Restrictive Endorsements - Examples & Definitions

• Restrictive Endorsements via endorsement of a check

• Accord and Satisfaction - how it creates an agreement

• Safe Harbor - The creditor's protection from settlements

UCC Codes

A restrictive endorsement is a way of paying an account strategically to improve your credit rating. Suppose you have received a notice of a collection account or charged off bad debt from a collection agency and are considering settling the debt for less than the total amount. In that case, you should read this article about restrictive endorsements.  This information could be the difference between saving thousands and owing thousands of dollars.

Before you do anything regarding a collection account or bad debt, always validate the debt, check the statute of limitations, and use restrictive endorsements -- wherever and whenever possible.

Before we delve into how a restrictive endorsement works, understand that it’s not an automatic or guaranteed process. For instance, you can't just send a check with a letter attached and assume you've created an accord and satisfaction. 

For the restrictive check endorsement to work well, there must be a mutual decision between the creditor/agency and the debtor. Most, if not all, states now have a "safe Harbor” under the UCC code for just such situations. Safe Harbor was created to protect creditors who may have automated processing of checks and allows them to refund the check back to the debtor within 90 days of cashing it. 

Bad debts are sold by the thousands every day to third-party debt collectors. Before you assume you owe it, there is a caution to heed. You've probably made a mistake at least once of paying an old debt without first attempting to validate or negotiate it. You may already know the drill: always validate first and settle later, if necessary. 

Be sure you use validation of debt as soon as you receive a collection notice because the law gives you 30 days to have the debt proven valid. Paying past due debts such as collection accounts and charge-offs, needs special care. Here are some pointers for avoiding costly mistakes. If you decide to pay for a collection item, pay it restrictively. If you do not, you will have a "paid charge off" or "paid collection account," which isn't your goal. Your goal is total removal, if possible.

Do I avoid the collection agency?

No. The debt won't go away, and if it's on your credit reports, then you need to finalize the negotiation process with the collection agency to get it removed, but you also need to go through the steps of disputing it with the credit bureaus while you are sending your VOD request to the collection agency because it may be removed with no further work needed, especially if the collection agency fails to answer the investigation request from the credit bureaus. If it is verified with the credit bureaus, wait for the collection agency to respond to your validation of the debt request. 

After finalizing the VOD process with the collection agency, you can decide if you want to pay it. You should offer to pay the debt (only once VOD is complete) in exchange for total deletion. This is called a restrictive endorsement, where you first send a letter offering to pay the debt at a discounted amount with specific terms (i.e., total deletion) and then follow up with a cashier's check and another letter advising that their cashing of this check constitutes the agreement (accord and satisfaction). Therefore, they must follow the agreement's terms.

A word of caution

As mentioned above, not all states accept restrictive endorsements, and some collection agencies will cash your check and continue collecting the debt. To avoid this pitfall, read your state and the creditor’s state UCC code to see their rule on "Negotiable Instruments." If they allow it, you may be good to go; however, there is no guarantee it will work. Also, read through the terms and disclosures if you attempt to use one with an original creditor. Many now add a section in their disclosures saying they do not accept reduced payoffs with restricted endorsements. Be careful. Even a bank in a state that allows it may have internal rules for handling a restrictive endorsement. Blindly mailing one off without negotiating with the creditor/collector is not a wise plan.

Defining the restrictive endorsement

A restrictive endorsement is usually a matter of pure money. If I create a check with a restrictive endorsement and you cash it, you have executed that endorsement, which means you agreed to my terms. This is not a sure thing, however, because state laws apply. Not every state honors REs. Be sure to check state statutes and UCC codes. Safe Harbor is in place to protect creditors, and if the safe harbor rule applies in your state, then negotiations can fall through.

A restrictive endorsement is commonly used to settle a debt, satisfy the other party, and protect yourself from future collections. A RE can also mean benign actions like "for deposit only," meaning the check will be deposited, not cashed out. In terms of collectors, many people use a RE to settle a debt. They may have attached a settlement letter to the check and sent them both in one envelope to the creditor.

Don’t be fooled into thinking that the creditor has to follow the letter's requirements to cash your check. If there are no RE terms on the actual check, then there are ways around the clause by the creditor. He can still cash your check and trash your letter. 

So how do you protect yourself? You must put the RE on the check outside of state laws that don’t honor them. This will prove that the creditor saw the terms and cashed the check. Cashing the check would mean they agreed. An endorsement on a check with restrictions has been created.

