978-1285427003 Chapter 22 Lecture Note Part 3

subject Type Homework Help
subject Pages 8
subject Words 3578
subject Authors Jeffrey F. Beatty, Susan S. Samuelson

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Additional Case: Wachovia Bank v. Foster Bancshares1
Facts: MediaEdge wrote a check for $133,026 on its account at Wachovia, payable to CMP Media.
Before CMP received the check, someone changed the name of the payee to Sunjin Choi Choi, and
deposited the altered check into Choi’s account at Foster Bancshares. Foster presented the check for
payment to Wachovia; Wachovia paid Foster from MediaEdge’s account. When MediaEdge learned that
CMP never received the check is sued Wachovia for reimbursement. Wachovia then sued Foster.
Issues: Who is liable for paying the stolen check: Wachovia or Foster?
Holding: Foster is liable for paying the stolen check. The check was altered, meaning an unauthorized
change in the check that purports to modify one party’s obligation. The specific warranty made by
Foster when it presented the check to Wachovia for payment was that the check had not been altered.
Because the check had in fact been altered when Foster presented it to Wachovia for payment, Foster
breached its presentment warranty.
General Questions
If students were asked to bring in checks, this would be the appropriate time to look at them. How
much space is usually left on the lines?
Question: Would it be easy or difficult to change the name of the payee on a check? Look
specifically at this case, changing the payee from CMP Media to Sunjin Choi Choi.
Answer: It would probably depend on the name on the line and how much space there was in
between the letters. Although we do not see the actual check in this case, it seems difficult to alter
the names of the payees without being obvious.
Question: If that is the case, why did Foster accept the check?
Answer: Probably because it did not pay close attention to the payee line.
Question: What have students learned about how to write checks?
Example
Frances-Rose Straith received a promotional check in the mail that looked like one of those from a
sweepstakes company. The check was made out to her from the “Office of the Treasurer” in the amount
of $95,093.35. She promptly deposited it. The check said, “Non-negotiable for cash,” but the young
teller who took the check thought that phrase meant Straith could only deposit the check, not cash it.
Before the bank discovered its error, Straith wrote checks to cover the purchase prices of both a car
and a pickup truck. She claims she had no idea the check she deposited was invalid, that she thought it
was either a tax refund or a payment from her father’s estate. Furthermore, she feels that the bank owes
her the money because it cashed the check. Bank officials, on the other hand, feel she has committed
fraud.2
Question: Did Straith violate her presentment warranties when she deposited the check for
$95,093.35?
Answer: Anyone who presents a check for payment warrants that she is a holder, the check has not
Question: Is Straith a holder?
Question: Is the check a negotiable instrument?
Answer: To be negotiable, an instrument must (1) be in writing, (2) be signed by the maker or
1 2005 U.S. Dist. LEXIS 16356, United States District Court for the Northern District of Illinois, 2005.
2 T. L. Henion, “Fake Check for $95,093 Fools Recipient, Bank,” Omaha World-Herald, June 13, 1995, p. 1.
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said “Non-negotiable for cash,” which means that it did not contain an unconditional promise or
order to pay. Therefore, it was not negotiable.
Question: Was the check validly negotiated?
Question: So—has Straith violated her presentment warranties?
Question: What is the impact of violating her presentment warranties?
Other Liability Rules
Conversion Liability
Conversion means that (1) someone has stolen an instrument or (2) a bank has paid a check that has a
forged indorsement. The rightful owner of the instrument can recover from either the thief or the bank.
Impostor Rule
If someone issues an instrument to an impostor, then any indorsement in the name of the payee is valid
as long as the person (a bank, say) who pays the instrument does not know of the fraud.
Example
A stranger knocked on Sam Crisp’s door one day to warn him that his lightning rod needed repair.
Crisp, who was in his late 70s, agreed to $12.50 worth of repairs. Hindered by poor eyesight and
arthritis, Crisp allowed the stranger to fill out a check in that amount. He did note, however, that the
payee space was blank and there was a lot of open space preceding the number $12.50. The stranger
promised to fill in the blanks, which he did, with the number $6212.50. When the stranger presented
the check for payment at Crisp’s bank, he used as an ID a Kentucky driver’s license with a black and
white photo and a business address. Valid licenses have color photos and the driver’s home address.
Meanwhile, elderly Mr. Crisp became suspicious and tried to call the bank, only to discover his phone
line had been cut.3
Under the impostor rule, if someone issues an instrument to an impostor, the bank is not liable
unless it knew of the fraud. However, if both the bank and the issuer of the instrument are negligent,
they share the loss according to their negligence.
Question: Who is negligent in this case?
Answer: The bank: The check showed no sign of having been altered, but the check was large and
payable to a stranger, and the Kentucky driver’s license the con artist used as an ID was clearly
Question: Who lost?
Fictitious Payee Rule
3 Sy Ramsey, “The Associated Press File,” Associated Press, Aug. 31, 1979.
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If someone issues an instrument to a person who does not exist, then any indorsement in the name
of the payee is valid as long as the person (a bank, say) who pays the instrument does not
know of the fraud.
