What Is a Check?

A check is a written, dated, and signed instrument that directs a bank to

pay a specific sum of money to the bearer. The person or entity writing the
check is known as the payor or drawer, while the person to whom the
check is written is the payee. The drawee, on the other hand, is the bank
on which the check is drawn.

Checks may be cashed or deposited. When the payee presents a check to

a bank or other financial institution to negotiate, the funds are drawn from
the payor’s bank account. It is another way to instruct the bank to transfer
funds from the payor’s account to the payee or the payee’s account.
Checks are generally written against a checking account, but they can also
be used to negotiate funds from a savings or other type of account.

In some parts of the world, such as Canada and England, the spelling used
is “cheque.”

KEY TAKEAWAYS

 A check is a written, dated, and signed instrument that directs a bank

to pay a specific sum of money to the bearer. 
 It is another way to instruct a bank to transfer funds from the payor’s
account to the payee or that person's account. 
 Check features include the date, the payee line, the amount of the
check, the payor’s endorsement, and a memo line.
 Types of checks include certified checks, cashier’s checks, and
payroll checks, also called paychecks.
How Checks Work
A check is a bill of exchange or document that guarantees a certain amount
of money. It is printed for the drawing bank to give to an account holder—
the payor—to use. The payor writes the check and presents it to the payee,
who then takes it to their bank or other financial institution to negotiate for
cash or to deposit into an account.

The use of checks allows two or more parties to make a monetary

transaction without the need of actually exchanging
physical currency. Instead, the amount for which the check is written is a
substitute for physical currency of the same amount.
Checks can be used to make bill payments, as gifts, or to transfer sums
between two people or entities. They are generally seen as a more secure
way of transferring money than cash, especially when there are large sums
involved. If a check is lost or stolen, a third party is not able to cash it, as
the payee is the only one who can negotiate the check. Modern substitutes
for checks include debit and credit cards, wire transfers, and internet
banking.

 
The use of checks cuts out the need for one party to transfer a large sum of
physical cash to another party.

History of Checks
Checks have been in existence in one form or another since ancient times.
Many people believe a type of check was used among the ancient
Romans.1 While each culture that adopted a form of check had its own
system, they all shared the basic idea of substituting the check for physical
currency.

In 1717 the Bank of England was the first organization to issue preprinted
checks.2 The oldest American check dates to the 1790s. 3

Modern checks, as we know them today, became popular in the 20th

century. Check usage surged in the 1950s as the check process became
automated and machines were able to sort and clear checks. Check cards,
first created in the 1960s, were the precursors to today’s debit cards. 4
Credit and debit cards—and other forms of electronic payment—have since
overshadowed checks as the dominant means of paying for most goods
and services. Checks are now somewhat uncommon but still used among
the general population.

Check Features
While not all checks look alike, they generally share the same key parts.
The name and contact information of the person writing the check is
located at the top left-hand side. The name of the bank that holds the
drawer’s account appears on the check as well.

There are a number of lines that need to be filled in by the payor:

  The date is written on the line on the top right-hand corner of the
check.
 The payee’s name goes on the first line in the center of the check.
This is indicated by the phrase "Pay to the Order Of."
 The amount of the check in a dollar figure is filled out in the box next
to the payee’s name.
 The amount written out in words goes on the line underneath the
payee’s name.
 The payor signs the check on the line on the bottom right hand corner
of the check. The check must be signed to be considered valid.

There is also a memo line on the bottom left hand corner of the check
underneath the drawing bank’s information. The payor may use it to fill in
any pertinent information, such as a reference number, an account number,
or any other reason for writing the check.

A series of coded numbers are found along the bottom edge of the check,
directly underneath the memo line and the payor’s signature line. These
numbers represent the bank’s routing number, the payor’s account number,
and the check number. In certain countries, such as Canada, the routing
number is replaced with an institution number—which represents the
bank’s identifying code—and the transit or branch number where the
account is held.

Image by Sabrina Jiang © Investopedia 2020

The back of the check has an endorsement line for the payee’s signature
when the check is negotiated. The receiving bank stamps the back with a
deposit stamp at the time it is negotiated, after which it goes for clearing.
Once the drawing bank receives the check, it is stamped again and filed. In
some cases the check is sent back to the payor if they request it.