An endorsement is a signature on the back of a check stating that the payee has consented to receive the funds from the payer. A restrictive endorsement states the circumstances under which the payee will accept the funds under the signature. 

It's a smart idea to work out the terms of the RE before you send it to ensure the creditor agrees. Take note of who you are sending it to and their physical location. You wouldn't want to send a RE to a lockbox or payment processing center where they don’t read letters.

The creditor could use that defense, claiming that technically nobody saw your agreement because they only process payments at that location. A physical location with a person's name (manager, supervisor, etc.) would be ideal. 

It's also good to check the contract you signed with the creditor. Some of them have disclosed in it that they do not honor restrictive endorsements. In that situation, you would need their written approval of your settlement/payment before issuing a payment. Some states allow a creditor to cross out the RE and cash it "under protest," so you need to tread carefully when dealing with these types of settlements. Getting a dialogue with the creditor beforehand is very practical to ensure success. 

Why would a creditor or debt collector consider accepting a restrictive check endorsement?

Simply put, collecting debts in an economy that's been hit hard since 2007 is harder than ever. Collection agencies, as well as creditors, know that collecting money is their biggest priority but also their biggest obstacle. Because of the nation's economic downturn in the last few years, more and more bill collectors and original creditors are willing to settle debts and negotiate payoffs with debtors. Some money is better than no money, and lawsuit filings are time-consuming and expensive. Therefore, a collection agency may be more than happy to deal with a debtor willing to pay - especially when so many are hiding from them.

An example of a restrictive endorsement in exchange for what you want (deletion, reduced balance, etc.)

"Pay to the order of ABC Collections. By depositing this check, ABC Collections agrees to request all three major credit bureaus (Equifax, Experian, and TransUnion) delete the negative credit reporting for account #123456789 and report the account as 'paid in full/was a collection account'. Full settlement of debt owed, with ABC Collections releasing the debtor from further liability upon encashment.

"Breakdown:

• "Pay to the order of ABC Collections" - Names creditor/debt collector)

• "By depositing this check, ABC Collections agrees to..." conditional term

• "Request all three major credit bureaus..."delete/report as paid; payment terms

• "Full settlement of debt owed" (settlement statement)

• "Releasing debtor from further liability": release of claims

This endorses the check to the creditor while placing legally binding instructions for the creditor to request deletion/improvement of the credit account in exchange for the payment.

Example of a persuasive debt settlement letter to reduce the balance and improve your credit

[Your name]

[Your address]

[Date]

[Debt collector name and address]

Account #: [Account number]

Current balance: $2,500

Dear [Debt collector],

I am writing regarding the outstanding balance of $2,500 on the above referenced account. Due to [financial hardship, medical bills, job loss, etc.], I am unable to pay the full amount at this time.

However, I would like to offer a lump sum payment of $1,500 to settle this account, which is 60% of the outstanding balance. This is the maximum I can afford, given my current financial constraints.

In exchange for accepting this payment in full settlement of the account balance, I request that you:

1) Report the account to all three major credit bureaus (Equifax, Experian, TransUnion) as "Paid/Settled in Full for Less than Full Balance"

2) Request deletion of any negative information related to late payments or collections on this account with the credit bureaus.

Please confirm in writing if you accept this offer for settlement by [date - allow 1-2 weeks]. Upon receipt of your confirmation agreeing to these terms, I will submit the $1,500 payment immediately.

I believe this arrangement allows us both to resolve this outstanding debt reasonably. Please let me know if you would consider accepting this offer or have an alternative proposal for settlement. I can be reached at [your phone number and email].

Sincerely,

[Your signature]

[Your printed name]

A note of caution: Consider if the statute of limitations to collect the debt has expired. If it has, you will renew the debt’s clock by making any written promises to pay. If the debt statute of limitations has expired, that doesn’t mean the credit report statute of limitations has, which would be a good reason to negotiate.

Benefits of a well-meaning legal agreement like an Accord and Satisfaction

A well-thought-out special endorsement can be very beneficial for you and your finances. If the creditor agrees to accept a reduced portion as the full and final balance, then not only have you saved money, perhaps a lot, but you've also created a document that you can use as proof to improve your credit history with that debt.

If, in your restrictive agreement, you required the creditor to either delete the account (collection agencies do this - not original creditors) or report it as settled, then you've just rid yourself of a very negative "charge off" or "collection account" in your credit reports. Special endorsements on checks can be a powerful tool if done right. You may be able to stop a lawsuit, pay way less money, and improve your credit by having a successful restrictive endorsement. 