Employee Indorsement Rule:
If an employee with responsibility for issuing instruments forges a check or other instrument, then
any indorsement in the name of the payee, or a similar name, is valid as long as the person
(a bank, say) who pays the instrument does not know of the fraud.
Example
Mary Anne Nichols, a low-level clerk, embezzled almost $500,000 from the Student Services Division
of the University of California at Santa Cruz. She wrote 202 checks to imaginary speakers for
conducting non-existent workshops and then forged indorsements before depositing the checks in her
own bank account. A teller at her bank finally noticed that the clerk had deposited eight university
checks in a 10-day period. The Student Services Division had never been audited and had no budget or
accounting oversight.4
Question: The embezzler is a “low-level” clerk. Did she have responsibility for issuing checks?
What difference does it make whether or not she had responsibility?
Question: Did Nichols commit single or double forgeries?
Question: Does it matter if the bank was negligent?
Question: Was the bank negligent?
Question: Was the university negligent?
Answer: Yes. The Student Services Division had no budget or accounting oversight and had never
Question: What could Santa Cruz have done to prevent this large loss?
Answer: It is difficult to prevent an employee from being dishonest, but this scheme went on for a
Negligence
Anyone who behaves negligently in creating or paying an unauthorized instrument is liable to an
innocent third party.
Additional Case/You Be the Judge: Gulf States Section, PGA, Inc. v.
Whitney National Bank of New Orleans5
Facts: Adrenetti Collins was a secretary who worked in the PGA office. During a four-month period,
she forged 18 PGA checks totaling $22,699.81. To avoid detection, she intercepted two of the bank
4 Maria Alicia Gaura, “UC Santa Cruz Embezzler Gets 5 Years; Maximum Sentence Imposed on College Clerk,”
San Francisco Chronicle, March 29, 1994, p. A20.
5 689 So. 2d 638, 1997 La. App. LEXIS 167 Court of Appeal of Louisiana, Fourth Circuit, 1997.
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statements sent by Whitney National Bank and replaced them with forged statements that left out the
numbers of the checks she had stolen. The usual Whitney statement was printed on vanilla-colored
paper measuring a non-standard 6 ¾ 11 inches. The forged statements were on standard 8½ 11 inch
white paper. They were not dated but they did contain the Whitney logo. Collins’s boss, Robert Brown,
received two forged statements and then no statements at all for two months.
Whitney’s policy was to verify signatures on checks equal to or greater than $5,000. One of the
forged checks was in the amount of $5,000, but Whitney did not verify Brown’s signature before
paying it. Brown’s signature was a semi-legible letter or two and a long loop. The forged signature on
the check looked very similar to the real one.
Issue: Is Whitney liable to the PGA for the forged checks it paid?
Holding: Judgment for Whitney. The court held that Brown was negligent and that his negligence
substantially contributed to the forgeries. Furthermore, there was no evidence that Whitney had
violated reasonable commercial standards. Other Louisiana banks, for example, only verify checks for
more than $10,000 or even $20,000. Also, the forged signature was so similar to Brown’s real signature
that, even if it had been verified, the forgery would probably not have been detected.
Question: Aren’t banks liable if they pay forged checks?
Question: Was the PGA negligent in this case?
Answer: The court held that it was. The blank checks should have been locked up and Brown
Question: Wasn’t the bank negligent, too? After all, it violated its own policy by cashing a $5,000
check without verifying the signature.
Answer: There is no rule that banks must verify checks over a certain amount. Indeed, a number of
Question: Who would be liable if both the PGA and the bank were negligent?
Multiple Choice Questions
1 Which of the following statements are true?
(a) A draft is always a check.
(b) A check is always a draft.
(c) A note must involve at least three people.
(d) All of the above.
2 Which of the following standards is required for negotiability:
(a) The instrument must be signed by the payee.
(b) The instrument must be payable on demand.
(c) The instrument must be payable to order.
(d) None of the above.
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3 Marla is not a holder in due course if she takes an instrument:
(a) Believing that the underlying contract was honest, although it turned out to be dishonest.
(b) That is a consumer credit contract.
(c) That appeared commercially reasonable when made but turned out to be dishonest.
(d) All of the above.
4. CPA QUESTION In order to negotiate bearer paper, one must:
(a) indorse the paper
(b) indorse and deliver the paper with consideration
(c) deliver the paper
(d) deliver and indorse the paper
5. What is the difference between a co-maker and an accommodation party?
(a) A co-maker is liable both to the holder and the other co-maker, an accommodation party is
liable only to the holder
(b) A co-maker is liable to subsequent indorsers, an accommodation party is not
(c) A co-maker is liable only to the other co-maker, while the accommodation party is liable to the
holder
(d) A co-maker is not liable once a bank certifies a check, an accommodation party is still liable
even after certification.
