold accounts on their behalf for the purpose of receiving EFT payments. The challenge for us is to determine what content to give to this term. There is no existing general Federal standard governing the conduct of entities that might act as agents for the purpose of receiving payments, nor any general Federal mechanism for overseeing and regulating the conduct of such entities. Thus, if we were to interpret this term broadly, we might be facilitating broad scale abuse of payments recipients. Unscrupulous individuals, attracted by the lack of controls and standards, might see this as an opportunity to prey on the elderly and infirm by holding out to act as their "agents" for the receipt of payments. We clearly cannot expose our citizens to this risk. Yet clearly there are many situations in which recipients are not able to manage their own affairs and need the help of someone who can act in a representative capacity.
Our proposed rule addresses these concerns by limiting the definition of "authorized payment agent" to those representative payees or fiduciaries who are appointed or selected to act in a representative capacity under regulations of the various program agencies having payment responsibilities, such as Social Security, Veterans Affairs, and the Railroad Retirement Board. These agencies have a long history of administering systems for the appointment and governance of such representatives for beneficiaries who are legally incompetent, under age 18, or incapable of managing or directing the management of their benefit payments. Indeed, over 6 million Social Security beneficiaries, including 4 million children, regularly receive payments through representative payees, and the Social Security Administration has well-established standards and reporting requirements for such representatives.
Other than in the case of representative payees appointed under such programs, the proposed rule has only one other exception to the requirement that payments be made to an account at a financial institution held in the name of the recipient. Where a payment is to be transferred to an investment or cash management account established by an SEC-regulated broker-dealer, the payment may be made initially into an account held in the name of the broker or dealer, so long as the account and all associated records are structured so that the recipient’s beneficial interest is clearly identified and individual deposit insurance coverage is protected. The Social Security Administration estimates that approximately 2 million recipients currently utilize this type of arrangement.
When Should the Requirement for Mandatory EFT Be Waived?
In considering waivers, we wanted to be responsive to two conflicting considerations: First, we recognized that there will be a great many perfectly legitimate reasons for exempting recipients from the requirement of mandatory EFT. A heavy handed implementation of the mandate could not only impose significant hardships on individuals, but could very quickly undermine the base of support for the program. On the other hand, excessive liberality in the granting of waivers could significantly vitiate the tremendous operational savings that we expect from the implementation of EFT '99.
Our very positive experience with the interim program also led us to the preliminary view that it might be reasonable to draw distinctions between new payments recipients, who have not become accustomed to receiving checks from the government, and existing recipients, who might suffer hardship if their existing patterns of conduct had to be changed.
Taking these considerations into account, we have proposed the following:
For individuals who became eligible for Federal payments before July 26, 1996 and who have an account at a financial institution, the requirement to receive payments by EFT will be waived if such a requirement would impose a hardship due to a physical disability or geographic barrier.
Individuals who do not have bank accounts, and who will be provided access to an account by Treasury, will have an additional basis for a waiver if using such an account would impose a financial hardship. In order to assure access to an account, we are also providing a time-limited waiver for all such individuals, until the earlier of January 2, 2000, or the date on which Treasury determines that such an account is ready to be made available to them.
Federal agencies will not be required to use EFT when political, financial, or communications infrastructure does not support payment by EFT in certain overseas locations.
Finally, waivers will be available where a cost-benefit analysis does not justify making non-recurring payments by EFT and where EFT payments would conflict with military, law enforcement, or national security interests.
How Can Treasury Assure "Unbanked" Recipients Access to an Account at Reasonable Cost?
One of the most socially significant challenges of this legislation is to encourage millions of recipients without bank accounts to become part of the financial mainstream. At present, ten million Federal benefit recipients, or 18 percent of the total number of recipients, do not have an account at a financial institution. Instead they rely on banks, check cashers, pawn shops, money transfer agents, family members, or local merchants to cash their payroll or benefit checks -- frequently at high cost -- and even after they cash their checks, they have no convenient way to pay their bills or to accumulate savings. Our challenge is to provide low cost accounts to these individuals that will provide the basic services needed to make EFT attractive and useful.
The unbanked tend to be younger and to have lower incomes than recipients with bank accounts, and they are more frequently members of a racial or ethnic minority. While only about 8 percent of VA beneficiaries and 15% of Social Security retirement and survivor benefits do not have bank accounts, over half of all SSI recipients do not have accounts. As I stated earlier, the predominant reason recipients do not have bank accounts is that they do not have sufficient income to be able to afford the cost of standard accounts. Indeed, over 80% of recipients without bank accounts know about the Direct Deposit program and its benefits, yet many are still willing to pay high fees to non-bank providers in order to cash checks and make the few basic third-party payments they must make each month.
