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1. The Payment Industry Ecosystem

1-Canadian Payment Landscape (Canadian Payments Association Report, 2010)

Purpose: Report provides a snapshot of Canadian payments system’s players, trends and regulatory regimes.

Key points 1-Definition of payment (7)a-Payment is a transfer of value between parties (Commercial)b-Payment is an extinction of the obligation to pay; payment puts an end to contractual obligation (Legal)ML: Payments can be used for purchases of goods and services, but also for other purposes – such as?2-Timeline: Transition from paper to paperless (13)2000s-2010s: Currently in the era of consumer choice and innovation3-Volume versus value (20)Approx. 90% of transaction value is handled by one system – the Large Value Transfer System (“LVTS”). However, LVTS processes the least amount of transactions in terms of volume, whereas in the consumer sector (3/4 of number of transactions), there is a larger volume of transactions of lesser value. The Canadian payments system processes 24 billion domestic transactions and transfers $44 trillion in funds.4-Forms of payment currently used in Canada (33)ML: Focus on cheques and LVTS (prior to LVTS, closings on + $25mn were made with certified cheque)5-Participants (71 – see printouts)Issuer, Acquirer, Payment Networks, Clearers and Settlers

2-Examining Canadian Payment Methods and Trends (Canadian Payments Association Report, 2012)

Purpose: Assemble complete picture of 2011 retail payments [under $25mn] landscape, identify most common payment types, and gain insights on emerging payments.Note: All figures calculated for 2011

Key points 1-Traditional methods of payment decline (7)-Use of cheques has been declining for 30 years and will continue to do so (9% decline b 2008-11); cheques still represent largest share of retail payment value (46%)-Credit cards and debit card use continues to make gains-Debit cards more popular than credit cards (16%/14% volume of total retail payments)-Emerging payment methods such as Paypal have been gaining ground as forms of payment ($10bn in transaction; 1% of total volume and value)-Cash is most widely used method for making retail payments (46% of all retail transactions (volume))

3-Policy Paper A: Users and their Discontents (Task Force Report 2011)

Purpose: Each category of user faces unique challenges in the current payments system and all experience wide spread dissatisfaction with the status quo, where users have limited input in policy and minimal protection through legislation.

Ying Cheng’s Banking and Payment Law Summary –

Key points

Consumers Merchants SMEs1-Account for over 75% of all payment transactions in Canada2-Digital divide significant barrier for low-income consumers3-Standard form Ks advantage providers over users4-Consumers prefer mechanism (CCs) most expensive for merchants

1-Limited opportunity for input in policy design and implementation2-Required to make significant investments on short notice3-Fees paid by merchants unrelated to costs and opaque

1-Reluctant to adopt new payment methods, perceived as expensive

Note: Corporations, the last group of users, are generally eager to adopt new technology as it represents opportunity for major savings


2. Regulatory Framework

General overview

1-Regulation of payment systems (PS) out of sync with actual form of the payment industry. Why?(a) No uniform treatment across the payment industry (CCs, DCs, etc)(b) Reactive (v proactive) regulatory system results in rules and regulations falling behind technology2-Clearing and settlement systems are NOT unique to payments industry. Other obligations that must be cleared and settled in a clearing house include: (1) Derivatives; (2) Securities (ie stock exchange)3-Governance is the complex process by which (a) relevant law, (b) institutions, (c) policies, (d) customs, and (e) relationships shape the direction of the industry. It refers to how individual and combined decisions of stakeholders (both formal and informal) are made and implemented. (from: Stakeholders and their Disconnect 5)

Legislation

Payment and Settlement Clearing Act (1996) [“Pillar 1”]

Purpose: Bank of Canada given mandate to provide regulatory oversight in order to mitigate systemic risk in Canadian economy and promote stability/efficiency of financial markets by regulating all clearing and settlement systems of systemic importance OR hold system risk. (Preamble).

Definitions (s 2)A clearing and settlement system is a system or arrangement for the clearing and settlement of payment obligations, in which: (1) at least three participants, one of which must be Canadian and one of which must have a head office in a different jurisdiction than clearing house’s head office, (2) clearing and settlement occurs entirely OR in part in CA dollars, (3) payment obligations are settled by adjusting accounts of participants at Bank of Canada (except derivatives)A clearing house is a corporation, association, partnership, agency or other entity that provides clearing and settlement services for a clearing and settlement system. Does not include a stock exchange or the Bank of Canada.Systemic risk is the propagation of one participant’s risk to others. It is the risk that one participant becomes insolvent or unable to meet the day’s obligations, and as a result, transmits its insolvency to (1) other participants, esp smaller organizations exposed to risk due to larger participants, (2) FIs in other parts of Canadian financial system, (3) the clearing and settlement system’s clearing house.-Example: Ripple effect in US economy created by insolvency of large banks caused by “toxic” assets.-Per Parliament, payments over $25mn present systemic riskTerminology review (not in statute)1-Exchange: Banks exchange bundles of cheques received from clients drawn on other banks and receive cheques drawn at its own branches from other banks2-Clearing: Computation of two aggregate amounts and net amount that results from the set-off3-Settlement: Process by which the amount owed is paid debiting (and crediting) accounts of each member bank at the Bank of Canada

Designation (ss 3-4)

RULE OF DESIGNATION: A clearing and settlement systems is designated by the Governor of the Bank of Canada and the Minister of Finance based on its degree of systemic risk and an assessment of public interest


-Per s 4(1), the Governor of the Bank, with permission and opinion of the Minister of Finance that designation is in the public interest, designates clearing and settlement systems that pose a systemic risk.-Per s 4(2), the designation may be revoked by the Governor, with permission of the Minister, by another assessment of risk and public interest. All changes to designation published in Canada Gazette (s 4(3)).

Canadian Payments Act [the “Act”] (1985) [“Pillar 2”]

Purpose: Canadian Payment Association (“CPA”) was established (s 3(1)) and given a mandate to: (1) operate a national systems for clearing and settlement of payments, (2) facilitate interaction between payment systems and other organizations, (3) facilitate R&D (s 5(1)).

Overview

1-Members of the CPA consist of the Bank of Canada, all Canadian banks, authorized foreign banks, some insurance companies, co-op credit associations, loan/trust companies and any other person entitled to join (s 4(1)(a-d)).(a) Providers are members, users are not members. No merchant or consumers may become a member.(b) The CPA is dominated by banks and other FIs – Desjardins is 5th largest bank.(c) Insurance companies are newcomers.2-IMP! Transitions of payment systems from private sphere public sphere-Prior to the Act, clearing and settlement of cheques, which has existed since confederation, took place in the private sphere:(a) The Canadian Bankers Association had a statutory mandate to undertake the clearing of cheques.(b) Problematic? An essential function of the economy was handled by private companies until 1985; also, private rules rendered litigation difficult.(c) Historically, clearing houses used to involve only banks bc they issued currency; payment industry was a subset of the banking industry.3-The Act does not govern all payments systems in Canada

The Canadian Payment Association’s Mandate

Within mandate1-Automated Clearing Settlement System (“ACSS”) (1984)(a) Approx 24 million payment items / day (from CPA website)(b) Value and Volume: Clears 99% of daily transaction VOLUME cleared, which represents 12% of value(c) All “direct clearers” (ie member FIs) maintain settlement accounts at the Bank (website)(d) Direct clearers handle clearing and settlement for their own customers and customers that maintain accounts at other FIs (“indirect clearers”)

Scope(a) Cheques and bank drafts(b) Pre-authorized debit and direct deposits (ie “e-payment”)(c) Electronic bill payments(d) Interac(e) Debit cards Hybrid, another system involved(f) Some domestic wire transfers (ie cable)


2-IMP! Large Value Transfer System (“LVTS”) (1999)(a) A type of wire transfer that provides secure settlement and mitigates systemic risk; even if the payor becomes insolvent, the payee would still receive payment(b) Value v volume: Clears 92% of total transaction VALUE , approx. $149 bn; 24k transactions (VOLUME) per day – avg VALUE of $6.2 mn(c) Payments are irrevocable, immediate/final (settlement occurs at end of day, but funds immediately available)(d) Unique system: Achieves real-time finality, with low collateral cost.(e) For payments in excess of $25 mn-US v Canada: Legislation that governs e-transfers (US); legislation that governs members of CPA, not type of transaction

(3-Electronic Bulk Exchange of US Instruments)Outside of mandate

1-Credit Cards(a) Owned and operated by private associations(b) Visa, originally owned by banks, is now public but still controlled by banks2-Interac (?)3-Paypal (also, Paypal now acts like a (unregulated) bank that customers can fund with credit card/make deposits)4-International payments5-“On us” items-Eg: If a cheque is cashed at the same bank from which it was drawn, then no clearing house is needed

How the Canadian Payment Association functions

Board of Directors make by-laws (s 18), rules (s 19) and statements of principles and standards (s 19.1) to modify rules of governance without amending the Act, subject to the Minister’s overriding power to allow or disallow, in principle (s 38(1)). Neither rules nor statements may conflict with existing by-laws.-Example of rule: CPA, in 2003, amended its rules to prohibit telecheques from clearings, due to lack of proof of signing authority (ie customer or power of attorney).-Telecheques deemed to represent “unacceptable level of risk” due to inability to verify authorization by Payor’s FI.-Telecheque is prepared and signed by payee purporting to act on behalf of payor.

The Minister of Finance (“MOF”) is granted overriding power to designate payment systems in the public interest (s 37.1), which is determined pursuant to list of factors (s 37.2 (a-c)) such as safety (a) and efficiency (c) of payment system.-MOF’s power of oversight has never been used, likely due to the complexity and broad scope, in addition to the possibility, per the s 92 of the Constitution Act, 1982, private contracts are the within provincial jurisdiction.-Debate as to whether the MOF should have used this power to address user and merchant concerns with respect to introduction of CHIP in CC networks

Users and merchants have limited influence in payment industry regulation (s 21.2)-The Stakeholder Advisory Council (“SAC”) (s 21.2), est in 1996, represents the extent to which merchants and users may influence payment systems in Canada.-The SAC, composed of approx. appointed 20 volunteer members (s 21.2(1)), have the object of providing counsel and advice to the Canadian Payment Association’s Board of Directors on payment


and clearing and settlement matters (s 21.2(2)).-In reality, based on the issues found in the Task Force report Stakeholders and their Disconnect (see below), the Advisory Council has not been able to represent the interests of users and merchants to effect impactful change: “[u]sers do not have a real seat at the table” (4).-Finance Canada Payments Consultative Committee (“FinPay”): New forum of public and private sector representatives created by the MOF that will discuss industry level developments in the Canadian payments system. Membership list public. May be more effective than Advisory Council in representing user and merchant interests.

Insolvency of Canadian Payment Association member (see also: Collings v City of Calgary)

Priority Payment Instruments (s 31)Summary: In the case of a member institution’s insolvency (where institution’s debts > assets), priority payment instruments, such as money orders, bank drafts and other similar instruments, “shall be paid from the estate of the insolvent member, in priority to any other claim against the estate” (s 31(2)).

1-Unpaid cheques or orders drawn on and certified by the insolvent member prior to bankruptcy/winding-up order (s 31(2)(a))

2-Unpaid priority payment instruments drawn on the insolvent member and issued prior to bankruptcy /winding-up order (s 31(2)(b))

Note: Creditor must make request within 60 days following bankruptcy/winding-up order ((s 31(4))

Insolvency and priority payment instruments (Historical)

Collings v City of Calgary [1917 SCC]Key terms: Insolvency, Priority payment instruments, History

Historical rule: Insolvent financial institutions incur no liability with respect to outstanding (certified) cheques or orders and other “priority” payment instruments that have been drawn it, prior to its insolvency.

NB: No longer good law per s 31 of the Canadian Payments Act (see above)Facts: Collings prepares certified cheque (by Dominion Trust Company) to pay municipal land taxes to the City of Calgary; DTC becomes insolvent; City of Calgary tries to deposit cheque by presenting the cheque to the institution that certified it (DTC); City of Calgary does not receive funds; funds already pulled from Collings’ account.Issue(s): Whether the certified cheque presented by Collings constituted a valid payment of municipal taxes, notwithstanding the municipality’s inability to actually receive the funds, due to the insolvency of the institution that certified the chequeHolding:(1) Trial judgment in favour of P (Collings) against D (City of Calgary);(2) Appellate Division reversed finding in favour of D (Appellant/City of Calgary);(3) SCC unanimously dismisses P’s appeal (Collings/Appellant appeal of Appellate Division’s decision in favour of D (Respondent/City of Calgary)Reasoning: Collings had effectively not paid taxes to the municipality, despite having the funds withdrawn from his account, because the “certified” cheque was neither “lawful money” (legal tender or bank notes) per the municipality’s rules for payment of axes, nor was Collings’ payment instrument even


accepted by a bank.Take-away: Historically, account holders enjoyed little in the way of protection in the event of a financial institution’s insolvency. Perhaps the relatively higher risk in using payment instruments historically served as a disincentive to move away from legal tender. As such, it would seem that an increase in regulatory mechanisms would boost user confidence both in instruments other than legal tender and in the payment industry more generally.

CREDIT CARDS AND DEBIT CARDS: POLICY, REGULATION, ISSUES

Issues between cardholders, merchants, and credit card companies

Policy Paper B: Governance: Stakeholders and their Disconnect (Task Force, 2011)

Main issue: No single organization or public entity coordinates interest of users and providers across all aspects of the payment systems in Canada in a decentralized decision-making model that characterizes the payment industry today (6, 7). Recommendation: A more adaptive and proactive regulation is required by the payment industry is characterized by rapid, discontinuous change. Limit heavy regulation and/or prescriptive rules (1).

Merchant Issues Consumer Issues1-Credit card company rules(a) All merchants must accept CCs bc many customers use them to pay(b) Rules stipulate that merchant must accept all cards by a brand, regardless of interchange fee(c) May not charge cardholder more for using a premium card with higher interchange fee2-Fees(a) Each brand’s cards have different/complicated fee structures(b) Invoices used to be opaque – better now3-Services(a) Must accept manner in which CC invoices merchants (see above re opaqueness of invoices)

1-Fees(a) Prohibitive cost of interest (approx. 1/3 do not pay on time)(b) Lack of regulation on interest rate (CC response: CC takes credit risk when extending credit without collateral)(c) Annual fees; charges for losing card

Examples of disconnect1-When new technology is rolled out, like the PIN/chip terminals, merchants are not consulted on the costs of upgrades, even though they take on significant cost, ie $1bn total cost to merchants to upgrade machines in Canada.2-Disaffected stakeholders must turn to various levels of government to seek redress, which is provided on an ad hoc basis

Limited sources for redressMinister of Finance (Some wins) Competition Bureau (Not much)

(1) Payment Card Network Act?? [ review this](2) Code of Conduct for the Credit and Debit Card Industry in Canada (see below)-MOF “threatened” to enact the Code of Conduct section within the PCNA if CC companies did not voluntarily adhere to the outlined principles. Networks adhered voluntarily.

Merchants claimed that rules prohibiting discounts and surcharges conflicted with the Competition Act

(1) CC companies’ prohibition on surcharge NOT anti-competitive


(3) CC companies cannot prohibit merchants from offering discounts to customer for lower costing instruments (Code of Conduct)

ML: These two examples (MOF, Competition Bureau) are illustrations how merchants seek remedies when they have nowhere else to go. Remember that CCs + DCs account for 1/3 of transaction VOLUME.

Credit and Debit Card Markets (Task Force Report, 2012 (?))

Recommendation: Prescriptive regulation in the credit and debit card markets would be ineffective, whereas risk-based, flexible and collaborative approach is desired. In light of rapid changes in retail payments, market forces would be more effective controls, whereas prescriptive regulation would stifle innovation and delay Canada’s transition to the digital economy. Voluntary codes can provide the structure and parameters needed for card networks, issuers and merchant acquirers to give voice to concerns of multiple parties.

