1
Chapter 28
Banking in the Digital Age
INTRODUCTION
Article 3 and Article 4 of the Uniform Commercial Code (UCC) govern checks. The extent to which any party
is either charged with or discharged from liability on a check is established according to the provisions of Article 3.
Article 4 is a statement of the principles and rules of modern bank deposit–and-collection procedures. It governs the
CHAPTER OUTLINE
I. Checks
A check is a draft drawn on a bank [UCC 3–104(f)]. If any institution other than a bank, as defined in UCC 4–
2 UNIT FIVE: NEGOTIABLE INSTRUMENTS
A. CASHIER’S CHECKS
A cashier’s check is a check drawn by a bank on itself; negotiable on issue [UCC 3–104(g)]. A teller’s
ADDITIONAL CASES ADDRESSING THIS ISSUE —
Cashier’s Checks
Cases in which cashier’s checks or other bank checks were at the center of the dispute include the
following.
• Murphy v. National City Bank, 560 F.3d 530 (6th Cir. 2009): (a bank’s refusal to cash its teller’s check for
a payee who was not an accountholder without charging a fee did not violate the bank’s obligation under the
UCC to pay a dishonored draft—the check was not dishonored because the payee never presented it to the
drawee bank for payment).
newly-opened account against a provisional credit that was reversed, leaving no funds with which to pay the
check the purchaser wrote).
B. TRAVELER’S CHECKS
A traveler’s check is a check on which a financial institution is both drawer and drawee. The buyer must
sign it twice (buying it and using it) [UCC 3–104(i)].
C. CERTIFIED CHECKS
A certified check is a check accepted by the bank on which it is drawn [UCC 3–409(d)]. When a bank
II. The Bank-Customer Relationship
A. CREDITOR-DEBTOR RELATIONSHIP
A creditor-debtor relationship is created between a customer and a bank when, for instance, the customer
B. AGENCY RELATIONSHIP
A principal-agent relationship underlies the check collection process.
C. CONTRACTUAL RELATIONSHIP
The rights and duties of a bank and its customer are contractual and depend on the nature of the
transaction.
CHAPTER 28: BANKING IN THE DIGITAL AGE 3
CASE SYNOPSIS—
Case 28.1: Royal Arcanum Hospital Association of Kings County, Inc. v. Herrnkind
The board of the Royal Arcanum Hospital Association of Kings County, Inc. passed a resolution to require
that all corporate checks be signed by two of three officers—Frank Vassallo, Joseph Rugilio, and William
Herrnkind. The three were also named as signatories on the firm’s account with Capital One Bank, but the
terms of the account did not include the two-signature requirement. After Vassallo and Rugilio died, Herrnkind
……………………….……………………..……………………….…………………………….…………………………
Notes and Questions
Did Royal Arcanum meet the requirements for ratification with respect to Herrnkind’s apparent
III. The Bank’s Duty to Honor Checks
When a drawee bank wrongfully fails to honor a check, it is liable to its customer for damages resulting from
the refusal [UCC 4–402]. But the bank’s duty is not absolute—if the bank properly dishonors a check for
insufficient funds, it has no liability to the customer.
A. OVERDRAFTS
A bank may dishonor a check that, if it were cashed, would create an overdraft in the customer’s
account, or the bank may charge the customer’s account for the amount of the check (providing that the
4 UNIT FIVE: NEGOTIABLE INSTRUMENTS
CASE SYNOPSIS—
Case 28.2: Legg v. West Bank
Darla and Jason Legg had a joint checking account with West Bank. Without notifying customers, the
bank changed its posting sequence of bankcard transactions from low-to-high to high–to-low. Subsequently,
the Leggs were charged eight non-sufficient funds (NSF) fees for bankcard transactions that resulted in
overdrafts under the newly imposed high-to-low sequencing that would have been only three NSF fees if the
transactions had been posted low-to-high. The Leggs filed a suit in an Iowa state court against West Bank,
claiming that it breached its duty to act in good faith when it changed the sequencing order. The bank filed a
motion for summary judgment, which the court denied. West Bank appealed.
change in sequencing of bank card transactions, coupled with the lack of notification, violated the reasonable
…………………………..……………………….…………………………………………………………………………..
Notes and Questions
have been avoided.
