Povitz-Banking Law-Lemieux-Fall 2013

Payments and the Payment Industry in Canada........................................................................3A) The Evolution of Payments: Historical and Emerging Payment Methods ................................... 3 B) The payment ecosystem: users and providers of forms of payment ............................................. 4

Task Force on Payment Reform: “Canadian Payments Landscape”....................................................................4Task Force on Payment Reform: “Users and their discontent”.............................................................................5

The Regulatory Framework For The Payment Industry in Canada.....................................8A) Payment Clearing and Settlement Act ..................................................................................................... 8

Circumstances that gave rise to the adoption of the PCSA (preamble)....................................................8Definitions (S. 2: “clearing and settlement system”, “clearing house” and “systemic risk”)............8Designation of clearing and settlement systems posing a systemic risk (Ss. 4) and systems designated to date............................................................................................................................................................ 9Consequences of designation (Ss. 5 – 11) (not covered in class)..............................................................10

B) Canadian Payments Act ............................................................................................................................. 10 Establishment, members and objects of the CPA (Ss. 3 – 5).......................................................................10

ACSS Overview.........................................................................................................................................................................11LVTS Overview.........................................................................................................................................................................12

By-laws (S. 18.1).............................................................................................................................................................13Rules (S. 19)......................................................................................................................................................................13

Tele-Cheque policy statement...........................................................................................................................................13Stakeholder Advisory Councel (S.21.2)................................................................................................................14Priority payment instruments issued by insolvent members (S. 31).....................................................14

Collings v. City of Calgary-SCC-1917.....................................................................................................................15Designated payment systems (Ss. 37 – 41)........................................................................................................15Policy Paper B: Stakeholders and their Disconnect document..................................................................16

C) Competition Act ............................................................................................................................................. 16 Lemieux discussion of Task Force on Payment Reform: “Credit and Debit Card Markets”..........16Competition Tribunal 2013 Variation of 1996 Interac order – Not-for-Profit Status.....................17

Task Force on Payment Reform: “Credit and Debit Card Markets”..................................................................18D) Payment Card Network Act and related Code of Conduct for the Credit and Debit Card Industry in Canada ........................................................................................................................................... 31

Purpose S. 2 PCNA..........................................................................................................................................................32Definitions S.3 PCNA.....................................................................................................................................................32Application S.4.................................................................................................................................................................32Supervision S. 5-Financial Consumer Agency of Canada..............................................................................32Regulations- S. 6 PCNA-Regulations......................................................................................................................32A “voluntary” Code of Conduct for the Credit and Debit Card Industry in Canada ...........................33Purpose of the Code...................................................................................................................................................... 33Scope of the Code........................................................................................................................................................... 33Policy Elements of the Code s.1-10 :......................................................................................................................33Competition Tribunal 2013 order- Visa and MasterCard “No Surcharge Rule”.................................34

E) The Future of the regulatory framework ............................................................................................. 35 Finance Canada Payments Consultative Committee......................................................................................35

Bank Accounts And The Banker-Customer Contract.............................................................35A) Legal nature of bank deposits (credit, debit and prepaid payment accounts) ....................... 35 B) Obligations forming Part of the Contract ............................................................................................ 35

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A) Implicit Obligations: 3 fundamental features between bank and customer when customer makes a deposit...............................................................................................................................................................35

1. To repay the deposits to the customer or to the customer’s order-“Fund Payments”....................35(1557 CCQ, 167 BEA, BIA 78)...................................................................................................................................35

Bank of Montreal v, AG Quebec (1979)-SCC...............................................................................................................372. To collect instruments deposited to an account-“Turn cheques into Credit”....................................38(Rule A4, 458.2 Bank Act, Access to Funds Regulation).................................................................................38

Re Collections Inc. v. TD Bank (2010)-Ontario Superior Court..........................................................................403. To Keep bank account information confidential.........................................................................................41

B) Obligations expressed in standard form contracts...................................................................................42Agreements respecting the operation of accounts: Customer’s duty to verify accounts and give notice of irregularities, and implement control procedures to prevent internal fraud.....................42(1474 CCQ, 10 CPA).....................................................................................................................................................42

BMO Business Account Agreement and other Account forms............................................................................42Arrow Transfer Co. v. Royal Bank of Canada (1972)-SCC.....................................................................................45Canadian Pacific Hotels v. Bank of Montreal (1987)-SCC.....................................................................................46Banking/Online Banking.................................................................................................................................................47(UCC 4a 201-204).................................................................................................................................................................47Patco Construction Co v People’s United Bank(2012)-US Appeal.....................................................................49Larose v. National Bank of Canada..................................................................................................................................52

C) Money Laundering and Terrorist Financing Regulation in Connection with Bank Accounts 53(PCMLTFA 5-8)................................................................................................................................................................53

Tayeb v. HSBC Bank (2004)-UK........................................................................................................................................55B-Filer v. Toronto-Dominion Bank (2008)-ABQB....................................................................................................57

D) Extra-contractual Liability to Third Parties for Operations in Account...........................................58a) Misdealing in account (payment function)...................................................................................................59

124329 Canada inc. v. National Bank (Jackson Case) (2011)-QCCA................................................................59Dynasty Furniture Manufacturing v. TD Bank (2010)-ONSC..............................................................................60

b) Conversion of instruments (collection function).........................................................................................61Boma Manufacturing v. CIBC (1996)-SCC...................................................................................................................62Banque Canadienne Nationale v. Gingras (1977)-SCC...........................................................................................63

Cheques, Bills, and Notes (The Bills of Exchange Act).............................................................63Formal Requirements/Definitions .............................................................................................................. 64

Section 16 Bills Defined...............................................................................................................................................64Section 176 Promissory note....................................................................................................................................65Section 165 Cheque.......................................................................................................................................................65

Holders .................................................................................................................................................................. 67 Section 2 Holder..............................................................................................................................................................67Section 55 Holder in due course..............................................................................................................................67Section 73 Rights and powers of holder..............................................................................................................67

The Requirement of Delivery ......................................................................................................................... 68 Section 38 When acceptance complete................................................................................................................68Section 39 Requisites................................................................................................................................................... 69Section 84 Necessity for Presentment..................................................................................................................69Section 86 By and to Whom.......................................................................................................................................69Section 129 Drawer’s Contract................................................................................................................................70Section 94 Dishonour by non-payment................................................................................................................70

Negotiation/Endorsement ............................................................................................................................. 70 Section 20 Transfer words (bearer/blank)........................................................................................................70Section 59 Negotiation by transfer.........................................................................................................................71Section 61 Endorser......................................................................................................................................................72Section 62 Signature sufficient.................................................................................................................................72

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Section 66 Endorsement.............................................................................................................................................72Section 67 Restrictive Endorsement.....................................................................................................................72Section 132 Endorser’s Contract.............................................................................................................................73

Certified Cheques “Acceptor’s Contract” .................................................................................................... 74 Section 34 Acceptor’s Contract................................................................................................................................74Section 126 Equitable Assignment.........................................................................................................................74Section 127 Engagement by acceptance..............................................................................................................74Section 128 Estoppel....................................................................................................................................................75

A.E. Lepage lnvestments Ltd. v Rattray Publications Ltd., (1994)-ONCA.......................................................75General Contractual Requirements-Forged Endorsements ................................................................ 76

Section 48 Forgery and Forged Endorsement...................................................................................................76B.M.P. Global Distribution lnc. v Bank of Nova Scotia (2009)-SCC....................................................................78

Section 49 Recovery of amount paid on forged endorsements.................................................................79Rule A4 (Reintroducing).............................................................................................................................................80Rule A3................................................................................................................................................................................ 80

Letters of Credit.................................................................................................................................. 80How Letters of Credit Work ............................................................................................................................ 81

Components of an actual Letter of Credit............................................................................................................83The Principle of Autonomy (Letter of Credit is independent of transaction) ................................ 83 The Requirements of Strict Document Compliance ............................................................................... 84 The Exception of Fraud .................................................................................................................................... 86

Angelica Whitewear v. Bank of Nova Scotia (1987)-SCC.......................................................................................87

Wire Transfers.................................................................................................................................... 89Pre-authorized debits (PADs) and Automated fund transfers (AFTs) under ACSS ..................... 89

(1) Pre-authorized debits (PAD) Debit:................................................................................................................89Rule H1 Canadian Payments Association-Pre Authorized Debits (PAD).................................................90

(2) Automated fund Transfers (AFT) Credit:.....................................................................................................90Rule F5 Canadian Payments Association-Automated Fund Transfers (AFT).........................................91

Large Value Transfer System (LVTS) .......................................................................................................... 91 Canadian Payments Association By-law No. 7 Respecting the Large Value Transfer System..........92

Payments and the Payment Industry in Canada

A) The Evolution of Payments: Historical and Emerging Payment Methods

Forms of Payments1867

Currency, Precious Metals, Bartering, Cheque, Bills of Exchange 9think of them as cheques) Letters of credit

1900 Wire Transfers: Agreements among 2 banks in the form of telegraph for clients based on prior

agreement between the banks1933

Currency-Bank of Canada: All currency before 1933 were issued by private banks. Ex) Molson bank

Bills of Exchange: can be used over time (deferred payments). Example, by way of monthly installments.

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o A Factor (person) will give you immediate cash for (postdated) promissory notes.1950

Credit Cards-Diners Club: First use was to facilitate meals at restaurantso Fraud ensued. So the magnetic strip was created, that safety didn’t last long. Now we

have the chip which is very secure. What is not secure is the machine. Swift: World wide telegraph system. Banks are issued keys which makes it secure. Functions in

the same way as the 1900 wire transfer, it’s just safer. 1960

Pre-authorized debit: Any pre-authorized payment. Authorization to electronically pull money from your account. Example: Car payments.

1980 Debit Cards (Interac): Initially only to pull money out of your account from your own bank.

Interact changed this and allowed you to pull out money from other banks. Only starting becoming available for point of sale in 90’s.

2000 Internet: Online marketplace. Paypal: Secure the use of your credit card online. Paypal now functions like a bank account. LVTS (large value transfer system): Form of electronic transfer of money that is immediate in

the form of same day real time transfer. Mandatory for payments above 25 million, no minimum amount.

2013 Prepaid cards: Good way for under banked areas to do business. Mobile phones-Starbucks payment Interact E-transfers: he’s got a problem that it’s limited to $1000

Forms of payment are continuously expanding. Each form works differently. Like children outgrowing clothes, the payment activity changes at a faster pace than lawmakers can regulate.

B) The payment ecosystem: users and providers of forms of payment

Task force appointed in summer of 2010 by minister of Justice. Recommendations scared the minister of finance because their suggestions were so far reaching. First time anyone ever went out and spoke to users.

Task Force on Payment Reform: “Canadian Payments Landscape”

Focuses on retail payments: Those which are under $25 million

P.7Payment is the transfer of value between two parties (commercial definition)Payment the extinction of an obligation to pay (legal definition)

Payments may be used for a variety of purposes, including to purchase goods and services, to settle a legal obligation or to transfer funds between parties/locations

Payments encompass a wide range of activities, Examples include (but are not limited to):o Paying with cash − Writing a cheque − Wiring money overseas − Paying for inventory

via EDI “Payments ecosystem”, “payments landscape” and “payments industry” all refer to the

collection of consumers, businesses, merchants, financial institutions, payments networks,

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regulators, processors, new entrants and service providers that play a role in initiating, processing and regulating payments transactions and redefining boundaries

o Person to business, government, school payments¾ of volume transactionso Business to business payments (food industry)o Government to persons/business payments

P.20 Annual volume 24 billion transfers, annual value 44 trillion dollars from payment instruments. 90% of value transactions are handled by LVTS In consumer area you have a large number of transactions with low value.

P.33The Canadian payments landscape features a multitude of payments options including:Cash, Cheques, Debit Cards (Point-of-Sale), Debit Cards (Cash Dispensing), Credit Cards, AFT Debits, AFT Credits, EDI/Electronic Remittances, Proprietary/Closed Loop Prepaid Cards, Large Value Transfer System (LVTS), SWIFT Transfers, International Remittances, Rewards & Loyalty, eWallets, Person-to-Person Electronic Transfers, Mobile Network Payments

P.71The providers-those who make payment availableIssuers § Acquirers § Payment Networks § Clearers & Settlers § Payment Service Providers § Payday Loan Providers § FOREX Providers § ABM White Label Operators § Closed Loop Prepaid Providers § Loyalty and Rewards Programs § eWallet Providers § Alternate Payment Vehicle Providers

Ways to fund payments of consumer productsThe creditor expecting payment can always chose the form of payment. Credit and debit cards come with a guarantee from the network. A cheque on the other hand can be revoked.

When you pay with a debit card you fund the payment with your moneyo A debit card has a fixed fee, for example 13 cents

When you pay with a credit card you fund the payment with the credit card company’s moneyo The cost of a credit card is shared between consumers and merchants. Merchants pay

more when a credit card is used. A discount of 1.5-3% is withdrawn for purchase price. 3% discount on $400 purchase. The merchant will only receive $388.

Another option is the prepaid card (fast growing)

*US debit card interchange fee debate: They have a large fee that we don’t have because interac was always run on a not-for-profit basis. Post financial crisis federal government (federal reserve) was able to limit the debit interchange fee. Bank of America president came out and said we will raise other fees.

Task Force on Payment Reform: “Users and their discontent”

Users of the Canadian payments system are discontented. Whether they are consumers, merchants, small and medium enterprises (SMEs), or large corporate or government organizations, they rely on the transmission and receipt of payments every day but are not getting what they need or expect from the payments system.

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Who are the usersConsumersUsers need a payments system that is faster, richer in information, more secure in managing online transactions, clearer about rules, more accessible to everyone everywhere, and less expensive.

1/3 purchases still made with cash, minimal rights A number of stakeholders emphasized to the Task Force the importance of a fair, consistent

and clearly explained set of rules for digital payments. One million households have $400 or less on deposit at a financial institution Geography is also a challenge. Financial institutions and other mainstream providers are not

present throughout Canada, and merchants who take on the necessary task of providing payment services in Nunavut or the Northwest Territories, for instance, cannot provide a full range of options

Connectivity is an ongoing issue, yet it is fundamental to the future of the payments system Cost is also a barrier. Both wireless and broadband services are fairly expensive in Canada,

compared with many other jurisdictionsThese comments apply both to digital payments and to connectivity issues, and these issues will need to be resolved if Canada is to transition successfully to digital payments.

Despite the requirement under various statutes for some payments service providers to have complaint‐handling procedures and to be members of third‐party ombudservices, little is done to help consumers better understand their rights and obligations.

Merchants The larger credit card networks compete for participating issuers by, among other means,

increasing the interchange fees paid by merchants Fees paid by merchants appear unrelated to costs and are opaque, according to the Retail Council

of Canada and the Canadian Restaurant and Foodservices Association Retailers, who indicate that they must offer a broad range of payment mechanisms in order to

remain competitive in the market, even if those mechanisms are expensive, also face ongoing requirements from some providers to invest in new technology (such as point‐of‐sale terminals) and processes (such as security compliance). They claim, however, to have little say in how those requirements are designed and implemented

In a nutshell, retailers feel that they have limited options but unlimited costs. In this, they share a number of payment issues with SMEs, with large corporations and with governments.

Small and medium enterprises SMEs outside the retail and hospitality industry still make and receive most of their

payments through cheques Why are traditional payment mechanisms still so popular with SMEs?

o The simple answer is that they do not see any viable electronic alternatives to paper cheques and invoices. The CFIB survey showed that SMEs would be very interested in pursuing such options if they were available at a reasonable price. Indeed, cost is perceived as the biggest obstacle to transition.

Network effects are another major hurdle. No widely accepted new electronic payment mechanisms have emerged to give customers, suppliers and other business partners a digital option

A further reason for businesses to continue mailing paper cheques is that doing so allows them to

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include inserts that provide branding and marketing opportunities In business-to-business transactions margins are lower, they can’t afford a 3% discount.

Large corporate and government organizations In contrast to the reticence of SMEs is the impatience of large corporate and government

organizations. These users are eager for new offerings that would serve their growing needs and are critical of suppliers for not providing what they require.

Some of the larger users would happily do away with cheques, but they are faced with the obstacles mentioned earlier: many of the SMEs they deal with currently see little point in migrating to other payment mechanisms, while a significant proportion of consumers remain uncomfortable with digital payments. Network effects, costs and uncertainty thus also conspire to sustain the status quo.

They want to go electronic because they are interested increasing productivity within the organization. Most organizations have to get a person to process the electronic payment.

