Reg E covers transactions that occurred, not ones that you failed to process.
This is a client facing failure on the part of the bank that you did not process a transaction your client expected to be conducted, does upper management really need convincing that doing the right thing and making clients whole is only done if a regulation was broken? on top of this, your bank should also let the customer know you will reimburse them for any late fee or penalty that may have occurred due to the bank's failure to process their transaction.
you may want to look in your deposit agreement, bill pay agreement, or OLB agreement and see if there is language that details the bank and customer responsibility in this situation.
but in the end, you should be doing the right thing by your customer.
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