What step might the bank have taken to avoid the dispute in this case? If the bank had simply
ADDITIONAL BACKGROUND—
Overdrafts
In a bank-customer relationship, the basic interaction occurs when a customer presents an instrument (a
check, for instance) to the right bank in a timely manner, so that the instrument can be paid and all parties’
accounts can be adjusted appropriately.
more than one person can draw, however, the bank cannot hold a joint-account customer liable for payment
Payment of an instrument creating an overdraft has caused some controversy. Unrevised Article 4 is not
CHAPTER 28: BANKING IN THE DIGITAL AGE 5
B. POSTDATED CHECKS
If a bank charges a postdated check against a customer’s account, despite the customer’s timely notice
to the bank of the postdating, the bank may be liable for any damages to the customer as a result [UCC
4–401(c)].
C. STALE CHECKS
A bank is not obligated to pay an uncertified check presented more than six months from its date, but it
has that option [UCC 4–404].
D. STOP-PAYMENT ORDERS
• Only a customer can order his or her bank to pay a check, and only a customer can order payment
stopped, although there are time limits [UCC 4–403(a)].
1. Reasonable Time and Manner
The customer must issue the stop-payment order within a reasonable time and in a reasonable
2. Bank’s Liability for Wrongful Payment
ENHANCING YOUR LECTURE—
HOW TO USE STOP-PAYMENT ORDERS
For a variety of reasons, a drawer should not misuse stop-payment orders. We look at some of those
reasons here.
MONETARY COSTS AND RISKS
One reason is monetary: banks usually charge between $15 and $25 for a stop-payment order, so
stopping payment is not cost-effective for a check written for a small amount. Another reason is the risk
attached to the issuing of a stop-payment order for any drawer-customer. The bank is entitled to take a
6 UNIT FIVE: NEGOTIABLE INSTRUMENTS
drawer suffers from the improper payment.
CHAPTER 28: BANKING IN THE DIGITAL AGE 7
WHEN YOU CAN STOP PAYMENT
Remember that, to avoid liability, a drawer must have a legal reason for issuing a stop-payment order.
You cannot stop payment on a check simply because you have had a change of heart about the wisdom of
your purchase. Generally, you can safely stop payment if you clearly did not get what you paid for or were
fraudulently induced to make a purchase. You can also stop payment if a “cooling–off” law governs the
CHECKLIST FOR STOP-PAYMENT ORDERS
1. Compare the stop-payment fee with the disputed sum to make sure it is worthwhile to issue a stop–
payment order.
E. INCOMPETENCE OR DEATH OF A CUSTOMER
If, when a check is issued or its collection has been undertaken, a bank does not know of an adjudication
of incompetence, it can pay the check without liability. Once a bank knows of a death, for ten days after
F. FORGED DRAWERS’ SIGNATURES
1. The General Rule
• A forged signature on a check has no legal effect as the signature of a drawer [UCC 3–
403(a)]. If the bank pays on a forged signature, it must recredit the customer’s account unless
the customer’s negligence substantially contributes to the forgery [UCC 3–406(a).
2. Customer Negligence
The customer’s liability may be reduced by any loss caused by negligence on the part of a person
paying the instrument or taking it for value (if the negligence substantially contributed to the loss)
[UCC 3-406(b)].
a. Timely Examination of Bank Statements Required
A customer must examine monthly statements and canceled checks and report any forged
8 UNIT FIVE: NEGOTIABLE INSTRUMENTS
b. Consequences of Failure to Detect Forgeries
To recover for a series of forgeries of the same signature by the same wrongdoer, a customer
c. Negligence and the Bank’s Duty of Care
If the bank is also negligent, the bank is also liable on a comparative negligence basis [UCC
4–406(e)]. It is not negligence to fail to examine every signature on every check [UCC 3–
103(a)(7)].
d. One-Year Time Limit
A customer who fails to report his or her forged signature within a year of the date that the
3. Other Parties from Whom the Bank May Recover
• The bank may recover from the forger—a forged signature is effective as the signature of the
unauthorized signer [UCC 3–403(a)].
• The bank may also recover from “the person to whom or for whose benefit payment was
made” [UCC 4–207(a)(2), 3–418(a)(ii)].
G. CHECKS BEARING FORGED INDORSEMENTS
A bank that pays a customer’s check bearing a forged indorsement must recredit the customer’s account
ADDITIONAL CASES ADDRESSING THIS ISSUE—
Bank’s Duty to Honor Checks
Cases involving the bank’s duty to honor checks include the following.
• Afiriyie v. Bank of America, N.A., __ N.J.Super. __, __ A.3d __, 2013 WL 451895 (2013) (bank was liable
for wrongful dishonor when it erroneously caused plaintiff to be arrested for attempting to pass a fraudulent
check)
CHAPTER 28: BANKING IN THE DIGITAL AGE 9
H. ALTERED CHECKS
If the bank pays an altered check, it is liable to its customer for the difference between the check’s
original amount and the amount paid [UCC 4–401(d)(1)].