LVTS still doesn’t contain invoice information

Why don’t existing providers respond to need? The payments industry tends to be a high‐volume, low‐margin business, where economies of

scale are crucial, whereas implementing a new service entails starting with a comparatively small volume. Moreover, the new service typically displaces an existing one, even though the expenditures associated with the existing service may not have been fully recovered

A second challenge is that the payments industry is an inherently network‐based business. This means that to achieve the volumes critical to making any payments systems efficient and profitable, providers must work together to ensure interoperability

Change is therefore demanding and often costly for established providers, yet returns, at least in the short run and viewed narrowly, are limited. The incentive to innovate is not strong

Why don’t other providers offer solutions? New entrants require the cooperation of existing providers to offer their services. Moreover,

they may find making inroads into payments markets difficult, given that incumbents can create cost or more subtle barriers that protect existing offerings

It is also difficult for new entrants to have direct access to the clearing system, the eligibility requirements to become a direct clearer, which include having at least 0.5% of the total payments business in Canada, may present an insuperable barrier, at least in the initial stages of a new service.

New entrants are discouraged by an uncertain regulatory situation. Given the complex patterns of legislation and oversight that exist today, they cannot be sure that their product offerings will be supported by the existing infrastructure or subject to new legislation.

Clearing and Settling System Behind each payment transaction there are always two bank accounts: Payer and payee. Two

banks (think broader than a bank: paypal, credit union) will always be involved. Payer’s bank and payee bank.

Cheques involve a collection process where one bank must collect from the other on their order to pay

Example:

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o BMO receives customer cheques for 250 million: 50 million come from NBC, 200 million come from RBC.

o NBC receives customer cheques 300 million: 100 million from BMO, 200 million come from RBC

o RBC receives 400 million: 150 million from BMO, 250 million come NBCo At the end of the day there is a net amount owed between the banks (cashed and drawn).

This system is called clearing, coming to an amount. The net amount being paid is called settling. This system is regulated by the Payment Clearing and Settling Act

Clearing: The process of exchanging and reconciling payment items that result in a transfer of funds from one financial institution (FI) to another.

Settlement: means the process of adjusting financial positions of individual FIs to reflect the net amounts due to and from them as a result of the inter-member exchange of payment items.

The Regulatory Framework For The Payment Industry in Canada

A) Payment Clearing and Settlement Act

Lemieux: Payment regulation is out of sync with the payment industry. We have a reactive rather than proactive system. The baby keeps outgrowing his clothes.

Circumstances that gave rise to the adoption of the PCSA (preamble)

The PCSA was adopted in 1996 to deal with systemic risk in settlement systems. It gives the governor of the Bank of Canada and Finance Minister the power to issue directives to systems to manage their affairs to minimize the risk.

Only LVTS (and a few other systems we aren’t discussing in this class) has been designated as posing a systemic risk. Because of the low systemic risk, debit (going through ACSS) and credit (which are self-regulated) are unlikely to be designated as they pose a low risk.

Definitions (S. 2: “clearing and settlement system”, “clearing house” and “systemic risk”)

Clearing and settlement is not exclusive to payments. For example the stock exchange/securities uses a clearing and settlement system. So do derivatives. In this class we will only be dealing with the clearing and settling of payments.

Clearing and Settlement System: There are a large amount of participants who sit down and exchange in bundles the cheques drawn and received by others. The process is known as clearing, the payment at the end is known as settling.

“clearing and settlement system” means a system or arrangement for the clearing or settlement of payment obligations or payment messages in which

(a) there are at least three participants, at least one of which is a Canadian participant and at least one of which has its head office in a jurisdiction other than the jurisdiction where the head office of the clearing house is located;(b) clearing or settlement is all or partly in Canadian dollars; and

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(c) the payment obligations that arise from clearing within the system or arrangement are ultimately settled through adjustments to the account or accounts of one or more of the participants at the Bank.

For greater certainty, it includes a system or arrangement for the clearing or settlement of securities transactions, derivatives contracts, foreign exchange transactions or other transactions where the system or arrangement also clears or settles payment obligations arising from those transactions.

Clearing house: Means a corporation, association, partnership, agency or other entity that provides clearing or settlement services for a clearing and settlement system

Systemic risk: The risk in the clearing system where one participant becomes insolvent and is unable to meet their settlement obligations. This has a domino effect and causes others to also be insolvent.

“systemic risk” means the risk that the inability of a participant to meet its obligations in a clearing and settlement system as they become due or a disruption to a clearing and settlement system could, through the transmittal of financial problems through the system, cause

(a) other participants in the clearing and settlement system to be unable to meet their obligations as they become due,(b) financial institutions in other parts of the Canadian financial system to be unable to meet their obligations as they become due, or(c) the clearing and settlement system’s clearing house or the clearing house of another clearing and settlement system within the Canadian financial system to be unable to meet its obligations as they become due.

Designation of clearing and settlement systems posing a systemic risk (Ss. 4) and systems designated to date

s.4-Designation by governor of bank: (1) Where the Governor of the Bank is of the opinion that a clearing and settlement system may be operated in such a manner as to pose a systemic risk, the Governor may , if the Minister is of the opinion that it is in the public interest to do so, designate the clearing and settlement system as a clearing and settlement system that is subject to this Part. (LVTS, remedies, securities)

Revocation(2) The Governor of the Bank may revoke a designation if he or she is of the opinion that the designated clearing and settlement system may be operated in a manner that no longer poses a systemic risk and the Minister is of the opinion that revoking the designation is in the public interest.

Notice(3) If a designation is made or revoked, the Governor of the Bank shall, in writing, so inform in advance the clearing and settlement system’s clearing house and shall cause a copy of the designation or revocation, as the case may be, to be published in the Canada Gazette.

Systems designated to DateThe Governor of the Bank of Canada has designated the following clearing and settlement systems as systemically important to the Canadian financial system and subject to Bank oversight:• Large Value Transfer System (LVTS), a Canadian electronic funds-transfer system that settles large-

value and time-critical Canadian-dollar payments; LVTS allows large payments (25 million+) to be secured by the Bank of Canada. This eliminates systemic risk because the receiving party will always receive their money. WE WILL ONLY FOCUS ON THIS ONE but know that the others, like the stock exchange exist.

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• CDSX, a Canadian system that consists of a securities settlement system, a central securities depository and central counterparty services for eligible Canadian exchange-traded and over-the-counter equity, debt and money market transactions;

• Canadian Derivatives Clearing Service (CDCS), a Canadian central counterparty that clears transactions in certain fixed-income securities, repurchase agreements (repos), equity derivatives, and all derivatives traded on the Montréal Exchange; and

• CLS Bank, a global payment system for the settlement of foreign exchange transactions, including those involving the Canadian dollar.

• SwapClear, a global system for the central clearing of interest rate swaps and other over-the-counter interest rate derivatives denominated in multiple currencies, including the Canadian dollar

Consequences of designation (Ss. 5 – 11) (not covered in class)

Designation means you have certain burdens in terms of inspections/reports to the Bank of Canada. There’s an array of regulatory measures that can be taken by Bank of Canada.

B) Canadian Payments Act

Establishment, members and objects of the CPA (Ss. 3 – 5)

Piece of legislation enacted in 1980. Credit cards, cash, cheques were in existence, no debit cards. 90% were paper. Act establishes a body whose mandate is establish and operate national payment systems.

s. 3 Association established not as an agent of her majesty(1) A corporation is hereby established to be called the Canadian Payments Association.(2) The Association is not an agent of Her Majesty.

s.4-Members of association.(1) The Association shall consist of the following members:

(a) the Bank of Canada;(b) every bank;(c) every authorized foreign bank;(c.1) every cooperative credit association (Desjardins), loan company or trust company that is designated as a bridge institution under the Canada Deposit Insurance Corporation Act; and(d) any other person who is entitled under this Part to be a member and who, on application to the Association for membership in the Association, establishes entitlement to be a member.

The payment industry has grown out of the banking agency and now includes many others. However banks still dominate. The members reflect the forms of payment which it has control. No merchant, consumer can be a member of the CPA. However, they can sit on the board (s.21.2)

The CPAssociation introduced pre-authroized debit (recurring payments) and direct deposit.

Canadian Payments association does not control credit cards. Credit cards operate outside the Canadian Payment Association as they are done in private systems. Interac (hybrid retail system-you have a payment system that isn’t governed by the CPA but that is rooted through the system for clearing and settling-ACSS). Paypal also falls outside of their scope, international payments,

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“on-us items” (a cheque that is cashed at the same bank at which it is drawn)clearing house not needed .

The CPA operates the following systems Automated Clearing and Settlement system-ACSS: cheques and bank drafts, pre-authorized

debits and direct deposits, individual operations made with interac, electronic bill payment. 1/3 volume of payments in Canada

The US Dollar Bulk Exchange-USBE: is a parallel system to the Automated Clearing Settlement System (ACSS) used for payment items in US dollars, drawn on a U.S. dollar account at financial institutions in Canada, but settled in the U.S

Large Value Transfer System-LVTS: Secure, real time wire transfer. 100% of payments over 25 million

o Value of all payments is 42 trillion, over 90% is through LVTS

ACSS Overview

Automated Clearing Settlement System (Système automatisé de compensation et de règlement)The Automated Clearing Settlement System (ACSS), introduced in 1984 = system thru which vast majority of payment items in Canada — close to 24M on an average business day — are cleared. Clearing (compensation)

process of exchanging & reconciling payment items that result in a transfer of funds from one financial institution (FI) to another. 

Settlement  process of adjusting financial positions of individual FIs to reflect the net amounts due to and

from them as a result of the inter-member exchange of payment items.ACSS

core function = an information system used to track volume & value of payment items exchanged between CPA members & to determine balances due to & from participants.

ACSS Rules and Standards detail procedures that apply to exchange, clearing & settlement of various categories, or "streams," of payment items cleared thru this system.

Direct Clearers (Adhérents) = CPA member financial institutions w/in ACSS which handle clearing & settlement of payment items for their own customers (including The Bank of Canada)

o Each time payment items are exchanged btwn Direct Clearers, data is entered into ACSS to track total volume & value of items in particular stream.

o At the end of the daily exchange process, these entries are used to determine the net positions of the Direct Clearers.

o Direct Clearers must maintain settlement accounts at The Bank of Canada. During the morning of each business day, the Bank of Canada adjusts individual Direct Clearers’ financial positions by transferring funds among their accounts to reflect the net balances of the previous day’s ACSS clearing.

o In turn, Indirect Clearers settle w/their respective Direct Clearers through special accounts they maintain w/them.

Indirect Clearers = CPA member financial institutions w/in ACSS which handle clearing & settlement of payment items for customers w/accounts at other financial institutions

ACSS is used for clearing both paper-based payment items, such as cheques, & electronic items, including Automated Funds Transfer debits (e.g. pre-authorized debits) & credits (e.g. direct deposits).

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Direct Clearers must maintain settlement accounts at the Bank of Canada. During the morning of each business day, the Bank of Canada adjusts the financial positions of the individual Direct Clearers by transferring funds among their accounts to reflect the net balances of the previous day’s ACSS clearing. In turn, Indirect Clearers settle with their respective Direct Clearers through special accounts they maintain with them.

Although 99% of the daily transaction volume is cleared thru ACSS, these transactions represent only about 12 % of total value cleared, as most ACSS payment items are for relatively small amounts.

Approximately 88% of the total value is cleared by Large Value Transfer System (LVTS).

LVTS Overview

Large Value Transfer System (Système de transfert de paiements de grande valeur) LVTS is an electronic wire system introduced by the Canadian Payments Association (CPA) in

February 1999 to facilitate transfer of irrevocable payments in CAD countrywide. No minimum but all payments over 25 million are cleared through this system 1% of overall transactions made (volume) Chaque banque a un nombre de security à la banque du Canada et elles ne peuvent s’endetter au-

delà de leur limite de la journée. Each participant guarantees to the full extent their obligations to the other participants Thru LVTS, funds can be transferred btwn participating financial institutions virtually

instantaneously & money can thus be credited to recipient’s account on a timely basis. As all LVTS payments are immediately final & irrevocable, recipient may withdraw money,

invest it or use it to make another payment in full confidence that incoming payment will not be reversed for any reason.

LVTS = 1st model of its kind in the world, a hybrid that combines benefits of 2 main models for current payment systems.

1. It achieves real-time payment finality of a Real Time Gross Settlement (RTGS) system, 2. w/added benefit of lower collateral costs associated w/a netting system.

Each payment is final & settlement is assured immediately, even though actual settlement occurs at the end of the day on the books of the Bank of Canada.On average in 2010, LVTS was used to clear & settle about $149 billion in CAD payments each business day, or approximately 90% of total value moving thru CDN payment system. Close to 24,000 LVTS payments were processed each day, w/average transaction value in the range of over $6.2M. LVTS is also particularly suitable for time-sensitive payments of any value.LVTS is designed as an open and accessible system.

CPA members that establish & maintain an LVTS settlement account at the Bank of Canada & provide an acceptable system interface may participate directly.

o Currently 16 members of CPA, including the Bank of Canada, participate directly.o All other CPA members can arrange LVTS payments for their customers thru LVTS

participants. Financial institutions may offer LVTS wire payments to their customers under various proprietary names.

no minimum payment value or volume requirements.Legal foundation for LVTS CPA’s   LVTS By-law   Payments Clearing and Settlement Act. The Bank of Canada is responsible for monitoring the flow of payments thru LVTS & settlement

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positions of participants at all times. CPA administers daily operations of LVTS as well as the LVTS Rules. Participating CPA members fund LVTS operating costs.

s.5-Mandate(1) The objects of the Association are to

(a) establish and operate national systems for the clearing and settlement of payments and other arrangements for the making or exchange of payments; (not all: not interac, debit, etc)(b) facilitate the interaction of its clearing and settlement systems and related arrangements with other systems or arrangements involved in the exchange, clearing or settlement of payments; and(c) facilitate the development of new payment methods and technologies.

Duty of Association(2) In pursuing its objects, the Association shall promote the efficiency, safety and soundness of its clearing and settlement systems and take into account the interests of users.

When reading the act we should look at what is not stated. For example, how were cheques cleared before ACSS? Bankers would get together and exchange the cheques cashed and drawn on each other. The meeting process was called settling, and the final amounts exchanged between banks was called clearing. It used to be taken care of by the Canadian bankers association (a private unregulated agency). The CPA adopted many of their rules in 1980. The statute brings the regulation of payment into the public sphere.

By-laws (S. 18.1)

s18.1-By laws (1) The Board may make such by-laws as it considers necessary for the attainment of the objects of the Association and in particular, but without limiting the generality of the foregoing, may make by-laws

The rule making powers that allow the CPA to exercise their mandate. LVTS and other CPA tools are governed by rules that operate between members. Unlike US that would have specific legislation.

Rules (S. 19)

s. 19: Rules(1) Subject to the by-laws, the Board may make such rules as it considers necessary for the attainment of the objects of the Association and, without limiting the generality of the foregoing, may make rules

(a) respecting payment items acceptable for exchange, clearing or settlement;(b) establishing standards and procedures in respect of the exchange and clearing of payment items;(b.1) respecting the destruction of payment items;(c) respecting settlements and related matters;(d) respecting the authenticity and integrity of payment items and messages; and(e) respecting the identification and authentication of members and other persons.

see CPA Tele-Cheques Press release, re: a form of cheque drawn on one’s account by one’s creditor (i.e. cheque drawn by creditor, not debtor)Telecheques signed by creditor of account holder through request of bank; CPA became aware of practice: too susceptible to fraud.

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Tele-Cheque policy statement

Tele-cheques to be prohibited in Canadian Clearing SystemCanadian Payments Association (CPA) Board of Directors has issued an official policy statement advising that the clearing system rules will be amended to prohibit the clearing of tele-cheques effective January 1, 2004.

prohibition is a proactive measure to address heightened risk of fraud associated w/this type of item.

Tele-cheque has the same physical appearance as a regular cheque but it is not signed by the person from whose account the funds are to be drawn.

Rather, item is created by a 3rd party (usually party receiving funds) using cheque-creation software, after purportedly obtaining account holder’s account info & authorization over the telephone or, in some instances, the Internet.

prohibition of tele-cheques in the clearing system reflects a concern that unauthorized parties could use this vehicle to gain access to deposit accounts fraudulently.

Since this type of payment item is not signed by the account holder, nor is it supported by any other form of written authorization, there is no practical means for the account holder’s financial institution to verify whether the payment has been properly authorized.

Information provided by CPA member financial institutions suggests that tele-cheques are currently in limited use in Canada.

As of yet, no fraudulent use Although CPA is not aware of any fraudulent use of these items to date in Canada, CPA Board

has concluded that inability to verify authorization of these items creates an unacceptable level of risk for both account holders and financial institutions.

In taking this step, CPA is acting in accordance w/its public policy objectives to ensure safety & soundness of the clearing and settlement system and to take into account the interests of payment system users.