Credit Cards Debit CardsFor all CCs and DCs

Technology: Functions on electronic systems that link together equipment at point of sale with central computers that handle transactions from many countries ??Underlying hardware: Shared point of sale terminal-NB: There needs to be TWO banks accounts in each transaction

Comparative analysis1-CC value > DC value: Credit cards primary used for retail purchases averaging $110, where debit cards are used for transactions averaging $45.2-Generally, merchants prefer debit cards (50%) > cash (39%) > credit cards (5%)3-Cost of CC is borne by merchant, whereas cost of DC is borne by cardholder4-Over 80% of Canadian households have at least 1 credit card (= 75 million) > Canadians have approx. 22 million debit cards5-DC transactions > CC transactions (1.5 : 1 (2009))6-IMP! 64% of Canadians pay off their credit card balance in full every month; this means that most Canadians use their CC as charge card and not instrument to access revolving credit

Visa (64% mkt) / Mastercard (28% mkt)

(4-party system; proprietary clearing)

American Express(3-party system in CA; proprietary clearing;

8% mkt)

Interac(1980s-present; ACSS

clearing)

Visa/Mastercard (2008/2010)

1-Cardholder-User of payment card2-Card issuer (cardholder’s bank?)-Markets and issues payment cards; sets terms of use3-Merchant-Accepts payment cards for purchase of goods and services

1-Cardholder

2-Issuer = Acquirer = network operator = AMEX

3-Merchant

4-Merchant’s bank

Same definitions

1-Operates on cost-recovery basis2-No interchange fees3-Consumers pay for most of the cost of the Interac debit card payment system through banking fees

History

-Canadian merchants concerned that entry of international players would raise merchant fees

-Maestro, co-badged with Interac, (entry late 2008) had priority over Interac, so transaction would be automatically


4-Merchant’s bank5-Acquirer-Payment processor that markets card acceptance services to merchants; clears and settles card transactions for the merchant (not same as Visa/MC clearing)6-Card network operator = card company (MC or Visa)-Oversees the system and coordinates transmission of information and transfer of funds between issuers and acquirers

Fees1-Interchange fees: Acquirer (indirectly, using fees from merchant) Issuer (Bank)2-Network switch fee:Acquirer and/or issuers (indirectly, using fees from merchant) Network3-Equipment fee:Merchant Acquirer4-Annual fee:Cardholder Card network5-Interest fees: Cardholder Card network6-Transaction fees:Merchant AcquirerNote: Network operator (card company) revenue depends on value of transaction that flow through network

Total merchant service fees (flat/percentage) = interchange fee +

AMEX issues all of the cards and receives all of the signals. No interchange fee

Fees1-Merchant discount fee:Merchant AMEX

2-Annual fee:Cardholder Card network

3-Interest fees: Cardholder Card network

Note: Regardless of MC/Visa or Amex model, the global amount levied on merchant is similar

1-Began as non-profit entity for purpose of collective cash from ATMs

2-Anti-competition challenge by merchants and other FIs culminates in Consent Order (1996) which:a-Prevents Interac from prohibiting merchants from imposing surchargeb-Required Interac to work on a cost recovery basis (ie not for profit)c-Prohibited interchange fee (bc not-for-profit)d-Switch fee rate limited cost-based, ie operating costs

3-After 2000, Acxys formed to perform additional roles (Interac online; P2P transfer; international transfers)

4-July 2013: Interac submitted variation application to Competition Tribunal to reconsider provisions (esp not-for-profit status) in the 1996 Consent Order to make Interac more competitive in global economy (and w Visa/MC) – successful?

routed to MC’s network (Interac and merchants not happy)

-Government amended Code of Conduct for CC and DC industry to require separate cards for Maestro – MC withdraws from DC market

-Visa, in 2010, introduced Visa Debit on CIBC bank card-No interchange fee


network switch fee + transaction fee + rental/admin fee

Merchant acceptance rules1-No discrimination: Cannot steer customers towards lower cost payment instruments2-No surcharge: Prevents merchants from charging consumer fee for credit card use3-Honour all cards: Merchants that accept one card from network must accept allFor all CCs1-Advantages: (1) Convenience (c); (2) global acceptance (c); (3) reduced time at the point of sale (m); (4) rewards (NEW) (c); (5) *improved credit (c/m); (6) faster & guaranteed form of payment (compared to cheques) (m); (7) payment choice (c); (8) safer payment transactions/reduced security risk (m/c); (9) lower cash handling/counterfeit/deposit costs (m); (10) deferred, interest free payment (c); (11) Access to unsecured credit*Prior to CCs, merchants would have to extend credit themselves

2-Problems: (1) Consumers may have more debt than they can actually pay; (2) Potential for fraud; (3) fees, esp cost of premium card (merchants)

3-Merchants pay for most of the cost of the credit card payment system through the interchange fee is this right?

4-Introduction of chip and PIN shifts fraud liability from issuer to merchant (rolling start times: 2011-12)

History1-In 2008, Visa/MC made significant changes to interchange fee formula (24/30) and introduced premium cards and new chip and PIN technology.

2-In 2013, the Competition Tribunal refused to issue a no-surcharge order to credit card networks,


citing that this issue related to the “regulatory framework” (read: Parliament)(Commissioner of Competition v Visa Canada Corporation and Mastercard International Incorporated)3- No challenges or regulation for ~ 50 years: Up until 2010, when the Payment Card Networks Act was adopted, Visa/MC were not formally regulated in Canada nor were there any challenges before the Competition Tribunal

Adherence to voluntary regulatory codes

Payment Card Networks Act (“PCNA”) (2010)

Purpose: Regulation national payment card networks and commercial practices of payment card network operators (s 2). Adopted as response to merchant discontent re Merchant Acceptance Rules (see above). The Act regulates all of the players in the payment industry, but in practice, the voluntary Code of Conduct for the Credit and Debit Card industry serves this function.Potential issue (ML): On what grounds of federal authority might this statute lie? Telecommuncations or contract (provincial)? Constitutional basis of legislation may be open to inquiry.

Section 6: Regulations (NOT IN FORCE)Section 6, which lays out the details of governance and enforcement provisions under the power of the MOF, was not been enacted in 2010. Instead, the government offered card network operators the option of adhering to a voluntary code of conduct, OR the govt would enact the provisions in s 6, which would place the card network operators under strict scrutiny/prescriptive measures of the MOF.

Code of Conduct for the Credit and Debit Card Industry (2010?)

ML: At face value, ss 4-7 regulate the payment rules, but are in fact, intended to protect Interac

Section 4Payment card network rules will ensure that merchants who accept credit card payments from a particular network will not be obligated to accept debit card payments from that same payment card network, and vice versa.Section 5 (IMP!)Payment card network rules will ensure that merchants will be allowed to provide discounts for different methods of payment (e.g. cash, debit card, credit card). Merchants will also be allowed to provide differential discounts among different payment card networks.-ML: Revolutionary provision that voids (50 year old) merchant rule prohibiting discounts being offered to cardholder. NB: Competition tribunal had dismissed merchant’s claim re no surcharge rule as anti-competitive. Discount yes, surcharge no.Section 6Competing domestic applications from different networks shall not be offered on the same debit card. However, non- competing complementary domestic applications from different networks may exist on the same debit card.-Purpose is to protect Interac; if Visa/MC debit card network could automatically channel transactions in Canada to their own networks, business would be taken away from Interac. NB: Maestro and Visa Debit still work outside of Canada bc no competition.


Section 7Payment card networks will ensure that co-badged debit cards are equally branded.Section 8Payment card network rules will ensure that debit and credit card functions shall not co-reside on the same payment card.-No reason DC and CC cannot be on the same card. Restriction is to protect consumers.


3. Bank Accounts and the Banker-Customer Contract

Key Points

Three fundamental banker-customer Ks

1-General rule re repayment: The fundamental expectation that deposits will be repaid to the accountholder is an implied rule of contract between account holders and their banks that is legally enforced, notwithstanding the absence of a formal written agreement (BMO v AG – BMO releases govt funds based on forged cheque; no written K; govt beyond lim period)

2-No exception for govt Ks: In matters of contractual liability, the Crown is bound in contractual obligations in the same manner as an individual; the rights and prerogatives of the Crown cannot be invoked to limit or alter terms of a contract. Source of law is contract (BMO v AG).

3-Obligation to pay in QC: Payment shall be made to the creditor or to the person authorized to receive it for him. // Payment made to a third person is valid if the creditor ratifies it; if it is not ratified, the payment is valid only to the extent that it benefits the creditor (a1557)

4-Scope of bank’s authority re payment: A bank’s duty and authority to pay ceases upon countermand or death of account holder (BEA s 167)

5-Holding periods are discretionary: Discretionary holding periods for reasonable durations in banking agreements, written and unwritten, are lawful risk management practices implied in the contract between account holder and bank. Note: Bank Act provision on holding periods not adopted yet (Re Collections – P asserts bank unjustly enriched from holding periods)

Verification agreements reverse the onus

6- Verification agreement is a complete defence. Verification agreements lawfully reverse a fundamental expectation between bank and account holder by placing the duty of care on the account holder to verify that payments (by cheque) are only made to authorized third parties (Arrow Transfer –Employee defrauds employer over 5 years, discovered on 5th year; verification agreement not applied to fraud)

7-The verification clause in business banking agreements reverses the fundamental expectation that banks are liable for payments that were not made at account holder’s request. The onus is instead placed on the customer to review monthly account statement and report discrepancy to bank within 30 days (exception is forged endorsement).

7a-The bank, however, has indefinite amount of time to recover deposits erroneously made in account holder’s favor. Verification clause is a valid exclusion of liability (BMO Agreement I.14; BMO v AG – did NOT exist; Arrow Transfer)

8-In the absence of a verification agreement, any customer of the bank (commercial or otherwise) does not owe a duty to examine statements with reasonable care OR a duty to maintain adequate internal controls (CP Hotels – Employee Sands steals over 200K by forging signatories’ signature, Sands does not report his own forgery, audit reveals – before s I.14-15)

9-Verification clause is not abusive (a1437) or unconsciounable. The account holder is in the best position to determine whether charge is correct. Therefore, in the absence of fault or gross


negligence (a1474), verification clause not abusive in shifting burden. Bank will likely issue refund where there is error.

Customer generally absorbs risk for online activity

10-The Account holder generally responsible for activity that occurs with respect to online access. Any time the bank receives electronic instructions, it will assume that instructions are from the account holder who is presumed to have sole access to pw. Take at face value, III.5 says that customer has no claim in case of identity theft (BMO Agreement III.5)

10a-However, in Quebec, a bank may be held liable for continuing moral harm to account holders who have been hacked, if bank was negligent in security and notification measures (Larose c BNC – Class action certification for class of Ps suffering subsequent harm after account information stolen)

11-In the US, Uniform Commercial Code sets out measures that banks and customers must take re online banking. Under Article 4A, a bank receiving a payment order ordinarily bears the loss of any unauthorized fund transfer.

11a- Under Article 4A of the Uniform Commercial Code, the bank is presumed to bear the risk for fraudulent transactions. Risk may be shifted to customer, and presumption rebutted, if agreed upon security measure is put in place by the bank, as long as security measure is reasonable (Patco v People’s Bank – D’s online security system fells below UCC standard, liability for negligence)

Financial crimes are treated under statute in Canada

12-If there is reasonable doubt as to legality of a transaction, the bank (or other entity) must notify authorities and not apply its own discretion to the matter (Tayeb v HSCB – Bank reversed irrevocable CHAPS (UK – analogy, LVTS) payment based on suspicion re origin of funds and account holder suffered loss) (~s 7 of Proceeds Act). Mere acceptance of a CHAPS transfer would not infringe criminal provision.

-ML: Historically, banks did not need to know customer. Movement from trust to doubt in K. Banks now have a duty to ask whether account is being used for illegal purposes (Canada).

12a-In Canada, the Proceeds of Crime Act governs record keeping/ID verification, duty to report and duty of non-disclosure re report.

Bank account is not a right and may be refused at the bank’s discretion

13-No individual or entity has a legal right to a bank account, with the exception of bank accounts mandated by social policy. It is within the bank’s discretion per K to terminate the bank-customer relationship with or without reasons (B-Filer v TD – Claimant facilitates online gambling for US clients)

14-CCQ a1457 governs fault-based liability in Quebec. ML: Every person has a duty to act in a way that will not cause harm to others, notwithstanding lack of K.

Extra-contractual liability to third parties – Misdealings in accounts15-In civil law QC: Where an account is known to benefit third parties, the bank is put on notice to investigate any transaction between the customer and the bank that may raise a suspicion from the perspective of a reasonable bank, in order to protect the third party beneficiaries. If a bank falls short of


the standard, s/he may be deemed to have known about the unlawful activity (124329 Canada Inc v National Bank – Jackson bros entrust funds to Maitre Blancher; MB moves trust funds to his own account and bank does not inquire)

16-In common law Canada: Banks have no general duty of care towards third parties to ensure that transactions made by a customer is in furtherance of legitimate business activities that do not harm others. Mere suspicious activity is not sufficient to warrant a duty of care. (Dynasty Furniture v TD –TD used as correspondent bank in Ponzi scheme to deposit funds from investors; third party investors loses a lot of money and sue TD)

Extra-contractual liability to third party – Conversion of instruments

17-A forged or unauthorized endorsement is wholly inoperative and no right to retain the bill or to enforce payment thereof can be acquired through or under such a signature (exception: fictious payee and/or payable to bearer scenarios) (Boma v CIBC – Comptroller Alm writes and deposits unendorsed third party cheques to her personally account, defrauds her employer; Alm authorized to sign cheques but she goes beyond scope of powers)

18-Banks have a duty to inquire further upon presentation of an unendorsed or partially endorsed cheque by party who is neither a payee or sole endorsee and failure to do so may lead to delictual liability (BCN v Gingras – President of BD construction steals funds by diverting city cheque payment into his personal account)


Fundamental Obligations

Two broad areas of dispute1-Bank repays deposit of account holder to unauthorized third party2-Bank fails to perform instructionsIn both CML and CVL, the breach of a K between account holder and bank will give rise to liability

Legislation

CCQ Art. 1557

1557. Payment shall be made to the creditor or to the person authorized to receive it for him. // Payment made to a third person is valid if the creditor ratifies it; if it is not ratified, the payment is valid only to the extent that it benefits the creditor.-Payments are valid when made to the creditor or to the person authorized by the creditor to receive funds-In a bank account transaction, either account holders pay themselves with their own deposits (ie withdrawal, etc) OR authorize banks to make deposits to third party beneficiaries.

Bills of Exchange Act (1985) - Legislation that speaks to payment (not Bank Act)

Effect of death and countermand

Section 167 – The duty and authority of a bank to pay a cheque drawn on it by its customer are determine by:(a) countermand [=revocation] of payment; or[1-Cheques are revocable instruments2-Contractual liability: If a bank receives a countermand, it is no longer authorized to pay 3rd party beneficiary](b) notice of the customer’s death (see also: Bankruptcy and Insolvency Act)[1-Bank’s authority ceases upon notification bc account is transferred to trustee for administration]

Bankruptcy and Insolvency Act

Effect of bankruptcy

Section 78 – Bank must notify trustee[Banker must notify trustee - Patrimony]Where a banker has ascertained that a person having an account with the banker is an undischarged bankrupt, it is his duty forthwith to inform the trustee of the existence of the account, and thereafter the banker shall not make any payments out of the account, except under an order of the court or in accordance with instructions from the trustee, unless on the expiration of one month from the date of giving the information no instructions have been received from the trustee.Where banker has been informed that customer has gone bankrupt, its authority to make payment ceases because the patrimony is transferred to the trustee – account holder is no longer titulary of his patrimony

Bank Act (1991)

Legislation re obligation to collect payments


Section 458.1(2) Regulation re holding of funds (see also: Re Collections)Giving unambiguous legal effect to implied terms in banker/customer K:“The Governor in Council may make regulations respecting the maximum period during which a bank may hold funds in respect of specified classes of cheque or other instruments that are deposited into an account at a branch or prescribed point of service in Canada before permitting the customer in whose name the account is kept to access funds.”-Provision’s scope extend only to paper-based instruments – when will funds from credit cards, wires, etc, be made available?

Access to Funds Regulation (2012) (re Bank Act and Canadian Payments Association)

Sections 2-4 (NB: Regulations are easier to amend than statutes)Balancing act between bank’s interest in holding funds and account holder’s right to access funds (deposited through paper-based instruments)Section 2: Application (re ss 3-4)-Only paper based instruments deposited in Canada and encoded with magnetic ink-Example: Cheques (no obligation to pay), bank draft (=carries bank’s “signature” and obligation to pay)-No discussion about wire transfers, CCs, DCs – cannot put hold on these types of payments-Cheque is drawn on Canadian bank in Canadian dollars deposited in Canadian bankSection 3 (a-b): Maximum cheque hold perioda) Less than $1,500-No more than four (4) business days after day of deposit if done in person w employee at branch or point of serviceNo more than five (5) business days after day of deposit if done in any other mannerb) More than $1,500-No more than seven (7) business days after day of deposit if deposited in person with employee at branch or point of service-No more than eight (8) business days after day of deposit if done any other mannerSection 4 (a-b): Availability of first $100-Immediately, if deposited in person w employee at branch or service point-Business day following date of deposit if deposited any other manner

Canadian Payments Association Rule A4: Returned and Redirected Items (1983)(rules do not apply to third parties)

Scope: s 3(a-c)(b) Exceptions to returned items timeline: Electronic forms of payment are not reversibleE1: Debit card at ATME2 = Paying e-bills online(E3 = Not concerned with)E4 = Using debit card at point of service-Explanation: Items cannot be reversed because emanate from drawee bank. Verification is made electronically re availability of funds. If so, there is an irrevocable undertaking to make payment. Immediate settlement following successful verification of funds.-Limited circumstances in which certified cheques and bank drafts may be returnedReason for Return: s 4c) Unlike cheques, bank drafts and certified cheques are generally irrevocableTime Limitation for Return: s 5Subject to section 6, each Item being returned shall be returned by the Drawee, to the Negotiating Institution, as set out in section 11, no later than the Business Day following receipt by the first


organizational unit of the Drawee that is able to make or act upon a decision to dishonour the Item.-Clock starts when cheque arrives at place where a decision can be made-Re Collections shows the uncertainty re when cheque arrives at point of effective receipt-Outside of timeframe, drawee bank faces additional liability issues-IMP! Returns allow banks to make themselves whole without resorting to legal measuresExceptions: s 6-Claims for return based on forgery may be made up to six (6) years after being received by drawee

Summary of obligations

Fundamental Obligations of Bank Under Contract(1) Repay deposits to the customer/customer’s order

(2) Collect instruments deposited to account

(3) Keep bank account information confidential

1-Account holder has expectation of “getting money bank” upon request, ie cash withdrawal in person/ATM OR honoring of payment instruments/instructions made against the account

2-Debit card instrument: Debit transaction authorizes the creditor/acquirer to pull money out of your account AND gives instructions to your bank to honour payment transactionNB: Costs user fees to withdraw money from a bank not his/her own

3-Cheque instrument: Through signature of cheque, account holder orders drawee bank to pay beneficiary the stated amount.

