Kiting is drawing against funds that have not been collected yet, by exploiting the float between the moment a bank credits a deposited item and the moment that item is finally paid by the bank it is drawn on. Its standard form is check kiting, run across two or more bank accounts. The same abuse aimed at a broker settlement window rather than at check collection is called securities kiting. In both, the point is to obtain the use of value before paying for it, and the practice is illegal (Legal Information Institute, Wex, kiting).
Cornell’s Wex treats kiting and check kiting as one practice, covering a bad check from one bank account with another, and reports a federal court describing the offense as tricking two or more banks into inflating account balances by drawing on insufficiently funded accounts, which in effect hands the offender an unauthorized, unsecured and interest-free loan (Legal Information Institute, Wex, kiting).
Where the Float Comes From
Float is the interval in which a check has been credited to one account and not yet charged to the other. It exists because two clocks run on the same item, and the law sets both of them.
The first is availability. Regulation CC makes the depositary bank, the bank where the check is deposited, release money before it knows the check is good. Funds must be available for withdrawal not later than the business day after the banking day of deposit, up to the lesser of $275 or the total the customer deposited that banking day by checks not already entitled to next-day availability (12 CFR 229.10(c)(1)(vii)). The rest of the deposit follows the availability schedule in 12 CFR 229.12.
The second is final payment. An item is finally paid by the payor bank, the bank it is drawn on, only once that bank has paid it in cash, settled for it without holding a right to revoke the settlement, or made a provisional settlement and then failed to revoke it in the time and manner permitted, and if a provisional settlement does not become final, the item is not finally paid (UCC 4-215(a) and (b)).
Everything between those two moments is spendable credit the bank can still take back, and the revocation and chargeback mechanics are worked through in NSF check. A kite is built to keep outrunning that reversal.
How Check Kiting Inflates the Bank Balances
The two bank balances overstate the cash the client actually holds, because one sum of money sits in two accounts at a single instant. Say a client keeps two bank accounts and writes a check on one of them to deposit into the other.
Stated inputs
Account A, real balance 2,000
Account B, real balance 1,000
Real cash the client holds 3,000
Check drawn on Account A, deposited into Account B 20,000
Once Account B's bank has released the funds
Account A, balance at its bank 2,000
Account B, balance at its bank 21,000
Sum of the two bank balances 23,000
Real cash the client holds 3,000
Same dollars counted twice 20,000The two bank balances now exceed what the client owns, by the face amount of the check. The receiving account has been credited and the paying account has not been charged, so one sum of money is standing in both places.
Each leg is an ordinary reconciling item on its own: an outstanding check on the paying side, treated in checks outstanding, and a deposit in transit on the receiving side, treated in bank reconciliation. What makes it a kite is that the transfer serves no purpose except to make the paying account look funded, and that each round tends to grow, because every new check has to cover the previous one plus whatever was spent meanwhile.
Why Reconciling One Account Misses It
Both accounts reconcile. That is the part that catches firms out. On the paying side the check is outstanding and the adjusted balance ties, and on the receiving side the credited deposit ties to the recorded receipt. Neither reconciliation is wrong, and the overstatement lives between them rather than inside either one.
What makes it visible is reading the transfer as one event with four dates: when the books recorded the disbursement, when the books recorded the receipt, when the bank charged the paying account, which a canceled check evidences, and when the bank credited the receiving account. A transfer recorded as received in one period and disbursed in the next counts the same money twice at the reporting date, and a run of transfers between a client’s own accounts clustered around a period end is the pattern worth pulling. The conditions that make a client reach for it are the ones named in the fraud triangle.
What Closes the Window
Regulation CC lets a depositary bank stop feeding the float. Where any account or combination of accounts belonging to a customer has been repeatedly overdrawn, the next-day rule and the availability schedule stop applying to any of those accounts for six months after the last such overdraft. A bank may treat an account as repeatedly overdrawn where the balance was negative, or would have gone negative had items been paid, on six or more banking days in the preceding six months, or on two or more banking days in that period in the amount of $6,725 or more (12 CFR 229.13(d)).
Those same two rules also drop away for a particular check when the bank has reasonable cause to believe it is uncollectible from the paying bank, which requires facts that would produce a well-grounded belief in the mind of a reasonable person and may not rest on the check being of a particular class or deposited by a particular class of person (12 CFR 229.13(e)(1)).
Prosecution runs through the federal bank fraud statute. Whoever knowingly executes, or attempts to execute, a scheme to defraud a financial institution, or to obtain money, funds, credits, assets, securities or other property owned by, or under the custody or control of, one by means of false or fraudulent pretenses, representations or promises, shall be fined not more than $1,000,000 or imprisoned not more than 30 years, or both (18 U.S.C. 1344). Kiting can violate that section where the victim is a federally insured financial institution (Legal Information Institute, Wex, kiting).
Securities Kiting
Securities kiting aims the same abuse at a settlement window rather than at check collection, so the customer takes the use of a security, or of its proceeds, before paying for it. Two rules bound that window, and neither of them uses the word kiting.
Subject to the exceptions the rule states, a broker or dealer may not effect or enter into a contract for the purchase or sale of a security, other than an exempted, government or municipal security, commercial paper, a bankers’ acceptance or a commercial bill, that provides for payment of funds and delivery of securities later than the first business day after the date of the contract, unless the parties expressly agree otherwise at the time of the transaction (17 CFR 240.15c6-1(a)). The rule names its own carve-outs: unlisted limited partnership interests and security-based swaps sit outside it, and securities priced after 4:30 p.m. Eastern Time and sold by an issuer to an underwriter in a registered firm commitment offering get the second business day instead (17 CFR 240.15c6-1(b) and (c)).
In a cash account, where a nonexempted security is sold or delivered to another broker or dealer without having been previously paid for in full by the customer, the privilege of delaying payment beyond the trade date is withdrawn for 90 calendar days following the date of sale (12 CFR 220.8(c)(1)). That freeze is not automatic. It does not apply where full payment is received, or a check or draft in payment has cleared, within the payment period the rule allows and the sale proceeds are not withdrawn before that payment or clearance, and it does not apply where the purchased security was delivered to another broker or dealer for deposit in a cash account holding sufficient funds to pay for it (12 CFR 220.8(c)(2)). The payment period is the standard securities settlement cycle in the United States plus two business days (12 CFR 220.2).
What Kiting Is Commonly Confused With
An NSF check is one item the payor bank refused to pay, an outcome rather than a scheme. A kite exists to keep items from being returned at all, and it collapses on the first one that is (NSF check).
Deposits in transit and outstanding checks are ordinary timing differences that clear themselves once the banks catch up (bank reconciliation). Kiting manufactures those same items on purpose, to spend money that is not there.
The word also carries unrelated senses in video gaming and in kiteboarding, neither of them connected to bank float or securities settlement.
If client bank reconciliations and transfer testing are stacking up faster than your reviewers can clear them, a trial task puts a block of your own work through Accountably’s review chain so your reviewer grades the output first.