Need for authorization measureso Implementing prohibition on tele-cheques on January 1, 2004 will allow sufficient time

for CPA rule amendments to be put in place & for orgs currently using tele-cheques to explore alternatives

As an interim safeguard until new policy comes into effect, CPA Board has adopted a provision giving account holders up to 180 days to report any unauthorized tele-cheque, sign a declaration & have funds restored to their account.

Stakeholder Advisory Councel (S.21.2)

(1) There shall be a Stakeholder Advisory Council consisting of not more than twenty persons appointed in accordance with subsections (3) and (4).

(2) The object of the Council is to provide counsel and advice to the Board on payment and clearing and settlement matters and any other matter relating to the objects of the Association.

Stakeholders advisory council. It’s a committee of 20 representatives. 18 of the 20 members are selected from consumer associations, businesses, government agencies. This givers users the ability to make observations and help the banks and other financial institutions improve their system.

Example of a task force recommendation to listen to feedback of users If you have a problem and you express concern to the committee, all it can do is suggest. It isn’t the

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answer to the problems expressed in the Task Force Documents

Priority payment instruments issued by insolvent members (S. 31)

INSOLVENCYs. 31: Priority payment instruments issued by insolvent members

When a bank become bankrupt the cheques that is has certified are paid prior to the other debts of the banks. The limited assets of the bank are used to pay off certified cheques and bank drafts.

o Sheds light on the respect/importance/positive perception of certified cheques. Rare that banks go insolvent in Canada (not in our lifetime). One example of near insolvency is

the National Bank of Canada. We have a very stable banking system. We have a small limited number of banks. Very different

situation in the USA. Hundreds of bank bankruptcies per year. The US market is more dynamic.

Collings v City of Calgary This case would not exist today because of s.31. Today, the certified cheque would be

priority payment instrument. Mr. Collings defends his cheque because when a bank certifies a cheque they take the money out

of the account immediately. It’s not like a regular cheque, it’s guaranteed. He’s pissed because he is being forced to pay his taxes twice.

Collings v. City of Calgary-SCC-1917

Facts: Collings had an account with a trust company offering checking accounts. The city of Calgary deposits his “certified cheque” in its bank account but trust company goes insolvent. City of Calgary policy is that all cheques must be accepted by bank. Calgary has not been paid and claims the trust company cheque does not count as a cheque that can be accepted by banks.

Issue: Can a bills of exchange “certified cheque” be used instead of a bank cheque?

Judicial History: Supreme Court of Alberta dismisses Colling’s appeal: a duly accepted cheque was not presented for payment, the Trust was not legally permitted to engage in the business of Banking (unlike now as Trusts can be part of Payment Association per CPA)

Holding: The instrument was not a cheque, so taxes were not paid. The instrument was not accepted by a bank, so it’s not a cheque that can be validly used for payment of taxes. Only legal tender (including a cheque accepted by a bank) or bank notes (i.e. cash) can be used to pay for taxes.

*A certified cheque is a cheque where the money in an account to cover the cheque has already been withdrawn from the account.

Designated payment systems (Ss. 37 – 41)

s. 37 (1) The Minister may, if he or she considers that it is in the public interest to do so, designate a payment system that in the opinion of the Minister

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(a) is national or substantially national in its scope; or(b) plays a major role in supporting transactions in Canadian financial markets or the Canadian economy.

Factors(2) The following factors shall be considered in a determination of whether it is in the public interest to designate a payment system:

(a) the level of financial safety provided by the payment system to the participants and users;(b) the efficiency and competitiveness of payment systems in Canada; and(c) the best interests of the financial system in Canada.

Power granted to minster of finance to designate payment systems under the Canadian Payment Association. The consequences allows the minister to step into your organization and govern you in the way he feels. This power has never been used.

Why didn’t minister use this for credit card companies? It could be a constitutional issue.

Policy Paper B: Stakeholders and their Disconnect document

This document tells us that there is no single organization in place today that provides a coordination function for the users and providers across all payment systems.

First half of the documentthe kinds of rules needed. Example of how the payment industry has outgrown the regulatory governance of it. Paper calls for a adaptive industry.

For payment systems to work you need to have a connection between users and providers. The more connection between the two the more acceptability of the users. Historically providers tend not to communicate with users.

When the chip came out is costs merchants $1 billion. They weren’t happy. Before 2007, the CPA did not have representations from anyone but banks. This is why s.21.2 is

potentially useful. Users of credit cards don’t have an organization to go to (1/3 of transactions). This makes our

system reactive. Only the minister of finance can do something. o The code of conduct for the payment card industry: merchants and consumers were

dissatisfied with credit card networks. Merchants had to accept all the credit card company’s terms. This included fees,

or not changing your price for different cards Consumers have difficulty getting money back from fraudulent transactions.

They have difficulty with interest rates. 1/3-1/5 of consumers pay 18%-23% of interest of their balances.

o In 2008 consumers and merchants addressed the minister of finance separately. This created the Payment Card Network Act and related Code of Conduct for the Credit and Debit Card Industry in Canada.

o The competition tribunal is another example of how merchants are being heard. Second half of the document isn’t important because it will never happen. Minister didn’t use it

C) Competition Act

Lemieux discussion of Task Force on Payment Reform: “Credit and Debit Card Markets”

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The documents talks about the advantages and disadvantages of credit and debit cards over other forms of payments

Advantages: Convenience, accessibility (you can purchase everywhere in the world), speed and turn around at the cash, rewards

Credit cards replaced the merchant providing creditcreates an easier access to credit. The Range case

Disadvantages: Overconsumption, fraud, 40% Canadians live on the edgecheque to cheque

Credit Card System Payment is done with an advance (loan) CardholderCard Issuer (Banks who issue a specific card)MerchantAcquireroperates the point of sale equipment Merchant BankCard Networks: (Visa, Mastercard, (together 92%) AMEX)difference between VISA/Master and AMEX is that amex plays the role of acquirer, card issuer, and card network. In VISA/mastercard the acquirer is independent. Visa and Mastercard compete for issuers. AMEX needs to be paid in full every billing cycle. No minimums.

First thing looked at is pin, second is the credit available, transaction approvedlegal obligation of issuer to make payments.

o Remember this clearing and settling system is not governed by a government body. Huge global clearing systems

Credit card fees are based on interchange fees paid by the merchant based on a discount. The interchange fee relates to the process where by the issuer will eventually collect the fee from the merchant.

A Switch fee is paid by the acquirer to the network Equipment fee: paid by merchant to acquirer Transaction fee: paid by merchant to acquirer Annual fee: paid by cardholder to issuer.

*So we can see that the merchant pays a lot.

Amex has a different system whereby there is no interchange fee, they play all the roles. But they have a merchant discount rate which ends up costing merchants just as much or more.

Debit Card System Funding with money already in account CardholderCard issuer AcquirerMerchant/ATM operatorMerchant’s BankCard Networks (Interac)Association formed by the 8 largest banks in the 1980s. Allowed clients to have access to their cash even if they went to a different bank. Let a CIBC client pull from an RBC. Then in the early 90’s they expanded to point of sale purchase transactions. As soon as interac was born its birthrights were challenged as being anti competitive. Other financial institutions wanted in. In 1996 a consent order was given that:

Enlarged the membership (it doubled) of interac. It also prevented interac from prohibiting a merchant to impose a surcharge (so they were now

allowed to surcharge).

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Required interac to work on a cost recovery basis (not for profit). The only fees that interac could levy were those to reimburse its operating costNO INTERCHANGE FEE. Only a switch fee paid to the network.

Acxys (a for profit) was formed to deal with the other functions of interac. Online, international, and P2P wire transfers.

First thing looked at is pin, second is are the funds available, transaction approvedlegal obligation of issuer to make payments, even if bankruptcy (CPA rules)

o Regulated by CPA. Regulated by the ACSS and is subject to CPA rules.

VISA/Mastercard debit system in 2010 Will include an interchange fee. Merchants are concerned that the cost of debit cards transactions

will increase. Today it remains 12 cents per transaction.(But will likely raise)

Competition Tribunal 2013 Variation of 1996 Interac order – Not-for-Profit Status

This summer interac went back and said that their not for profit status was not allowing them to invest in R&D and make their products better. Worried they were being uncompetitive to Visa and Mastercard debit. (What we are reading in the task force report is them asking). This summer they allowed them to work on for profit basis.

Up until today interac as an industry is governed by orders made by the competition tribunal. Today it remains 12 cents per transaction. (But will likely raise)

So the cards are similar but debit cards are subject to regulatory rules than credit cards do not have to deal with.

Task Force on Payment Reform: “Credit and Debit Card Markets”

The payments industry is dynamic, and technology changes rapidly. In the time it takes to enact a new rule or code, the technology or payment behaviour it is meant to address may have already evolved, leading to waste and inefficiencies.

Prescriptive regulation is ill-suited to dynamically changing markets.

A payment card transaction involves some or all the following participants:1. Consumers or cardholders that use payment cards to purchase goods and services;2. Issuers that market and issue payment cards to consumers and set the terms and conditions for their use;3. Merchants that accept payment cards for the purchase of goods and services;4. Acquirers or payment processors that market card acceptance services to merchants, obtain transaction authorization, and clear and settle card transactions for the merchant; and5. Network operator that oversees the system and coordinates the transmission of information and the transfer of funds between issuers and acquirers.

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Merchants raised concerns that the entry of international credit card networks into the Canadian debit card market would inevitably lead to higher merchant service fees. According to the Canadian Federation of Independent Business (CFIB), “international experience has shown that the entry of credit card companies into the debit card market has pushed out the domestic, low cost debit network which is then followed by large increases in debit fees for merchants”.

In contrast to Visa and MasterCard credit card transactions, there is no interchange fee on Interac Debit transactions and the network switch fee is only $0.0073 per transaction for both the issuer and the acquirer. Merchants pay less than $0.07 per transaction for Interac Debit. Therefore, we conclude that many of the costs of point of sale debit in Canada are borne by consumers through their banking fees.

From the SummaryConsidering whether consumers and merchants are well served by the payments systemRecommendations on credit and debit cards foundedin belief that prescriptive regulation in this market would not be effective. Given the rapid change in retail payments, we believe that market forces will be much more effective controls. Prescriptive regulation in this environment would only stifle innovation and delay Canada’s transition to the digital economy.However, card networks, issuers and merchant acquirers do require the structure and parameters afforded through mechanisms like voluntary codes, so that the concerns of users can be heard and effectively addressed.

Important role for public authorities to review developments in this market and to help guide the collective decisions of stakeholders to ensure the credit and debit card market evolves broadly in line with the public interest

public oversight is essentialDebit and credit card services benefit 2 parties:

merchants

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o merchants benefit from faster guaranteed payments as compared to chequeso lower cash handling costso customers can conveniently purchase high-priced articles w/o merchant having to extend

credit directly to them consumers

o payment choiceo ability to buy goods instantly o deferred payment o rewards for purchases

credit and debit cards generally offer better protection from fraud and theft than do cash or cheques, both parties enjoy safer payment transactions.

However, disadvantages for merchants: significant portion of the cost of consumer benefits is borne by merchants in the form of

interchange fees Visa & MasterCard both increased their fees for premium cards new technology & standards has added costs

o especially chip & PIN technology to reduce fraudo also time and money invested to comply w/Payment Card Industry Data Security

Standard (PCI DSS) to improve payment account data securityDebit cards/Interac are preferred by merchants since they have much lower costs to merchants

this is b/c Interac Association is required by law to operate on a cost recovery basis and does not havean interchange fee

thus consumers, not merchants pay directly for the debit card payment system thru banking fees, the merchant also pays a 12 cent fee.

Code of Conduct was very useful, but quickly outdated since private sector can react more quickly than govt, an association of payment industry

participants should set rules & voluntary codes collaboratively. Since payments industry is eager to avoid govt intervention, they should have incentive to comply

with the public policy objectives of government. regulation of credit card interchange fees is problematic and can have unintended adverse

consequences (on competition, innovation & consumers)Task Force’s Recommendations

Public Oversight Board (POB) shld closely monitor developments in credit & debit card markets so that govt can take timely action, if necessary, to ensure market operates efficiently & innovation is fostered.

Self-Governing Organization (SGO), which would include all market participants (incldg consumers & merchants), shld set rules & voluntary codes – incldg codes of conduct – collaboratively for retail payment networks, including credit and debit card networks.

The Code of Conduct for the Credit and Debit Card Industry in Canada shld be reviewed & updated on a regular basis to take into account new policy issues & emerging payment technological changes.

(1) Importance of Credit & Debit Cards Canadians are among the heaviest users of credit and debit cards in the world 75 million general purpose, Visa, MasterCard and American Express credit cards in Canada

o over 80% of Canadian households have at least one credit card 22 million debit cards in Canada

o but # of debit card transactions outnumbered credit card transactions by a factor of almost 1.5 to 1 in 2009

Bank for International Settlements (BIS), card payment transactions represented 68% of payment

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transactions (non-bank and non-cash volume) in Canada during 2009 – 28% credit card and 41% debit card.

Canadian credit card and debit card shares = third and fourth largest shares respectively amongst reporting countries.

However, in terms of the value of non-bank payment transactions, the credit card and debit card shares are small.

o 2009: credit card & debit card shares were 2.7% and 1.6% respectively compared to credit transfers of 59% and cheques of 31%.

Increase in both credit & debit cards, but faster increase in credit than debit most Canadians use credit cards as a charge card by paying off the balance in full each month and

not as an instrument to access a revolving line of credit. o 2011 survey by The Strategic Counsel: 64% of Canadians pay their credit card balance

off in full every month.(2) Benefits & Costs of Credit Card Payments

credit cards are relatively convenient & safe payment instruments, accepted many places Advantages for consumers:

o Convenience (no need to go to ATM or bank branch) and record keeping as compared to cash;

o Global acceptance – accepted in almost every country in the world; o Interest-free payment from time of purchase to the payment due date for that billing

period (an average of about 36 days); o Access to unsecured credit (no collateral required against amounts charged); o Fraud protection with, in many cases, zero liability to the consumer2 when there is fraud;

and o Other rewards and benefits

Disadvantages for consumers:o being charged a high interest rate if balance is not paid in full every month o high annual fees for premium cards

Cash is used intensively for low value transactions owing to speed, merchant acceptance and low costs.

Debit and credit cards are used for higher transaction values b/c of their safety, record keeping, the possibility of delaying the payment and rewards (2009 Bank of Canada survey)

Canadian consumers who have at least one credit card for personal spending heavily favour debit and credit cards over cash (Ipsos Reid study)

o 34% say they are heavy debit card users, using it more than cash and credit cards combined.

o 25% use credit cards more than the other methods of payment combinedo 10% prefer to pay with casho 28% use a more even mix of methods for personal spending

Advantages for merchants:o Faster guaranteed payment compared to cheques; o Less time to complete payment at point of sale compared to cheques & maybe cash; o Eliminating cash handling, counterfeit & deposit costs; o Reduced risks related to handling cash & losses from robbery & employee theft; o Elimination of need to extend credit directly to customers to increase sales.

Disadvantages for merchants:o relatively expensive payment instrument

Merchant preferences:o 53% of merchants prefer debit cards

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debit cards are cheaper than cash for transactions greater than $23.40 based on a debit card transaction fee of $0.12, median amount paid by merchants in survey

o 39% of merchants cash cash is perceived to be cheaper than credit cards for all transaction values

o 5% of merchants credit card average merchant fee for credit cards is 2% of the transaction value merchants who do not accept credit cards cited lack of consumer demand and

cost as the main barriers o SMEs:

Prefer in decreasing order: cheques, then debit cards, then electronic transfers/pre-authorized payments, then cash, then credit cards

cheques accounted for largest share of total value of sales, then credit cards, then debit cards

Retail & hospitality sectors prefer debit & cash (lower cost to process) over credit cards highest volume of transactions with the heaviest reliance on credit, debit

& cash (cheques aren’t used much)(3) Features of Credit and Debit Card MarketsOperations of Card NetworksInterac members clear & settle their transactions thru Automated Clearing Settlement System (ACSS) & are therefore subject to rules & standards of Canadian Payments Association (CPA) Visa & MasterCard have their own proprietary clearing systems & are not subject to any formal rules or standards in Canada.A payment card transaction involves some or all the following participants:

Consumers or cardholders (consommateur ou titulaire de carte) that use payment cards to purchase goods and services;

Issuers (l’émetteur) that market and issue payment cards to consumers and set the terms and conditions for their use;

Merchants (le commerçant) that accept payment cards for the purchase of goods and services; Acquirers (acquéreur) or payment processors that market card acceptance services to

merchants, obtain transaction authorization, and clear and settle card transactions for the merchant; and

Network operator (l’exploitant de réseau) that oversees the system and coordinates the transmission of information and the transfer of funds between issuers and acquirers.

o They want to increase acceptance among consumers & merchantso They also impose rules on system participants

Membership requirements (exigencies d’adhésion): Visa & MasterCard require issuers & acquirers to be regulated financial institutions or sponsored by one. Interac also requires issuers to be regulated financial institutions;

Interchange fees (commissions d’interchange): set by the network but are generally paid by acquirers to issuers and are usually reflected in the merchant service fee paid by merchants to acquirers

Network switch fees (frais de commutation –ou d’accès au réseau): charged to acquirers and/or issuers, are set & collected by the network

Merchant acceptance rules: no discrimination rules (les règles de non discrimination) prohibit

merchants from encouraging consumers to consider lower cost payment instruments;

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no surcharge rules (les règles interdisant la perception de frais additionnels) prevent merchants from charging consumers a fee for use of a credit card another method of payment;

honour-all-cards rules (les règles obligeant à honorer toutes les cartes) require merchants accepting any of the network’s credit cards to accept all of that network’s credit cards, regardless of the applicable interchange fee, incldg debit cards.