1-Account holder expects that bank will accept, receive, and collect funds and depositsExample: Direct deposit means that employer sends signal to your bank, which then transforms that “signal” into a credit to your account

2-Private collection

3-“On-us” instruments: define

4-Collection through clearing/clearing & settlement system

5-Deposit insured up to 100K in Canada

6-Deposits are core manner in which banks fund loans (and earn spread)

1-Account holder expects that bank will protect information in bank account, ie desire for financial privacy in politics, with respect to issues like returned cheques

2-Personal Information Protection and Electronic Documents Act (“PIPEDA”) and provincial statutes protects personal information BUT corporations’ “personal information” is NOT protected under any statute.

3-Bank secrecy laws cannot be used to shield criminal activity (Riggs Bank (US))

AC gambling case - Example of (1): P gambling in AC; instructs manager orally at his bank branch in Halifax to wire money to AC casino. P loses all money the next day and later sues the bank in Halifax for wiring money without express permission (ie, no fax, letter with instructions). P claimed that bank spontaneously wired the money to him – lost on appeal. Bank is liable in contract to account holder – it cannot “give” your money away unless clear instructions exist.TerminologyInterest: (a) Money earned from bank on your deposit (usually <1%); (b) Money paid to your bank for credit givenSpread: Bank’s remuneration calculated from differences between interest paid and interest earnedLender: The person who makes deposits in accountBorrower/debtor: The bank that accepts deposits and remits funds bank to lender or authorized 3rd party

Breach of fundamental obligation re repayment (Art. 1557)


The Bank of Montreal v AG of Quebec [1979/SCC]Key terms: Bills of Exchange Act, implied terms, forged endorsement; (ECO liability to third parties)

RULE: The fundamental expectation that deposits will be repaid to the accountholder is an implied rule of contract between account holders and their banks that is legally enforced, notwithstanding the absence of a formal written agreement.

Note: In matters of contractual liability, the Crown is bound in contractual obligations in the same manner as an individual; the rights and prerogatives of the Crown cannot be invoked to limit or alter terms of a contract. Source of law is contract.Facts:-BMO, D (Appellant), claims no liability for forged endorsement against QC govt-BMO argues that govt gave notification only after expiry of limitation period (one year after knowledge of forgery), pursuant to the Bills of Exchange Act-Govt aware of forgery in 1968, gave notice in 1972-No written banking agreement between govt and BMO (rare circumstance in which standard form K was not used)-Govt had signed a cheque jointly to a notary and a construction company for payment to the latter in exchange for title to land (ie expropriation)-Cheque would be freed when signed by notary AND construction company – notary forges latter’s signature and cashes cheque personally-Govt does not immediately know that construction company was not paid / cheque fraudulently endorsed-Technically, the govt did not authorize the payment to the notary alone but the bank did not know what the construction company’s signature actually looked like-(Unintentional) breach of fundamental expectation that the bank repay the account holder’s deposit (#1)

Note: Ideally, transfer of title would coincide with payment bc it gives security to both sidesIssue(s):-Is BMO liable to the account holder, the govt of QC, for unintentionally releasing funds to an unauthorized individual?-In matters of contractual liability, is the Crown bound by a contract in which it gave valid consent or may the Crown invoke its right and prerogatives to limit liability?

Pratt J (Majority)Appeal allowed. Bank is liable in K for releasing funds to authorized individuals but statute of limitation bars govt from relief – govt did not give notice within one year of knowledge of forgery. Govt may not invoke Crown rights and prerogatives to waive this limitation period.

1-Debtor/creditor relationship is basic principle of law of banking-Implied contractual obligations between bank and account holder, including obligation of bank to repay upon demand loans from customer by honouring customer’s drafts

2-In silent Ks between bank and govt, parties must rely on commercial custom and law (Art. 1017)

3-IMP! Fault is not a consideration.BMO did not do anything wrong – the law is results oriented.

4-Obligation to reimburse exists only if written notice is given within the year in which forgery becomes known.


-Cheque paid upon forged endorsement is held to have been paid in due course unless client gives banker written notice of forgery within one year after he learns of it.

Breach of fundamental obligation re collection

Summary of domestic and international clearing1-Canadian cheque drawn on Canadian bank-“On us” = cheque drawn and cashed at same bank – rapid internal process-Cheque drawn and cashed at different Canadian banks – Payment process by Canadian Payments Association. IMP! Provisional credit will be posted immediately2-US cheque drawn on US bank-Longer delays in process; US does not have centralized clearing system-Cheque will briefly go through ACSS, then down to the US systems = “patchwork of bilaterial agreements between US financial instituations” and “bilateral agreements between individual US and CA institutions”-Up to 10 days for US institution to return a dishonoured cheque in ordinary course. Counterfeit or forgery would extend this waiting period.3-International cheque-No international clearing and settlement systems other than the ones operated by Visa and MC-Cheque is cashed by private collection – bank will sending letter requesting fundsGeneral-Funds deposited at ATM are considered a greater risk and subject to longer hold periods-Collecting bank use hold periods to protect themselves from fraudulent instruments coming from the drawee bank/drawer-No rights for third parties in payment and clearing system – as between banks involved.

Fundamental obligation to collect deposit and make it available at customer’s request

Re Collections Inc v TD Bank, BMO, BNS [2010/On Sup J]Key terms: Certification of motion; class certification denied; s 5(1)(a); cheques/bills of exchange;

uncertaintyRULE: Discretionary holding periods for reasonable durations in banking agreements, written and unwritten, are lawful risk management practices implied in the contract between account holder and bank.

Note: Bank Act provision on holding periods not adopted yetFacts:-Ps claim that banks unjustly enrich themselves to the detriment of the account holder by delaying access to funds deposited by cheque-Ps alleged that bank profits at customer’s expense by placing “hold” on a cheque deposited into customer’s account-Ps assert that there is delay between time the cheque is “paid” by the drawee bank and the time that funds are made available to the customer at the branch of deposit.-Ps claim that during delay banks make use of Ps money which is a breach of bank’s contractual and CML obligation to its customers-D counters that hold periods are a legitimate risk-management practice authorized by the K between banks and customers; holding periods are sanctioned by federal regulators bc dishonor can happen long after initial deposit is madeIssue(s):-(Do plaintiffs satisfy class certification requirements under Class Proceedings Act, 1992?)-In mandating “hold periods,” have banks breached an implied fundamental obligation to repay deposits to


the account holder upon request?-Are banks unjustly enriched during the “hold” periods by having exclusive access to funds that allegedly belong to the payee because the funds are supposedly already available prior to the hold being released?

Holding(s)GR Strathy J (Majority) IMP! ACSS (CPA) Clearing and Settlement of

Cheques ProcessNo certification due to underlying fault in foundation of P’s case.

1-The theory that a cheque is “paid” when it passes through clearing, or when a debit is charged to the drawer’s account, has no basis in fact or law. Fundamental flaw runs through Ps claim for breach of K.

2-Hold periods are a legitimate risk management practice authorized by the K between account holder and bank that reflects realities of modern clearing process. Cheque may be dishonoured long after initial deposit. Even with current length of hold periods, bank still risk non-payment of cheque outside of this period.

3-Drawee bank only becomes irrevocably committed to paying the cheque when it informs the collecting bank that cheque will be honored (certainty for collecting bank) or if it fails to return the cheque within the time allowed by clearing rules

4-If cheque is dishonoured, the collecting bank must reimburse the drawee bank regardless of whether it is able to collect funds from its customer. No conducive to business efficacy

5-Potential solution to hold delays: Electronic cheque imaging to expedite settlement process

Note: 95% of deposits are not subject to hold

Problem with system: Collecting bank cannot confirm, but only presume, that payment has in fact been made until physical cheque is returned with “pay/no pay” designation from drawee bank. Presumption can be rebutted even afterwards

[Day 1: Payee / Bank A (“Collecting bank”) clearing center]

1-Payee deposits cheque in personal account at collecting Bank A

2-Bank A “advances” deposited amount to account holder, subject to a hold at the bank’s discretion-In order to facilitate payment clearing and settling, Bank A must be in possession of the cheque-Provisional credit is consideration for the bank becoming holder of the cheque for clearing purposes

3-If payee’s account is interest bearing, deposited funds at Bank A immediately begin to earn interest-Bank effectively extends credit to payee while cheque works its way through clearing system

4-At the end of day, physical cheques deposited are mailed to regional clearing center operated by the Canadian Payments Association

[Day 2: Clearing center data center]

5-At beginning of each day, previous day’s financial positions of Canadian banks at “adjusted” through debits and credits of their account at the Bank of Canada to reflect what each bank owes to the other.-Bank A credit; Bank B debit-Clearing and settlement is effected on the presumption that the cheque is good.-Debit from drawee bank, credit to collecting bank

6-After initial clearing, cheque proceeds to data center of the drawee bank for processing-Not actual branch location, but regional centralized data center of Bank B


[Day 3 Data center drawee Bank B branch]Rebuttable assumption that payment is finalized here

7-“Presentment”: At data center, payor’s account at Bank B debited. If funds are insufficient in Bank B drawee’s account (or some other reason that prevents payment), the cheque will be physically sent to the drawee’s Bank B branch for a “pay/no pay” decision (usually occurs the day after clearing).

[Day 4: Drawee Bank B clearing center]

8-Drawee Bank B has until next business day to dishonor cheque by sending it back in clearing system as a debit. (Source: Rule A4)-Timeframe does not speak to how long it takes for cheque to arrive at drawee bank (ie Point of effective receipt)-IMP! Banks can automatically make themselves whole without going to court

[Day 5: Clearing center payee Bank A]

9-Cheque is settled the next morning as part of the previous day’s clearing and then sent to the branch of deposit or data center.-Bank A debit; Bank B credit (opposite of previous transaction at Bank of Canada)

[Day 6: Payee Bank A receives dishonoured cheque]

10-Provisional credit is reversed (if cheque receives “no pay” designation).-RISK: If the payee has already spent the funds, the collecting bank must still reimburse the drawee bank-“No news is good news”-“No mechanism available, other than physical return of a dishonoured cheque, to inform collecting Bank A”-IMP! Interest earned on provision credit remains in account even if cheque is dishonoured?

Factor’s that influence transit time: (1) Number of institutions involved; (2) Direct or indirect clearers; (3) Geographic distance between branch of deposit and drawee branch; (4) Physical state of cheque – machine read or manual

Standard form contract between bank and corporation (“Contracts of adhesion” = non-negotiable)

1-Agreement for Business Banking Form: Execution & Account Information-Serves to identify authorized signatories – identities verified against official documents like passport


-Signatories = employees who will have power to instruct the bank’s re company account-Additional confirmation re telephone banking access for signatories separate requirement bc more susceptible to fraud2-Certificate and Authorization-Resolutions that formally authorizes the conduct of banking activities by signatories-Examples: Countermand; endorsement; execution-Form in which corporations authorize named individuals to use the corporate bank accountNote: This form provides legal authority for signatories to act (the previous form identifies signatories)3-IMP! Business Banking Agreement (Arrow; verification agreement)General overview-Setting out contractual terms between account holder and bank – aim towards clarity and accessibility (really achieved?)-Contract of adhesion = non negotiable (QC)-In dispute, standard form K is interpreted against its drafter (same as CML)-IMP! No provision discusses rights and expectations of the account holderSECTION I: OPERATION OF BUSINESS ACCOUNT

1-Deposits to Account-Defensive tone speak more to bank’s situation than account holder’s situation-Does not speak directly to account holder’s expectations (ie collect deposit/give access to proceeds)

2-Use of Cheques-If funds are insufficient to pay cheques, the bank has discretion to choose which cheque will be paid-Overdraft protection: Even if there is no funds in account, bank will make a loan to payor to honor cheque-Prudent bank would likely call account holder first to ask-US: Class action have been brought based on bank’s decision to pay “less” important cheques first-Situation often occurs when a corporation is in financial trouble – the bank will vet all attempted draws on the account

(3-Waiver of protest)

4-Use of agents-Bank’s attempt to exculpate itself through third party

5-IMP! CHARGES TO ACCOUNT-This section speak to account holder – banker relationship(b) Unpaid instruments: Charge-back provision that gives bank authority to debit account (Re Collections)-Source of authority for collecting bank to debit customer’s account (payee) when payment instrument was deposited in account and later return unpaid-Estoppel: Courts in QC have estopped banks from using this provision if banks have acted in error (la fin de non-recevoir) (Bedard case)(g) Amounts deposited in error-Advantage to bank: If credit made in error, law is favorable to bank; if debit made in error, law is disadvantageous for customerMonthly set-off-Mutual debitor/creditor: In cases where company has a loan from the same bank, the bank reserves right to debit account to pay off loan without prior notice to customer.


6-Foreign currency transaction-Rate of exchange must be established – current class action on arbitrary nature of exchange rate-Currency rates more reasonably applied by CC companies than banks, but then intermediaries (issuer) tack on costs in CC network-Clause applicable when CA debit card used outside of the country

(7-US Dollar Accounts)

(8-Compliance with Laws)

9-Indemnity-Example: In AC case, bank would have a right to ask for payment of legal expenses

10-IMP! STOP PAYMENT-Unable to stop payment on instrument presented to bank or certified by bank; cannot reverse previously requested stop payment if instrument has already been dishonored

11-Limitation of liability (Implied term of K)-No statement on rights of account holder

12-Holding of funds-Follows access to funds verification guidelines

13-Processing and verification by us (not important)

14-IMP! Account statements and verification by account holder (Arrow)-Reversal of fundamental expectation = valid exclusion of liability-Onus on customer to review monthly account statement and report discrepancy to bank within 30 days (exception is forged endorsement)-In BMO v AG, this provision did not exist-Customer’s right to claim money back is lost after 30 days. Bank, however, has indefinite amount of time to recover deposits erroneously made in account holder’s favor.-Exception is made for forged endorsement because nobody knows what the endorsement of the payee is supposed to look like-NB: Endorsement = signature of the payee which allows instrument to be transferred from 1 person to another

15-IMP !Customer’s duty of care to re internal controls (CP Hotels)-Onus on customer to maintain procedures and controls to detect and prevent theft/fraud; supervise employees-High threshold for the “Unless” exceptions to customer’s duty (1-Culprit has no relationship with customer; 2-Loss was unavoidable despite reasonable steps taken; 3-Loss was unavoidable despite procedures put in place; 4-Loss cause solely by bank’s gross negligence, fault, willful misconduct)-Contributory negligence would negative customer’s cause of action

16-Transfer by wire – Important later-Note “reasonable efforts basis” and possibility of revocation of wire transfersML – Problematic that no liability may be found against third-party agent of bank

SECTION III: ONLINE BANKING


5-Account holder generally responsible for activity that occurs with respect to online access (Larose, Patco)-Any time the bank receives electronic instructions, it will assume that instructions are from the account holder who is presumed to have sole access to pw-BUT: This assumption does not address real issues of online fraud, malware (Patco) – everyone gets hacked (Crown, corporations, individuals)-Take at face value, III.5 says that customer has no claim in case of identity theft. Why assume that instruction came from legitimate account holder when fraud is so prevalent?-In the US, Uniform Commercial Code sets out measures that banks and customers must take (Clause III.5 would not be valid).-ML thinks this provision is “light” on language

Compare with: Clause 8.1 of the NBC’s E-Banking Agreement – Liability and Responsibility (s 8)-Presumption that card holder is liable for fraudulent charges before notification-In case of fraud, onus on cardholder to prove ‘adequate protection’ was taken ‘as quickly as possible’-Onus on account holder to verify veracity of all debits and other account activity

Policy re Clause 14Are verification agreements an abusive clause unfair towards consumers and/or corporations?

Note: CML – Unconsciounability; CVL – Arts 1474, 1437

(1) Consumers in CVL: Verification agreement is not an abusive clause-Art 1437 (CCQ) nullifies or reduces obligation of abusive clause in consumer K or K of adhesion. Bank clause challenged under Art 1437 and failed. Why? Because account holder is in the best position to determine whether charge is correct. Therefore, in the absence of fault or gross negligence, verification clause not abusive in shifting burden. Bank will likely issue refund where there is error.-Sub-issue is whether 30 days is reasonable limitation period.

(2) Corporations in CVL: [same as consumers?]Note: Bank is also within its right, following tribunal decision, to automatically process all cheques under a certain amount (ie $2000), even if errors will occur. NOT negligence – compare with Stewart.

Two exceptions to validity of exclusion clauses in banking agreements:(1) Art 1474 (CCQ): When fault is intentional (ie gross negligence), the bank may not hide behind an exclusion of liability clause (Stewart v RBC – bank mgr debits customer account for personal gain, cited in Arrow)(2) S 10, Consumer Protection Act - QC: In Consumer Ks, exculpatory clauses are not permitted

All: Comparable to CML doctrine of K interpretation – unconsciounability

Customer’s duty to verify accounts and bank’s waiver of liability

Arrow Transfer Company v RBC, BMO, CIBC [1972/SCC]Key terms: Forged cheques; exception to notification rule; conversion; verification agreement

RULE: Verification agreements lawfully reverse a fundamental expectation between bank and account holder by placing the duty of care on the account holder to verify that payments (by cheque) are only made to authorized third parties.Facts:-Employee accountant defrauded employer out of $165K by forging signature of appellant’s signing officers (1963-68)


-Fraud discovered in 1968 and notice given to RBC-Specified period for notification of error/wrong-doing in verification agreement NOT applied to fraudIssue(s):-Is appellant (original P) entitled to total of defrauded amount from 1963 onward or only for the amount that was discovered within the time frame set out by the verification agreement?