Essay Questions
1. Duncan Properties, Inc. agrees to buy a car from Shifty for $25,000. The company issues a
promissory note in payment. The car that Duncan bought is defective. If Shifty still has the note,
does Duncan have to pay it?
2. Shifty sells that note to Honest Abe for $22,000. Does Duncan have to pay Abe?
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3. Kay signed a promissory note for $220,000 that was payable to Investments, Inc. The company
then indorsed the note over to its lawyers to pay past and future legal fees. Were the lawyers
holders in due course?
Answer: The lawyers could not be holders in due course unless they had given value for the note.
4. Shelby wrote the following check to Dana. When is it payable and for how much?
5. Railroad issued a check to Parris which, somehow, came to be in Eddy’s possession. Eddy indorsed
the check “Railroad Eddy” and deposited it in his own account at Bank. Parris sued Bank, alleging
that it was liable to him for having paid the check over an unauthorized indorsement. Is Bank liable
to Parris? On what theory?
Answer: An unauthorized indorsement is the same as a forged indorsement. The court held that the
6. Sidney entered into a contract for $35,000 with MacDonald Roofing Co., Inc., to reroof his
building. Sidney made his initial payment by writing a check for $17,500 payable to “MacDonald
Roofing Company, Inc., and Friendly Supply Company.” MacDonald took the check to Friendly
and requested an indorsement, which Friendly provided. When MacDonald failed to complete the
roofing work, Sidney filed suit for damages against Friendly. Sidney argued that Friendly was
liable as an indorser. Do you agree?
Answer: Indorsers are secondarily liable; they must pay if the issuer does not. However, they are
7. Using her company’s check-signing machine, Doris forged $150,000 of checks on the account of
her employer, Winkie, Inc. One of Doris’s jobs at the company was to prepare checks for the
company president, Willie, to sign. He did not (1) look at the sequence of check numbers; (2)
examine the monthly account statements; or (3) reconcile company records with bank statements.
Willie’s bank, as a matter of policy, did not check indorsements on checks with a face value of less
than $1,000. By accident, it paid a forged check that had not even been indorsed. Is the bank liable
to Winkie, Inc., for the forged checks?
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Answer: The court found for the bank on the grounds that the owner of the company had been
8. ETHICS When Steven was killed in an automobile accident, he left his wife, Debra a life
insurance policy for $60,000. She decided to move from Bunkie to Sulphur, Louisiana. Debra
executed a document authorizing her mother-in-law, Helen, to sign checks on Debra’s account at
the bank. Debra also signed several blank checks and gave them to Helen with instructions to use
them to pay off the remaining debt on Debra’s trailer. When Helen received the life insurance
checks, she deposited them in Debra’s account. So far so good. But then she immediately withdrew
$50,000 from the account by using one of the blank checks Debra had left her. She did not use these
funds to pay off the trailer debt. When Debra discovered the theft, she sued the bank for having
paid an unauthorized check. How would you rule in this case? Debra has suffered a grievous loss—
her husband died tragically in an automobile accident. She trusted her mother-in-law and counted
on her help. Should the bank show compassion? If the bank made good on the forged checks, how
great would be the injury to the bank’s shareholders compared with the harm to Debra if she loses
this entire sum?
Answer: The court held that Debra had been negligent in leaving blank checks with her
Discussion Questions
1. In the Buckeye case, the court ruled that Buckeye was not a holder in due course and the check was
not valid because Buckeye should have checked with Sheth’s bank before buying the check. Would
this remedy have worked? What could Buckeye have done to protect itself?
Answer: Buckeye bought the check on October 13. At that point, Sheth had not stopped payment.
Even if Buckeye had called Sheth’s bank, it would still not have known about the stop payment
2. In the Antuna case, the Antunas were foolish to sign an agreement with an unlicensed contractor to
install aluminum siding. There is no evidence that TMS was acting in bad faith. Why should it
suffer for the Antunas’ mistake? What could TMS have done to protect itself?
3. Recall the Quimby case. This type of fraud is increasingly common. What could Quimby have done
to protect himself?
Answer: When dealing with strangers, only accept cashier’s checks. In this case, Quimby obtained
a cashier’s check himself, but by then it was too late because the check Quimby had used to pay for
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4. Catherine suffered serious physical injuries in an automobile accident and became acutely
depressed as a result. One morning, she received a check for $17,400 in settlement of her claims
arising out of the accident. She indorsed the check and placed it on the kitchen table. She then
called Robert, her long-time roommate, to tell him the check had arrived. That afternoon, she
jumped from the roof of her apartment building, killing herself. The police found the check and a
note from her, stating that she was giving it to Robert. Had Catherine negotiated the check to
Robert?
Answer: The court held that Catherine had negotiated the check to Robert. By indorsing the check
5. Banks are liable for forged checks except in the case of the three rules (Imposter Rule, Fictitious
Payee Rule, and the Employee Indorsement Rule). Do you think this is the proper allocation of
liability? Why should banks be liable for forged checks, in this era of automated check machines?
Alternatively, could you argue that the three rules provide too much protection to banks?

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