3-party payment system Card company isat once network operator, card issuer & acquirer, thus deals directly

w/consumers & merchants, & sets all relevant terms & feeso Ex: AMEX in Canada

4-party payment system Issuer isa financial institution that markets cards & sets fees & terms w/consumers, while acquirer

sets & negotiates fees & terms w/merchants. Network operator = card company.o Ex: Visa, MasterCard and Interac

Networks want to attract more card issuers, so they offer prospect of interchange income to issuers, thus creating an incentive to increase interchange as much as the market (i.e. merchants) will bear

Economics of Card Networks 2-sided market: demand for payment card services, b/c payment card has value only if both the

consumer and merchant agree to use it for a transaction. The network acts as a matchmaker between them.

Card transactions also create “network externalities”: a good or service’s value increases with greater usage.

o Card payments become more valuable to consumers when more merchants accept them & more valuable to merchants when more consumers use them, yet each individual merchant & consumer considers only their own direct benefit.

o economic theory indicates that subsidies or transfers can be used to align private and social costs and benefits (such as interchange fees)

o in practice, it is difficult to identify the socially optimal level of interchange feeso it is an open question as to whether the private marketplace and competition will yield

efficient interchange fees especially since networks tend to focus on getting their card to be preferred by

consumers – not on marketing to merchants - & to be the favoured card, networks fund rewards & lower fees at the expense of the merchant, who pays the interchange fees

(4) Credit Card Networks (Réseaux de cartes de credit) Visa (64%), MasterCard (28%) & AMEX (8%)

o but more MasterCards in circulation than Visa cardso AMEX targets niche markets: upper income consumers, corporate & govt accounts

Visa & MasterCard started as associations of bank issuers but their operations in Canada are now subsidiaries of publicly traded companies

Visa started as Chargex in1968 (alliance of banks issuing credit cards in Canada) then joined Visa in 1977.

o 2008: Visa was restructured as a publicly traded company, Visa Inc.o Visa Europe = membership association, w/a licensee owning a minority interest in Visa

Inc.o Visa Canada = a subsidiary of Visa Inc.

MasterCard first came to Canada as its 1st intl expansion outside the US in 1973, but had no CDN office till 1993

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o MasterCard Worldwide = a cooperative of card issuing banks, then became a publicly traded company in 2006

o MasterCard Canada, incorporated in Delaware = a subsidiary of MasterCard Worldwide AMEX Bank of Canada = issuers & acquirer of AMEX cards in Canada

o A wholly owned subsidiary of American Express Travel Related Services Company, Inc. in NY

Visa and MasterCard receive network switch fees from both the issuers and acquirers based on the value of the transactions and they are obligated to indemnify issuers and acquirers for any settlement loss due to the failure of another issuer or acquirer to fund its daily settlement obligations.

o Visa and MasterCard set interchange fees but these are paid to issuers by acquirers . Since AMEX is both issuer & acquirer, there is no interchange fee or network switch fee for

AMEX transactions, but merchants pay privately-negotiated ad valorem service fees on each transaction.

Issuers & Acquirers (Émetteurs et acquéreurs) Visa and MasterCard generally require issuers and acquirers to be, or be sponsored by, a

regulated financial institution (which is then responsible to the network)o Membership requirements for issuers don’t seem to restrict competition

In the last 10 years, acquirer sector has transformed from internal divisions of banks to standalone business lines.

o membership requirements for acquirers also do not appear to restrict entry and competition in the acquirer sector

o With the entry of US payment processors and smaller financial institutions into the acquirer sector, Independent Service Organizations (ISOs) that act as sales agents for acquirers and payment processors have emerged and become prevalent in Canada.

Interchange Fees (Commissions d’interchange) April 2008, Visa moved to 21 interchange formulae from 2. 21 formulae that vary from 1.00% to

2.00% based on:o Sector of activity: emerging (1%), gasoline (1.21%), grocery (1.36%), other (1.54%)o High transaction volume: performance programs tier 1 (1.40%) & 2 (1.45%)o Nature of transaction: recurring (1.40%), in person (1% to 1.54%), card not present

(1.65%)o Type of card used: standard (including classic, gold & platinum), infinite (+0.20%)o Consumer or corporate (+0.35% to +0.60%).

Fall 2008, MasterCard also made the first significant changes to its interchange fees in 7 years. MasterCard moved from 3 formulae to 18 formulae ranging from 1.21% to 2.13%. It also introduced a new category of interchange fees, high spend, that applies to new premium cards and carries higher fees

March 2010, MasterCard introduced another new category of interchange fee for a new type of credit card, World and World Elite, called premium high spend, that carries higher interchange fees. MasterCard moved from 18 formulae to 30 formulae with fees ranging from 1.21% to 2.65%.

A few very large merchants have recently been able to negotiate lower interchange fees with Visa and MasterCard. It appearsthat the networks are using higher interchange fees to compete for active cardholders and increase their market share.

There has not been a significant increase in the average interchange fee according to Visa, but the impact on merchants has varied widely.

Other developments around the same time:o Interac applied to the Competition Bureau in early 2009 to convert from a non

profit association to a for-profit organization. The application was denied.

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o Merchants were required to invest in new point of sale equipment and training to accommodate the new chip & PIN cards;

o Merchants were required to meet new Payment Card Industry Data Security Standards;o There are strong indications that acquirers used the changes in interchange fee

formulae to increase their own transaction fees especially to small merchants.o Compared to other countries, interchange fees in Canada are high but they are generally

lower than those in the US, Mexico and South American countries.Merchant Service Fees (Frais de service des commerçants)

Merchant discount rate Fees paid by merchants to acquirers for credit card acceptance MSF can be calculated either as a flat fee per transaction, as a percentage of the transaction value,

or a combination of both of them and is the sum of the following:o Interchange fees paid by acquirers to issuerso Network switch fees paid to the card networks (by acquirer, something issuer)o Transaction fees retained by the acquirer – the acquirer spreado Monthly fees to the acquirer for equipment rental and administration

Fees paid by merchants to acquirers can be calculated in a number of ways Average MSF for a few large merchants declined slightly from 2007-2010 Average MSF for smaller merchants increased by as much as 40% from 2007-2010

o strong indications that acquirers took advantage of the changes in the interchange fee formulae to increase their transaction fees, especially to small merchants who were subject to tiered pricing from application of higher acquirer spreads on premium card transactions.

(5) Debit Card NetworksHistory of Interac

Interac is a payment system operated by 2 entities:o Interac Association, an unincorporated not-for-profit association & o Acxsys, a for-profit organizationo whilea 3rd entity, Interac Inc., owns Interac trademarks.

1984: 5 major Visa-issuing financial institutions formed a cooperative venture to link together their automated banking machine (ABM) networks

early 1990s: Interac launched the Interac Debit as a pilot project, allowing customers to use their bank or convenience card for point-of-sale purchases

1994: Interac Debit available across Canada 1990: Competition Bureau examined Interac Assoc & Inc. for 3 allegations of anticompetitive

acts:o restricting access to the networko creating barriers to product innovationo controlling access and service pricing

1996: Consent Order approved by Competition Tribunalo expanded the list of eligible Interac Association memberso Implemented a new governance structure for the Interac Assoc

imposed measures to transfer some decision making power from charter members to other Interac members.

o Required Interac Assoc to set its prices on a cost recovery basis. all Interac Assoc revenues must be derived from a switch fee – a fee charged on a

per message basis to users of Interac’s network – which is based on cost of delivering this service & cost of developing network

required Interac Inc. to continue to operate on a not-for-profit basis

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however, no restriction on setting level of the interchange fee, which it currently sets at zero.

o Allowed merchants to impose a surcharge on Interac debit transactionso purpose of the Consent Order was “to open access to the network to create an

environment that is conducive to the introduction of new services”. 1996: Acxsys Corporation founded after Consent Order to provide management services for

Interac Association and specialize in the development and operation of new payment service opportunities

2009 Interac applied to the Competition Bureau to convert from a non profit association to a for-profit organization out of fear of competition from Visa & MasterCard into debit card market

o claimed its Consent-Order imposed structure put it at a disadvantageo merchants were concerned Interac Assoc as a for-profit corporation would charge higher

fees & be vulnerable to takeover by intl credit card networkso Bureau denied application, citing consumer protection from “potentially anti–competitive

activity” & that Interac was currently in dominant position in market. This has since changed

Entry of MasterCard and Visa 2008: MasterCard’s Maestro

o BMO Bank of Montreal and CUETS, a division of MBNA, issued co-badged Maestro and Interac debit cards. Forthe consumer, Maestro worked exactly like Interac, but was slightly less expensive for acquirers and merchants to accept at the point of sale

o no interchange fee & a lower switch fee than Interaco Maestro had priority over Interac Debit meaning that if the merchant accepted both

networks, transactions would automatically be routed on MasterCard’s network Merchants exerted pressure, so govt amended Code of Conduct to ban

competing applications from different networks on debit cards (Policy element #4)

i.e. issuer had to provide 2 separate cards Merchants raised concerns that entry of intl credit card networks into CDN debit card market

would inevitably lead to higher merchant service fees 2010: MasterCard terminated operations of Maestro in CDN point of sale debit card market 2010: Visa launched CIBC’s Advantage debit card.

o issuers cld choose to issue Visa Debit on a chip card co-badged w/Interac Debit or a standalone Visa Debit card which required chip-enabled terminals at point of sale.

o Unlike Maestro, consumers that held co-badged cards wld be given the option to choose the network to process transactions, but default would be Visa Debit.

Interchange Fees and Consumer Costs no interchange fee on Interac Debit transactions network switch fee is very low for both issuers & acquirers average cost of debit card transactions for merchants is much lower in Canada than in the US as

interchange fees are generally passed onto merchants by acquirers in both countries reality = many Canadians have to pay to use their debit cards.

o Debit card issuers typically charge cardholders a fee for every debit transaction or charge for service packages that include a number of free transactions.

This means many of the costs of point of sale debit in Canada are borne by consumers through their banking fees.

(6) Recent Technological Changes Chip & Pin (cartes à puce et à NIP)

This technology has taken almost a decade to roll out in Canada & wasn’t well coordinated btwn card payment networks

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Expensive upgrade for acquirers & merchantsPayment Card Industry Data Security Standard (PCI DSS) (norme de sécurité de l’industrie des cartes de paiement)

Developed by PCI Security Standards Council, which was formed in 2006 by the five payment card brands: Visa, MasterCard, American Express, Discover and JCB (not Interact)

standard was created to establish a comprehensive set of intl security principles & requirements for enhancing payment account data security & standardize card data protection, rather than each card having their own requirements

PCI DSS = a set of 12 security requirements w/roughly230 sub-requirements for systems & technology used

o Any org that stores, processes or transmits payment card data involving one of the 5 payment card brands must comply w/the PCI DSS

o All merchants that store, process, or transmit cardholder data must comply with PCI DSS and validate their compliance using the appropriate method.

Failure to comply can resultin a merchant being subject to fines or increases in transaction fees, eventually terminated ability to use cards

(7) Recent Actions Taken by Merchants Merchants in Canada are concerned about

o power of credit card networkso rising MSFs o lack of influence in setting interchange fees.o Merchants are constrained in their choices regarding accepting credit cards given their

widespread use by consumers.o merchants are concerned that the entry of Visa and MasterCard into the Canadian point of

sale debit card market that is monopolized by Interac Debit would inevitably lead to higher merchant fees.

Federal govt has thus taken action (see next section) Merchant initiatives:

o class action suits against the networks for anti-competitive behaviour Dec 2010, class action commenced against Visa and MasterCard in Quebec March 2011, Vancouver businesswoman filed a potential class-action lawsuit

against major financial institutions, alleging a price-fixing conspiracy to increase or maintain merchant fees

April 2011, class action commenced against AMEX in Quebec, challenging its anti-steering rules as being anti-competitive

o Canadian Federation of Independent Business (CFIB) launched a campaign to inform consumers about the high cost of credit card merchant fees and askthem to consider paying with Interac or cash instead

o CFIB published a list of credit cards issued in Canada and their associated merchant service fees for electronic transactions w/card present at a point of sale

Other potential merchant initiatives:o not to accept a brand of credit cardo not to accept new products or serviceso Offering the customer a discount for using a particular form of payment or a particular

brand or type of credit card (only for Visa & MasterCard; AMEX prohibits steering)o Communicating to customers merchant’s costs of various forms of payment;o Taking advantage of merchant service fees negotiated by merchant associations;o Threat to cancel acquirer K w/o penalty following a fee increase or introduction of a new

fee to negotiate lower MSFs

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(8) Recent Actions Taken by Government Actions by Competition Bureau (Bureau de la concurrence)

2008: Bureau advised it would nottake enforcement action against financial institutions that simultaneously issued multiple credit card brands or acquired transactions for multiple credit card networks.

o w/restructuring & conversion of Visa & MasterCard to publicly traded companies, Bureau was no longer concerned about potential for a member of 1 network to influence competitive operations of another network thru dual governance

2010: Bureau announced it had filed an application w/Competition Tribunalto strike down Visa & MasterCard’s merchant acceptance rules (no discrimination, no surcharging and honour all cards)

Other Actions Taken by Government 2009: 2 parliamentary committees held hearings on CDN credit & debit card systems March-May 2009: Senate Standing Committee on Banking, Trade and Commerce held hearings

on CDN credit & debit card systems. June 2009: report, “Transparency, Balance and Choice: Canada’s Credit Card and Debit Card Systems” w/recommendations to fed govt:

o appt of an oversight board w/in an existing federal org to: make recommendations on regulatory 7 legislative measures required to ensure

fairness for participants monitor & publish annually information on trends in interchange, switch,

merchant & other payment systems fees establish a code of conduct for payment systems participants

o take appropriate action re: credit cards to: permit surcharging &/or discounting by merchants; require merchants to display, at point of purchase, amount of any applicable

surcharge or discount; permit merchants to inform customers about relatively lower cost payment

methods; prohibit any honour-all-cards rules

o take appropriate action re: debit cards to: require calculation of switch & interchange fees based on a flat fee for debit card

transactions; set interchange fee at zero for 3 yrs for all debit card transactions; prohibit priority routing so cardholders are able to select their preferred payment

method when using a co-badged card. May-November 2009: House of Commons Standing Committee on Industry, Science &

Technology held hearings on credit card interchange fees & debit card system September 2009: govt promulgated new credit card regulations, Credit Business Practices

Regulations & regulations amending existing Cost of Borrowing Regulations, that require issuers to provide increased disclosure for consumers, & to make changes to customer documentation & business practices.

(9) What Other Countries Have Done Similar challenges to those in Canada: competition, hardware upgrades, restrictions on merchants

& methods for determining credit & debit card interchange fees Intl govt actions have focused on:

o Regulating relationships between merchants and issuers and card networks, such as prohibiting card networks from imposing certain rules on merchants;

o Establishing maximum interchange fees or capping average interchange fees; o Allowing more institutions to enter the credit card market by changing the requirements

to qualify to act as issuers or acquirers; and o Conducting investigations into the functioning of the payment card market, including

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legal antitrust proceedings. Various national responses can be categorized as either legislative/regulatory or an action by the

competition authority (anti-trust), while some have taken a cooperative approach, usually coupled with the threat of regulatory action.

