FROM THE OFFICE OF PUBLIC AFFAIRS

Mr. Chairman and Members of theCommittee, Iam pleased to be with you today to discuss the Treasury Department's implementation of thelaw that requires the Federal government to issue its payments electronically afterJanuary 1, 1999. This new law, which excludes only tax refunds, has far reachingimplications for millions of Americans, and I commend the Committee for providing anopportunity to examine the issues involved in this major initiative. The timing for thishearing could not be better, for just last week the Treasury Department published itsNotice 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 Federalpayments (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, allFederal 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 isauthorized to grant waivers based on recipient hardship, for classes of checks, or where otherwise necessary.

Treasury was given these responsibilitiesbecause of its role as the government’s chief disburser. Last year, Treasury’sFinancial Management Service (FMS) issued over 850 million payments on behalf ofnon-defense agencies, including various types of benefits, Federal salaries, tax refunds,vendor payments, grants and loans.

The goal of the Department of the Treasuryisto issue payments by a method that will provide the best service to recipients, the lowestpossible cost to taxpayers, and the greatest degree of transaction security. Treasury hasbeen issuing electronic payments for over two decades, and our experience is that EFT issubstantially more convenient, cost-effective, and secure than paper checks. Attached tomy written statement is a chart that clearly demonstrates the benefits of EFT:

EFT payments will save taxpayersmoney. 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 EFTpayments are never lost, and are typically routed to the correct bank account within 24 hours.

EFT will increase transaction securityand 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.

 

In developing the EFT '99 proposal, we havebeen guided by four principles:

The transition to EFT should beaccomplished with the interests of recipients being of paramount importance.

Our policies should maximize privatesector 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 toEFT.

We should strive through EFT '99 tobring recipients without bank accounts into the mainstream of the financial system.

As a prelude to the rulemaking, Treasuryreached out to a broad array of interest groups whose members might be affected. Forexample, all of the organizations that will testify following this panel were involved insome form of discussions, written comments or meetings with Treasury on EFT '99. We alsoinvited the public to comment on our interim rule, and over 33 comment letters werereceived. In addition, we worked closely with the Social Security Administration, theVeterans Administration, and other program agencies to identify key issues and coordinatethe approach to their resolution. We obtained input from agencies through regionalroundtables attended by over 1,100 agency representatives, and we established an EFTInteragency Policy Workgroup to examine key policy issues.

Finally, we conducted demographic researchtodetermine the characteristics of Federal check recipients. This research indicated thatapproximately 18% of those individuals receiving Federal benefit checks do not have bankaccounts. It should be no surprise that 75% of these "unbanked" recipientsindicated that the costs associated with conventional bank accounts made it economicallyunattractive 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 thisbackground information, with a view toward proposing implementing regulations, weidentified four key issues that required resolution:

What types of entities should bepermitted to maintain accounts into which electronic government payments may be made?

Who should be permitted to receivepayments in such an account as a representative of the beneficial owner of the payment?

Under what circumstances should wewaive the requirement for EFT?

How do we perform our obligation toassure recipients access to an account at a financial institution at a reasonable cost?

I would like to explain our approach to eachof these issues.

Two key factors influenced our thinking onthis question: First, the new law itself defines the term "electronic fundstransfer" as an instruction to a "financial institution" to credit or debitan "account." Thus, the law seems to clearly contemplate the establishment of adeposit relationship. Second, Federal EFT payments will be made primarily through the ACHnetwork, and only depository institutions are eligible to receive ACH transfers.

In light of these factors, Treasury’sproposed rule provides that electronic payments will, with one exception I will describe,be transferred only into accounts held at institutions that are either federally insuredor eligible to apply for federal insurance -- banks, thrift institutions, credit unionsand agencies or branches of foreign banks.

I want to emphasize that this aspect of theproposed regulation relates only to the nature of the entity that may be the immediatetransferee of Federal funds. It does not preclude entities other than financialinstitutions -- non-bank payments service providers -- from linking with financialinstitutions, or independently offering to recipients who hold accounts at financialinstitutions, to provide additional or ancillary payments services relating to EFTdeposits or other funds of the account holder.

The new law contemplates that recipientsmaydesignate "authorized agents" to hold accounts on their behalf for the purposeof receiving EFT payments. The challenge for us is to determine what content to give tothis term. There is no existing general Federal standard governing the conduct of entitiesthat might act as agents for the purpose of receiving payments, nor any general Federalmechanism for overseeing and regulating the conduct of such entities. Thus, if we were tointerpret this term broadly, we might be facilitating broad scale abuse of paymentsrecipients. 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 actas their "agents" for the receipt of payments. We clearly cannot expose ourcitizens to this risk. Yet clearly there are many situations in which recipients are notable to manage their own affairs and need the help of someone who can act in arepresentative capacity.