Our implementation of EFT '99 would be much easier for these recipients if there were a multitude of attractive products being offered by the private sector for unbanked payment recipients. While many institutions are making plans in this regard, we have concluded that we cannot take the risk of waiting to see what develops. We have an explicit mandate to ensure that accounts are available for unbanked recipients at reasonable cost and with appropriate consumer protections. Accordingly, Treasury will be designing an Electronic Transfer Account -- or "ETA sm" -- and initiating a competitive process to engage financial institutions to offer such an account in defined geographic areas. We will also provide that in states in which there are Electronic Benefit Transfer programs up and running, unbanked recipients may, at their option, elect to receive their payments through such a program.
There are many difficult, complex issues involved in developing the ETA sm, and Treasury is already in the process of rigorously analyzing these. Our preliminary view is that the ETA sm should be an all-electronic, debit card-based account, held at a federally insured depository institution acting as our agent, for which the recipient would be charged a fixed minimum monthly fee. But beyond that we have still have several outstanding questions. How should the account be structured? What services should it offer? What prices should be charged for these services? What are the options for the ETA sm providers? What types of access points should be made available? How can an account be developed that meets the ETA sm requirements but at the same time prevents migration to it by currently banked recipients? What role, if any, should non-bank providers of payments services be afforded with respect to the ETA sm?
I want to emphasize that we are soliciting comment on all of these questions in the rulemaking process. There is a 90-day comment period on the proposed regulation, ending December 16, 1997. Following the close of the comment period we will develop a proposed design for the ETA sm and will solicit public comments on that proposal before we enter the actual selection stage. The public will therefore be able to play a significant role in shaping our thinking on this important issue.
The Special Issue of Payments to Vendors
The Committee has asked that we address certain specific questions regarding payments to government vendors, and I am pleased to do so. Treasury alone makes over 15 million vendor payments annually by check or direct deposit, totaling in excess of $159 billion, annually. In addition, there has been a significant use of credit cards for procurement purposes. For example in FY 1996, over 12 million Treasury-disbursed vendor payments were made by check and approximately 2 million by EFT, while government-wide over 9 million were made using credit cards.
Our analysis of vendor payments has been focussed on a variety of concerns: the need to pass remittance data to vendors; the need to streamline enrollment across Federal agencies; and the need to find viable alternatives that will help the conversion of small businesses to EFT. The proposed rule does not include a waiver for vendor payments because the government is actively pursuing solutions to each of these issues, and we expect those solutions to be in place before January 1, 1999:
Remittance Data: Many vendors have indicated that they would not select EFT because they cannot receive remittance data with the payment transaction. Many financial institutions are not equipped with the technology (Electronic Data Interchange) to receive and pass on the necessary remittance information to vendors. The National Automated Clearinghouse Association (NACHA) estimates that only 1,250 out of 24,000 depository institutions are currently capable of both receiving and transmitting this information with electronic payments.
Many vendors have indicated that they would not select EFT because they cannot receive remittance data with the payment transaction. Many financial institutions are not equipped with the technology (Electronic Data Interchange) to receive and pass on the necessary remittance information to vendors. The National Automated Clearinghouse Association (NACHA) estimates that only 1,250 out of 24,000 depository institutions are currently capable of both receiving and transmitting this information with electronic payments.
In addition, customers of those financial institutions with this capability often are required to pay fees for this service. A recent study that we conducted indicates that the government can expect most large, and some medium banks, to support EFT '99 by providing remittance data with payments in an electronic format. However, no single solution exists for all vendors. As a result, many agencies, including Treasury, are pursuing alternative methods that may save money--including the use of the internet to retrieve remittance data, the use of audio-response systems, and fax. The most promising of these is the Internet. FMS recently implemented a pilot that allows vendors to sign-on to receive their remittance data at no cost. Other agencies are also trying this process. In addition, we believe the use of the GSA purchase card, which has surged in the past two years, will bring resolution to this issue. Treasury is working closely with private industry to resolve this matter.
NACHA is also working on the remittance data issue. They have drafted a Request for Comment on a proposal to modify the NACHA operating rules to require Receiving Depository Financial Institutions (RDFIs) to deliver remittance information. The proposed provision would require RDFIs to deliver remittance data if vendors ask them to do so.
Enrollment: Currently, if a vendor does business with more than one agency, it must enroll for direct deposit with each agency. This has proven costly and burdensome for many. As a result, in conjunction with other agencies, the Department of Defense is implementing a Centralized Contractor Registration process that will allow "one-time" sign-up by vendors.
Currently, if a vendor does business with more than one agency, it must enroll for direct deposit with each agency. This has proven costly and burdensome for many. As a result, in conjunction with other agencies, the Department of Defense is implementing a Centralized Contractor Registration process that will allow "one-time" sign-up by vendors.