Types of Checks
Checks can be used for several different purposes.

Certified check
One example is a certified check, which verifies that the drawer’s account
has enough funds to honor the amount of the check. In other words, the
check is guaranteed not to bounce. To certify a check, it must be presented
at the bank on which it is drawn, at which time the bank will ascertain its
authenticity with the payor.

Cashier's check
A cashier’s check is guaranteed by the banking institution and signed by a
bank cashier, which means the bank is responsible for the funds. This type
of check is often required in large transactions, such as buying a car or
house.

Payroll check
Another example is a payroll check, or paycheck, which an employer
issues to compensate an employee for their work. In recent years physical
paychecks have given way to direct deposit systems and other forms of
electronic transfer.

Bounced Checks
When someone writes a check for an amount larger than what is held in
their checking account, the check cannot be negotiated. This is referred to
as a “bounced check.” The check bounces because it cannot be
processed, as there are insufficient or non-sufficient funds (NSF) in the
account (the two terms are interchangeable). A bounced check usually
incurs a penalty fee to the payor. In some cases the payee is also charged
a fee.

What Is a Checking Account?

A checking account is a deposit account held at a financial institution that
allows withdrawals and deposits. Also called demand accounts or
transactional accounts, checking accounts are very liquid and can be
accessed using checks, automated teller machines, and electronic debits,
among other methods. A checking account differs from other bank
accounts in that it often allows for numerous withdrawals and unlimited
deposits, whereas savings accounts sometimes limit both.

KEY TAKEAWAYS

 A checking account is a deposit account with a bank or other financial

firm that allows the holder to make deposits and withdrawals.
 Checking accounts are very liquid, allowing for numerous deposits
and withdrawals, as opposed to less-liquid savings or investment
accounts.
  The tradeoff for increased liquidity is that checking accounts don't
offer holders much, if any, interest.
 Money can be deposited at banks and via ATMs, through direct
deposit or other electronic transfer; account holders can withdraw
funds via banks and ATMs, by writing checks, or using electronic
debit or credit cards paired with their accounts.
 It's important to keep track of checking account fees, which are
assessed for overdrafts, writing too many checks—and at some
banks—allowing the account balance to drop below the required
minimum.
Understanding Checking Accounts
Checking accounts can include commercial or business accounts, student
accounts, and joint accounts, along with many other types of accounts that
offer similar features.

A commercial checking account is used by businesses and is the property

of the business. The business' officers and managers have signing
authority on the account as authorized by the business' governing
documents.

Some banks offer a special free checking account for college students that
will remain free until they graduate. A joint checking account is one where
two or more people, usually marital partners, are both able to write checks
on the account.

In exchange for liquidity, checking accounts typically do not offer high

interest rates (if they offer interest at all). But if held at a chartered banking
institution, funds are guaranteed by the Federal Deposit Insurance
Corporation (FDIC) up to $250,000 per individual depositor, per insured
bank.1

For accounts with large balances, banks often provide a service to "sweep"
the checking account. This involves withdrawing most of the excess cash in
the account and investing it in overnight interest-bearing funds. At the
beginning of the next business day, the funds are deposited back into the
checking account along with the interest earned overnight.

Checking Accounts and Banks

Many banking institutions offer checking accounts for minimal fees.
Traditionally, most large commercial banks use checking accounts as loss
leaders. A loss leader is a marketing tool in which a company offers a
product or several products below market value to attract consumers. The
goal of most banks is to attract consumers with free or low-cost checking
accounts and then entice them to use more profitable offerings such as
personal loans, mortgages, and certificates of deposit.

However, as alternative lenders such as fintech companies offer

consumers an increasing number of loans, banks may have to revisit this
strategy. Banks may decide, for example, to increase fees on checking
accounts if they cannot sell enough profitable products to cover their
losses.

Money Supply Measurements

Because money held in checking accounts is so liquid, aggregate balances
nationwide are used in the calculation of the M1, money supply. M1 is one
measure of the money supply, and it includes the sum of all transaction
deposits held at depository institutions, as well as currency held by the
public. M2, another measure, includes all of the funds accounted for in M1,
as well as those in savings accounts, small-denomination time deposits,
and retail money market mutual fund shares.