1. Customer Negligence
A customer’s negligence can shift the loss (unless the bank was also negligent) [UCC 4–401(d)(2),
4–406].
2. Other Parties from Whom the Bank May Recover
IV. The Bank’s Duty to Accept Deposits
A. AVAILABILITY SCHEDULE FOR DEPOSITED CHECKS
Under the Check Clearing in the 21st Century Act, a bank must credit a customer’s account as soon as
the bank receives the funds. Under the Expedited Fund Availability Act of 1987 and Regulation CC—
• Any local check must be cleared within one business day from the date of deposit.
• Nonlocal checks must be cleared within five business days.
CASE SYNOPSIS—
Case 28.3: Shahin v. Delaware Federal Credit Union
Nina Shahin deposited a check in the amount of $2,500 into her checking account at the Delaware
Federal Credit Union (DelOne). DelOne placed a two-business day “local hold” on the check pending
verification. Concerned that the drawer’s signature did not match the handwriting on the rest of the check, the
bank placed it on a fifteen-day “non–verified” hold. Meanwhile, a payment from Shahin’s checking account to
Bank of America was denied for insufficient funds (NSF), and DelOne transferred funds from her savings
The U.S Court of Appeals for the Third Circuit affirmed the judgment but denied Shahin’s appeal for
further damages.
……………………….……………………..……………………….…………………………….…………………………
10 UNIT FIVE: NEGOTIABLE INSTRUMENTS
Notes and Questions
Could Shahin have successfully asserted a claim against DelOne for breach of fiduciary duty,
based on the transfer of funds between her accounts without her knowledge or consent? No. The
bank/customer relationship is one of creditor to debtor, which does not give rise to a fiduciary relationship.
ADDITIONAL BACKGROUND—
Availability Schedule for Deposited Checks
The following is part of Regulation DD (12 C.F.R. Part 230), which sets out the methods for the payment
of interest on the balances in bank accounts.
CODE OF FEDERAL REGULATIONS
TITLE 12—BANKS AND BANKING
CHAPTER II—FEDERAL RESERVE SYSTEM
SUBCHAPTER A—BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM
PART 230—TRUTH IN SAVINGS (REGULATION DD)
§ 230.7 Payment of interest.
(a) Permissible methods—1) Balance on which interest is calculated. Institutions shall calculate interest on
the full amount of principal in an account for each day by use of either the daily balance method or the
average daily balance method. [FN1]
interest at any particular frequency.
implementing Regulation CC (12 CFR part 229). Interest shall accrue until the day funds are withdrawn.
(2) Determination of minimum balance to earn interest. An institution shall use the same method to determine
any minimum balance required to earn interest as it uses to determine the balance on which interest is
calculated. An institution may use an additional method that is unequivocally beneficial to the consumer.
PART 230—TRUTH IN SAVINGS (REGULATION DD)
Source: 57 FR 43376, Sept. 21, 1992, unless otherwise noted.
CHAPTER 28: BANKING IN THE DIGITAL AGE 11
ENHANCING YOUR LECTURE—
EXPEDITED FUNDS AND CHECK FRAUD
Since the Expedited Funds Availability Act (EFAA) was enacted, millions of people have fallen prey to
various types of check fraud. In a common scam, the fraudsters contact an individual—usually via e-mail—
and say that they will send that person a check for a certain amount if he or she agrees to wire some of the
funds back to them, typically to cover “fees and taxes.” The victim receives a check and deposits it in his or
her account. A day or so later, when the law says the funds must be made available, the victim confirms that
the funds are in his or her bank account, and wires the requested amount back to the fraudsters.
CRITICAL THINKING
Why would banks say that they, too, are worse off because of the EFAA? The longer that banks can
B. INTEREST-BEARING ACCOUNTS
Banks must pay interest on the full balance of a customer’s interest-bearing account each day. The
Truth-in-Savings Act of 1991 and Regulation DD require that new customers be given certain
information, including—
• The minimum balance required to open an account and to be paid interest.
C. THE TRADITIONAL COLLECTION PROCESS
Check collection rules discussed in the text include the following.
1. Designation of Banks
12 UNIT FIVE: NEGOTIABLE INSTRUMENTS
These include depositary bank, collecting bank, payor bank, and intermediary bank. Any bank can
be a depositary bank, a collecting bank, a payor bank, and an intermediary bank at the same time.