Our proposed rule addresses these concernsbylimiting the definition of "authorized payment agent" to those representativepayees or fiduciaries who are appointed or selected to act in a representative capacityunder regulations of the various program agencies having payment responsibilities, such asSocial Security, Veterans Affairs, and the Railroad Retirement Board. These agencies havea long history of administering systems for the appointment and governance of suchrepresentatives for beneficiaries who are legally incompetent, under age 18, or incapableof managing or directing the management of their benefit payments. Indeed, over 6 millionSocial Security beneficiaries, including 4 million children, regularly receive paymentsthrough representative payees, and the Social Security Administration has well-establishedstandards and reporting requirements for such representatives.

Other than in the case of representativepayees appointed under such programs, the proposed rule has only one other exception tothe requirement that payments be made to an account at a financial institution held in thename of the recipient. Where a payment is to be transferred to an investment or cashmanagement account established by an SEC-regulated broker-dealer, the payment may be madeinitially into an account held in the name of the broker or dealer, so long as the accountand all associated records are structured so that the recipient’s beneficial interestis clearly identified and individual deposit insurance coverage is protected. The SocialSecurity Administration estimates that approximately 2 million recipients currentlyutilize this type of arrangement.

In considering waivers, we wanted to beresponsive to two conflicting considerations: First, we recognized that there will be agreat many perfectly legitimate reasons for exempting recipients from the requirement ofmandatory EFT. A heavy handed implementation of the mandate could not only imposesignificant hardships on individuals, but could very quickly undermine the base of supportfor the program. On the other hand, excessive liberality in the granting of waivers couldsignificantly vitiate the tremendous operational savings that we expect from theimplementation of EFT '99.

Our very positive experience with theinterimprogram also led us to the preliminary view that it might be reasonable to drawdistinctions between new payments recipients, who have not become accustomed to receivingchecks from the government, and existing recipients, who might suffer hardship if theirexisting patterns of conduct had to be changed.

Taking these considerations into account,wehave 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 bankaccounts, 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 touse EFT when political, financial, or communications infrastructure does not support payment by EFT in certain overseas locations.

Finally, waivers will be available wherea cost-benefit analysis does not justify making non-recurring payments by EFT and where EFT payments would conflict with military, law enforcement, or national securityinterests.

 

One of the most socially significantchallenges of this legislation is to encourage millions of recipients without bankaccounts to become part of the financial mainstream. At present, ten million Federalbenefit recipients, or 18 percent of the total number of recipients, do not have anaccount 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 benefitchecks -- frequently at high cost -- and even after they cash their checks, they have noconvenient way to pay their bills or to accumulate savings. Our challenge is to providelow cost accounts to these individuals that will provide the basic services needed to makeEFT attractive and useful.

The unbanked tend to be younger and tohavelower incomes than recipients with bank accounts, and they are more frequently members ofa racial or ethnic minority. While only about 8 percent of VA beneficiaries and 15% ofSocial Security retirement and survivor benefits do not have bank accounts, over half ofall SSI recipients do not have accounts. As I stated earlier, the predominant reasonrecipients do not have bank accounts is that they do not have sufficient income to be ableto afford the cost of standard accounts. Indeed, over 80% of recipients without bankaccounts know about the Direct Deposit program and its benefits, yet many are stillwilling to pay high fees to non-bank providers in order to cash checks and make the fewbasic third-party payments they must make each month.

Our implementation of EFT '99 would bemucheasier for these recipients if there were a multitude of attractive products being offeredby the private sector for unbanked payment recipients. While many institutions are makingplans in this regard, we have concluded that we cannot take the risk of waiting to seewhat develops. We have an explicit mandate to ensure that accounts are available forunbanked 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 anaccount in defined geographic areas. We will also provide that in states in which thereare Electronic Benefit Transfer programs up and running, unbanked recipients may, at theiroption, elect to receive their payments through such a program.

There are many difficult, complex issuesinvolved in developing the ETA_sm, and Treasury is already in the process ofrigorously analyzing these. Our preliminary view is that the ETA_sm should be anall-electronic, debit card-based account, held at a federally insured depositoryinstitution acting as our agent, for which the recipient would be charged a fixed minimummonthly fee. But beyond that we have still have several outstanding questions. How shouldthe account be structured? What services should it offer? What prices should be chargedfor these services? What are the options for the ETA_sm providers? What types ofaccess points should be made available? How can an account be developed that meets theETA_smrequirements 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 respectto the ETA_sm?

I want to emphasize that we are solicitingcomment on all of these questions in the rulemaking process. There is a 90-day commentperiod on the proposed regulation, ending December 16, 1997. Following the close of thecomment period we will develop a proposed design for the ETA_sm and will solicitpublic comments on that proposal before we enter the actual selection stage. The publicwill therefore be able to play a significant role in shaping our thinking on thisimportant issue.

The Committee has asked that we addresscertain specific questions regarding payments to government vendors, and I am pleased todo so. Treasury alone makes over 15 million vendor payments annually by check or directdeposit, totaling in excess of $159 billion, annually. In addition, there has been asignificant use of credit cards for procurement purposes. For example in FY 1996, over 12million Treasury-disbursed vendor payments were made by check and approximately 2 millionby EFT, while government-wide over 9 million were made using credit cards.