Case studies of Australia, the US, New Zealand and Mexico:o Australia has taken a legislative or regulatory responseo US, as required by the Dodd-Frank Wall Street Reform and Consumer Protection Act, the

Federal Reserve Board (FRB) issueda final rule in June 2011 establishing standards for debit card interchange fees and prohibiting network exclusivity arrangements and routing restrictions

Issuers with assets of less than $10 billion are exempt from the debit card interchange fee standard. All issuers and networks are prohibited from restricting the number of networks over which electronic debit transactions may be processed to less than two unaffiliated networks

issuers and networks are prohibited from inhibiting a merchant’s ability to direct the routing of the electronic debit transaction over any network that the issuer has enabled to process it

Setting of debit card interchange fees has been a very controversial subject in the US; consumers & small business would face higher retail banking fees while large retailers would receive a substantial windfall owing to lower fees

2010, The US Department of Justice (DOJ) filed a civil anti-trust-lawsuit against Visa, MasterCard and AMEX challenging their credit card rules that prevent merchantsfrom offering discounts, rewards and information about card costs.

DOJ reached a proposed settlement with Visa and MasterCard (but not American Express – litigation is on-going)

Settlement led to Visa & MasterCard networks agreeing to allow merchants more flexible discounting and price differentiation and information disclosure

economic analysis by Federal Reserve Bank of Boston: the settlement represents a significant step toward promoting competition in credit card market but merchants are unlikely to be able to take full advantage of settlement’s new freedoms b/c they currently lack comprehensible & complete info on full & exact merchant service fees for their customers’ credit cards

o Reserve Bank of New Zealand oversees the payments system for the purpose of promoting a sound and efficient financial system. However, unlike Australia, the Reserve Bank has not intervened in the credit and debit card markets. It has been the Commerce Commission, New Zealand’s competition authority, which has taken action against Visa and MasterCard as well as the credit card issuers.

Commerce Commission startedcivil proceedings against Visa, MasterCard and 11 financial institutions for price fixing of credit card interchange fees

price fixing was btwn card schemes & their member financial institutions 2 days before court case was to commence, Commission reached similar

agreements w/Visa & MasterCard that settled Commission’s claims Commission reached separate agreements with each of the financial institutions As a result of these agreements, the Commission indicated that the average

interchange fee has declined significantly for all merchants in New Zealand. Smaller merchants are joining associations in order to negotiate with

issuers for lower interchange fees. They are also surcharging for payments by credit card.

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o Mexico: central bank, Banco de México (BM), has legislative power to regulate retail payment systems throughout country & was able to use moral suasion on Mexico’s Bank Association (ABM) starting in 2004 to force a reduction in interchange fees (& resulting merchant service fees) to encourage merchant acceptance of card payments & thereby boost use of electronic payments.

At the same time, Mexican govt subsidized installation of point of sale card terminals.

These 2 initiatives achieved intended result of increasing use of cards (& reducing use of cash) for payments in Mexico.

2004: ABM started to set different interchange fees for debit and credit cards(10) What We HeardMerchants (Commerçants)

Merchants are very concerned, with the rising cost of accepting credit cards, that the entry of Visa and MasterCard into the debit card market would lead to higher merchant fees.

merchants wld like to see a better balance btwn needsof merchants & credit card networks, govt regulating credit card fees, & Interac Association continuing as a non-profit entity

Complaints about cost of both migrating to chip & PIN & implementing & complying w/PCI DSS, claiming they do not receive any direct benefits from these additional costs

Code of Conduct has apparently helped these concerns CFIB believes regulation is not required if there is a properly structured code of conduct

Consumers (Consommateurs) consumer groups indicated they were concerned w/rising merchant fees & believe that govt shld

regulate interchange fees. On the other hand, Consumers’ Association of Canada (CAC) is not keen on govt regulation.

o Rather it believes voluntary agreement of credit card issuers to reforms wld produce better outcomes & permit flexible approaches by & cards industry & govt

o Disappointment w/Competition Board’s 2010 decision to challenge merchant acceptance rules on no surcharging & honour-all-cards

CAC has taken position that eliminating honour-all-cards rules wld create massive consumer confusion, is unworkable & anti-consumer

Surcharging wld mean higher prices for consumersNetworks (Réseaux)

All the credit card networks, Visa, MasterCard & AMEX-(Amex does not have interchange fees), are opposed to any efforts to regulate interchange fees & their merchant acceptance rules, namely honour-all-card & no-surcharging rules.

They also agree that the Task Force should take into account the impact of the Code of Conduct on credit & debit card markets & address merchants’ concerns.

Visa is concerned many of Task Force’s proposals “appear to be informed by a decidedly retailer-centric viewpoint” & do not believe Task Force has adequately considered effects of its proposals on Canadian consumers.

Visa believes that Canadian payments market is fundamentally working & does not agree w/assessment of Canadian electronic payments as potentially falling behind other countries

MasterCard is concerned with the relative absence of the consumer voice merchants receive extraordinary benefits from card acceptance and the amount of interchange

fees received by card issuers is well below the costs those issuers incur AMEX believes that competition in the payments sector encourages innovation and investment

and benefits consumers and merchants alike. Interac recommends that the Code of Conduct serve as foundation for future policy efforts as the

marketplace and technology evolve. Interac argues that the Code of Conduct is not anti-competitive because the prohibition on

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competitive co-badged debit cardsand equal card branding requirements make consumer choice visible.

Interac believes that the Competition Tribunal Consent Order should be rescinded or, at the minimum, amended to give Interac more flexibility. Interac argues that the Consent Order has limited the Interac Association to an outdated structure placing it at a significant disadvantage to its competitors.

Issuers (Émetteurs) Canadian Bankers Association (CBA) does not agree that the credit card system is unfair to

merchants, since both consumers and merchants derive significant benefits from the use and acceptance of credit cards. Merchants, issuers, and the networks themselves are for-profit entities and all must generate a sufficient rate of return to merit participation.

CBA strongly recommends that the views of consumers be taken into consideration in the final recommendations of Task Force.

Acquirers (Acquéreurs) generallyof the view that the networks don’t provide adequate notice of technological and

standard changes. Canadian payments industry is well developed and efficient and self regulation has played a key

rolein its successful development, for example PCI DSS Canada-specific approaches and regulations that inhibit the ability to benefit from global

standards, interoperability and scale should be avoided.Others (Autres)

C.D. Howe Institute and International Center for Law and Economics recommend that the Task Force carefully define and limit what it means by fairness. They assert that the credit card system in Canada is world class in quality, innovative and fully integrated into the global economy.

warns that any attempt to interfere w/setting interchange fees can have unintended, deleterious consequences.

it is important to recognize the powerful forces of competition and innovation in the payment market.

o Task Force shld focus on removing existing regulatory & governance structures that may be impeding innovation & competition before considering adopting new ones

Edgar, Dunn & Company, an international management consulting company, does not agree that merchants and consumer groups do not have an effective forum in which to work together with payment service providers to resolve issues

o continued central involvement by government has resulted in a lack of flexibility for Interac andfor potential competitors to generate revenue for their networks through competitive, market driven actions

o while selected participants (e.g. merchants) may be satisfied with the low cost to them of Interac Debit, the costs to provide them with services are being incurred by other participants (in this instance, consumers) through relatively high fees on chequing accounts

(11) What We Believe and Recommend Code of Conduct = more power given to merchants in their relationship w/networks, issuers &

acquirerso improving transparency, disclosure and choice for merchants and has helped merchants

resolve disputes in their favouro RCC indicated that Code of Conduct’s main accomplishment = shining a light on

payment system practices & made it clear to merchants there was no real market competition. It did, however, recognize that Code of Conduct maintained or protected Interac Debit.

o Code of Conduct should be reviewed and updated on a regular basis (every 2 yrs)

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o following amendments to the Code of Conduct that would contribute to enhanced transparency and disclosure in credit and debit card markets and choice for merchants:

Identification of premium cards & interchange fees prior to transactions Disclosure of spending & income levels for premium cards Merchant differential discounts among different payment card networks &

among different types or categories of cards from the same network. Clarification of Steering policies

o proposed Self-Governing Organization (SGO) required to collect & publish on a regular basis infor on trends in interchange, switch, merchant & other payment systems fees

o Govts are limited by their inability to act quickly, only ever using ad hoc solutionso Need to shift regulatory mind-set away from prescriptive, reactive solutions towards one

that is more risk-based, flexible and collaborative. o Difficulty of setting interchange fees

regulation of interchange fees is problematic and can have unintended adverse consequences on competition, innovation & consumers.

o Difference in who bears the costs of card payment systems Unlike with credit cards, consumers (as opposed to merchants) are directly

paying a significant portion of cost of Interac Debit point of sale payments. Lower relative cost of credit cards for cardholders may have influenced CDN

consumers to use credit cards more intensively than debit cards In the US, the UK & Australian, the opposite is true

o Stakeholders: payment card networks have proactively engaged with merchants & shld continue to engage w/all stakeholders

o Competition Bureau has been addressing anti-competitive behaviour in credit and debit card markets since the early 1990s. It should continue to do so

o Task Force believes new payments legislation is appropriate but its function would be in defining the payments industry and underpinning a new governance model for the payments system, including credit and debit card

D) Payment Card Network Act and related Code of Conduct for the Credit and Debit Card Industry in Canada

No regulatory framework for credit cards up until 2010. For the first 50 years of their life in Canada they were not governed by any government regulation. The practices that were challenged by merchants and consumers had been in place for 50 years.

Merchants hate the no discrimination ruleyou must accept all of the company’s cards, you can’t play with your prices or offer discounts or surcharges to guide consumer choices.

Purpose S. 2 PCNA

The purpose of this Act is to regulate national payment card networks and the commercial practices of payment card network operators.

Commercial practices are the contracts between the parties (this is actually a provincial thing). The constitutional basis for this has not been challenged but Lemieux thinks it should

Definitions S.3 PCNA

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Acquirer: means an entity that enables merchants to accept payments by payment card by providing merchants with access to a payment card network for the transmission or processing of those payments. It does not include that entity’s agent or mandatary.

Payment Card: means a credit or debit card — or any other prescribed device — used to access a credit or debit account on terms specified by the issuer. It does not include a credit card issued for use only with the merchants identified on the card

Allows for rapid evolution (for example mobile wallets “other prescribed devices”)

Payment card operator: means an entity that operates or manages a payment card network, including by establishing standards and procedures for the acceptance, transmission or processing of payment transactions and by facilitating the electronic transfer of information and funds.

Visa/Mastercard

Application S.4

This Act applies to payment card network operators.

Supervision S. 5-Financial Consumer Agency of Canada

Financial Consumer Agency of Canada was created to help merchants and consumers.(1) The Financial Consumer Agency of Canada, established under section 3 of the Financial Consumer Agency of Canada Act, is responsible for supervising payment card network operators to determine whether they are in compliance with the provisions of this Act and the regulations.

Regulations- S. 6 PCNA-Regulations

This regulatory power is the teeth of legislation. Shaded because it is not enforced. Government proposed that they adhere to it voluntarily. Saying that if they don’t they will enforce the provision. So in reality the act doesn’t govern the credit and debit card industry, the code of conduct does.

6. The Governor in Council may, on the recommendation of the Minister, make regulations(a) Respecting payment card networks;(b) Specifying the types of rates that a payment card network operator must disclose and the manner in which the disclosure must be made;(c) Prescribing the time and manner in which a payment card network operator must give notice of any new rates or any changes in its rates or fee schedules, as well as to whom the notice must be given;(d) Prescribing conditions regarding the issuance of payment cards that a payment card network operator must include in any agreement entered into with an issuer;(e) Prescribing conditions that a payment card network operator must include in any agreement entered into with an acquirer;(f) Prescribing anything that by this Act is to be prescribed; and(g) Generally for carrying out the purposes and provisions of this Act.

A “voluntary” Code of Conduct for the Credit and Debit Card Industry in Canada

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This is what the government asked the industry to voluntarily conform to. It regulates the industry. If not followed the government will force S.6 into action.

Purpose of the Code

The purpose of the Code is to demonstrate the industry’s commitment to:1. Ensuring that merchants are fully aware of the costs associated with accepting credit and

debit card payments thereby allowing merchants to reasonably forecast their monthly costs related to accepting such payments.

2. Providing merchants with increased pricing flexibility to encourage consumers to choose the lowest-cost payment option.

3. Allowing merchants to freely choose which payment options they will accept.

Scope of the Code

The Code applies to credit and debit card networks, (referred to herein as payment card networks), and their participants (e.g. card issuers and acquirers).The payment card networks that choose to adopt the Code will abide by the policies outlined below and ensure compliance by their participants. The Code of Conduct will be incorporated, in its entirety, into the payment card networks’ contracts, governing rules and regulations.The Code will apply within 90 days of being adopted by the card networks and their participants. Issuers will have up to one year to re-issue cards already in circulation that contravene Element 6 or 7.

Policy Elements of the Code s.1-10 :

S.1: Increased disclosure to merchantsIncreased transparency/disclosure from the network/acquirers to merchants. The Code of Conduct says their needs to be disclosure in a clear, simple and not misleading manner. Otherwise, merchants can complain to the FCAC, who can force the acquirers to change it.

S.2: Prior notice of new fees or fee increasesMandatory 90 day notice of fee/rate change. Otherwise, you can register a complaint with the FCAC

S.3: Free opting out right following new fee or fee increaseMerchants may refuse a service if they disagree with the fee.

S.4: Freedom to choose only debit or credit payments from a networkMerchants accepting credit card payments from one payment card network can’t be forced to accept debit card payments from that same network. This is important. Visa and MasterCard also have debit services in other parts of the world. Interac in Canada is the only debit network available. Visa hadn’t yet introduced its debit services to Canada – Interac asked for protection, because they would have been run out of business. Section 4 addresses this; Visa was coming in with proposed contractual terms saying “if you accept our credit cards, you can only accept our debit cards”. Section 4 really has the object of preserving interac by barring the practice of VISA and Mastercard of making merchants only accept their cards.

S.5: Right to provide discounts for different methods of paymentsRenders void credit and debit rules preventing merchants from offering discounts. Merchants can now offer discounts to those consumers using cheaper forms of payments (first time in 50 years). Although, people don’t seem to be using it. (Maybe they will start as credit card interchange fees get crazier.). It

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deals with discounts but doesn’t deal with surcharges. Merchants tried but didn’t get it. They then went to the competition tribunal who dismissed their case as well.

S.6: Competing domestic applications from different networks on the same debit cardAn attempt to protect interac by preventing a card network from having a debit card and credit card option on the same card. They have gotten around this by having cards that operate on debit in Canada and as credit outside of Canada. A number of different debit applications may exist on the same debit card, such as those used for domestic point-of-sale, international point-of-sale, Internet, telephone and ABM transactions. However, a debit card may only contain a single application for each type of transaction. One application for each transaction

“Competing 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.”

S.7: Equal co-branding of payment card networks on co-badged debit cardsThey want the logos to be the same size. If they are not a consumer might think that Visa is more important.“Payment card networks will ensure that co-badged debit cards are equally branded.”

S.8: Co-existence of debit and credit functions prohibited on same payment cardThose who don’t understand the difference between debit and credit cards. Looks like another way to protect interac (although not stated).“Payment card network rules will ensure that debit and credit card functions shall not co-reside on the same payment card. Reason given by minster is to protect consumers.”

S.9: Consent to and targeting of premium payment cardsPayment card network rules will require that premium credit and debit cards may only be given to consumers who apply for or consent to such cards. In addition, premium payment cards shall only be given to a well-defined class of cardholders based on individual spending and/or income thresholds and not on the average of an issuer's portfolio.

S. 10: Express consent required for new products or services“Payment card network rules will ensure that negative option acceptance is not allowed.”If payment card networks introduce new products or services, merchants shall not be obligated to accept those new products or services. Merchants must agree in writing to accept the new products or services.

Competition Tribunal 2013 order- Visa and MasterCard “No Surcharge Rule”

No surcharge rules (les règles interdisant la perception de frais additionnels) prevent merchants from charging consumers a fee for use of a credit card instead of another method of payment. So the competition tribunal dismissed the case saying the no surcharge rule is not anti competitive. They said that the issue should be taken up by Ottawa and that a payment regulator should be dealing with this. It is a political issue, and a regulatory body such a minster of finance should deal with them.

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E) The Future of the regulatory framework

Finance Canada Payments Consultative Committee

Today the payment industry is governed by the ministry of finance and takes recommendations from the Finance Canada Payments Consultative Committee. Instead of following the recommendations of the task force (discussed below), the minster created the Finance Canada Payments Consultative Committee.

FinPay (or the Committee) is a forum of public and private sector representatives that will discuss industry level developments in the Canadian payments system.Membership of FinPay will be determined by Finance Canada and include stakeholders from the public and private sectors, representing established payments industry players, newer entrants, corporate users, merchants and consumers. There will be a mix of permanent and renewable term members.FinPay will:

Advise Finance Canada on developments related to public policy aspects of payments issues (e.g. competition, innovation, safety, user needs or consumer protection); and

Discuss approaches for dealing with emerging and ongoing challenges/opportunities in the payments system.