Requirements: Restrictive Endorsements on Checks

A restrictive endorsement places restrictions or limitations on how a check can be deposited or cashed. These endorsements provide rules, guidelines, requirements, and specifications stipulating how the check should be handled.

Common restrictive endorsements include:

• "For deposit only" requires the check to be deposited into a specified account

• "Pay to the order of" specifies the person/entity to whom the check is payable

• Account numbers: limits deposit to a particular account

Banks have regulations regarding restrictive endorsements that must be followed for a check to be processed. These include qualifications and exclusions, such as:

• The check must have the signature of the payee to be valid

• The bank may disregard conditional phrases

• If a check does not comply with the bank's restrictive endorsement stipulations, a deposit could be refused.

It's important to understand your bank's specific, restrictive endorsement rules before depositing a check. Violating these guidelines could result in non-payment.

Certain checks also contain restrictive endorsement clauses designed to control usage:

• Refund/rebate checks often have "void if not cashed within 90 days" provisions

• Insurance settlement checks may have "for services rendered" clauses

By placing appropriate restrictions on checks, payers can limit how payments are used once released. However, banks must only evaluate checks based on their restrictive endorsement regulations.

How Restrictive Endorsements Improve Your Credit Rating

1. Settling collection accounts or charged-off debts: By using a restrictive endorsement when paying off a collection account or bad debt, one can require the creditor/collection agency to delete the negative item from their credit report or report it as "paid" rather than "charged off." This can help raise their credit score.

For example, the first source states: "If, in your restrictive agreement, you required the creditor to either delete the account (collection agencies do this - not original creditors) or report it as paid, then you've just rid yourself of a very negative "charge off" or "collection account" in your credit reports."

2. Stopping lawsuits or paying less on debts: The first source also mentions that restrictive endorsements may allow one to "stop a lawsuit, pay way less money" when settling debts. Paying less on debts can free up money to pay other obligations, indirectly helping one's credit.

3. Creating a record of payment/settlement: Even if the credit item is not deleted, the restrictive endorsement documents the settlement terms and serves as proof of payment. This paper trail could assist in getting errors on credit reports corrected or verifying disputes.

The key is crafting agreements with creditors that meet your credit goals. Consultation with credit experts is advisable when attempting this approach if you are unfamiliar with how to use negotiable instruments.

Recap: Using a restrictive endorsement to improve your credit rating potentially:

1. Settling collection accounts or charged-off debts: A restrictive endorsement can require the creditor/collection agency to delete the negative item from the credit report or report it as "paid" rather than "charged off" upon cashing the check. This helps raise the credit score by removing or improving negative items.

2. Paying less to settle debts: The restrictive endorsement allows one to potentially "pay way less money" to settle debts. This frees up money to pay other obligations and indirectly assists in credit repair.

3. Creating a record of payment/settlement: Even if not deleted, the restrictive endorsement documents the settlement terms and serves as proof of payment. This paper trail helps correct errors on credit reports or verify disputes.

Risks associated with using a restrictive endorsement

1. Lack of flexibility if circumstances change: A restrictive endorsement limits the use of the check. If the payee later decides to use the funds for another purpose, they may face difficulties removing or modifying the restrictions.

2. Potential delays or complications in processing: If errors occur in naming the restricted payee or account numbers, it can cause "transactional hiccups" that require reissuing checks or additional bank visits. Restrictions could also violate a bank's specific policies.

3. Unintended outcomes if instructions are unclear: Ambiguous or hastily written restrictive endorsement instructions can lead to confusion, stalling transactions, or unintended uses of the funds.

4. Limited negotiation options: The restrictions severely limit who can negotiate the check and for what purposes, reducing flexibility.

5. Risk of non-payment if the endorsement is improper: The bank may refuse a deposit or payment if the check does not comply with the bank's restrictive endorsement rules.

While restrictive endorsements add security, they also introduce risks around inflexibility, delays, confusion, limited negotiation, and potential non-payment if not appropriately crafted. Considering these limitations is warranted when deciding to use restrictive endorsements to settle your debts.

Check your state and the creditor's state UCC code on "Negotiable Instruments" to see if restrictive endorsements are allowed. For example, the UCC code for negotiable instruments adopted in California is:

California Commercial Code, Division 3, Sections 3101-3605: Specifically, California has adopted the model Uniform Commercial Code Article 3 on Negotiable Instruments, contained in Division 3, Sections 3101-3605 of the California Commercial Code ."DIVISION 3 - NEGOTIABLE INSTRUMENTS [3101 - 3605]". You can learn more here.