FedNow Will Let Banks Delay Instant Payments to Prevent Fraud

The Federal Reserve Board on Thursday (May 19) finalized a rule that governs funds transfer over the Federal Reserve Bank’s FedNow services. The final rule is substantially similar to a proposal from last year, but some of the clarifications provided by the Fed will allow banks to have extra time to process instant payments if they believe funds may have a fraudulent origin.

In June 2021, the Fed published a notice of proposed rulemaking to establish a new subpart C of Regulation J to govern funds transfers made through the FedNow Service and amend the title of the regulation (the 2021 Notice). The proposed new subpart C of Regulation J specifies the terms and conditions under which Reserve Banks will process funds transfers over the FedNow Service.

The Fed received 31 comments from small and mid-size banks, large banks, individuals, consumer organizations, service providers and processors, private-sector operators, trade organizations and other interested parties. After considering all these comments, the Fed has adopted amendments to Regulation J.

Commenters suggested that the Fed should grant banks additional time to determine whether to accept a payment order. The proposed rule, before issuing this final rule, accommodated a feature of the FedNow Service under which the beneficiary’s bank could notify its Reserve Bank that it requires additional time to determine whether to accept the payment order because it has reasonable cause to believe that the beneficiary is not entitled or permitted to receive payment. The main purpose of this provision is to avoid payments to persons and companies sanctioned by the U.S. government.

However, 11 commenters, including a trade association and a consumer group, stated that the exception to the “immediate” funds availability requirement should explicitly allow the beneficiary’s bank to delay making funds available for any suspected fraud.

The Fed considered the comments received and has made a clarification of the proposed rule. Accordingly, the final rule allows a FedNow participant additional time to determine whether to accept a payment order only in instances where the FedNow participant has reasonable cause to believe that the beneficiary is not entitled or permitted to receive payment. But the Board has added an example in the commentary noting that such reasonable cause could exist where a particular payment order may be related to fraudulent activity.

Commentators also tried to extend similar protections in case of error or misdirected payments, but the Fed rejected these claims as “such requirement in the regulation would not be feasible for an instant payment system and it would slow processing time-sensitive payments.”

The Fed also left a door open for more changes to prevent fraud regarding customer authentication, but it fell short of introducing new modifications or clarifications at this time. Some commenters stated that the Board should give greater consideration to the operational details with respect to authentication and the potential for fraud, including instances where a third party fraudulently induces a consumer into initiating an instant payment from the consumer’s bank account.

While the Fed recognized that the irrevocable, real-time nature of instant payments can pose a challenge to the industry in detecting and preventing fraud, it suggested that further examining of Regulation E may be the right tool to strengthen consumer protection for this particular topic.

It then continued explaining that the Fed is committed to promoting the development and implementation of industry-wide measures to help financial institutions detect and prevent fraud. The FedNow Service will have fraud prevention tools, the Fed said, and over time, the Reserve Banks will augment fraud prevention tools as the FedNow Service matures.

Read more: Five Banks To Test FedNow Real-Time Payments System