Inform Government policy-making about the Canadian payments system. Working groups may be established under FinPay as appropriate to further these objectives.

Bank Accounts And The Banker-Customer Contract

A) Legal nature of bank deposits (credit, debit and prepaid payment accounts)

We’re looking at agreements behind bank accounts. Always two bank accounts: One that funds the transaction and One that collects the proceeds from the transaction.

B) Obligations forming Part of the Contract

A) Implicit Obligations: 3 fundamental features between bank and customer when customer makes a deposit

If you went to the bank and opened an account with no agreement but a bank account number, a contract would be formed. Despite the fact that there was no written agreement.

1. To repay the deposits to the customer or to the customer’s order-“Fund Payments”

(1557 CCQ, 167 BEA, BIA 78)

1. You can get the money back with interest (money is fungible-any money will do)-“get it back”/ “Fund payments” (Banks obligation to repay you or your payment order)

a. In person and ATM: Asking a teller at the branch, ATM with debit card (with potential fee if from other bank). Paper trail should be created by bank (Casino example)

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b. Honored payment instructions: Using your debit card in a store at a point of sale (takes away money with your consent, done through acquirer by the interac system)

c. Honored payment instruments: Cheques (You order your bank to pay the beneficiary a stated amount. The cheque is cashed by the beneficiary and then the cheque is sent back to your bank)

Art. 1557CCQ

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 creditoro General provision in the CCQ that deals with payments-reflects expectation to get money

back. o Basic principle: pay your creditor or who your creditor has instructed you to pay.

Your deposits should be paid to you or someone you authorize to receive your payment. This is the bank’s obligation.

When you make deposits your bank becomes your debtor. When you write a cheque and the bank pays it, the bank is repaying the loan you have made to it.

*The Ratio in Arrow transfer box is proof of this implicit obligation

Two types of situations1. The BMO v AG case shows us a situation where the bank fails to discharge their duty (pays your

deposits to someone you didn’t authorize)if you countermanded it/if the person died/bankrupt2. Another situation would be if you wrote a cheque (or attempted a wire transfer) and the bank

never pays that cheque (lost in their system). They become open to liability if they don’t deliver as they have breached their contract.

ss.167 Bills of Exchange Act Authority to pay

The duty and authority of a bank to pay a cheque drawn on it by its customer are determined by

(a) countermand of payment; or

(b) notice of the customer’s death

Says cheques are revocable instrumentsCountermand means to revokeo This is why retailers don’t want them

(a) Countermand or (b) Death means the banks obligation to repay is extinguished If a cheque is countermanded art.1557 does not apply because there would be no authority when

your revoked the cheque. When the bank is advised that its personal customer has died any authority to repay is ceased.

This is because their patrimony is transferred to their estate. The estate is a different person from the original person.

ss.78 Bankruptcy and Insolvency Act

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.

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When a company becomes bankrupt payment obligations to pay cease, instead they must tell the trustee about the bank account. Taken over by a trustee, a different person. Similar to a death.

Bank of Montreal v, AG Quebec-Relates to #1 getting it back/fund payments-the bank’s implicit obligation to not pay forged cheques.

Government of Quebec has an account with BMO. Massive volume of transactions, so banks don’t sign written agreements (very rare situation). The case concerns this unwritten contract. The bank had a written a cheque to two beneficiaries- a construction company and a notary. The notary was there to draw up papers that would give title to government and take it away from Construction Company. Thus title would coincide with payment. Government sends cheque to notary; notary forges the signature of Construction Company, notary runs away. Cheque then gets debited from government account but Construction Company never got paid, so they never transferred the property. So although it was debited, the funds did not go to the right place (only to notary). BMO did nothing wrong here. They could have never known what the Construction Company’s signature would have looked like.

The fact that BMO didn’t do anything wrong is not relevant. They are contractually liable because the city couldn’t get it back. It is a contract focused on result. Your deposit in the bank is a loan that you expect to get back.

Ratio: If you don’t get that loan back the bank faces a strict liability regime. The ability to get money back/fund payments ie (not pay forged cheques) is an implicit obligation in the contract with a bank despite the fact that there was no written agreement.

Ratio: Rule in Bills of Exchange act says you need to give notice within one year if there is a forgery. This is implicit in the bank’s contract. Doesn’t matter if the client is a government. Because the government didn’t give notice in one year the bank was relieved of its obligation.

Ratio: “There is no doubt that a banking contract between a banker and his client includes an obligation on the part of the banker not to pay a cheque to one who is not entitled to it”

Bank of Montreal v, AG Quebec (1979)-SCC

Facts: The government of Québec issued a cheque to a 3rd party (compensation for expropriation), drawn on its bank (Δ BMO). A notary, who received the cheque, forged it by changing the payee name to his and deposited it to his bank of Caisse Populaire. BMO debited the government’s account. The government learned of the forgery and demanded its money back from BMO – more than 1 year later. Bank refused b/c government failed to give notice of the forged endorsement within a year of the time the government learned of it [ss. 49(3) and (4) of Bills of Exchange Act require a customer to inform the bank of forgery within one year – to be able to claim compensation] Government invoked the rights and prerogatives of the Crown, maintaining it was not bound by s.49SC and CA considered government claim well-founded + allowed government action. Bank now appeals.

Issue: Whether the Crown was bound by a contract to which it gave a valid consent?

Holding: Appeal should be allowed. BEA adds to implicit obligations of a bank not to pay to forged cheques. But limitation period defeats action. Bank wins, government loses.

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Legal Reasoning:

The lower courts were wrong to consider this matter as if the question at issue was as to the extent to which the Crown was bound by an Act that imposed an obligation on it or affected its prerogatives.

The question that arises is rather whether the Crown was bound by a contract to which it gave a valid consent. In the case at bar, when the government opened a bank account, it entered into a contract with its banker.

In a contract of this type the parties are usually silent as to the contents; they rely on commercial custom (art. 1017 C.C.) and the law. By enacting subss. (3) and (4) of s. 49 of the Bills of Exchange Act, the legislator has regulated certain aspects of banking contracts.

The rule is that a cheque paid upon a forged endorsement is held to have been paid in due course unless the client has given notice within one year after he learns of it. Unless notice is given, there is no claim. There is thus no question of a time for prescription. The obligations resulting from these enactments are binding on the parties and, by application of art. 1024 C.C., they must be considered as obligations arising from a contract rather than from the operation of the law solely. In matters of contractual liability, the Crown is not governed by any special provision: the Crown is bound by a contractual obligation in the same manner as an individual, whereas as a general rule it is not bound by an obligation resulting from the law alone unless it is mentioned in it.

The rights and prerogatives of the Crown therefore cannot be invoked to limit or alter the terms of a contract, which comprises not only what is expressly provided in it but also everything that normally results from it according to usage or the law. The government’s claim against the bank is based on a contract; to be entitled to it, the government had to comply with the agreed terms. It did not do so

The K btw a bank and its customer is supplemented by the banking customs and the law (e.g. BEA). “There is no doubt that a banking contract between a banker and his client includes an obligation on the part of the banker not to pay a cheque to one who is not entitled to it”

When this implicit obligation is breached, a customer has a right of action against the bank, but BEA further imposes a condition that the action must be brought within 1 year.

2. To collect instruments deposited to an account-“Turn cheques into Credit”

(Rule A4, 458.2 Bank Act, Access to Funds Regulation)

2.Receive and Collect deposits/Collect payments: Expectation is that your bank will transform piece of paper/electronic message into credit that you can use to fund your payments.

Distinction between Canadian, American, and international cheques (where they are being drawn from). In Canada the cheque can be drawn on the same bank that it is cashed at. This is a rapid process. If it’s two different Canadian banks it goes through ACSS. When it is drawn on a US bank and cashed by a Canadian bank it takes longer. International cheques take even longer.

The payer is called the drawer (or issuer), the payer’s bank is called the drawee’s bank The payee is called the payee, the payee’s bank is called the collecting bank (or negotiating

bank) So a payer delivers a cheque to payee (for consideration of G+S)Payee delivers cheque for

collection to his bank accountPayee bank delivers funds to your account (provisional credit)Goes through ACSS (drawee’s bank is provincially debited and Payee bank is

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provincially credited)Payer’s bank is notified (cheque is presented to Drawee bank)Possibility of cheque being returned to payee. If ok, all good. If not good, process is unwound.

95% of the time you can use the funds. o If it’s a Canadian bank cheque the bank will give the client a provisional credit in

their account when the cheque is deposited. The amount is posted provisionally for two purposes (1) the bank is showing consideration for your deposit making them the holder and allows them to proceed to the next step: the clearing and settling process (ACSS). (2) Customer convenience.

o If the cheque is from the same bank it doesn’t need to go through ACSS, the banks do it internally “On-us items”

Rule A4 ss.3-6:

Rule A4 ss.3-6: Lists the occurrences that allow the drawee’s bank to have the cheque returned and the cheque will be reintroduced to the system. Also discusses other kinds of funds 3(b)(I)-Rules do no apply to Interact, Bill on Line, Using your debit at the ATM, Pre-

authorized debit. These electronic forms of payment cannot be returned…irrevocable settled

4-Reasons for Returno Forged or Unauthorized Signatureo Counterfeit Itemo Force Majeureo Material Alteration to date, sum payable, time of payment, etco NSF on bank draft/certified cheques can’t be returned

5-Banks have 24hrs from the point of effective receipt (place that can determine if cheque is good includes regular forgeries). Putting the cheque back in ACSS during that time, reverses the process. Very powerful instrument for the drawee bank. Payee bank will see this in ACSS before it gets cheque back.

6-If there is a forged endorsement you have 6 years These rules on apply to CPA members, however many layers of rules apply to the different

parties. This is why we will often see intersecting legislation.

Problem: There is no definite period of time to know how long it will take for a cheque to be no good (certain things take longer than other). This makes the payee bank vulnerable because it can take a long time for the payer bank to find a problem. Examples include forgery and other types if fraud (Rule A4). If a cheque is determined to be no good and the cheque is returned to the payee bank, the payee bank has a problem because they have already credited their client’s account (the money might not be there).

o One way of dealing with this is the hold period or holding policy. This is what they are talking about Re Collections Inc. v. TD Bank

o Needs to be a balance between safety and the steady flow of commerce

S. 458.2Bank Act

The Governor in Council may make regulations respecting the maximum period during which a bank may hold funds in respect of specified classes of cheques 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 the funds.

Discusses hold period for cheques and other interests Deals with expectation that bank will collect the money you put into your account

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Our expectation is that our bank will transform the instrument into available cash Uncertainty in Canada as to when a cheque is paid (Re-Collections)

Access to Funds Regulation

This regulation is what was regarded as an appropriate balance between banks and consumers

Cheques in Canadian currency drawn on Canadian banks Came into existence after Re-Collections case

Section 1 Definitions eligible enterprise: means a business with authorized credit of less than $1 million, fewer than 500 employees and annual revenues of less than $50 million. (entreprise admissible)

Section 2 Application Sections 3 and 4 apply only with respect to paper-based cheques or other instruments deposited in Canada that are encoded with magnetic ink to allow for character recognition, are not damaged or mutilated such that they are unreadable by cheque clearing systems, are drawn on an institution’s branch located in Canada and are issued in Canadian dollars.

Section 3 Maximum hold periodAn institution must make available for withdrawal any funds deposited by cheque or other instrument to a retail deposit account or to a deposit account held by an eligible enterprise

(a) in the case of a cheque or other instrument not exceeding $1,500, no more than four business days after the day of the deposit if it is deposited in person with an employee at one of the institution’s branches or points of service or no more than five business days after the day of the deposit if it is deposited in any other manner; and

(b) in the case of a cheque or other instrument greater than $1,500, no more than seven business days after the day of the deposit if it is deposited in person with an employee at one of the institution’s branches or points of service or no more than eight business days after the day of the deposit if it is deposited in any other manner

Re Collections Inc. v. TD Bank-Attempts to describe the clearing process The case is a class action (legal proceeding where by one person takes an action on behalf of a

whole group). This situation was one where a class action was taken without a real legal basis-it was eventually dismissed and never received C.A certification (rare). The class was claiming that there is a gap between the time when the cheque is paid and when the proceeds are made available to them. They think this gap is unfair because the bank can profit from the funds despite the fact that they unavailable. A sort of unjust enrichment.

The claimants said that the cheque was paid when bank receives settlement from ACSS. Flawed argument because it doesn’t factor in the fact the instrument can be returned.

Case explains why the holding period is there and what risks it tries to mitigate Speaks to the 2nd expectation about expecting your bank to collect deposits and make them

available to you. Ratio: Case says that if bank puts a hold period, and that period is sanctioned by legislation,

there is nothing wrong with the hold period.

Re Collections Inc. v. TD Bank (2010)-Ontario Superior Court

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Facts: Plaintiffs held accounts at defendant banks — Terms of each of banks' contracts with its customers permitted "hold" to be placed on cheque deposits, restricting customer's ability to access funds for specific periods of time — Plaintiffs alleged that "hold" periods imposed by banks were excessive and had result of giving banks’ ability to use money that belonged to depositor between time it was allegedly "paid" by drawee bank and time hold was released and funds were available to customer — Plaintiffs alleged this was breach of their contracts with banks, gave rise to other causes of action and was unjust enrichment of banks at their expense — Plaintiffs brought motion to certify their actions as class actions. The banks say that a hold is a legitimate risk-management practice that is authorized by their contracts with their customers and sanctioned by the federal regulator, the Department of Finance. They say that the hold provides some protection for the bank and its customer against the subsequent dishonour of the cheque, something that can happen long after the initial deposit of the cheque. Issue: Is a hold on a bank account a contractual breach with its customer?

Holding: No, motion dismissed.

Legal Reasoning: On the general principles of clearing and settling cheques: Plaintiffs had built theory that had no

basis in fact or law and attempted to construct class action around it — Theory was that cheque was "paid" at some point in clearing system, time of "payment" could be identified, hold could not be justified for more than "reasonable time" after cheque had been paid, and judge at common issues trial could determine what that time should be — Common issues were premised on validity of this theory — Problem with theory was that it focused on clearing, and on actions of drawee bank, which had nothing to do with relationship between collecting bank and its customer — There was no specific date on which bank could know definitively that cheque would not be honoured — As practical matter, banks were prepared to accept risk, subject to their rights of indemnity, after passage to times set out in their account agreements — Plaintiffs agreed to those terms — Actions of defendants, as pleaded, were consistent with those terms.

On the cause of action:  Plaintiffs failed to identify and plead any express term that had been breached — Although plaintiffs disavowed any reliance on implied term, they were really alleging implied term that, notwithstanding express maximum hold period, bank was required to release funds once cheque cleared or was settled or was finally paid — There were insurmountable difficulties with implication of implied term of nature relied upon by plaintiffs — Plaintiffs failed to plead cause of action for breach of either express or implied term of their contracts — Plaintiffs also pleaded that banks had and breached "common law duty" to release their funds within "reasonable time period" of date on which bank was "paid" in respect of particular cheque, negligence, conversion, breach of fiduciary duty and agency relationship, and unjust enrichment, and sought disgorgement based on waiver of tort — Causes of action pleaded were not tenable.

Ratio: Hold provisions are reasonable contractual stipulations for risk-management purposes. A cheque is not paid when it passes through clearing or when a debit is charged to the drawer’s

account. Releasing held funds would expose a collecting bank to the risk of losing money if the cheque was returned as dishonored within the time permitted by the Payments Association.

3. To Keep bank account information confidential

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3.Privacy-We all have the expectation that what goes on in your bank account stays between you and your bank. This is not only true for individuals but for corporations as well (both have privacy expectation). Difference is that people have actual statutory personal rights to privacy under PIPEDA-federal statute. Today we have laws to make sure bank privacy protection doesn’t shield criminals (Anti Money Laundering) and (Anti Terrorist).

B) Obligations expressed in standard form contracts

Agreements respecting the operation of accounts: Customer’s duty to verify accounts and give notice of irregularities, and implement control procedures to prevent internal fraud.

(1474 CCQ, 10 CPA)

BMO Business Account Agreement and other Account forms

Business Banking Account information form shows the authorized signatories on the account. Important because it limits the authority within the bank. Part D limits the amount of people who can use telephone and online banking.

The business banking certificate and authorization form formally authorizes the conduct of banking activities. It describes every kind of activity that can go on between corporation and the bank (sign cheques, order bank drafts, mortgage company assets, etc). Documents names and identifies all the people involved.

Points of above documents: Moment where the representatives of a company who will transact with the bank are formally identified.