Holding(s)Laskin J (Majority)

Appeal dismissed. Claim against RBC failed due to verification agreement; conversion claim against BMO failed due to lack of a valuable instrument upon which to based conversion.

Note: Verification agreement REVERSES the fundamental expectation – COMPLETE DEFENCE

1-Claim against RBC for first 72 cheques answered by verification agreement.-ML: Deposit must under no circumstances be paid to an unauthorized person.-Appellant failed to give required notice for all cheques EXCEPT the last one – 73-In the absence of verification agreement, RBC would have been liable

2-Conversion: No conversion bc conversion requires valuable instrument of appellant (whereas a blank forged cheque was never a valuable instrument belonging to the appellant)

3-Scope: No exception from verification agreement as they have been held to apply of “debits wrongly made” made in respect of forged cheques.-The provision on exceptions specifically identifies one particular kind of forgery, thus allowing court to assume that forged cheques are not outside the scope of verification agreement.

4-Per verification agreement, bank has no duty of care to oversee the debits from account outside of the two enumerated exceptions.

5-Laskin J: Disagreement with majority on scope of “debits wrongly made” in verification agreement-Majority held that debits wrongly made fell in the scope per the express exception for forged endorsements-Laskin held that wording of verification agreement not sufficiently clear to cover cheques on which signature of customer had been forged – but same holding as maj

6-Laskin seems to suggest that even in the absence of a verification agreement, account holder may be precluded by negligence from bringing an action against the bank for forgeries – BUT no exploration of legal basis for customer duty to verify and maintain internal controls

Customer’s duty to implement controls and bank’s waiver of liability

CP Hotels v BMO (and Sands) [1987/SCC]Key terms: Before clauses 14-5; no verification agreement or customer duty of careRULE: In the absence of a verification agreement, any customer of the bank (commercial or otherwise) does not owe a duty to examine statements with reasonable care OR a duty to maintain adequate internal controls.Facts:-Employee of CP (constellation of companies) in account dpt forges cheques of one company – Flight Kitchen


-Each company has three accounts – deposit and disbursement. And treasury account at holding company.-Treasury account takes all deposits and pays off the cheques drawn on disbursement account. Deposit and disbursement back to zero at end of day-Two signatures required on Flight Kitchen cheques: Saunders (Mgr) and Hird (Accountant)-Sands (Asst account) forges signature of both in over two dozen cheques, prior to his promotion (Hird delegated crucial functions to Sands) and steals over 200K-Sands in charge of reviewing monthly statements and does not report his own forgery back to bank-Audit eventually uncovers loss-CP Hotel brings action against BMO for paying sum to parties not authorized to receive it-As between bank and CP, no verification agreement exists and no duty of care to prevent fraudulent cheques (ie NO clause 14 or 15)Issue(s):-Does the customer/account holder owe a duty of care to its bank with respect to detection and prevention of forgery in the drawing of customer cheques?-In the absence of explicit provision, whether the court may imply a duty of care? (Clause 14)-In the absence of explicit provision, whether the negligence (ie CN) of CP prevents it from claiming against BMO? (Clause 15)

Holding(s)Le Dain J Majority

In favour of CP. No basis to imply K terms

1-Finding: Customer has no implied duty to verify account statements. Why? Custom not sufficient to infer implied term, not necessary for business efficacy, no difference in treatment of commercial and non-commercial parties.-BMO’s defence: Notwithstanding fundamental expectation that bank repays deposits at customer’s orders, CP as a sophisticated company, is expected to have internal verification procedure even in the absence of explicit provision in banking K. Implied from commercial & custom law-NB: 30-day ‘waiver’ does not exculpate BMO bc CP never signed it-Compare: In US, burden to verify is entirely on customer, with or without verification agreement (Uniform Commercial Code)

2-Finding: Customer has no implied duty to impose internal controls to prevent fraud/supervise employees. Same reasons as above apply.-BMO’s defence: No internal controls in company when they ought to have been there (ie “fidelity” insurance or additional supervisors.” CP should be precluded from claiming loss due to contributory negligence on their part for not applying reasonable due diligence.

Policy: Ruling is message to banks that exclusion clauses will have to be explicitly placed in K bc courts will not imply terms on the banks’ behalf. As such, clause 15 arose against all customers with a very high threshold for rebuttal (ie the “Unless” provisions)

Customer’s liability for electronically transmitted instructions

Sources for Theft of Personal Information1-Merchant’s pay terminal: Viruses installed in machine equipment; information stolen with fake card inserted into machine, collected, sent away to make fake cards2-Acquirer’s network: Trail of info transits through network, which can be hacked3-E-access of bank account: Unauthorized access into bank accounts through malware, hacking, theft directed at bank and/or customer (Larose, Patco)-Example 1: CA banks protect themselves through provisions such as BMO’s “Debit Card, Tel, Online


Banking” provision – anyone able to use card + PIN or access account via phone/internet is considered to be legitimate account holder due to pw protection (Section III).-ML: Debit card scenario speaks more to non-commercial parties bc commercial parties will have more complex arrangement, ie e-access banking and commercial account (see NBC Banking Agreement)

Inability of bank to ascertain true identity during e-banking

Larose c Banque Nationale du Canada [2010/Cour Sup QC]Key terms: CVL; Electronic access; class action – certification mode; fraud; hacking; theftFinding: Facts showing moral harm, coupled with facts showing actual harm, may be sufficient, prima facie, to satisfy Art 1003(b) for L’apparence de droit (ie Do facts of case at first glance justify the result sought?) in class action certification.Facts:-Thief steals laptops from BNC with banking info of 225K customers-BNC gives timely notice to public, customers and Privacy Commissioner-In Canada, laws exist to protect private information – institutions such as banks have a duty to protect private info and may be liable if duty is breached-Certain banking customers continue to be prejudiced due to theft and commence class action (eg: Lead P had attempted 5 ID thefts) – “But for” the bank’s breach, Larose would not have undergone this moral anguish.-Ps claim (“les reproches”) against BNC for negligence, unreasonable conduct following theft (sluggish notification, etc)-Ps claim (“les prejudices et inconvenients”) against BNC for subsequent harm due to theft of information (bad credit ratings, loss of time, increased threat of ID theft, etc)-Ps claim damages of $250 per person (for 250K people) for pecuniary loss and moral harmIssue(s):-Whether D was negligent in storing/safe-keeping info?-Whether D is liable to pay damages for both monetary losses incurred and moral harm (pain, suffering, anxiety)?Issue in case at bar-Whether Ps may obtain certification as class in action against BNC for harm caused by theft of computers leading to identity thefts?

Holding(s)Beauge JCS Majority

-Facts of case justify, prima facie (“paraissent justifier”) the results sought, per Art 1003(b) – L’apparence de droit, which shows that moral harm (in QC) (at least combined with actual harm) can provide grounds for action.

Patco v Peoples United Bank (2012/USA)Key terms: E-access; consumer rights; US v CA approach; Uniform Commercial Code, 4A; balance of dutiesRULE: Under Article 4A of the Uniform Commercial Code, the bank is presumed to bear the risk for fraudulent transactions. Risk may be shifted to customer, and presumption rebutted, if agreed upon security measure is put in place by the bank, as long as security measure is reasonable.Facts:-Ocean Bank authorized six fraudulent withdrawal’s from Patco’s account for nearly 600K, less than half was subsequently recovered-OB’s security system flagged transactions as ‘high-risk’ but did not notify commercial customer-IMP! E-Banking (entered into 2003) Agreement K stated that use of the PW to login constituted


“authentication of all transactions” and that Ocean Bank did not assume any responsibilities. Nothing on bank’s liability.-OB had hired consultant, Jack Henry, to establish security measures for e-banking per FFIEC guidelines-IP addresses allow bank to know which transactions come directly from Patco’s computers-IMP! Dollar amount originally set at 100K but brought down to $1, so that any transaction would prompt challenge questions-IMP! Challenge questions were always the same – more opportunities to discover answers-Bank did not apply email alert security measure (ie receive notification confirmation wire transfer) or tokens (USB with randomly generated number)-All disputed transactions were unusual (time, amount, location – IP not for Patco’s office)-Malware had entered Patco’s computers subsequently deleted – no evidence to show that malware was “but-for” cause for authentication info-Thief eventually made a mistake in wiring to non-existent account and prompted email to Patco principal-Notification given to bank promptly after email received-Patco alleges it tried to sign up for email alerts, but could not find – bank says Patco did not sign up-Patco brings six count, includ. Negligence, breach of K, liability under A4, unjust enrichment, etc-Summary judgment in OB’s favor for Count I re liability under 4AIssue(s): Summary judgment on Count I re Article 4A of UCC-Whether bank’s security procedures were reasonable and payment orders accepted in good faith, under Article A4 of UCC?-Whether summary judgment in favor of Ocean Bank should be reversed?

Holding(s)Lynch Majority Federal Financial Institutions Examination Council

(FFIEC)OB’s favorable summary judgment reversed. Case sent back to trial (or settlement). OB did not shift liability to customer because security measures were not commercially reasonable, taken as a whole. Also, negligence claims inconsistent with 4A and displaced.

1-Existing security measures NOT sufficient-Decrease in dollar amount allowed culprits more opportunities to read the challenge questions and find a way around them without raising suspicions

2-Lack of additional security measure-Bank had capacity to provide additional security measures to compensate for the decrease in dollar amount and did not do so

3-Bank ought to have noticed irregular transactions-Patco’s transactions followed clear pattern and OB ought to have noticed clear deviation from pattern

4-Unclear whether email alerts, even if available, would have notified Patco re fraud

Note: FFIEC is an interagency body that exists to establish regulations for financial institutions. No comparable organization in Canada.

Two out of three methods need to authenticate user1-What you know (Pw)2-What you have (Fingerprint)3-What you are (Card)

Set-up for Patco1-Corporate ID and PW2-Individual IDS and PW

Features of bank security network1-“Cookie”: Placed on customer’s computer to allows a bank’s computer to know where instructions come from2-“Risk-profiling”: In accordance with pre-set factors, bank’s computer would evaluate risks of each transaction and present challenge questions if risk exceeded threshold3-IMP! “Dollar amount rule”: Challenge questions triggered if transaction above certain amount(Also: Challenge questions; User ID, PWs; e-Fraud Network Subcription)


5-No determination on fault re malware in Patco’s system – for trial

Comparative analysis: E-banking in the US v Canada

Larose c BNC and Patco v People’s United BankCanada US

1-No uniform code governing e-banking-“Big gaping hole” (ML)

2-Banks draft own agreements on e-bankingExamples: (1) BNC E-Banking Agreement; (2) BMO Debit Card and Online Banking

3-Bank may exclude itself from obligations towards customer in online banking and debit card transactions-BNC clauses – PW and user name sufficient to presume authentication-Canada has laws on cheques but none on e-transfers –what about Interac?

4-Bank silent on obligations towards customer in online banking-ML: BNC’s agreement does not mention bank’s liability in case of faulty security

1-Uniform code governing e-banking

Article 4A of Uniform Commercial Code“Under Article 4A, a bank receiving a payment order ordinarily bears the loss of any unauthorized fund transfer” (Patco)

Two ways to shift liability(1) [Agency doctrine – not imp!](2) IMP! Agreement bet bank and customer on commercially reasonable security measure and that bank accepted payment order in good faith

What does the provision do?1-Governs rights, duties, liabilities of banks and their commercial customers with respect to e-transfers.2-Intended to “synergize” other legal doctrines – obligations under 4A cannot be varied by K3-Two way street: Commercial customers have obligations and responsibilities as well

Standard-Not question of what is ‘best’, but what is most reasonable (Patco)

2-Banks provisions on e-banking must be in accordance with Article 4A

3-Bank may not exclude itself through K-Exception are the two ways to rebut presumption

4-Bank presumed to have obligations towards customers in online banking


systems – would depend on court’s reading

Policy question: In Canada, what regulatory body would be responsible something like Article A4 or the Uniform Commercial Code, in general? What is the right balance of duties as between customer and bank?

Money Laundering and Terrorist Financing Regulation (Re Bank Accounts)

General Overview1-FIs discover they are used as gateways for illegal proceeds’ re-entrance into economy2-HSBC: Head of bank resigns bc billions laundered through Mexico branch - $2B fine for weak measures.3-In Canada: Statute requires deposits over 10K to be report – potential evidence of suspicious activity4-Banks have clear interest in distancing themselves from illegal activity – millions spent on electronic compliance. Even so, dangers exist – HSBC had compliance department5-Legislation and controls needed to deal with illegal financial activity

Terminology(1) Tax evasion: Printing fewer receipts than there are sales, to understate revenue and pay less taxes.(2) Laundering: Printing more receipts than there are sales, to introduce more money into the system from illegal sources(3) Record keeping: Tracking movement of cash

Proceeds of Crime (Money Laundering) and Terrorism Financing Act (2000)ML: Lawyers and trust accounts should be subject to Act, but it would violate confidentiality

Section 3: Object-Establish record keeping and client identification requirements (3(a)(i))-Report suspicious financial transactions (3(a)(II))Section 5: Application-Most IMP!: Banks under Bank Act and authorized foreign banks under s 2 of Bank Act-Other entities include: Casinos (k), loan companies (f), trust companies (e)Section 6: Record keeping and verifying identity-Keep and retain prescribed records (6)-Verify identity of person or entity (6.1)-ML: Historically, banks did not need to know customer. Movement from trust to doubt in K. Banks now have a duty to ask whether account is being used for illegal purposes-Banks keeps record of all transactions: Currency exchange of more than 3K; deposits of more than 10K; cross border movement of more than 10K.Section 7: Duty to report-Whenever funds are transferred, names of payor/payee are checked against list provided by UN on terrorists and criminals-If there is reasonable ground to suspect money laudering (7(a)) or terrorist activity financing (7(b)), the bank must report the transaction.-First time CA legislature has asked banks to breach an implied fundamental obligation (to privacy) – no significant money laundering has occurred in Canada-Bank of Scotland v Anonymous: New customer deposits 300K and then requests transfer immediately; banker is suspicious and requested from judge a freeze on account pending further investigation.Section 8: No disclosure of reports – “tipping off provision”-Entities may not disclose that report has been made bc there may be an investigation following report – as such criminals cannot be tipped off


Tayeb v HSBC [2005/UK]Key terms: CHAPS, suspicious activity, UK, HSBC, Barclays

RULE: If there is reasonable doubt as to legality of a transaction, the bank (or other entity) must notify authorities and not apply its own discretion to the matter (ie s 7 of Proceeds Act)Facts:-Tayeb, not UK resident, opens account in England for $1.5M sale transaction of domain name “.ly”-Once transferred through CHAPS (real-time, irrevocable, secured, same-day value), bank manager at Tayeb’s bank suspicious of origin of funds and puts marker on account (ie “freezes account”)-Following a conversation with Tayeb (content of communication debated), bank manager returns the funds through CHAPS without Tayeb’s permission-Domain Transfer Agreement: Sale of domain name had been effected when payment confirmed in Tayeb’s account-Seller and buyer had agreed to exchange good and consideration in England so as to limit the ‘uncertainty’ and waiting associated with payment and delivery.-Seller drew on his Barclay’s account for CHAPS payment to Tayeb’s HSBC account – funds returned to Barclay’s account-Tayeb claims that bank owes him money in debt, alternately, breach of K-CHAPS: Presumption of irreversibility after authenticationIssue(s):-Whether bank has the authority to reverse cleared and settled payment without permission of account holder?-Whether the CHAPS transfer to HSBC created credit due to claimant or whether the bank retained sufficient control so as to entitle it to re-transfer back to payor’s account?

Holding(s)Colman Majority

Suspicion was warranted but bank had no authority to return payment made via CHAPS under the K between bank and Tayeb.

1-If there was reasonable doubt, the banker should have reported activity to authorities, not taken matters into his own hands (ie: S 7 of Proceeds Act)-Bank’s option to decline not based on perception of what is commercially desirable but of the terms of K-In this case, terms of K allowed for CHAPS transfer

2-Mere acceptance of CHAPS transfer would not have infringed criminal provision-Criminal law provision did not give bank right to send money back to payor’s account via CHAPS

3-Debt already created prior to marker being placed – No sufficient control, marker did not cancel debt

B-Filer v TD Canada Trust [2008/QB Alberta]Key terms:

RULE: No individual or entity has a legal right to a bank account, with the exception of bank accounts mandated by social policy. It is within the bank’s discretion per K to terminate the bank-customer relationship with or without reasons.Facts:-B-Filer, carrying on business as GPAY, is a facilitator for Canadian players gambling (illegal) online in the US – legal in CA, controlled by govt-B-Filer’s activities offended TD Bank’s policy to not associate with illegal activities and bank closes account, citing its contractual right under Business Services Master Agreement


-Funds cannot be transferred without customers’ bank pin and card number disclosure – against TD policy-B-Filer seeks injunction to force bank to keep its account openIssue(s):-Whether B-Filer (GPAY) has a right to banking services provided by TD Bank?

Holding(s)Romaine Majority Tripartite test for injunction

(RJR MacDonald v Canada)Failed at stage 1.

