On October 17, the Clearing House Association, LLC (Association) and National Automated Clearing House Association (Nacha) joined forces to submit an amicus brief in support of a credit union held liable by a district court for a fraud perpetrated by an outside party on the sender of a wire. According to the amici, the district court wrongly held the credit union which banked the beneficiary of the wire responsible for the sender’s losses, even though it had no relationship with the sender. The case, Studco Building Systems US, LLC v. 1st Advantage Federal Credit Union, on appeal before the Fourth Circuit, challenges the district court ruling. The case deals with the liability scheme found in Article 4A of the Uniform Commercial Code (UCC). According to the amici, under the UCC the disappointed originator (the plaintiff) has recourse against the person paid (its own bank), but not against the bank that paid the beneficiary of the wire, with whom the sender has no relationship. The amici argue that “[t]he district court’s opinion muddles these rules, uncaps banks’ liability, and threatens the efficiency of all U.S. funds-transfer systems — not just the ACH networks — to the detriment of every economic participant, down to the consumer.”
The case involved the processing of a payment order allegedly induced through an email spoofing scheme. The sender of the wire was duped into causing its bank to wire funds to the fraudster, who had an account at the credit union. The sender sued the credit union asserting claims under 4A-207 of the UCC, common law bailment, and fraudulent concealment. The credit union defended on grounds of UCC preemption and advanced other arguments, but in January 2023, following a bench trial, the district court found that the defendant did not maintain reasonable routines for communicating significant information to the person conducting the transaction. The court further found that if the defendant had implemented reasonable routines for communicating information it would have been alerted to the possible fraud upon the posting of the first ACH transfer. The court thus awarded the plaintiff $558,868.71 in compensatory damages but denied its request for punitive damages. The parties filed cross-appeals to the Fourth Circuit.
The Association, the oldest banking association in the U.S., and Nacha, which governs the ACH network, argue that the Fourth Circuit should overturn the district court’s decision for three reasons: (1) it flouts Article 4A’s liability regime, (2) under Article 4A, a beneficiary’s bank is only liable when it has actual knowledge that a payment order misdescribes a beneficiary, and (3) Article 4A displaces common-law obligations like bailment.
First, the amici advance a well-established privity argument, arguing Article 4A provides liability only between adjacent parties in the chain of payment orders that make up a funds transfer. Here, the district court held the defendant (the beneficiary’s bank) liable for a fraud perpetrated by an outside party on the plaintiff (the originator or sender of the wire). The amici emphasize this flouts Article 4A’s liability regime, under which the duties of a beneficiary’s bank run only to those with whom it is in privity through the receipt of a payment order. In other words, the beneficiary’s bank has no duties to the sender of a payment order, as the sender only has a relationship with its own bank.
Second, the amici argue under Article 4A, a beneficiary’s bank is potentially liable only when it has actual knowledge that a payment order misdescribes a beneficiary and that potential liability runs only to the party that sent the payment order to the beneficiary, not the originator. In other words, only when the beneficiary’s bank “knows that the name and number identify different persons” is there potential liability. “It is not enough that someone ‘should have recognized it; they actually must have perceived [it].'” However, the amici argue even though Article 4A does not require beneficiary banks to check the description of a beneficiary in a payment does not mean that banks can process funds transfers however they choose. The Bank Secrecy Act and other anti-money laundering laws ensure that banks undertake due diligence throughout the funds transfer process. The beneficiary bank is accountable to the government under those laws, not the originator.
Finally, the amici argue that Article 4A displaces common-law obligations like bailment in favor of a unitary framework that facilitates nationwide commerce. “Making funds transfers subject to common-law bailment would thus take a decisive step backwards from Article 4A’s innovation, permitting plaintiffs to go on roving searches for fact-dependent standards of care to apply to the handling of funds transfers. It is precisely because of the unique nature of funds transfers and the need for certainty regarding the rights and responsibilities of the parties to funds transfers that the drafters of Article 4A made clear that ‘resort to principles of law or equity outside of Article 4A is not appropriate to create rights, duties and liabilities inconsistent with those stated in this Article.'”
Troutman Pepper will continue to monitor and provide updates on this case and others impacting payment obligations.