In a recent malware case arising from a large fraudulent wire transfer, the Eighth Circuit Court of Appeals upheld the district court’s grant of summary judgment to the bank. Choice Escrow and Land Title, LLC v. BankcorpSouth Bank, 2014 U.S. App. LEXIS 10817 (8th Cir. June 11, 2014).
The bank received a $440,000 wire request purportedly from the customer, an escrow company, for transfer to a beneficiary’s account in the Republic of Cyprus. The request, received over the Internet using the customer’s login and password, was authenticated via a secure ID token downloaded on the customer’s computer to show it had been initiated from its registered IP address. The customer, a common malware target as an escrow company, had been attacked and its purported request was unauthorized.
Significantly, in establishing online banking services, the customer had declined the use of “Dual Control,” as offered by the bank, requiring two users using separate logins and passwords to process wire transfers, as well as daily limits on wire transfer activity. Subsequently, the customer inquired whether foreign wire transfers could be blocked to avoid fraudulent wires. The bank advised that it was unable to stop just foreign wires, recommending again dual control which the customer still declined.
On appeal as in the district court, the customer argued that the security procedures offered were not commercially reasonable because none involved transactional analysis whereby wire transfers are subject to individual fraud review. The Eighth Circuit disagreed, affirming thatit would be impracticable for the bank to review every outgoing wire and that there was no genuine question of fact whether the bank was required to use transactional analysis as a matter of reasonable commercial procedures. The Eighth Circuit concluded that the security procedures offered were commercially reasonable for that customer, observing:
[T]his appears to be a case where “an informed customer refuses a security procedure that is commercially reasonable and suitable for that customer and insists on using a higher-risk procedure because it is more convenient or cheaper[,]” in which case “the customer has voluntarily assumed the risk of failure of the procedure and cannot shift the loss to the bank.”
Id. at *26-27 (quoting UCC § 4A-203 cmt. 4).
Turning to whether the bank had proved it accepted the payment order in good faith under UCC § 4A-202(b), the Eighth Circuit described the good faith test as follows:
[W]hile there may be some evidentiary overlap between the commercial reasonableness of a bank’s security procedures and its compliance with reasonable commercial standards of fair dealing, we do not believe that the two inquiries are coextensive. While the commercial reasonableness inquiry concerns the adequacy of a bank’s security procedures, the objective good faith inquiry concerns a bank’s acceptance of payment orders in accordance with those security procedures. In other words, technical compliance with a security procedure is not enough under Article 4A; instead . . . the bank must abide by its procedures in a way that reflects the parties’ reasonable expectations as to how those procedures will operate.
[T]he focus of our good faith inquiry is on the aspects of wire transfer that are left to the bank’s discretion. . . .Where, as here, a bank’s security procedures do not depend on the judgment or discretion of its employees, the scope of the good-faith inquiry under Article 4A is correspondingly narrow. . . . [T]o establish that it acted in good faith, [the bank] must establish that its employees accepted and executed the . . . payment order in a way that comported with [the customer’s] reasonable expectations, as established by reasonable commercial standards of fair dealing.
Id. at *29-31. The court concluded that the bank met its burden because: (1) the customer was aware that the only time the bank’s employees saw the payment order was after the wire had cleared its security procedures, (2) the customer was also aware that the employees’ role was to route payment orders, not to check for irregularities, (3) the “payment order was not so unusual that it should have raised eyebrows,” as the amount was not unusual for the customer, and (4) the bank was under no obligation to review the memo line of the payment order. Id. at *32-33. The Eighth Circuit contrasted this case with Experi-Metal, Inc. v. Comerica Bank, 2011 U.S. Dist. LEXIS 62677 (E.D. Mich. June 13, 2011), where the district court found a lack of good faith by the bank in allowing, inter alia, $5 million in overdrafts from an account that had a zero balance.
Finally, the Eighth Circuit addressed the bank’s counterclaim for attorney’s fees based on an indemnification provision in the customer agreement. The district court had found that the indemnification provision conflicted with Article 4A, and dismissed the counterclaim. The Eighth Circuit reversed:
[The bank’s] counterclaim seeks attorney’s fees, not damages stemming from the fraudulent payment order, and Article 4A contains no provision allocating attorney’s fees between the bank and its customer in the event of litigation. Although awarding attorney’s fees to a bank under an indemnification agreement might reduce a customer’s overall recovery against that bank, it would do so for reasons extrinsic to Article 4A’s attempts to balance the risk of loss due to a fraudulent payment order. We thus conclude that the portion of the indemnification provision relating to attorney’s fees is not inconsistent with Article 4A and that [the bank] may seek attorney’s fees from [the customer] under this provision.
Id. at *38-39. Plainly, a bank’s ability to obtain attorney’s fees upon prevailing in customer claims under Article 4A may become a significant factor in the resolution of such claims.
Choice Escrow represents another decision illustrating the importance of bank customer agreements in allocating losses for unauthorized electronic funds transfers. See Salvatore Scanio and Robert W. Ludwig, Surging, Swift and Liable? Cybercrime and Electronic Payments Fraud Involving Commercial Bank: Who Bears the Loss?, 16 J. of Internet L. 3 (April 2013).
For further information, contact Salvatore Scanio at sscanio@ludwigrobinson.com or 202-289-7605, or Robert Ludwig at rludwig@ludwigrobinson.com or 202-289-7603.