1-Not strong prima facie case. Cancellation clauses are not onerous and generally adopted in standard form banking Ks.-Sophisticated commercial party such as P ought to have known

Judge went on to consider other two elements

2-Alleged harm to P is quantifiable and thus not irreparable-P provided estimates of lost profits in future

3-Bank may suffer greater harm and be unduly burdened in continuing to provide services-Serious risks re criminal activity involved in providing services to GPAY-Additional resources needed to monitor accounts like that of GPAY-Also significant PI in preventing money laundering and terrorist financing-TD placed in untenable position with respect to Proceeds Act bc it cannot “know its client”

All three requirements must be met

1-Do the merits indicate, prima facie, that a serious question is to be tried? TBD at trial-Standard for mandatory injunction: “Strong prima facie case” beyond “serious issue”

AND

2-Would the applicant suffer irreparable harm if application refused?-Irreparable means not quantifiable in damages

AND

3-As between parties, would the applicant suffer greater harm from refusal of the remedy?

ECO liability to third parties – Misdealing in account

Liability in Quebec civil law jurisdiction

CCQ 1457: General duty of care“Every person has a duty to abide by the rules of conduct which lie upon him, according to the circumstances, usage or law, so as not to cause injury to another. // Where he is endowed with reason and fails in this duty, he is responsible for any injury he causes to another person by such fault and is liable to reparation for the injury, whether it be bodily, moral or material in nature. // He is also liable, in certain cases, to reparation for injury caused to another by the act or fault of another person or by the act of things in his custody.”Summary: This provision sets out that, in QC, every person has a duty to act in a way that will not cause harm to others, notwithstanding lack of K.

124329 Canada Inc v National Bank [2011/QCCA]Key terms: ECO; liability to third party; trust account; beneficiaries; CVL – Art 1457; general duty of


care; kiting; (fictitious payee); Bills of Exchange Act; ‘stranger to the trust’; verification; liability on constructive knowledge

Proposition: Where an account is known to benefit third parties, the bank is put on notice to investigate any transaction between the customer and the bank that may raise a suspicion from the perspective of a reasonable bank, in order to protect the third party beneficiaries. If a bank falls short of the standard, s/he may be deemed to have known about the unlawful activity.Facts:-Jackson brothers entrust Maitre Blanchet to oversee funds (500K) in trust account-Customer-banker relationship exists between MB and the bank-MB steals funds from the trust account – the bank is unaware of who is the beneficiary of the trust other than it is a third party-Without notice to the Jackson brothers, all money from trust account is moved in MB’s personal account (not sufficient for mischief but good indicator)-Trust account benefit from greater protection (against fraud?) than personal accounts-Jackson brothers become aware of unusual activity and ask MB to return funds-MB has already moved the money again – this time to an accomplice-Jackson brothers sued MB, who had no money – accomplice was also bankrupt-COFI ruled in favor the bank, defendants. Jackson brothers appeal to COA – alleging that bank had a duty to verify correctness of MB”s transactions and failed to do so, amounting to breach of DOC under Art 1457Issue(s):-Do banks have a duty to third parties with whom it does not have a contract to inquire as to the appropriateness of dealings in a trust account?

ReasoningKasier JA Majority

Appeal allowed. Decision of TJ reversed. Bank is liable to the brothers bc MB’s activities ought to have prompted the bank to investigate.

1-Where an account is known to benefit third parties, the banker has a duty per Art 1457 to investigate any transaction between the customer and the bank that may raise a suspicion from the perspective of a ‘reasonable bank,’ in order to protect the third party beneficiaries.-On a given day, MB conducted approximately 15 complex transactions on 3 accounts, which is highly suspicious given that he is an independent lawyer-MERE transfer of funds not sufficient to infer perpetration of fraud but the scale and manner of activity ought to have alerted banker-Bank may have defences in action by drawer under Bills of Exchange Act but tortious liability for general fault is outside scope of such defences-Standard of care is NOT as strict as for the trust-like obligations but bank has an obligation not to cause harm to third parties

2-Reasonable banker would have been put on notice. TD Bank was complacent in the face of highly unusual activity, thus falling short of the ‘reasonable banker’ standard – lower standard than CML negligence-Bank is deemed to have known about the activity but did NOT have actual knowledge-MB was kiting (?), ie moving funds between two accounts to fund payments that do not exist

3-With respect to verification and behavior, the bank ought to have inquired about the transactions.-While customer may still misrepresent the nature of transaction, bank has a duty to inquire on the general nature of the payments-Bank also knew that the account MB was transferring funds out of was of a trust-nature, which ought to


have raised level of suspicion

4-Causality established on construction bc it is more likely that bank would have discovered something unusual and frozen the accounts instead of making over a dozen transfer-Bank’s negligence on Sept 26, 2002 marked the date that Jackson brothers effectively lost control of their money – no subsequent event undermined this causal link-Bank had a duty to do something although degree of inquiry is not clear but it cannot do nothing-Courts cannot impose an untenable duty of verification but bank MUST DO something-Had bank suspended transaction, it would have had a legitimate defenceExample of kiting: A person has two accounts. He writes a cheque for 200K drawn from first account and deposits it into the second account. If the funds are not held, then the person may use the funds in the second account to repay money in the first account and continue until discovered. Misusing cheque as form of unauthorized credit.

Liability in Canadian common law jurisdiction

Dynasty Furniture Manufacturing v TD [2010/ON Sup Ct J]Key terms: No general duty of care; Anns test – fail; negligence; knowing assistance; liability on

constructive knowledgeProposition: Banks have no general duty of care towards third parties to ensure that transactions made by a customer is in furtherance of legitimate business activities that do not harm othersFacts:-Correspondent account (=account opened in the name of another bank) is opened at TD Bank in the name of another financial institution called Standard International Bank (TD is the correspondent bank)-Stanford used correspondent account (TD) to deposit funds sent by gullible investors from a Ponzi scheme ??-Stanford worked in the Caribbean and promised investors impossibly high returns (20%)-Stanford would take new investment funds and pay out once in a while to not arouse suspicions – most of the funds were transferred into his personal account and/or spent-Eventually Ponzi scheme crumbled and investors lost their money (total: 17M)-Banker-customer K is between Stanford Bank and TD Bank; investors are third party that never had accounts at TD-Generally, third parties have no recourse against the account holder, who will likely have already disappearedIssue(s):-Is TD Bank liable in negligent to third party customers who are not privy to the contract by Stanford and itself without actual knowledge of fraud, willful blindness, recklessness? [ie liability on constructive knowledge]-Did TD have a duty to investigate the transactions between its customer, Stanford, and the third parties?

ReasoningWilton Siegel J Majority

For the defendant – TD. No duty of care and no reasonable cause of action. Motion to strike claim under 21.01(1)(b) accepted.

1-Failure of Anns test for novel duty No recognized duty of care owed by TD bank to third parties – new DOC not recognized-First-prong of Anns test for duty of care NOT met on these facts-Harm is foreseeable but insufficient proximity between third party plaintiffs and bank. No negligence – thus no reasonable cause of action-Establishing a novel duty of care between bank and third party left for another day where facts


demonstrate actual knowledge, willful blindness or recklessness (note: higher standard than 1457)-Even if first-prong of Anns met, DOC would be negative due to policy considerations of indeterminancy and overly broad scope

2-Mere suspicious activity from customer’s account is not sufficient to establish a duty of care to investigate towards third person without actual knowledge of fraud.

3-No constructive trust bc possession was not in a personal capacity; no nominate tort of statutory breach (Proceeds of Crime Act)

Comparative analysis of Jackson and DynastyIn Jackson, MB was already bankrupt and in jail, whereas in Dynasty, Stanford Bank was a house of cards with no money – Stanford had all of the money. Furthermore, the facts in Dynasty were ‘weaker’ than the facts in Jackson, bc the plaintiffs in the former could not identify/isolate specific transactions that were the wrong-doing. Claimants could only submit that there existed corresponding account between Stanford and TD.

In the common law, a bank is considered a ‘stranger to the trust’ and is generally not seized of any obligation toward the trustee, whereas in QC, bank may be a ‘stranger to the rules of the administration of the property of others,’ meaning that it may not inquire as to how funds are used/transferred but may still be liable to third persons under the general fault statute.

Negligence is a higher standard that 1457. Mere suspicious activity in common law Canada is not sufficient to establish extra-contractual liability, whereas in civil law Quebec, it may give rise to a duty to inquire, which if not met, could give rise to delictual liability.

ECO liability to third parties – Conversion of instruments

Common law

Boma Manufacturing Ltd [P/appellants] v CIBC [D/respondents] [1996/SCC]Key terms: Cheque, liability, third party, ECO, fraud; conversion; (fictious payee); strict liability; holder

in due course; negligence; duty to verifyGeneral rule: A forged or unauthorized endorsement is wholly inoperative and no right to retain the bill or to enforce payment thereof can be acquired through or under such a signature (exception: fictious payee and/or payable to bearer scenarios)Facts:-Comptroller, Alm, of small company in BC manufactures souvenirs-Both owners of the company AND the comptroller are authorized signatories-Comptroller stole money from company by writing cheques to fictional persons/payees ( NOT on exam)-She cashed these cheques (approx. 150) payable to someone else in her personal account at CIBC without endorsement of the payee over the course of 5 years (totaling 90K)-When a third party cheque is deposited at the bank, the bank has a duty to verify whether the cheque has been endorsed CIBC did not verify endorsement-Third party cheques are inherently suspicious bc they are payable to someone who is not the payee-CIBC estopped by their own negligence from claiming CN against appellants for failure of internal safety measures-Third party = Victim/Plaintiff = BOMA; Privy to K = Comptroller/Culprit, customer of CIBC; Privy to K = Bank/Defendant


-Boma sues its own bank and CIBC only latter goes to SCC bc of third party issue-COFI ruled in favor of the plaintiffs; COA allowed appeal and reduced judgment; plaintiffs appeal to SCCIssue(s):-Is the collecting bank (CIBC) prima facie liable to third party in conversion? Were the cheques properly negotiated to CIBC?

ReasoningIacobucci J Majority

Appeal allowed, for the plaintiffs and cross-appeal dismissed. Bank liable for conversion

1-Where a drawer (plaintiff) is fraudulently induced by another person into issuing a cheque for the benefit of a real person to whom no obligation is owed, the cheque is considered payable to payee and NOT to fictitious person-Checks in case at bar cannot be treated as payable to bearer bc payees are not fictitious-Names on cheques purposely resemble actual persons associated with business (J Lam, JR Lam)

2-Comptroller not entitled to cheques but bank credited her with the amount, which constitutes conversion for which bank is strictly liable.

3-Bank is liable for making proceedings available to someone NOT entitled to possession based on intention of the drawer (=conversion)-Action in conversion lies here bc drawer was still in actual or entitled possession of cheque – it was never properly negotiated to the bank-Payees on cheques were not entitled to them bc cheques were not created in respect of legitimate debts or with intention of

4-Comptroller is NOT the drawer: Intention of the appellant as drawer, NOT the signatory, is relevant bc comptroller cannot be said to be a ‘directing mind’ of the corporation, whereas appellant are ‘controlling minds’-Appellants intentions must be ascertained in order to determine whether cheques were properly negotiated to the bank-Comptroller’s intention cannot be imputed to the appellants bc the account out of which funds would be drawn belong to appellant (in addition to controlling mind theory)-Appellant clearly had not intention of transferring funds to comptroller

5-Policy: Likelihood of fraud is higher when person presents third party cheque, as such, collecting bank has a duty to ensure proper endorsement or be potentially held liable for negligence

Civil law

Banque Canadienne Nationale [D/appellants] v Gingras [P/respondents] [1977/SCC]Key terms: CVL; fraud; BEA; ‘conversion’ in QC; quasi-delict

Proposition: Banks have a duty to inquire further upon presentation of an unendorsed or partially endorsed cheque by party who is neither a payee or sole endorsee and failure to do so may lead to delictual liability.Facts:-Cheque is made payable to a construction company by client/city for work done (made out to: BD Construction Co.)-President of the construction company, Desjardins, takes the ‘corporate cheque’ and deposits it in his personal account by endorsing cheque with his signature


-Desjardins is stealing money from company by diverting corporate funds to his own account-While Desjardins was one of the authorized signatories, it was beyond his mandate to deposit funds in a personal account, and unusual for him to sign without other signatory-BD Construction goes bankrupt and enters into steward of trustee who discovers this discrepancy-Trustee of BD construction brings action against CIBC (collecting bank)-COFI rules in favor of plaintiffs; COA upholds ruling; defendant appeals to SCC-Third party = Victim/Plaintiff = BD Construction under trustee; Privy to K = Desjardins/Culprit, customer of CIBC; Privy to K = Bank/DefendantIssue(s):-Is the collecting bank liable to third party losses caused by the bank’s own customer?

ReasoningDeschene JA Majority

Appeal dismissed. For the plaintiff/respondent – BD Construction. P suffered damage equal to amount of cheques.

1-Unendorsed or partially endorsed cheques deposited by third parties ought to trigger a duty of care on the part of bank, who should be put on notice to inquire further; failure to do so may lead to delictual liability-Bank’s defence: Construction company’s claim is against the city that effectively paid the wrong person rejected-Mgr did not have explanation as to why he paid 6K cash on the mere signature of a secretary

2-But for the bank’s fault, plaintiff/respondent would have been able to cash the cheques

Comparative analysis of Boma and GingrasWhile treatment of tortious liability is different in in civil law Quebec and common law Canada, banks in both jurisdictions are subject to extra-contractual obligations towards third parties to whom it has not contractual agreement. Different legal basis in both cases of fraud harming third persons. Perhaps legislators should step in to correct the different treatment of similar business risks in the two jurisdictions.


4. Cheques, Bills and Notes

Bills of Exchange Act (1985) [“BEA”]

General Overview – Bills of Exchange1-Cheques (governed by BEA)-Main question: What are the rights and obligations that emerge out of a cheque cashed by payee at bank?2-Bank drafts (governed by BEA) [traites bancaires]-Bank gives an order to itself to pay (ie “Bank of Nova Scotia, orders the BNS, to pay…”-Assumption that bank draft is more reliable bc it is based on the bank’s credit-In the US, bank draft = cashier’s cheque3-Paper instruments in international trade finance; letters of credit (not governed by BEA)

Example of trade bill : = Unconditional order to pay drawn by one party on another (ie letter of credit?)-Exporter in Panama sells coffee to Canadian importer-Trade bill order drawn by the exporter from Panama on Canadian importer paid to Panamian??-Value of bill is the purchase price payable by importer (CA) to exporter (Panama)-NB: Generally, seller is reluctant to sell before payment and buyer is reluctant to pay before delivery – trade bill eases concerns on both ends-Bill of lading issued to exporter (=doc that attests to ownership of goods being transported) – whoever owns bill of lading has right to pick up the goods at point of delivery.-Exporter sends bill of exchange and bill of lading to bank in Canada-Upon arrival of goods, Canadian bank would obtain signature on bill of exchange from Canadian importer [=signature is like acceptance of good] and transfer documents of title – CA importer becomes person primarily indebted under the instrument – no defences may be brought against this obligation.-Trade bill sent back to Panama signed by Canadian importer – Panamian exporter may endorse and sell to its bank for cash4-Purpose of bills of exchange-Facilitate commercial exchange through authorized negotiation and transfer of funds, which creates rights and obligations enforceable as long as signature is valid-Bill of Exchange Act determines rights of holders, esp holders in due course5-Bills of exchange are either an (a) unconditional order to pay (bill of exchange) or (b) promise to pay by one party to another (promissory note) of an ascertainable and certain suma-No latitude in payment sumb-Some latitude in payment name

Interpretation: Holder, bearer, payee, endorsee

Section 21-Holder = Payee or endorsee = bearer-Payee or endorsee of a bill or note who is in possession of it, or the bearer thereof-Payee is the initial person NAMED in the instrument in possession-Endorsee refers to subsequent holders in possession of the instrument-Possession is necessary but not sufficient to be holder (ie a thief could be in possession but not be a holder)-The drawer of the cheque cannot be the endorser, which can begin with the first payee2-Bearer = anyone in possession-Holder may also mean a bearer, who is the person in possession of a bill or note made payable to bearer


-ML: Commercial paper made payable to bearer means that anyone in possession has a right to that amount – only exists in films

Formal requirements (ss 16, 165, 176)

Section 16: Bills-No conditions attached to a bill of exchange - Unconditional order (compare: Unconditional promise) (s 16(1))-Order in writing; addressed by one person to another; signed by person giving it; requires person to whom it is addressed to pay (s 16(1))Section 165: Cheques-Cheques are a form of bill of exchange-‘Pay’, ‘Pay to’, ‘To the order of’ are the verbs printed on cheques = imperative/order-No conditions attached to payment of cheque (bc it is a BEA)-Signatory of cheque (payor/account holder) gives an unconditional order to the bank (drawee) to pay the payee-IMP! No liability without signature: A person who does not sign the cheque will never incur liability-Certification from the bank is a form of signature-All cheques payable on demand as opposed to set for future date-Certainty of payment sum – NOT more than 100K-IMP! Cheque is rarely made to bearer bc it renders cheque susceptible to fraud-In crediting payee with amount of cheque, the collecting bank becomes the holder in due course of the cheque (s 165(3))-S 165(3) was added in the 1960s bc people would not sign their cheques/endorse prior to depositing and without a signature, the bank could not introduce the cheque into clearing system-Discussion of the word ‘person’ in Boma person limited to payee or endorseeSection 176: (Promissory) Notes-Unconditional promise (versus unconditional order in cheques) (Range) (s 176(1))-Made in writing from one person to another, signed by maker, engaging to pay now or in the future, to specified person or bearer (s 176(1)) – allows for financing on the part of maker-No signature, no liability-IMP! Terms must be ascertainable/certain in order for note to be validSummary: Bills involve one person giving an order to another, whereas promissory notes involve one person making a promise to another. The legal regime between notes and bank drafts is similar – both help to determine the rights of holders of the instrument. Holders have physical possession of endorsed payments and a set of rights against the payor/maker.