Our analysis of vendor payments has beenfocussed on a variety of concerns: the need to pass remittance data to vendors; the needto streamline enrollment across Federal agencies; and the need to find viable alternativesthat will help the conversion of small businesses to EFT. The proposed rule does notinclude a waiver for vendor payments because the government is actively pursuing solutionsto each of these issues, and we expect those solutions to be in place before January 1,1999:

Remittance Data: Manyvendors 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 thatonly 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 thosefinancial 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 theremittance data issue. They have drafted a Request for Comment on a proposal to modify the NACHAoperating 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 avendor 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 toease 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 paymentswillbe overcome in sufficient time to allow a successful implementation by January 2, 1999. Weplan to continually monitor vendor payment conversion activities and will evaluate theprogress of the program as the conversion date approaches.

Treasury is working closely with all Federalagencies, the Federal Reserve, the payments industry, private firms, consumer groups,state governments, and other parties to ensure a smooth transition to EFT. We aredeveloping a nationwide education and marketing program, and beginning later this year,the program will encourage voluntary conversion of current Federal check recipients toEFT, stressing that EFT is good for all parties and that it is a reliable and safe way toobtain money.

We have spent the past year analyzing themany complex issues associated with EFT '99 and working closely with consumer andcommunity groups, and will use the education and marketing campaign to encourage checkrecipients to transfer to EFT. Plans for this campaign were developed by a jointindustry-government marketing committee. The results of the Treasury socioeconomicresearch mentioned above will be used to help develop the campaign and to determine whichmessages are most likely to have an impact on converting check recipients to EFT. As youcan tell from the results I shared, it will help us understand what the potential marketlooks like, what people perceive to be advantages and disadvantages of EFT, and otherimportant information. The campaign will continue in earnest throughout 1998. We willdeliver positive messages about EFT using public service advertising, and we will developpromotional materials for use by financial institutions, consumer organizations, and othergroups.

EFT '99 should result in millions ofAmericans being brought into the banking system for the first time, and it willdramatically change the way in which they handle their money. It will thus create a uniqueopportunity for financial institutions and the payments industry. Millions of consumersand thousands of vendors will soon be seeking electronic payment services and accounts atreasonable costs. Social Security recipients will rely on banks to sign them up for directdeposits. Vendors that are required to pay their taxes electronically will be looking tofinancial institutions to provide payment services. Senior citizens will requireinformation on how direct deposit works and how to enroll, and welfare recipients willneed information on types of deposit accounts and direct deposit. Companies will needinformation about electronic data interchange.

I would also like to reiterate that unbankedrecipients represent a large market that has been substantially ignored by financialinstitutions up to this point. Even though they tend to have relatively low incomes, alarge portion of the unbanked hold out the promise of being good customers: They receiveregular, predictable monthly income; many have assets; they often pay relatively highprices for basic financial services; and they have a real need for many financial productsand services. This market holds great opportunity for appropriate products, sinceelectronic-only accounts cannot be overdrawn, can be remotely accessed, and allow thegreatest degree of self-service. Serving these persons in an debit account, EFTenvironment will allow costs to be controlled and risks minimized. And once comfortablewith a banking relationship, previously unbanked recipients may well become customers forother banking services.

For financial service providers, thepotential benefits of EFT are also enormous. Not only is there the opportunity to provideservices to that segment of the population that does not now have a bank account, therewill also be numerous opportunities for innovative electronic product development. Ofcourse, we recognize that this shift to EFT will require financial institutions to makesome changes to systems and operations, and we will continue to work with the FederalReserve System to assist in this process and to provide adequate information about ourinitiatives. However, since the financial services industry will be a majorbeneficiary of the transition, we also expect them to take some responsibility fordeveloping public acceptance of EFT.

While there are significant opportunities,many questions remain to be answered. For example, how can alternative access points inthe chain of delivery be ensured? What role will non-bank institutions play in theprocess of delivering funds to recipients? What types of partnerships can be effective andefficient?

Of course, there are many challenges thatservice providers will have to overcome. Where are potential customers located? How strongis the communications infrastructure in certain parts of the country? What types of feesand account structures are best suited to this population? Treasury is in the process ofanalyzing all these complex issues.

I would like to emphasize that the rule madepublic last week is a proposed regulation. As I mentioned, there is a 90 day commentperiod, ending December 16th, during which the public will be able to provide us withwritten comments. We, at Treasury, are doing all we can to encourage the public to takethis opportunity to make us aware of their viewpoints on the provisions in the proposedregulation. After the 90-day comment period, Treasury will review all comments and publisha final rule in 1998. We will also provide further opportunity for review and comment onthe structure of the ETA_sm, before we enter the actual selection stage.

Mr. Chairman, thank you for thisopportunityto testify before your committee to discuss EFT '99 -- a most challenging and excitinginitiative. Let me assure you that we plan to communicate closely with Congress as we moveforward with EFT '99. Attached to this testimony are specific answers to the questionswhich were posed in the letter inviting me to testify before the Committee.