Check Kiting

Which pattern describes check kiting?

1. A.Endorsing a customer's check over to a third party without her written authorization.Wrong. That is an unauthorized negotiation of somebody else's instrument, a different wrong with a different remedy.
2. B.Delaying entry of a deposited check until the customer's balance can support it.Wrong. That is a records failure and an improperly held item, but it manufactures no artificial balance.
3. C.Writing checks between accounts against funds not yet collected so float creates an apparent balance.Correct. Circulating items between accounts to manufacture a balance out of float is precisely the scheme.
4. D.Issuing a check exceeding the collected balance because a sale has traded but not yet settled.Wrong. Disbursing against expected proceeds may be a control failure, but no items are circulating and no float is being harvested.

Why: Kiting exploits the interval between a check being credited and being collected. By writing checks back and forth between two or more accounts at different institutions, each drawn against the uncollected credit created by the last, a party makes a balance appear that no real money supports, and can then withdraw against it. The scheme depends on float, which is why it is identified by circulation between accounts rather than by any single item. A cashiering department detects it as a pattern of repeated deposits followed quickly by withdrawals of nearly the same amount, with the deposited items later coming back unpaid.

A customer repeatedly deposits good funds and withdraws nearly the same amount within a day or two, with none of the deposited checks ever returned unpaid, and with no securities activity in the account at all. How does this pattern differ from check kiting, and why might it still concern the firm?

1. A.It is not different from kiting at all, since kiting is defined purely by the speed of deposits and withdrawals rather than by whether any check is ever returned unpaid.Wrong. Kiting specifically involves items that come back unpaid; this pattern involves genuinely good funds.
2. B.It differs from kiting because none of the underlying checks are actually bad or returned unpaid, but a persistent pattern of funds passing straight through an account with no investment activity can itself be a red flag for money laundering, since it suggests the account is being used as a conduit for moving money rather than as a genuine brokerage relationship.Correct. This pass-through pattern with good funds is a distinct money-laundering red flag, separate from kiting.
3. C.It raises no concern whatsoever, since every individual check involved is good and none of them are ever returned unpaid.Wrong. A pure pass-through pattern with no investment activity can still be a red flag, even with entirely good funds.
4. D.It is best described as free-riding, since the customer is withdrawing value from the account before any security has actually been purchased.Wrong. Free-riding concerns cash account securities purchases, not this kind of pass-through cash pattern with no securities activity.

Why: It differs from kiting because none of the underlying checks are actually bad or returned unpaid, but a persistent pattern of funds passing straight through an account with no investment activity can itself be a red flag for money laundering, since it suggests the account is being used as a conduit for moving money rather than as a genuine brokerage relationship.