The requirement of signature and delivery

Sections 38-9Summary: Until the signed bill of exchange delivered to drawee, no right is created by the contract on bill. Contract is incomplete and revocable until requirements of delivery and signature are met.1-S 38 is the only place in the BEA where contracts are discussed-Three statutory contracts: Drawer’s K (s 129); Acceptor’s K (s 34-5); Endorser’s K (s 38)2-All Ks are incomplete until delivery [=transfer of possession from one party to another]3-Until transfer of possession, signature on bill is revocable (s 38)4-Delivery of bill must be made by authorized parties in order for rights to arise out of contract (s 39(1))-Valid delivery re past negotiations presumed for holder in due course (s 39(2))5-Drawer, acceptor and endorser are the three parties who can sign the bill of exchange


1-Drawer’s contract

Section 1291-Drawer’s K arises when drawer endorses the bill and it is delivered to the payee-Payee is the holder and beneficiary of the drawer’s K

2-Payment is conditional on due presentment (s 84), meaning timely presentment (s 84(2)) with original bill (84(3))-Untimely presentment may discharge drawer from obligation to pay

3-Even if the bill of exchange is dishonored (s 94(2)), drawer is still liable to the holder/endorser for the amount set out in the bill (s 129(a))-A bill is dishonored by non-payment when it is duly presented and payment is refused (s 94(1)(a)) or when presentment is excused and bill is overdue and unpaid (s 94(1)(b))-When bill is dishonored by non-payment, immediate right of recourse against drawer AND acceptor AND endorsers accrue to holder (s 94(2))

4-Drawer may not raise any personal defences against a holder in due course (s 129(b))Example: When a cheque is signed to landlord, the drawer is the renter, who incurs the first fundamental K = drawer’s K. The holder (=person invested with benefit of right/landlord) is the first beneficiary ofthis contract. Presumption is generally in favor of the holder.

Negotiation (s 59) and Transfer Words (s 20)

IMP! Section 59 – Most important characteristic of bill is negotiabilitySummary: As drawer of a bill of exchange, one never knows who the holder may be because bills are negotiated and transferred (without notice), in contrast to a contractual claim.1-Negotiation means transfer or assignment without notice NOT limited by the principle of nemo dat-Example: In Range, plaintiff Belvedere had a right to recover against Range even though Range never got what he bargained for. R received more obligations than expected.2-Negotiation is more advantageous than transfer of contractual right bc the bill may be sold or transferred without notice (Range)IMP! 3-Bill can be negotiated in two ways (ss 59(2)(3))a-Bill payable to bearer delivery is sufficient-Endorsement in blank (s 66): Payable to bearer if the last endorsement is ‘in blank’ (s 20(3))-Fictitous payee: If payee is fictitious or non-existing, bill is deemed payable to bearer (s 20(5)) (BOMA)b-Bill payable to order delivery AND signature to payee/endorsee-Payee must be named or indicated with reasonable certaintyNote: Bill containing word prohibiting transfer is valid between parties but not negotiable (s 20(1))Contrast with contract – Notice versus no notice: When a party to a contract sells rights of K to third party, other party privy to K must be given notice, whereas a bill of exchange may be negotiated to a third party without notice. Furthermore, transfer of contractual rights is bound by the principle of nemo dat = you can’t give more than you have, whereas in a bill of exchange, the drawer can assign more rights than s/he has.1-Payable to order: Negotiate with signature + delivery2-Payable to bearer: Negotiate with signature

Endorsements


Section 611-Endorsement must be signed by the person to whom bill is made out to, either payee or previous endorser (to endorsee)-Everything must appear on face of instrumentSection 62(1)1-Simple signature is sufficient for endorsement, without additional words-Not recommended (ML)2-Scenarios-If endorser sign document in blank (s 66) = payable to bearer-If endorser writes ‘Pay XXX’ then special (s 66) endorsement signifies the next payee3-Generally, one rarely applies the full extent of powers of negotiation, as the payee is more likely to write a new cheque then to endorse one-Per policy, third party cheques are rarely accepted at banksSection 661-Endorsement may be special or in blank (s 66(1))2-Endorsement in blank (mere signature) specifies no endorsee, so bill becomes payable to bearer (s 66(2))-Endorsement in blank may be ‘re-converted’ bank into special endorsement with specification of payee/endorsee (s 66(5))3-Special endorsement specifies to whom or to whose order bill is payable (s 66(3))Section 671-Endorsement may contain terms to make it restrictive (s 67(1))2-Restrictive covenants apply to subsequent endorsees (s 67(4))3-Restrictive covenants include “pay… only” or mere authority to deal with bill as directed, no transfer of ownership (s 67(2))4-Restrictive covenant gives endorsee right to sue for payment but no power to transfer rights as endorsee (s 67(3))IMP! Section 165(3): Cheques without endorsements (Added in 1960s)Status of bank receiving unsigned/unendorsed cheque1-Bank receiving unendorsed cheque can still be a holder despite having possession but no signature2-“Where a cheque is delivered to a bank for full deposit to the credit of the person and the bank credits him with the amount of the cheque, the bank acquires all the rights and powers of a HOLDER IN DUE COURSE of the cheque” (s 165(3))3-Scope of word ‘person’ discussed in BOMA4-Section 2 tell us that a holder is generally a payee or endorsee in possession of the cheque, but the bank is neither, but still has rights under s 165(3) as a holder in due course5-Without this provision the bank would not be able to claim status of holder in due course and proceeding with settlement and clearing

Holders

IMP! Section 55: Holder in due course – Greater advantages than holderSummary: Holder in due course is someone who has taken the instrument in good faith without any knowledge of anything having gone wrong with respect to this instrument1-All contracts (drawer, acceptor, endorser) are in favor of the holder2-Holder in due course is holder who has taken bill, complete and regular on the face of it AND (s 55(1))3-Came into possession of bill before overdue, without any notice of dishonor, AND (s 55(1)(a))4-Took the bill in good faith for value, had no notice of defence in title from person who negotiated it (s


55(1)(b))5-Defective title means includes bill obtain by fraud, duress, force, fear, illegal consideration (s 55(2))6-IMP! Negotiation is necessary to be holder in due course – Initial payee cannot be HIDC bc there was no negotiation when the drawer delivered instrument to payeeSection 73: Rights and power of holders1-Holder (not in due course) is the beneficiary of the Ks and may sue every person liable on the instrument (s 73(a))2-However, a holder in due course, holds the instrument free from any personal defences (s 73(b))-Example: Personal defence would be a tenant claiming s/he does not owe money because K was breached – a HIDC could still claim against the drawer (tenant) if landlord negotiated cheque to HIDC.

2-Endorser’s contract

Section 1321-If a bill is dishonored, endorser’s contract states that endorser will indemnify the holder or a subsequent endorser (s 132(a))2-Endorser is precluded from denying to a HIDC genuineness and regularity of all previous endorsements and drawer’s signature (ie no personal defences) (s 132(b))3-Estopped from denying to immediate or subsequent endorsee bill is not valid (s 132(c))

Case study for: Formal requirements (Promissory Notes s 176)

Range [D/appellant] v Belvedere Finance [P/respondent][1969/SCC]Key terms: Promissory note, s 176 (not applicable), maker, holder, insolvency, negotiation, prepayment;

endorser’s KProposition –narrow: A promissory note is an unconditional instrument that cannot be deemed as such if the document is subordinated/attached to a contract, in which case, it is a mere (conditional) promise to pay.Facts:-P, customer at Durand & Coutu, buys fur coat, $792 payable in installments of $34 for 24 months-The note is made in writing from P (maker) to D&C (first holder) and signed (NB: Basis of credit is faith – Range receives store credit)-D&C receives the note and endorses it (signs the back of the note) and sold to United Loan to obtain cash (Why? Bc the promissory note only becomes ‘money’ when Range makes a payment on the stipulated date each month – D&C wants cash right away, likely to pay overhead, etc)-In doing so, D&C transfers all of its rights against Range/maker to the purchaser of the note-IMP! Note allows merchant to give credit and obtain credit-D&C monetizes the note by selling it to UL – UL then negotiated the note to CIBC-UL defaults and CIBC negotiates the note to ‘vulture finance’ company Belvedere-Belvedere (fourth holder) sues Range for payment of the note-COFI ruled in favor of defendant Range; COA overturned decision; Range appeals

Benefits of PM: Payor can finance payments; receives store credit and good prior to full payment.Issue(s):-Is defendant Range liable for the promissory note?

ReasoningPigeon J Majority

Appeal allowed – for the defendant. Agreement not construed as promissory note/BEA – no obligations.


1-Document is not a real promissory note bc it was attached to a contract and thus construed as a narrow promise to pay, whereas a real promissory note is unconditional-Attachment to a contract is evidence of condition imposed on the promise to pay

2-For policy reasons, it seems unjust for someone to pay for a good that was never delivered.

Note: If agreement were a bill of exchange, Range would have been obligated to pay the amount since he would not be able to defeat Belvedere’s claim as HIDC under s 73 with a mere personal defence that coat was never delivered

IMP! Negotiation of Promissory NoteNB: Not actual promissory note – assuming it is to lay out negotiations scheme

(1) Range [drawer] signs and delivers the PN to Durand & Coutu [payee/initial holder]

1-Structure of the PN: (a) Promise to pay: D&C; (b) 792 (24 x 33 months); (c) Sign: Range2-Payee can NEVER be a holder in due course3-Range does not have recourse against subsequent endorsers4-From Range’s perspective, there were only three parties: (1) As maker of the note, Range (1) has promised to pay the fur manufacturer (2), who endorses the note to Union Bank (3). As such, Range was probably surprised when Belvedere brought suit against him(2) D&C [endorser] endorse PN to Union Bank [HIDC or simple holder? /endorsee] – payable to order

1-When PN is delivered to D&C, the manufacturer then endorses the note over to UB to receive cash2- D&C preferred to get paid right away at a discount instead of wait for monthly installments from Range3-Time value of money: UB pays less than 792 but over time, this amount will increase4-Prior to D&C signing the PN over to UB, former has incurred no obligation, after signature and delivery, D&C incurs obligation as an endorser (s 132(b))5-Endorser’s liability here is limited to the drawer’s liability to pay6-Range also incurs obligation as drawer but does not have recourse against subsequent endorsers7-Structure of PN: (a) Pay Union Bank; (b) [discounted amount]; (c) Sign: D&C8-Is UB a holder in due course?-UB conducted due diligence prior to purchase and seemed to be aware of failure of payment (Range stopped paying when he realized he would likely not get coat)-UB had knowledge instrument was not being paid and still went ahead with purchase-UB would likely NOT be a HIDC bc: No good faith; knowledge of potentially defective claim; tainted with knowledge that instrument is not ‘perfect’9-IMP! Under law, HIDC must establish its status as such, not presumed-Presumption is other way: Holder is not presumed to be HIDC10-Defects in title not opposable to HIDC, whereas simple holder may be defeated11-UB has a claim against Range and D&C12-If UB is a simple holder, Range could defeat its claiming by submitting that he never received the good, whereas if UB is a HIDC, then its claim cannot be defeated on grounds of personal defects(3) Union Bank [endorser] endorses note to CIBC [HIDC/endorsee]

1-Structure of PN: (a) Pay CIBC; (b) [amount]; (c) Sign: Union Bank2-CIBC is a HIDC – no questions asked, no info given. Endorsing note to CIBC washes instrument of any defect-CIBC unaware of defect in title or missed payments


3-Union Bank incurs liability towards the HIDC4-In each case, HIDC has recourse against every previous endorser and initial drawer5-PN was likely sent over to CIBC to secure some of UB’s loans(4) CIBC [endorser] endorses note to Belvedere [HIDC]

1-Structure of PN: (a) Pay Belvedere; (b) [amount]; (c) Sign: CIBC2-At the time of litigation, HIDC is Belvedere, who is suing the maker of the promise (Range)3-Maker’s K = Drawer’s K4-Likely that CIBC wrote ‘without recourse’ on the bill, esp since CIBC selling at great discount to vulture fund; protect itself from litigation – likely selling PN to recover loan to UB5-Belvedere is a HIDC bc it had no knowledge of Range’s missed payments-Belvedere has given value is and is unaware of circumstances6-Belvedere has no recourse against UB – bankrupt, nor CIBC – EC, so it sues Range7-Endorsers guarantee all of the signatures prior to its own, for HIDC (s 132(b))

Note: In the meantime, UB has become bankruptDiscussion1-Scenario in Range is rare due to fact that he prepaid for the good – generally a good is paid for and delivered at the same time2-If same scenario occurred today, with credit card payment instead of PN, it is unlikely that CC would allow customer to charge back the amount3-Historically, money was raised through bills of exchange before securities existed

HIDC: Rule A3 (CPA); Endorser’s K s 132 BEA and HIDC (s 165(3))Under Rule A3, an instrument that is not endorsed or that is forged may be returned through the system to receive a valid endorsement or be subject to reimbursement. However, under s 165(3) of the BEA, no endorsement is needed if payee is depositing a cheque that bears his own name – in this case, the bank is deemed a HIDC. A such, no signature/endorsement by payee/endorsee is need under Rule A3 because s 132 of the BEA [endorser’s K] estops the CPA from denying a HIDC the ‘genuineness’ and ‘regularity’ in all aspects of a drawer’s signature and all previous endorsements.

3-Acceptor’s Contract

Sections 34-5: Acceptor’s contract (also: guidelines for certification of cheque)1-Acceptor’s contract is often used as guidance for certification issues as the word ‘cerfication’ is NOT in the Bills of Exchange Act2-Acceptance of bill is the signification of the drawee of his assent to the order of the drawer (s 34(1))3-Acceptance invalid unless acceptance written on the bill and signed by drawee (35(1)(a))4-Mere signature of drawee written on bill without additional words is sufficient acceptance (s 35(2))5-Certification is construed as acceptance under BEA and gives rise to acceptor’s KSections 126-128: Liability of parties1-Collecting bank has no liability unless it accepts the instrument2-Certification may be construed as a contract for the holder of the cheque – gives more security to payee3-When a cheque is certified, bank will provision itself with the account holder’s funds in order to disburse payment to payee when the time comes4-Bank accepting cheque is precluded from then bringing a claim against a holder in due course based on validity of drawer’s signatureRight to Return Instruments, SS 3-6, Rule A41-Certain forms of electronic payment cannot be return (Debit card; e-bills) (Section 3)-These forms of payment cannot be reversed because payments emanate from drawee’s bank.


-Verification is made electronically to see if funds are available and if so, an irrevocable undertaking occurs-Once these e-payments are settled, no reversal possible2-Drawee may not return bank draft or money order (Section 4)-Unlike cheque, bank drank is irrevocable/cannot be countermand.-IMP! Certified cheques cannot be countermanded either3-Returned items must be completed no later than Business day (24h) following receipt by first organization that is capable of determining whether item should be dishonored (Section 5)4-Forged endorsement is an exception to the 1 business day limitation (Section 6)

Certification of cheque by drawee

AE Lepage Investments/London Life Ins. v Rattray Publications/CIBC [1994/ONCA]Key terms: Certified cheques more reliance;

Proposition: In certification of cheques, there is no distinction between a request from the payee and a request from the drawer. In both cases, certification of a cheque defeats revocability, renders instrument more secure, thus creating the same obligations. Certification is equivalent to acceptance with the result that drawee bank is liable on a certified cheque to the payee and any holder thereofFacts:-Ds contract to rent office space from plaintiff, 30K given as deposit-Ds quickly have second thoughts-P sense Ds reluctances and goes to D bank (drawee bank) to have deposit cheque certified-As P was getting the deposit cheque certified, drawer, D, called the bank to request a stop-payment of the cheque prior to certification being finalized-D’s bank however misreads its record, so when P asks for certification, D’s bank does not see that it no longer had authority to do so – supervisor approved certification-Plaintiff obtains certified cheque but after depositing at collecting bank, the cheque is returned through system with ‘certified in error’-P’s bank undertook due diligence but D’s bank made a mistake-P sues for damages in amount of deposit-COFI ruled in favor of plaintiff; Ds appealIssue(s):-Is the drawee bank =/ collecting bank (CIBC) authorized to withdraw payee-request certification, granted erroneously after stop-payment request by drawer?

ReasoningFinlayson JA Majority

Appeal dismissed, for the plaintiffs – CIBC ordered to pay bc cheque was certified and CIBC incurred liability.

