When the general public thinks of check fraud, the image that most likely comes to mind is a traditional kiting scheme, in which criminals illegally benefit from float by depositing and drawing on checks between accounts at multiple banks. While that kind of fraud still occurs, bankers these days are focused on newer threats, such as identity theft.

Sixty percent of large banks rated identity theft as the leading emerging threat contributing to check fraud in a recent survey by the American Bankers Association. Stolen identities allow crooks to disguise themselves as legitimate customers and funnel bogus checks through accounts they open. From their point of view, identity theft offers a less detectable entrée into the payments system than forged signatures and allows them to steal larger amounts of money.

The Federal Trade Commission reported nearly 162,000 reports of identity theft in 2002, about double the 86,000 of a year earlier, underscoring how widespread the problem has become. It's disruptive for the victims and also hurts the financial institutions, which provide the conduit for the fraud to take place. Banks suffer financial loss and may have their role as trustworthy service providers called into question.

"We're not often the source of information that permits identity theft to happen, but we're perceived as being the source," says Robert W. Jones, the director of operating risks at FleetBoston Financial Corp.

The industry is trying to address the financial and reputational fallout from identity theft on several fronts. To prevent it from happening in the first place, banks are exploring new tools for authenticating customers at the time they open accounts, such as "out-of-wallet" databases. These include personal information that is not generally available in a person's wallet, such as monthly mortgage payments or previous addresses, and hence would not be compromised if the wallet were stolen.

Such databases, only recently available to banks, are needed because some of the traditional tools banks have used to combat check fraud are not so useful when dealing with identity theft. Identification that is legitimate in every way, except that it has been stolen, would not appear on a database of risky account prospects, for example. "We need to access other databases to really question these people," says Richard J. Clausen, senior vice president of liability risk management at Bank of America Corp. and a member of the ABA's Fraud Prevention Oversight Council. "We need to take authentication to another level and ask a couple of extra questions."

Another idea under discussion is lobbying the Social Security Administration to allow banks to check social security numbers given to them by applicants against the agency's database. Currently, employers are able to conduct such checks on prospective employees, but not banks. "We're looking for the same rule," Jones says.

To protect their own reputations, banks are doing what they can to help customers who may become victims of identity theft. At Hibernia Corp. in New Orleans, manager of corporate security Peter J. Baldassaro Jr. regularly conducts meetings with community groups to explain the risks of identity theft. Last year, he and the bank's chief privacy officer spoke to groups such as the Rotary Club, the Chamber of Commerce, and the Better Business Bureau.

The industry is also exploring the feasibility of a victim's assistance center to help people whose identities have been stolen. The current system doesn't do much for victims, who file a police report where the crime has occurred, only to learn later that the crooks have used their stolen identity to perpetrate fraud somewhere else. The proposed center would act on behalf of victims to notify the police, credit bureaus, credit card companies, cell phone service providers and so on.

Implementing this presents several challenges, however, such as determining funding sources. Some banks also may balk at the idea of a third party stepping in to take care of their wronged customers. "It's a wonderful idea, but the logistics of getting it accomplished are daunting," Baldassaro says.

— Chris Costanzo