Looking at the actual BMO business banking agreement. o All of these contracts are known as contracts of adhesion

Abusive clauses can be read down Contracts are interpreted contra preferentum (against the person who stipulated)

o 1) Deposits to Account: Our expectation is that the bank will take our payment instrument and give us the proceeds. In reality the bank is much more defensive. For example, says it won’t take cheque if it isn’t endorsed (even though it will take it anyways). (Goes against implicit obligation 2: turning cheques into credit)

o 2) Use of Cheques: Obligation to use their encoded cheques. If three cheques come in and there isn’t enough money to pay them in your account. The bank can choose which cheques it wants to pay (overdraft is usually used for this). Once again this doesn’t speak to our expectation. Our expectation is that the bank will carry out our payment instructions. They allows them to allocate funds without contacting us. (Goes against implicit obligation 1: funds payment)

o 4) Use of agents: You enter into a contract with the bank. In carrying out duties as your bank they might have to higher someone else to do their job. If they fuck up, they say it isn’t their fault. This is meant to exculpate the bank if they outsource their work to someone else.

o *5) Charges to Account: Courts in Quebec have deprived banks from relying on this clause because of a “fin de non-recevoir/estoppel”. Where the bank does something wrong, the courts will not give effect to the charge back provision. Ex) Bedard case: Bedard was doing business in Quebec. He Received a bank draft payable to his company from an African Bank. He was supposed to cash and make payments to people. In return he would receive a 90k commission. He walks into his branch with this $1 million draft. The bank assistant manager looks at it and credits his account. She then sends this draft

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off to special collection (seeing as it is a foreign currency). Bedard then makes the wire requested wire transfer payments. African bank says it’s a forgery. So Bedard’s bank takes back the credit they gave him and subtracts the amounts he paid. So he actually ends up in the negative ($-1mil). The bank is able to collect 800k of the million from the payments he made and sues Bedard for the 200k balance. The court dismisses the bank’s action because the bank exposed Bedard to an over draft they knew he would never be able to pay. Bedard ends up pocketing his initial commission.

A) Instruments drawn on account: Gives bank authority to debit the account. Speaks to expectation that bank carries out payment instructions.

B) Charge back provision: Speaks to discussion in re-collections case. To debit customers account if instrument is returned-so basically taking away the provisional credit it initially gave you. Allows them to recover provisional credit. Mentions the delay of Rule A4, and covers a situation where a cheque is returned even outside of the delay/in contravention of the rule.

G) Amounts deposited in error: Any amount deposited in an account by error of the bank can be debited by the bank (regardless of the amount of time).

Last part: If there are no funds in your account you are responsible for an overdraft.

Last Part: Companies have accounts (loan to the bank-bank has obligation to repay you) and loans with the bank (you have obligation to repay them). The last part of G allows for the set off of the obligations. Ex) You have 10k to the credit of your account and owe the bank 20k. If you don’t have money to repay, the bank can debit your account to recover the amount they loaned you. Once again favors the bank

o 6) Foreign Currency Transactions: All transactions in other currencies are converted to CAD at the bank’s exchange rate at the time of the transaction. It also says they can deny currencies deposited in your account in another currency. What does this say to our expectation about taking our payment instruments? (Goes against implicit obligation 2: turning instruments into credit)

o 8) Compliance with laws: Talks about illegal activities and cheques that don’t comply with the law. Example: wooden cheques and how they may not accept them

o 9) Indemnity: You indemnify and keep bank safe from almost everything related to your account

o 10) Stop Payment: Says they can’t stop payment from instruments that have been certified or have already been presented for payment. This agreement is weak because it doesn’t have a lot of specificity

o 11) Limitation to Liability: If you give wrong information to the bank (wire funds to account 123-and there is no account 123) then the bank is not liable from any harm resulting from this. It also says they are not responsible for any of their system failures (crazy).

o 12) Holding of funds: Follows the access to funds regulation guidelineso *14) Account statements and verifications by you: Where the bank prepares

statements, the customer has the obligation to read those statements and look for irregularities. If the customer finds a mistake they must report a discrepancy to the bank within 30 days. If they fail to give notice then they loose their ability to claim the money back from the bank. One exception is the case of forged endorsement.

Rearrangement of basic and first expectation that funds will be returned to us “get it back” if you don’t do notify within 30 days.

Arrow Transfer case

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Can be thought of as unfair because they are creating their own prescription period.

Perhaps there should be a distinction between consumers and corporations These agreements were challenged on the basis that they were abusive clauses.

The people challenging lost. Reason being the person improperly charged is in a better position to know if they have been wrongly debited.

Art. 1474CCQ

A person may not exclude or limit his liability for material injury caused to another through an intentional or gross fault; a gross fault is a fault which shows gross recklessness, gross carelessness or gross negligence.

He may not in any way exclude or limit his liability for bodily or moral injury caused to another.

Exclusion of liability clauses. Provision that allows party to be shielded from liability Without such a clause, the bank would be liable in Arrow You cannot contract out of intentional fault/gross negligence. Similar doctrines of contract interpretation in the CML (unconscionability) In Stewart mentioned in Arrow a bank manger debited a customer’s account without authority.

The person failed to give notice within 30 days. Bank said they weren’t liable. In Quebec 1474 would prevent bank from invoking this argument. It would be too egregious (flagrant).

Forged endorsements are not part of the account items that need to be verified→they are essentially excluded from an exclusionary clause→too hard for the account holder to know whether an endorsement is forged or not (they don’t know the signature)

Section 10 CPA

Any stipulation whereby a merchant is liberated from the consequences of his own act or the act of his representative is prohibited.

Says that exclusionary clauses might be challenged. Like the one in the verification agreement…

o 15) Your duty of Care: You will maintain procedures and controls to detect and prevent thefts of Instruments or losses due to fraud or forgery involving Instruments. You will diligently supervise and monitor the conduct and work of all Authorized Signatories and all agents and employees having a role in the preparation of your Instruments and your bank statement reconciliation or other banking functions. We shall have no responsibility or liability whatsoever for any loss due to a forged or unauthorized signature unless:

The forged or unauthorized signature was made by a person who was at no time your agent, employee or Authorized Signatory;

The loss was unavoidable despite you having taken all feasible steps to prevent loss arising from forgery or unauthorized signatures;

The loss was unavoidable despite you having in place the procedures and controls to supervise and monitor your agents, employees and Authorized Signatories; and

The loss was caused solely by our gross negligence, fault or wilful misconduct Canadian Pacific Hotels v. Bank of Montreal

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Class notes: Even if you discover within time period, if that debit is the result of a forged instrument from someone from you company or it could have been avoided in some way, the bank is not responsible.

o 16) Transfer Funds by wire: Ability of bank to revoke instructions to wire payments, but they don’t guarantee repayment of funds. Terrible.

Arrow Transfer Co. v. Royal Bank of Canada (Exception to the 30 day rule-the forged endorsement)

Sears was not named a signatory on account (no authority-wasn’t listed on bank documents) and was writing company cheques for the amount over 170k to himself. Did this for 5 years before Bank noticed.

On p.121 bank says that the verification agreement gives the customer 30 days to report the bank and get money back.

So even though the fundamental expectation is reversed, the court gives meaning to the contract. The only exception to the 30 day rule is a forged endorsement . This exception exists because

nobody knows what the endorsement of the payee is supposed to look like.

Arrow Transfer Co. v. Royal Bank of Canada (1972)-SCC

Facts: Sears, an accountant employed by appellant, having access to appellant's cheque forms, forged 73 cheques drawn on respondent Royal Bank which totalled, over five years, $165,109. Some of the cheques were taken directly to the Royal Bank while others were deposited to the credit of accounts, or negotiated for cash, at other banks, including respondent Bank of Montreal. Appellant claimed against the Royal Bank for debiting its account without authority, alternatively for conversion or negligence, and against the Bank of Montreal for conversion, for negligence or for money had and received. Between appellant and the Royal Bank, there was at all material times a written "verification agreement" which placed on appellant the responsibility of protesting the correctness of statements furnished by the bank to its customer within a stated period of time following its receipt, failing which their correctness was to be conclusively presumed.

Issue: In the absence of an express contractual stipulation, is there a duty in relation to a bank to examine bank statements and report irregularities (set up internal controls)?

Holding: No, Appeal dismissed

Legal Reasoning: (Abbott) per Abbott: the verification agreement provided the Royal Bank with a complete defence to appellant's

action. RBC obliges the customer to verify correctness of each statement, and “notify the Bank in writing” within 30 days “of any alleged omissions from or debits wrongly made to or inaccurate entries in the account” after which the account becomes conclusive evidence that all entries are correct. The agreement was a contract defining the terms on which the bank continued appellant's account. The debits entered in appellant's account paid by the banks were "debits wrongly made" within the terms of the agreement and appellant's failure (with one exception) to give notice, freed the bank from any claim in respect of them. Also, payments were not made on forged or unauthorized endorsements.

Per Laskin (Dissent): verification agreement is ambiguous: does not extend to forgeries: the settlement

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could go no further than the document under which it was asserted; however, precluded under sec 49(1) BEA (bills of exchange) AND the appellant’s conduct was such as to preclude it from claiming against the Royal Bank the 72 / 73 cheques. Contract must be construed contra proferentem.

Rule A bank is fundamentally obligated to repay its customer for the loan it deposited in the bank.

The bank limits this obligation with verification agreements putting the onus on the customer to give notice of irregularities. This is for the sake of fairness, as it is a customer who is in the best position to identify these.

At the end of the specified time period the account as kept by the bank becomes conclusive evidence that it contained no debits that should not be contained in it

Canadian Pacific Hotels v. Bank of Montreal (Section 15 of BMO Banking Agreement) Every company within this large company had two accounts. One to draw cheques in and one to

deposit. At the end of every day the mother company would take all the money from deposit accounts and the mother would wire the amount needed to cover the small companies overdraft.

The small company (flight kitchen) required to signatures for their checking account. Sands (the crook) was not an authorized signatory. He forged the signatures of both signatories over a period of 1.5 years for a few hundred k. His job was to review the monthly statements, so obviously he didn’t report this to the bank. Wasn’t caught until the yearly audit. CP (mother of Flight Kitchen) decided to sue the bank because the bank gave money to someone who was not authorized to take them (Goes against implicit obligation 1: funds payment).

In this case there was no verification agreement (very rare-probably because they were dealing with a big company).

The argument was that because CP is such a sophisticated user of banker services, it is expected that you would have internal procedure in the absence of a verification agreement.

Bank Arguments: (1) The bank tried to convince the courts that sophisticated customers should have internal

verifications agreements and that this should be implied in their agreement. (Work at 2 court levels but not at the SCC). SCC said there is no proof to imply such a condition into the contract.

(2) There was an argument about safety measures. The guy who reads the bank statements is the crook…there was nobody watching over him. A real shortcoming in what can be called commercially reasonable measures against fraud. Argument by bank is that CP should have had those measures and because they didn’t they were precluded from claiming.

Ratio: There is no duty to set up internal contracts. If you want to put a duty on your customers put it in your contracts. Courts will not imply it

This is the reason section 15 above exists You’re not bound by statements, only contracts. So although the bank sent statements, the court

did not consider them contracts.

Canadian Pacific Hotels v. Bank of Montreal (1987)-SCC

Facts: Similar to Arrow Transfer. A rogue employed in a financial center of the company forged the names of the signing reps on a number of cheques, and made them payable to a bogus company established in his name. “The responsibility for the bank reconciliations based on the daily bank statements and disbursement records as delegated to the [rogue].” But there, no K btw the Bank & the company, and consequently, no verification agreement (very weird). Forensic accountants established that the internal controls within CP Hotels were “deficient”.

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The bank argued for implicit duty to set up internal controls, and invoked the exception in 49(1) BEA (Bills of Exchange Act).

Issue: In the absence of an express contractual stipulation, is there a duty in relation to a bank to examine bank statements and report irregularities (set up internal controls)?

Holding: CP Hotels owed no duty to set up internal controls: they are not precluded from relying on 49(1) BEA rule.

Legal Reasoning: (LeDain) 49(1) BEA: forged signature invalidates cheque, except where person who argues forgery is

precluded from doing so. The bank argues that failure to verify accounts & set up internal controls precludes the company from relying on 49(1) BEA.

Current duty for customers re: cheques is to use reasonable care to draw cheques in such a manner as not to facilitate forgery or material alteration to them; duty upon learning of forgery to give prompt notification of it.

Should this duty be extended to include reviewing statements? If yes, would preclude plaintiff from using s. 49

Such duty, if it exists, must apply to every customer-banker relationship (not to be limited to sophisticated commercial customer)

A term can be implied if it will:o Give business efficacy to a contracto Meets the officious bystander test (parties would say it was obviously

assumed)Custom or usageo Reasonableness or necessity

It is clear from law and the use of verification agreements that this duty is not necessary for business efficacy and cannot otherwise be presumed to have been intended by the customer. “If banks consider it to be necessary they may insist on verification agreements or obtain appropriate legislation if they can.”

While “there is no doubt that the implication of terms in a contract on the basis of custom or usage is a well recognized category of implication … [in] commercial contracts,” this custom must rest on presumed understanding between the customer & the bank that the duty exists. No evidence of such understanding in the case at bar.

In my opinion, a duty, in the absence of a verification K, to examine bank statements with reasonable care and report discrepancies within reasonable time is NOT necessary or required by the K relationship. It should not therefore be imposed by judicial decision

Rule: No implied duty of internal controls. It must be explicitly stated in the contract (verification agreement)

Banking/Online Banking

(UCC 4a 201-204)

Information can be stolen from the bank, acquirers, or even your own computer (Patco)

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More from BMO business Banking Agreement: Debit Card for Business and Telephone Banking/Online Banking

2) Cardholder Authorization and Acceptance of Instructions “You authorize us to accept, without further verification, and you agree to be liable for all

instructions of the type that we accept given by your Cardholder(s), using Telephone Banking/Online Banking, when those instructions are accompanied by the Card, Secret lD Code, or Card Number, as the case may be, for Transactions”

Agreement purports to authorize anyone using your card and your password The bank will authorize anyone using your cards with your password.

5) Customer Responsibility Authorized transactions: You are responsible for the full amount of all authorized activity

resulting from the use of the Card and/or Secret ID Codes by any person including, but not limited to, your Cardholders. Careless handling of the Card and/or Secret ID Codes can result in serious financial losses.

Unauthorized transactions: You will not be liable for any losses from unauthorized use of the Card or the Services due to circumstances beyond your control. These are situations where you could not have prevented and did not knowingly contribute to the unauthorized use and did not breach the provisions of this Agreement. Such circumstances include our errors, our gross negligence, technical problems or system malfunctions.

3) Acceptance, use of cards, and secret ID codes You acknowledge receipt of the Card(s). By accepting one or more card(s) from us, you assume

responsibility for the Card(s) and their use in accordance with this Agreement. The use of the Card and a Secret lD Code is required to access various services-Use of the Card or the Secret lD Code by you, by your Cardholder, or by any person with or without your consent or knowledge in connection with any Transaction, legally binds you and makes you responsible to the same extent and effect as if you had given signed, written instructions to us, unless you have previously notified us, in accordance with this Agreement, of the loss or theft of any Card or Secret lD Code or that the confidentiality of the Card Number or any Secret lD Code has been otherwise compromised by any means or that unauthorized use of Services may be occurinng.

You may be liable for all losses from unauthorized use of the Card if you: Knowingly contributed to its unauthorized use; Willingly disclosed the Secret ID Codes; Did not keep the Secret ID Codes separate from the Card; or Did not notify us by telephone or in writing within 24 hours of learning that the Card or Secret ID

Code was lost or stolen or that the confidentiality of a Card Number or Secret ID Codes was otherwise compromised by any means or that unauthorized use of Services may be occurring.

These contracts do not recognize the reality that everyone gets hacked. They assume that when your password is used it is you. Patco discusses the reality by looking at the uniform commercial code. Lemieux thinks the BMO agreement is bad in this sense. There are cases like Larose that show that it makes no sense to allow the bank to be exonerated from them loosing your information because they assume that when you access your account electronically it is actually you doing it.

PATCO CONSTRUCTION CO V PEOPLE’S UNITED BANK

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Small Corporation and small bank. Patco used electronic banking to make weekly payroll payments. First largely adopted form

digitalized payments. Payment are usually made from the same IP address, on the same date, and in the same

amountsclear patterns The banking agreement between bank and Patco said that use of the online banking password

means the transaction was done on their behalf. Very similar to BMO bank agreement. Consultant set up system for the bank. They had to refer to a framework that gives guidance to

banks when they are setting up online banking systems (not available in Canada). Regulatory framework said you need to have 2/3 of FFIEC below in the case box. The consultant’s system had two password (one for the company and one for the user) along with this, challenge questions would be prompted if risk acceded a certain risk score. The bank had set the 3-challenge questions. The threshold was very low ($1 instead of the initial $100,000) to prompt those questions. The court said this was risky because it gives malware a better change to infiltrate.