1-IMP! Certification is equivalent to acceptance with the result that drawee bank is liable on a certified cheque to the payee and any holder thereof-Certification creates a status in cheque which is equivalent of acceptance regardless of who is responsible for the certification-Advantage of equivalence is that it brings certified cheques within scope of BEA and codifies certification

Certification of chequeSummary: By getting a cheque certified, the holder of the cheque now has the bank to securitize the payment or incur liability. The holder, who could previously sue only the drawer for non-paymnent, can now sue the bank with its much better credit. Certification is wide-spread in the US and Canada and unheard of in England. IMP! Word certification is NOT in the Bills of Exchange Act – courts have


instead looked to the term ‘acceptance’ for guidance.1-Certified cheques are more secure because: (1) Add credit of the drawer bank to the instrument; (2) Cannot be countermanded2-Two parties can ask for certificationa-Drawer: When drawer asks for certification, different rules come into play? NO Even though the bank has K relationship with drawer and not the payeeb-Payee: Payee can go to drawer’s bank to ask for certification (AE Lepage)

Consent – Forgery (General contractual requirements)

Under s 49, if the collecting bank has given the third party endorsee a provisional credit for a bill that has a forged signature, the collecting bank may be liable to the drawee bank. Upon presentment of the forged bill, the drawee bank PAYS the collecting bank and withdraws funds from the drawer's account. Under s 48, the drawer may SUE the drawee bank for withdrawing these funds without authorization, either because the cheque itself is not authorized (Arrow Transfer) or the person depositing the cheque is NOT the intended beneficiary (Boma v CIBC; BMO v AG)

Section 48(1): Forged signature on bill of exchange (Boma v CIBC)1-This section establishes the principle of consent, which sets out the recourse of the drawer against the drawee when signature of drawer is forged-Principle of consent: If a bill is forged, it is as if the bill was never signed and therefore inoperative, UNLESS endorsee is a holder in due course (s 48(1)) CIBC’s argument in Boma-IMP! The forged signature is wholly inoperative (s 48(1))2-Two examples of forgery: (a) Fraudulent cheque and (b) Forged endorsementa-Scenario: Cheque is stolen and signatory’s signature has been forged (Arrow Transfer – Accountant did not have signing authority)-Cheques in this case are wholly inoperative bc they do not give the bank authority to debit payor’s bank account wholly inoperativeb-Scenario: Cheque is NOT stolen, but meant for the payee. The endorsement however is forged (BMO v AG)-If two endorsements required and one is forged Cheque is wholly inoperative-Critique: How is the bank supposed to know what the endorser’s signature looks like?Section 48(3): Recovery of amount paid on cheque with forged signature (drawee bank/drawer)1-This section sets out the right of drawer to recover from the drawee bank for a forged endorsement (again: banker-customer K’s implied terms)-In BMO v AG, if s 48(3) applied, then the govt could recover the funds paid by the drawee because the original instructions from the drawer were not respected2-Limitation period – 1 year: Drawer has 1 year from date of knowledge of fraud to notify bank (s 48(3))3-Drawer can only sue his/her own bank (drawee) within a limited amount of time; one limitation period exceeded, afterwards, cheque will be held to have been paid in due courseSection 49: Recovery of amount paid on forged endorsement1-Remedy Restitution of payments made by mistake2-This section sets out recourse of the drawee bank (ie bank that pays the cheque) against the collecting bank. The entity that pays the bill can sue the entity that receives payment3-IMP! Claims based on forged endorsements are an exception to 30-day rules in verification agreements (BMO v AG) and may be brought within 6 years??? Rule A4 – clock only starts running when forgery is discovered4-Verification agreements and internal controls may be able to defeat claims re forged cheques??Section 144: Alteration of bill


1-Fraudulent alterations include: (1) Intended beneficiary changes amount; (2) Forger alters name of beneficiary2-In both cases, the bill is void While there is no specific recourse that enables the drawer to pursue a claim against the collecting bank in cases of fraudulent alteration, general principles of law provide recourse3-Where bill is materially altered, but holder is unaware, then the bill is in the hands of a holder in due course (s 144(2)) and HIDC may avail of it as if it had not been alteredRules A3, A4 (CPA): Right of return = Immediate redress for drawee bank1-Rule A4 gives a right of return on a number of basis, whereas Rule A3 sets out that a replication of the provision in the BEA that requires the collecting bank to stamp every cheque introduced into clearing-The delay to return forged cheques is 6 years2-Drawee bank may return an instrument, if for any reason, payment cannot be obtained (countermand, no funds, forgery) into the ACSS and receive immediate settlement3-Rule A3 addresses missing endorsements more so than forged endorsements-IMP! When collecting bank stamps bill, it is guaranteeing that all previous endorsements are valid4-Ultimately, it falls on the collecting bank to absorb the loss and deal with forger5-In sum, the drawee bank has an immediate recourse through the ACSS OR 6 years to return forged instrument

No payee is a holder in due courseHypothetical – Unauthorized signatory (s 48(1)): Payee (currency exchange) sells US dollars to customer and accepts payment by certified cheque after calling drawee bank (bank that certified the cheque) to confirm validity of certification, which comes back positive. A few days later, certified cheque is returned by alleged certifying bank on basis that cheque is a forgery. Can payee invoke s 128 – acceptor’s K to estop bank from raising defence that drawer’s signature was forged?1-Yes, if the payee is a holder in due course (s 55(1)) (NOT THE CASE HERE)2-No, if the payee is a simple holder -> Payee is a simple holder bc the cheque is made out to him. No transfer by endorsement and delivery (ie negotiation) took place, therefore he is not a HIDC

‘holder’ limited to endorsee and payee (s 165(3)) (Note: Also under ECO liability of third parties/conversion)

Boma Manufacturing Ltd [P/A] v CIBC [D/R] [1996/SCC]Key terms: Cheque, liability, third party, ECO, fraud; conversion; (fictious payee); strict liability; holder

in due course; negligence; “person” as payee or endorseeGeneral rule: A forged or unauthorized endorsement is wholly inoperative and no right to retain the bill or to enforce payment thereof can be acquired through or under such a signature (exception: fictious payee and/or payable to bearer scenarios). Collecting bank is not deemed a holder in due course if the instrument is presented by someone who is not a ‘person’ under s 165(3) (ie endorsee or payee)Facts:-Comptroller, Alm, of small company in BC manufactures souvenirs-Both owners of the company AND the comptroller are authorized signatories-Comptroller stole money from company by writing cheques to fictional persons/payees ( NOT on exam)-She cashed these cheques (approx. 150) payable to someone else in her personal account at CIBC without endorsement of the payee over the course of 5 years (totaling 90K)-When a third party cheque is deposited at the bank, the bank has a duty to verify whether the cheque has been endorsed CIBC did not verify endorsement-Third party cheques are inherently suspicious bc they are payable to someone who is not the payee-CIBC estopped by their own negligence from claiming CN against appellants for failure of internal safety


measures-Third party = Victim/Plaintiff = BOMA; Privy to K = Comptroller/Culprit, customer of CIBC; Privy to K = Bank/Defendant-Boma sues its own bank and CIBC only latter goes to SCC bc of third party issue-Most cheques were not endorsed by the misspelled payee (J. Lam) – unendorsed cheques deposited at CIBC-This activity is highly irregular bc she is NOT the holder (payee or endorsee) of these cheques, nor is there an endorsement by J. Lam-Most cheques were not endorsed (these are at issue), whereas the ones endorsed are not bc they met the ‘semblance of legitimacy test’-Plaintiff initially sues the bank where the cheques were deposited AND where the cheques were drawn-However, plaintiff’s case against its own bank does not make it to SCC, probably bc it is difficult to prove that the bank should have known an authorized signatory was using signing authority beyond her scope-NB: No K between BOMA and CIBC-COFI ruled in favor of the plaintiffs; COA allowed appeal and reduced judgment; plaintiffs appeal to SCCIssue(s):-Is the collecting bank (CIBC) prima facie liable to third party in conversion? Were the cheques properly negotiated to CIBC?-Is CIBC a holder in due course?

ReasoningIacobucci J Majority

Appeal allowed, for the plaintiffs and cross-appeal dismissed. 1-Bank liable for conversion – cheques NOT properly negotiated; 2-Bank is NOT accorded holder in due course status for third party cheques because comptroller Alm not a ‘person’ under s 165(3)

1-Where a drawer (plaintiff) is fraudulently induced by another person into issuing a cheque for the benefit of a real person to whom no obligation is owed, the cheque is considered payable to payee and NOT to fictitious person-Checks in case at bar cannot be treated as payable to bearer bc payees are not fictitious-Names on cheques purposely resemble actual persons associated with business (J Lam, JR Lam)

2-Comptroller not entitled to cheques but bank credited her with the amount, which constitutes conversion for which bank is strictly liable.

3-Bank is liable for making proceedings available to someone NOT entitled to possession based on intention of the drawer (=conversion)-Action in conversion lies here bc drawer was still in actual or entitled possession of cheque – it was never properly negotiated to the bank-Payees on cheques were not entitled to them bc cheques were not created in respect of legitimate debts or with intention of rendering to payee

4-Comptroller is NOT the drawer: Intention of the appellant as drawer, NOT the signatory, is relevant bc comptroller cannot be said to be a ‘directing mind’ of the corporation, whereas appellant are ‘controlling minds’-Appellants intentions must be ascertained in order to determine whether cheques were properly negotiated to the bank-Comptroller’s intention cannot be imputed to the appellants bc the account out of which funds would be drawn belong to appellant (in addition to controlling mind theory)


-Appellant clearly had not intention of transferring funds to comptroller

5-Policy: Likelihood of fraud is higher when person presents third party cheque, as such, collecting bank has a duty to ensure proper endorsement or be potentially held liable for negligence

6-Purpose of s 165(3) is to allow the bank to become holder in due course for the purposes of settlement and clearing when cheque is deposited without endorsement by the payee-Section 165(3) is not meant to provide additional protection to banks; consequences of such an interpretation would be too far reaching-IMP! If CIBC’s position were adopted, banks would no longer need to ask for endorsements and the distinction between cheques payable to order and cheques payable to bearer would be insignificant

7-Section 165(3) is to be interpreted narrowly, with the meaning of ‘person’ limited to those entitled to the cheque-Persons means person entitled to the cheque: Payee or legitimate endorsee of the payee-As long as the payee is entitled to proceeds of cheque, it may be deposited without endorsement-IMP! Comptroller Alm was NOT a person within the meaning of s 165(3) and as such, bank is not a holder in due course

8-Section 165(3) represents a policy decision with respect to allocation of risk; collecting bank is entitled to assume that when a payee deposits a cheque to his/her credit, the drawer did intend to have the payee receive the proceeds of the cheque-More difficult for fraudulent employee to manage to have cheques wrongfully made out in his/her name (as payee) – the greater likelihood is that the cheque is genuine

9-Third party cheques present a greater likelihood of fraud than accepted in the scope risk allocation of s 165(3)-Collecting bank is always required to have signature/endorsement for third party cheque

10-IMP! Shift in judicial consideration re third party cheques All third party cheques are questions

CRITIQUE: Court’s narrow interpretation has made collecting bank the drawer’s insurer (Ogilvie)NEW: CIBC’s Defences (s 165(3))

IMP! CIBC asserts its right as holder in due course (s 165(3))-As holder in due course, CIBC acquires the bill free from personal defences or claims against it based on personal rights-Personal defences include: Fraud, tortious liability-“Persons” means payee or legitimate endorsee of payee

Discussion1-Historically, paper instruments were meant to be negotiated but in Boma the SCC seems to be saying that negotiation of third party endorsed cheques is clearly prone to fraud2-As such, perhaps cheques should be limited to payment from payor to payee and not used in more complex commercial transactions with multiple endorsers involving third parties.

Forged drawer’s signature leading to mistaken payment

BMP Global Distribution [P/A] v Bank of Nova Scotia [D/R] [2009/SCC]Key terms: Charge-back provision; Rule A4; three layers – BEA, banker-customer K, Bank Act?


restitution for mistake of fact; restitution; s 128, s 165; fraudulent cheque; windfallSimms test for recovering money paid under a mistake of fact :1-If a person pays money to another under a mistake of fact which causes him to make the payment, he is prima facie entitled to recover it as money paid under a mistake of fact.2-His claim may however fail if:(a) the payer intends that the payee shall have the money at all events, whether the fact be true or false, or is deemed in law so to intend;(b) the payment is made for good consideration, in particular if the money is paid to discharge, and does discharge, a debt owed to the payee (or a principal on whose behalf he is authorised to receive the payment) by the payer or by a third party by whom he is authorised to discharge the debt;(c) the payee has changed his position in good faith, or is deemed in law to have done so.Facts:-BMP (P) has distribution rights to non-stick cookware and not much capital-BMP receives a cheque for a large sum drawn on First National, a company BMP has no relations with; BMP is endorsee, NOT payee-BMP submits that cheque was delivered to them by a US business associate, Newman, as a down payment for a handshake deal-No contract of sale or written agreement – ML: What reasonable purchaser would proceed in this way?-Plaintiff BMP tries to deposit cheque for 900K in suburb in Vancouver – immediately arouses bank manager’s suspicion-BNS accepts instrument but places hold on funds until validity of cheque is ascertained by calling RBC (drawee bank) – latter confirms no countermands, funds sufficient, etc-No questions asked about why a US business person has a cheque from a Canadian company or why BNS is third party holder-After 7-10 days, the hold is lifted; soon after, BMP starts disbursing funds, including to other accounts at BNS such as wife, brother-in-law, etc – approx. 700K sent to related parties account-RBC contacts BNS approx 1 month later to say that First National’s cheque was fraudulently endorsed, discovered one month after funds transferred-BNS notifies RBC that nearly 700K is still at the branch in various accounts – BNS agrees to help RBC if RBC agrees to an indemnity-BNS removes funds from affiliated accounts and transfers 777K back to RBC-BMP sues BNS, claiming that BNS had no right to withdraw money from related accounts-BMP cannot explain how it came into the money nor provide evidence of consideration – there was never any sale of any thing-Note: RBC must have been under a duty to repay First National bc the bank is running after the money (Rule A4, s 6 – fraud is exception to 1 business day rule, although cheque can no longer be returned through ACSS for immediate settlement)-Structure: 1-BMP (payee/plaintiff); 2-BNS (defendant/collecting bank); 3-RBC (drawee bank); 4-First National (Payor)-COFI for BMP for BNS violating service agreement; TJ decision overturned on appeal – damages reduced to $101; BMP appeals to SCC and BMP cross appeals on tracing (NOT on exam)Issue(s):-Can payor (RBC) recover funds from payee (BNS) after a cheque has been drawn and settled?-Does RBC have authority to reclaim amount from BNS after former’s mistake of fact?-Is BNS liable for breaching the banker-customer K when there has been a mistaken payment?

ReasoningDeschamps J Majority

Appeal dismissed and cross appeal allowed. RBC’s payment was made on the basis of a forged cheque and defences not available to BMP in circumstances. BNS can resist BMP’s claim on basis of the doctrine of mistake of fact – no damages.


1-RBC has a prima facie right to recover.-Under section 48(1) BEA, the forged signature is wholly inoperative

2-Exception 1: Drawee, RBC, provided funds under mistake of fact and could not have intended payee to keep money, nor deemed at law to intend BMP to keep money.Actual intention - NO-Without drawer’s instruction, drawee bank could not have intended for payee to keep money (no debt to preclude payor from denying it was intended for payee to keep funds)Constructed intention - NO-IMP! SCC rejects all three arguments from BMP re why it is deemed at law BMP should keep money:1-Principal of finality;2-Scheme of BEA does not allow for RBC to recover from BNS or BMP;3-Service agreement between BNS and BMP preclude BNS from recovering from BMP

3-Exception 1 – Constructed Intention – Finality-Precedents cannot be read so broadly as to preclude all recovery by drawee in cases of fraud; adoption of Simms test weakens claim of finality in case of fraud-Clearing and settlement system does not ‘cleanse’ the fraud-If one bank had been involved, the bank would have had right to debit BMP’s account due to mistake of fact-Finality of payment underlies common law rules but cannot be used as bar to recovery for mistaken payment

4-Exception 1 – Constructed Intention – BEA provisions-BEA provisions (ss 128(a), 165(3)) BMP did not take the instrument for value, so NOT a holder in due course-RBC denying both BNS and BMP genuineness of signature ss 128(a)-BMP not a holder in due course did not take instrument for value, although it is NOT the payee ss 128(a)-RBC not precluded from denying to BMP the genuineness of signature of drawer ss 128(a)-Section 165(3) may not be used as word by payee (third party) against RBC, when BNS is the holder in due course.-BMP cannot argue that BNS entitled to receive funds irrespective of validity-BNS does not need to rely on s 165(3) protection when restitution is claimed (BNS is the HIDC who has taken the bill free from any defect of title of prior parties – same right as party who has given consideration)-IMP! Payee BMP is third party with respect to protection and may not benefit from protection of s 165(3)

5-Exception 1 – Constructed Intention – Service Agreement-Clearing and settlement does not preclude bank from applying charge-back clause, which is not just limited to provisional credit as TJ reasoned-Service agreement does not preclude application of common law where payment has been made under mistake of fact, even if the bank’s own charge-back clause does not apply due to settlement-Re CPA: Clearing rules are not bar to recovery and CPA rules cannot affect rights or liabilities of third parties nor create entitlements, ie non-members-CPA rules re finality of settlement NOT incorporated into banker-customer K for benefit of BMP-Unclear whether credit to BMP had truly settled per service contract

6-Exception 2: No consideration


-BMP gave no value for the instrument

7-Exception 3: BMP no change in position-Neither BNS as holder nor BMP as payee changed its position, since funds claim by BMP were still in the account-Awarding damages to BMP in such a case would amount to a windfall – BMP did not lose anything

8-No policy consideration to preclude BNS from responding to RBC’s common law right

Note: Although RBC is not a party to this case, it’s position and rights re mistake of fact common law remedy is the starting point of analysis because the claims cannot be examined without understanding RBC’s positionSummary: Three types of forgeries1-Drawer’s K forgeries (Arrow, CP Hotels)2-Forged endorsement (BMO v AG)3-Fraudulent alterations (not on exam)Summary: BMP’s Justifications for Funds1-Payor intended to pay payee anyway Rejected2-Payment was made for consideration Rejected-RBC should bear the loss and BMP should be able to keep funds, even if no consideration was given3-Payment – no change in position-At some point after payment, there ought to be ‘final and irrevocable’ settlement

Approaches to bills of exchange issues1-Rules in the Bill of Exchange Act-Fraud provisions ss 48, 492-Canadian Payment Association rules-ESP Rule A4 allowing for return of instrument3-Banker-customer contracts-If the two banks (drawee and collecting) are the same, the layers of analysis still exist without settlement issues.