Using Checking Accounts

Consumers can set up checking accounts at bank branches or through a
financial institution's website. To deposit funds, account holders can use
ATMs, direct deposit, and over-the-counter deposits. To access their funds,
they can write checks, use ATMs or use electronic debit or credit cards
connected to their accounts. 

Advances in electronic banking have made checking accounts more

convenient to use. Customers can now pay bills via electronic transfers,
thus eliminating the need for writing and mailing paper checks. They can
also set up automatic payments of routine monthly expenses, and they can
use smartphone apps for making deposits or transfers.

 
Don't overlook checking account fees—there are things banks won't widely
advertise to people who aren't reading the fine print, including contingent
fees like overdrafts.

Overdraft Protection
If you write a check or make a purchase for more than you have in your
checking account, your bank may cover the difference. This line of credit
offered by the bank is called overdraft protection.

What many banks don't tell customers is that they'll charge you for each
transaction that causes your account to use an overdraft. If you have a $50
account balance, for example, and you make purchases using your debit
card of $25, $25 and $53, you will be charged an overdraft fee—usually a
hefty one—for the purchase that overdrew your account, as well as for
each subsequent purchase after you're in the red.

But there's more. In the example above in which you made three purchases
of $25, $25 and $53, you wouldn't just be charged a fee for the last
purchase. Per the account holder agreement, many banks have provisions
stating that in the event of an overdraft, transactions will be grouped in the
order of their size, regardless of the order in which they occurred. This
means the bank would group those transactions in the order of $53, $25,
$25, charging a fee for each of the three transactions on the day you
overdrew your account. Furthermore, if your account remains overdrawn,
your bank may also charge you daily interest on the loan.

There is a practical reason for clearing larger payments before smaller

payments. Many important bills and debt payments, such as car and
mortgage payments, are usually in large denominations. The rationale is
that it is better to have those payments cleared first. However, such fees
are also an extremely lucrative income generator for banks.

You can avoid overdraft fees by opting out of overdraft coverage, choosing

a checking account with no overdraft fees, or keeping money in a linked
account.

Some banks will forgive one to four overdraft charges in a one-year period,
though you may have to call up and ask. Chase Bank, for example, waives
the fees for insufficient funds incurred on up to four business days in every
12-month period on its Sapphire Checking accounts. 2

Checking Account Service Charges

While banks are traditionally thought of as generating income from the
interest they charge customers to borrow money, service charges were
created as a way to generate income from accounts that weren't generating
enough interest revenue to cover the bank's expenses. In today's
computer-driven world, it costs a bank pretty much the same amount to
maintain an account with a $10 balance as it does an account with a
$2,000 balance. The difference is that while the larger account is earning
enough interest for the bank to earn some income, the $10 account is
costing the bank more than it's bringing in.

The bank makes up for this shortfall by charging fees when customers fail
to maintain a minimum balance, write too many checks, or, as just
discussed, overdraw an account.

There may be a way to get out of at least some of those fees on occasion.
If you're a customer of a large bank (not a small-town savings-and-loan
branch), the best way to avoid paying non-recurring fees is to ask politely.
Customer service reps at large banks are often authorized to overturn
hundreds of dollars in charges if you merely explain the situation and ask
them to cancel the charge. Just be aware that these "courtesy
cancellations" are usually one-time deals.

Direct Deposit
Direct deposit allows your employer to electronically deposit your paycheck
into your bank account, which makes the funds immediately available to
you. Banks also benefit from this feature, as it gives them a steady flow of
income to lend to customers. Because of this, many banks will provide free
checking (i.e., no minimum balance or monthly maintenance fees) if you set
up direct deposit for your account.

Electronic Funds Transfer

With an electronic funds transfer (EFT), also known as a wire transfer, it's
possible to have money directly transferred into your account without
having to wait for a check to come in the mail. Most banks no longer charge
to make an EFT.

ATMs
ATMs make it convenient to access cash from your checking account or
savings after hours, but it's important to be aware of fees that may be
associated with their use. While you're typically in the clear when you use
one of your own bank's ATMs, using an ATM from another bank could
result in surcharges from both the bank that owns the ATM and your bank.
However, surcharge-free ATMs are becoming increasingly popular.