Small Businesses: In order to ease conversion for many small business, Treasury, along with other agencies, believes that expanded use of plastic card technology, and the Internet for remittance data, as appropriate, will ease the transition for small business. Our experience indicates that the greatest use of the credit card is for small dollar purchases -- we believe that small businesses can benefit from use of this technology.
In order to ease conversion for many small business, Treasury, along with other agencies, believes that expanded use of plastic card technology, and the Internet for remittance data, as appropriate, will ease the transition for small business. Our experience indicates that the greatest use of the credit card is for small dollar purchases -- we believe that small businesses can benefit from use of this technology.
We believe the issues of vendor payments will be overcome in sufficient time to allow a successful implementation by January 2, 1999. We plan to continually monitor vendor payment conversion activities and will evaluate the progress of the program as the conversion date approaches.
Public Education and Marketing
Treasury is working closely with all Federal agencies, the Federal Reserve, the payments industry, private firms, consumer groups, state governments, and other parties to ensure a smooth transition to EFT. We are developing a nationwide education and marketing program, and beginning later this year, the program will encourage voluntary conversion of current Federal check recipients to EFT, stressing that EFT is good for all parties and that it is a reliable and safe way to obtain money.
We have spent the past year analyzing the many complex issues associated with EFT '99 and working closely with consumer and community groups, and will use the education and marketing campaign to encourage check recipients to transfer to EFT. Plans for this campaign were developed by a joint industry-government marketing committee. The results of the Treasury socioeconomic research mentioned above will be used to help develop the campaign and to determine which messages are most likely to have an impact on converting check recipients to EFT. As you can tell from the results I shared, it will help us understand what the potential market looks like, what people perceive to be advantages and disadvantages of EFT, and other important information. The campaign will continue in earnest throughout 1998. We will deliver positive messages about EFT using public service advertising, and we will develop promotional materials for use by financial institutions, consumer organizations, and other groups.
Opportunities Presented by EFT '99
EFT '99 should result in millions of Americans being brought into the banking system for the first time, and it will dramatically change the way in which they handle their money. It will thus create a unique opportunity for financial institutions and the payments industry. Millions of consumers and thousands of vendors will soon be seeking electronic payment services and accounts at reasonable costs. Social Security recipients will rely on banks to sign them up for direct deposits. Vendors that are required to pay their taxes electronically will be looking to financial institutions to provide payment services. Senior citizens will require information on how direct deposit works and how to enroll, and welfare recipients will need information on types of deposit accounts and direct deposit. Companies will need information about electronic data interchange.
I would also like to reiterate that unbanked recipients represent a large market that has been substantially ignored by financial institutions up to this point. Even though they tend to have relatively low incomes, a large portion of the unbanked hold out the promise of being good customers: They receive regular, predictable monthly income; many have assets; they often pay relatively high prices for basic financial services; and they have a real need for many financial products and services. This market holds great opportunity for appropriate products, since electronic-only accounts cannot be overdrawn, can be remotely accessed, and allow the greatest degree of self-service. Serving these persons in an debit account, EFT environment will allow costs to be controlled and risks minimized. And once comfortable with a banking relationship, previously unbanked recipients may well become customers for other banking services.
For financial service providers, the potential benefits of EFT are also enormous. Not only is there the opportunity to provide services to that segment of the population that does not now have a bank account, there will also be numerous opportunities for innovative electronic product development. Of course, we recognize that this shift to EFT will require financial institutions to make some changes to systems and operations, and we will continue to work with the Federal Reserve System to assist in this process and to provide adequate information about our initiatives. However, since the financial services industry will be a major beneficiary of the transition, we also expect them to take some responsibility for developing public acceptance of EFT.
While there are significant opportunities, many questions remain to be answered. For example, how can alternative access points in the chain of delivery be ensured? What role will non-bank institutions play in the process of delivering funds to recipients? What types of partnerships can be effective and efficient?
Of course, there are many challenges that service providers will have to overcome. Where are potential customers located? How strong is the communications infrastructure in certain parts of the country? What types of fees and account structures are best suited to this population? Treasury is in the process of analyzing all these complex issues.
The Road Ahead
I would like to emphasize that the rule made public last week is a proposed regulation. As I mentioned, there is a 90 day comment period, ending December 16th, during which the public will be able to provide us with written comments. We, at Treasury, are doing all we can to encourage the public to take this opportunity to make us aware of their viewpoints on the provisions in the proposed regulation. After the 90-day comment period, Treasury will review all comments and publish a final rule in 1998. We will also provide further opportunity for review and comment on the structure of the ETA sm, before we enter the actual selection stage.
Mr. Chairman, thank you for this opportunity to testify before your committee to discuss EFT '99 -- a most challenging and exciting initiative. Let me assure you that we plan to communicate closely with Congress as we move forward with EFT '99. Attached to this testimony are specific answers to the questions which were posed in the letter inviting me to testify before the Committee.