5. Letters of Credit [Commercial only]

Definition: Letter of credit is an rirrevocable, written undertaking by buyer’s bank [ie issuing bank] to pay beneficiary the stipulated amount, conditional upon presentation of documents stated in the letter of credit.

Key points in Angelica :

Fraud as part of the exception to the autonomy principle forms part of Canadian common and civil law. If evidence is brought to the bank that make it ‘clear and obvious’ there has been fraud, the bank is relieved of its obligation to pay. Policy justification: The autonomy principle cannot be so rigorous so as to facilitate fraud (Angelica)

1-Autonomy principle (a4 UCP): Obligation of issuing bank is exclusively predicated on documents presented to them.-The LOC transaction is distinct from the underlying K – banks are only concerned by documents identified in the LOC-Applicant’s additional instructions to bank generally not relevant to irrevocable transfer of funds2-Exception to autonomy principle is fraud-Angelica tells us that fraud as part of the exception to the autonomy principle forms part of Canadian common and civil law. If evidence is brought to the bank that make it ‘clear and obvious’ there has been fraud, the bank is relieved of its obligation to pay. Policy: The autonomy principle cannot be so rigorous so as to facilitate fraud.

General overview1-Two forms of LOC: a-Commercial letter of credit used as payment we are here; b-Stand-by letter of credit used as security2-Function: Used in international sale to balance the interests of purchaser and seller by allowing delivery to occur concurrently with payment. Slight advantage to seller due to bank’s good credit. Comparatively, an open account is advantageous to the buyer, a pre-payment scheme is advantageous to the seller (Range) Generally, payment is not allowed after delivery in case the buyer goes bankrupt.3-Four parties: Buyer and purchaser agree on price of sale, which is the amount written on the LOC. Buyer’s bank/issuing bank prepares the letter. Seller’s bank or nominated bank (generally in seller’s country) facilitates payment. Similar set-up to cheques.4-Issuing bank: Buyer’s bank that issues a LOC at the buyer/account holder’s request. The issuing bank will pay amount stated on the letter of credit upon presentation of documents that demonstrates compliance. The relationship between the beneficiary and the issuing bank is governed by the Uniform Customs and Practice (UCP)5-Buyer of LOC: The purchaser of the LOC is also the applicant and purchaser of the goods. The buyer sets out the negotiated terms, method of title transfer, payment method (ie 1-year delay?). In every situation, the party with greater power will dictate the terms. Buyer must indemnify bank for incurring liability, typically through its credit facility with bank. The bank pays the beneficiary upon presentation of documents.6-The seller is the beneficiary of the LOC7-Nominated bank: The beneficiary/seller’s bank in the seller’s country. Functions are the advise the recipient of the LOC, deal with issuing bank, confirm the LOC, negotiate the credit (Angelica)8-Comparision with cheques: While cheques are unconditional, LOCs conditional upon presentation of documents. With certified cheques, the bank will likely debit the buyer’s account, whereas the bank would more likely debit the LOC buyer’s credit facility, unless there is no pre-existing relationship. The bank is essentially lending its good name to the buyer.


9-Letters of credit may be paid through negotiation (Angelica), which means that the LOC may be negotiated to the nominated bank (?). Other payment methods include payment at site (paid when docs presented at nom bank) and deferred payment (Payment made after delivery) [see LOC document]10-LOCs have expiry date11-IMP! First two sentence of sole legal stipulation at the bottom of the document. Documents presented must be compliant with UCP

Uniform Customs and Practices (Arts 4, 5, 7, 14)

Article 4a. Autonomy principle: Letter of credit is distinct from underlying K. Beneficiary cannot avail itself of K relationship between banks or between applicant and issuing bank.b. Applicant/buyer should not include copies of underlying K in LOCArticle 5: Documents v Goods, Services or Performance“Banks deal with documents and not with goods, services or performance to which documents may relate”Article 7Issuing bank bound to honor LOC if documents adhering to complying presentation (Art 2) are presented to issuing bank or nominated bank. Issuing bank must also reimburse nominated bank who has honored an LOC.Article 14Issuing bank’s sole obligation, the determination to pay, is based exclusively on prima facie compliance of documents. Buyer may not order bank to cease payment (instrument is irrevocable).

Documents in a letter of credit1-Commercial invoice: Issued by beneficiary to buyer2-Multi-model transport document is issued to the seller in the buyer’s name. Upon delivery, document must be issued to whoever picks up the goods (the buyer?)3-Insurance certificate allocates responsibility for lost goods, inclement weather, late delivery, etc4-Certifiate of origin is attestation on where the good come from5-Packing list6-Certification of Quality of Inspection7-Other documentsTypes of LOCs1-Straight letter of credit: Beneficiary produces documents to obtain funds. Non-negotiable and usable only by way of demand of documents with issuing bank?2-Negotiated letter of credit:-Functions with bill of lading – also negotiable – that beneficiary can negotiate with any bank.-The beneficiary may draw funds on the LOC at any bank without sending documents to issuing bank.-The nominated bank may purchase the draft and documents?-A draft is a piece of paper that contains an order by one person to pay another person, named in the instrument.-In Angelica, respondent Angelica orders payment of sum to Protective, drawn on BNS-Protective provided .63% commission for value given immediately on LOC to Shanghai bank-Protective Wear was payee and endorsee in physical possession to Shanghai bank-Shanghai Bank becomes the holder in due course when the LOC was negotiated to it

How a letter of credit works: Hypothetical (NZ kiwis)-NZ seller exports kiwis to CA buyer. Payment is through letter of credit. The buyer’s bank will provide the irrevocable instrument by debiting the buyer’s account as security prior to issuing the letter of


credit.-Goods shipped to Canada on boat, placed on a train, delivered to warehouse. Upon delivering the goods for transport, the NZ exporter is issued a bill of lading, a transport document – most important! – that allows the holder to recover goods at the destination. Other documents include invoices and insurance documents.-At this point, the seller has everything he needs to demand payment of the LOC. The seller/beneficiary will present the documents to the nominated bank, who will then presents to the issuing bank for payment [documents must arrive here]. Upon arrival of goods in Canada, the buyer’s bank assess whether the documents are in compliance with the terms of the LOC.-If so, the bank will obtain a signature on the letter of credit from the Canadian importer [=signature is like acceptance of good] and transfer documents of title. This way, the buyer is reassured that the issuing bank will not pay the letter of credit unless the bill of lading is presented. The Canadian importer becomes the person primarily indebted under the instrument – no defences may be brought against this obligation.-The letter of credit is sent back to NZ, signed by the Canadian importer. The NZ exporter may endorse it and sell to its bank for cash.

Another document that may be required by buyer is a Certificate of Quality of Inspection. The buyer may send a local inspector to verify the quality of the goods. This inspector’s form/signature must also be sent to the issuing bank, as set out in the LOC.

NB: Letters of credit are not governed by law in Canada under the BEA, but Uniform Commercial Code has a provision on LOCs. Similar to certified cheques.

Discrepancy and fraud in LOCs

BNS [P/A] v Angelica Whitewear [R/D] [Year/Court]Key terms: Letters of credit; fraud; inspection form;

Proposition: Fraud as part of the exception to the autonomy principle forms part of Canadian common and civil law. If evidence is brought to the bank that make it ‘clear and obvious’ there has been fraud, the bank is relieved of its obligation to pay. Policy justification: The autonomy principle cannot be so rigorous so as to facilitate fraud.Facts:-Defendant A, is a Montreal-based company buying from an HK company called Protective Clothing-Defendant is buyer of the LOC –credit by negotiation; nominated bank is Shanghai Bank-The order is drawn on D’s bank, BNS, to pay Protective-Protective negotiated the instrument with Shanghai bank and received a discounted value.-Shanghai bank is now the ‘holder’ of the draft and takes the documents to BNS for payment – BNS pays both drafts-Buyer, Angelica, has been calling BNS to cease payment of the LOCs due to alleged fraud of certificate of inspection form, that was certified by the seller, not independent inspector

NB: Credit by negotiation means that in this situation, the draft is signed by Protective (seller)??Issue(s):-Were documents presented compliant with conditions of credit, per the UCP-Do documents comply on their face?-Is BNS liable for paying under a fraudulent document?

ReasoningMajority

For respondent Angelica Whitewear


1-Inspection certificate does NOT refer to another letter of credit-SCC rejects P’s first argument because there is not material discrepancy

2-Discrepancy in the number of garments between invoice and inspection certificate not material-SCC rejects P’s second argument-Greater number on inspection certificate which means more inspected than sold

3-IMP! Discrepancy between invoice and transport document on the issue of pre-payment up to a destination – BNS liable for making a payment in the face of this ‘clear’ error-Discrepancy renders ambiguous the point up to which prepayment stops – Montreal or Vancouver?-Even if plaintiff did not suffer any detriment due to this discrepancy, it is material enough to cease payment-Ultimately, decision turns on this discrepancy and NOT fraud, which has a high threshold that the mere evidence of a few faxes did not satisfy


6. Wire Transfers

1-Automated Funds Transfers

General overview: Two types of ATFs1-Pre-authoized debits (Debit)Example: Recurring payments2-Direct deposit (Credit)Example: Wages

DEBIT ATF: Pre-authorized debits

Definition: Pre-authorized debit is a contractual relationship between payor and payee that authorizes the payor to access the payee’s bank account. PAD = pre-authorized debit

Two forms of agreement needed for pre-authorized debit ATF

Payor’s PAD Agreement (Payor/Payee); Payee Letter of Undertaking Rule H1 CPA, s 2Rule H1 sets out the terms of the agreement. In sum, the payee (person to whom money is owed) receives a bank account number, address of branch, and amount of pre-authorized debit. Historically, this type of payment only allowed for recurring but now allowed for payments of different amounts and one-time payments

Procedure of pre-authorized debits

Step 1-Payee agreement: Payor provides its bank with a computerized file that sets out the amounts, dates, and bank account(s) from which payee has a right to retrieve funds. Pursuant to this agreement, payee undertakes its business according to CPA rulesStep 2-ACSS clearing and settlement: Payee bank introduces preauthorization instructions into the ACSS, in the same fashion as a bank would introduce all cheques deposited that day for collection. Authorized debits are cleared and settled like cheques.Step 3-Payor accounts bundled at end of day and introduced into the ACSS

Features of pre-authorized debits

1-Process: Clearing and settlement of pre-authorized debits proceed in same manner as cheques2-Returns: Payor may return electronic instruction if funds insufficient. Returned funds treated in same manner as cheques.3-IMP! No guarantee: Pre-authorized debits are not a guaranteed method of payment of ‘good funds’ model, it is a time-saver.4-Revocable: Payor may cance/revoke pre-authorization given to payee, even if the document claims that it is irrevocable5-Payee changes: Payee end changes are important and adjustments should be made to ensure payment continuity6-Drawback: Loss of ability to negotiate, circulate same form of payment (nb: Range)7- Outside the 24h timeframe, the bank may recover through one of the restitutionary remedies we’ve looked at Rule A4

Summary: Pre-authorized debits provide convenience by allowing the payor to not prepare any more


cheques and saves time on clearing because the payments do not need to be physically presented. Finally, automatic payments prevent lost cheques, admin delays and are not susceptible to forged signatures. However, the system is also fragile, as payment is not guaranteed and payor may revoke at any time. ML: No e-presentment yet, will be rolled out soon.

CREDIT ATF: Direct deposit

Procedure of direct deposits

1-Payor, payee: Employer/payor sends information of payees, ie employees to bank (bank account, branch address, amount, name)2-Through ACSS, employer/payor sends instruction to each payee’s bank, who introduces the instruction back into the ACSS3-ACSS allows bank to whom payment is owed to initiates the debit process by introducing instructions into the ACSS. A provisional credit/debit is then made.4-Right of return: The payor has the right to countermand the instruction to pay if it is given before payment is introduced back into clearing system. Settlement occurs when item is presented by payee bank account to payor bank account.

Cheques and ATFs

Comparative analysis: ATF credit and debit are mirror images. In either case, the payee has no assurance that the funds are good (ie institution may be bankrupt) and the payor may cancel each transfer, prior to settlement. When a cheque is return, the payee/holder can sue the drawer on the unpaid cheque based on the drawer’s contract under the BEA, whereas no such statutory contract exists on the part of the ATF payor. NO law in Canada speaks to e-users’ rights and obligations. NB: CPA is only for members.

Regulations

Rule H1 CPASection 1: PADS used for consumer payments, mortgages, rental, businessSection 2: Two agreements needed for pre-authorized debit (PAD payor, Payee agreement)Appendix II: Mandatory requirements for PAD agreements (authority to debit account, amount, timing)ABC Utilities form – Example of PAD agreementSection 19: Dishonored PADS – Recourses of payeeSection 23: Absence of contract, re erroneously made debits-Payor has 90 days to reclaim/revoke funds from payee on basis that there was no justification to transfer funds-Payor may also terminate authority by notifying payee and bankSection 24: Dispute settled outside of CPA rules (nb: Members only)Section 27: Payor may always cancel agreement, subject up to 30 day noticeRule F5 CPASection 7: Representment and Rejected Returned Transactions-If payment dishonored, the bank may re-present the payment within 30 daysSection 13: Credit transaction recalls-Payor has right to recall instructions UP TO time instructions are carried out and payee’s bank reintroduces instructions for processing-NB: E-payments are REVOCABLE just like cheques-NB: Provides conveniences but NOT a good funds model


Large Value Transfer System

General overview1-Players are:a-Payorb-Payeec-Sending/drawer/payor bankd-Receiving/payee bank2-Good funds model: Requests are only accepted by payor bank if there are funds in the bank.3-Only for CA dollars, real time,4-LVTS is an electronically transmitted code place into the SWIFT system5-Irrevocable, final, same-day payments – immediate settlement6-Each sending bank must provide enough security so that each payment is guaranteed and final7-Two confirmations in LVTS: Sent, Received8-Comparatively, banks are more likely to go bankrupt in the US (thru ACH), so there is a greater risk in sending wire transfers in the US than in Canada9-IMP! Purpose of LVTS is to remove systemic risk. It handles payments of over 25M10-With both Interac and LVTS, the govt realized that the product had a market amongst SMEs after design and launch11-Drawbacks: LVTS is not well advertised, generally bankers do not know the difference between wire transfersAFT – revocable, SWIFT – revocable, LVTS – not revocable12-No laws governing LVTS in Canada, except for By-Law no 7 which does not address fraud

Regulation

By-law No 7 re LVTSSection 42: No reversal of transactionSection 43: Time of payments, finalitySection 45: Again, finality of payment

Key points [from previous section] 1-Definition of payment (7)a-Payment is a transfer of value between parties (Commercial)b-Payment is an extinction of the obligation to pay; payment puts an end to contractual obligation (Legal)ML: Payments can be used for purchases of goods and services, but also for other purposes – such as?2-Timeline: Transition from paper to paperless (13)2000s-2010s: Currently in the era of consumer choice and innovation3-Volume versus value (20)Approx. 90% of transaction value is handled by one system – the Large Value Transfer System (“LVTS”). However, LVTS processes the least amount of transactions in terms of volume, whereas in the consumer sector (3/4 of number of transactions), there is a larger volume of transactions of lesser value. The Canadian payments system processes 24 billion domestic transactions and transfers $44 trillion in funds.4-Forms of payment currently used in Canada (33)ML: Focus on cheques and LVTS (prior to LVTS, closings on + $25mn were made with certified cheque)5-Participants (71 – see printouts)Issuer, Acquirer, Payment Networks, Clearers and Settlers


The Canadian Payment Association’s Mandate [from previous section]

Within mandate1-Automated Clearing Settlement System (“ACSS”) (1984)(a) Approx 24 million payment items / day (from CPA website)(b) Value and Volume: Clears 99% of daily transaction VOLUME cleared, which represents 12% of value(c) All “direct clearers” (ie member FIs) maintain settlement accounts at the Bank (website)(d) Direct clearers handle clearing and settlement for their own customers and customers that maintain accounts at other FIs (“indirect clearers”)

Scope(a) Cheques and bank drafts(b) Pre-authorized debit and direct deposits (ie “e-payment”)(c) Electronic bill payments(d) Interac(e) Debit cards Hybrid, another system involved(f) Some domestic wire transfers (ie cable)

2-IMP! Large Value Transfer System (“LVTS”) (1999)(a) A type of wire transfer that provides secure settlement and mitigates systemic risk; even if the payor becomes insolvent, the payee would still receive payment(b) Value v volume: Clears 92% of total transaction VALUE , approx. $149 bn; 24k transactions (VOLUME) per day – avg VALUE of $6.2 mn(c) Payments are irrevocable, immediate/final (settlement occurs at end of day, but funds immediately available)(d) Unique system: Achieves real-time finality, with low collateral cost.(e) For payments in excess of $25 mn-US v Canada: Legislation that governs e-transfers (US); legislation that governs members of CPA, not type of transaction

(3-Electronic Bulk Exchange of US Instruments)