The bank could have added other security precautions. o Email notifications to their customers. So even if you log on with passwords and answer

the questions, an email verification and acceptance could be another step. This was not put in place

o Tokens could have also been used. In addition to name and words, these digits from an app or usb must be keyed in to the computer. The computer knows what the token should be. Needs to match

A bunch of fishy transfers occurred. Very high $ amounts, many in the same week, with different IP address than Patco’s computer. The risk assessment of each transaction was very high. Higher than usual risk assessment. There was NO notification to client when high-risk score occurred (found to be another shortcoming in their agreement).

Turns out that a spy virus was put on the computer specifically to target bank websites. It would save the passwords entered on those cites. This information was sent to a 3rd party who then transferred the funds.

The agreement between Patco and the bank doesn’t talk about any of the features; it just says the customer is responsible for the password.

Court finds that the bank’s actions were not commercially reasonable as per 4a 202 (c): o Threshold of $1 (higher exposure to malware), o High-risk assessments should be sent notifications.

From article 4a Uniform Commercial Code. We don’t have anything like 4a in Canada. Ratio: Articles 4A Uniform Commercial Code; Sections 202 & 204; 4A deals with electronic

fund transfers (wholesale: electronic transfers made by corporations); instructions = payment order; a bank that receives payment orders bears the risk of loss of any unauthorized fund transfer; the bank can shift liability to customer if it proves that its security procedure is commercially reasonable and that it complied with its standards and received instructions in good faith.

Patco Construction Co v People’s United Bank(2012)-US Appeal

Facts: The case, Patco Construction Company v. Ocean Bank, involves a Maine construction company and Ocean Bank, a regional bank that has since been acquired by People’s United Bank.  Patco, a customer of Ocean Bank, used the eBanking feature which allowed them to make electronic funds transfers via the Automated Clearing House (ACH).  Patco used this service primarily for its payroll payments. These payments were made on the same day of the week by computers Patco has in its Sanford, Maine office, from the same IP address and they all

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had federal and state tax withholdings.  No payment was for more than $37,000.  In May 2009, six fraudulent transfers occurred over a seven-day period.  The transfers occurred from an IP address Patco had never used, a device unrecognized by the bank’s system, were sent to individuals that Patco had never sent transfers to and were for amounts between $56,000 and $116,000. The first transfer generated a “high risk” score of 790.  Patco’s usual risk scores were between 10 and 214.  Unfortunately, Ocean Bank did not review or monitor their risk reports.  Some of the fraudulent accounts were invalid and a portion of the transfers was returned to the bank.  The bank then sent Patco a limited return notice notifying them of the incomplete transfers.  Patco then notified the bank that these were fraudulent transfers.  If the transactions had been fully completed Patco would have never received a notification from the bank. In light of this omission, PATCO sued, alleging that Ocean Bank should bear responsibility for the loss because its security system was not "commercially reasonable" under the Uniform Commercial Code, as codified under Maine Law.

Issue: Who should bear the cost of the fraudulent withdrawals?

Holding: The bank must bear the cost of the withdrawals as it did not avoid, or at least minimize, its liability arising from fraudulent transactions initiated through online banking systems in a way that is commercially reasonable.

Legal Reasoning:Over a year before these fraudulent transfers, Ocean Bank had decreased the amount needed in a transfer to trigger the security questions from $100,000 to $1. This lead to security questions being asked every time Patco made a transfer.  According to the court decision, answering security questions for each transaction “increased the risk that such answers would be compromised by keyloggers or other malware that would capture that information for unauthorized users.” The court asserts that malware is common place enough to be expected and security measures need to be implemented to protect against such threats. The court reasoned that the increased risk of frequently answering the security questions, coupled with the fact that Ocean Bank did not monitor or provide notice about suspicious activity, was not commercially reasonable under Article 4A . The court discusses the various security procedures that were available to Ocean Bank and industry standard security measures such as access tokens that Ocean Bank did not employ. Ocean Bank actually increased the Maine-based construction company's fraud risk by relying on what the court calls a "one-size-fits-all" approach to monitoring and authenticating high-dollar transactions. This ruling affords businesses more protection and requires those covered by Article 4A to ensure their security procedures are more robust and take into account the industry standards. While changing the landscape in regards to the   determination of what is “commercially reasonable,” this does not mean a win for Patco.   The case has been remanded to district court where issues of fact need to be decided.

Lessons from   Patco

The current FFIEC guidelines recommend the use of multifactor authentication with business

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customers. These are some possible authentication factors:

1. Something a user knows -- password or personal identification number.2. Something a user has -- physical device such as a password-generating security token,

USB security token or smartcard.3. Something a user is -- biometric characteristic such as a fingerprint, voice pattern, iris

configuration or facial structure.

In order to avoid or minimize bank liability resulting from fraudulent electronic transactions from customer accounts, banks should:

Establish security procedures - Establish customer security procedures that include multifactor authentication and a layered security program that, at a minimum, includes the ability for the bank to detect and respond to suspicious activity and establishes enhanced controls for customer administrators.

Offer customers choices - Offer to its customers, and make sure the customers are fully aware of, choices of security procedures such as dual customer authorizations through different access devices, out-of-band verifications of transactions and customer specific account limitations.

Execute customer agreements - Enter into Electronic Banking Agreements with customers that require customers to agree to be bound by any payment order that is issued in the customer's name, whether or not authorized by the customer, if the payment order is accepted by the bank in compliance with the customer's chosen security procedure.

Follow security procedures - Follow the customer's accepted security procedures in good faith when processing electronic payment orders.

Implement transaction monitoring systems - Implement tools that can detect anomalies and establish policies and procedures to ensure effective monitoring and responses to each alert. As noted in the Patco case, it is not sufficient simply to install monitoring systems. Financial institutions must assign sufficient staff resources to review and respond to each alert and effectuate out-of-band verification of suspicious transactions, as appropriate, via telephone or e-mail or otherwise.

Articles 4A Uniform Commercial Code; Sections 202 & 204; 4A deals with electronic fund transfers (wholesale: electronic transfers made by corporations); instructions = payment order; a bank that receives payment orders bears the risk of loss of any unauthorized fund transfer; the bank can shift liability to customer if it proves that its security procedure is commercially reasonable and that it complied with its standards and received instructions in good faith.

Uniform commercial code article 4a 201-204

201-SECURITY PROCEDURE."Security procedure" means a procedure established by agreement of a customer and a receiving bank for the purpose of (i) verifying that a payment order or communication amending or cancelling a payment order is that of the customer, or (ii) detecting error in the transmission or the content of the payment order or communication. A security procedure may require the use of algorithms or other codes, identifying words or numbers, encryption, callback procedures, or similar security devices. Comparison of a signature on a payment order or communication with an authorized

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specimen signature of the customer is not by itself a security procedure.

202-AUTHORIZED AND VERIFIED PAYMENT ORDERS.(a) A payment order received by the receiving bank is the authorized order of the person identified as sender if that person authorized the order or is otherwise bound by it under the law of agency.(b) If a bank and its customer have agreed that the authenticity of payment orders issued to the bank in the name of the customer as sender will be verified pursuant to a security procedure, a payment order received by the receiving bank is effective as the order of the customer, whether or not authorized, if (i) the security procedure is a commercially reasonable method of providing security against unauthorized payment orders, and (ii) the bank proves that it accepted the payment order in good faith and in compliance with the security procedure and any written agreement or instruction of the customer restricting acceptance of payment orders issued in the name of the customer. The bank is not required to follow an instruction that violates a written agreement with the customer or notice of which is not received at a time and in a manner affording the bank a reasonable opportunity to act on it before the payment order is accepted.(c) Commercial reasonableness of a security procedure is a question of law to be determined by considering the wishes of the customer expressed to the bank, the circumstances of the customer known to the bank, including the size, type, and frequency of payment orders normally issued by the customer to the bank, alternative security procedures offered to the customer, and security procedures in general use by customers and receiving banks similarly situated. A security procedure is deemed to be commercially reasonable if (i) the security procedure was chosen by the customer after the bank offered, and the customer refused, a security procedure that was commercially reasonable for that customer, and (ii) the customer expressly agreed in writing to be bound by any payment order, whether or not authorized, issued in its name and accepted by the bank in compliance with the security procedure chosen by the customer.(d) The term "sender" in this Article includes the customer in whose name a payment order is issued if the order is the authorized order of the customer under subsection (a), or it is effective as the order of the customer under subsection (b).(e) This section applies to amendments and cancellations of payment orders to the same extent it applies to payment orders.(f) Except as provided in this section and in Section 4A-203(a)(1), rights and obligations arising under this section or Section 4A-203 may not be varied by agreement.

203-UNENFORCEABILITY OF CERTAIN VERIFIED PAYMENT ORDERS(a) If an accepted payment order is not, under Section 4A-202(a), an authorized order of a customer identified as sender, but is effective as an order of the customer pursuant to Section 4A-202(b), the following rules apply:(1) By express written agreement, the receiving bank may limit the extent to which it is entitled to enforce or retain payment of the payment order.(2) The receiving bank is not entitled to enforce or retain payment of the payment order if the customer proves that the order was not caused, directly or indirectly, by a person (i) entrusted at any time with duties to act for the customer with respect to payment orders or the security procedure, or (ii) who obtained access to transmitting facilities of the customer or who obtained, from a source controlled by the customer and without authority of the receiving bank, information facilitating breach of the security procedure, regardless of how the information was obtained or whether the customer was at fault. Information includes any access device, computer software, or the like.(b) This section applies to amendments of payment orders to the same extent it applies to payment orders.

204-REFUND OF PAYMENT AND DUTY OF CUSTOMER TO REPORT WITH RESPECT TO UNAUTHORIZED PAYMENT ORDER.(a) If a receiving bank accepts a payment order issued in the name of its customer as sender which is (i) not authorized and not effective as the order of the customer under Section 4A-202, or (ii) not enforceable, in whole or in part, against the customer under Section 4A-203, the bank shall refund any payment of the payment order received from the customer to the extent the bank is not entitled

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to enforce payment and shall pay interest on the refundable amount calculated from the date the bank received payment to the date of the refund. However, the customer is not entitled to interest from the bank on the amount to be refunded if the customer fails to exercise ordinary care to determine that the order was not authorized by the customer and to notify the bank of the relevant facts within a reasonable time not exceeding 90 days after the date the customer received notification from the bank that the order was accepted or that the customer's account was debited with respect to the order. The bank is not entitled to any recovery from the customer on account of a failure by the customer to give notification as stated in this section.(b) Reasonable time under subsection (a) may be fixed by agreement as stated in Section 1-204(1), but the obligation of a receiving bank to refund payment as stated in subsection (a) may not otherwise be varied by agreement

Larose v. National Bank of Canada

Thief broke into bank and stole a bunch of PCs. These PCs had the banking information of 225,000 customers. Thief presumably knew what was in the computers. This would allow the thief to break into these accounts. Not electronic breach but actual physical breach.

The bank reacted by giving notice of this breach to the public and to the account holders. Larose (class rep) had had 5 instances of identity theft. If one has a name and address they can steal an identity. Someone tried to apply for 5 different credit cards in Larose’s name. This is another way of

stealing money. If someone borrows money pretending to be someone else. The creditor (or debt agency) will go after the real person.

Larose claims that if they had protected their information he would not have suffered moral anguish.

This case was at the stage of certification. In this case it was certified. Even when claiming moral damages, one has grounds to sue the bank.

C) Money Laundering and Terrorist Financing Regulation in Connection with Bank Accounts

(PCMLTFA 5-8)

Short video on HSBC shown to exhibit how money laundering has become problematic. Billions of dollars were laundered in Mexico. As a result HSBC paid a $2 billion fine.

If you’re a restaurant and you print less invoices than lunches servedAvoid taxesIf you’re a restaurant and you print more invoices than lunches servedMoney laundering

Lamborghini dealers, casinos, jewelry stores all ways to launder money. Banks file a report if your deposit is greater than $10,000. Shmerfing: paying many depositors to deposit small amounts of money to avoid suspicion.

The reality is that financial institutions and other businesses in the economy are used to launder funds.

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Object of the Proceeds of Crime (Money Laundering) and Terrorist Financing Act (PCMLTFA) isto fight crime. This Act transforms the complacent nature of banks into watchdogs for law enforcement agencies.

Proceeds of Crime (Money Laundering) and Terrorist Financing Act (PCMLTFA)Section 5

Who the act applies to

This Part applies to the following persons and entities:

(a) authorized foreign banks within the meaning of section 2 of the Bank Act in respect of their business in Canada, or banks to which that Act applies;

(b) cooperative credit societies, savings and credit unions and caisses populaires regulated by a provincial Act and associations regulated by the Cooperative Credit Associations Act;

(c) life companies or foreign life companies to which the Insurance Companies Act applies or life insurance companies regulated by a provincial Act;

(d) companies to which the Trust and Loan Companies Act applies;

(e) trust companies regulated by a provincial Act;

(f) loan companies regulated by a provincial Act;

(g) persons and entities authorized under provincial legislation to engage in the business of dealing in securities or any other financial instruments, or to provide portfolio management or investment advising services;

(h) persons and entities engaged in the business of foreign exchange dealing, of remitting funds or transmitting funds by any means or through any person, entity or electronic funds transfer network, or of issuing or redeeming money orders, traveller’s cheques or other similar negotiable instruments except for cheques payable to a named person or entity;

(i) persons and entities engaged in a business, profession or activity described in regulations made under paragraph 73(1)(a);

(j) persons and entities engaged in a business or profession described in regulations made under paragraph 73(1)(b), while carrying out the activities described in the regulations;

(k) casinos, as defined in the regulations, including those owned or controlled by Her Majesty;

(l) departments and agents of Her Majesty in right of Canada or of a province that are engaged in the business of accepting deposit liabilities, that sell money orders to the public or that sell prescribed precious metals, while carrying out the activities described in regulations made under paragraph 73(1)(c); and

(m) for the purposes of section 7, employees of a person or entity referred to in any of paragraphs (a) to (l).

All financial institutions and some others

PCMLTFASection 6-6.1Record Keeping and Verifying Identity

6. Every person or entity referred to in section 5 shall keep and retain prescribed records in accordance with the regulations.

6.1 Every person or entity referred to in section 5 shall verify, in the prescribed circumstances and in accordance with the regulations, the identity of any person or entity.

Historically this was not part of the relationship. In fact, the less the banker knew the better.

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This was a revolutional idea. It used to be okay to put trust in the customer. There is a measure of doubt that has now been made part of the contact.

Making sure the company exists, knowing what it does, knowing whom the principals are. Keep a record of all transactions deposits great than 10k, currency exchange of over 3k,

carrying 10k+ currency over the border, international wires of funds Story about Eddy and the 150k-currency exchange. Section 128 bills of exchange act says that as

the bank you’re fucked if you certify a forged cheque if person presenting it did not have suspicion of fraud.

PCMLTFASection 7Duty to report suspicious transactions

Subject to section 10.1, every person or entity referred to in section 5 shall report to the Centre, in the prescribed form and manner, every financial transaction that occurs or that is attempted in the course of their activities and in respect of which there are reasonable grounds to suspect that

(a) The transaction is related to the commission or the attempted commission of a money laundering offence; or

(b) The transaction is related to the commission or the attempted commission of a terrorist activity financing offence.

Bank filters check all names of transfers. If a bank works with these people they will be punished If there is any reasonable reason to suspect that someone in front of you is laundering or

financing terrorist activities than you must report it This is very radical. Goes against the fundamental expectation #3, Privacy and

confidentiality of customer. First time bank is forced to do something like this in Canada

PCMLTFASection 8No disclosure of reports

No person or entity shall disclose that they have made a report under section 7, or disclose the contents of such a report, with the intent to prejudice a criminal investigation, whether or not a criminal investigation has begun

If you make a report you can’t tell anyone. There may be an inquiry following the report, and you wouldn’t want to warn the criminals. This

would tipoff the criminal. As a bank your statutory duty is to report Doesn’t say you can freeze the account, doesn’t

say you can return the fundso Tayed case: A man of Lebanese origin showed up to a small bank in England and had

$1.5 million wired to it. Bank manager freaks out and asks to meet the guy. The guy owns the domain name (.ly) and was selling it to a Middle Eastern buyer. The branch manager doesn’t believe it and so he freezes the account (puts a marker on it). The judge says that it was legitimate to be suspicious. Bank manager then decides to wire the funds back but the domain names had already been transferred. The Lebanese man sues the bank.

The bank manager engaged a complete breach of the banker-customer contract A banker must repay your deposits to you/someone you

authorizeMAJOR BREACH. His reason was the suspicion. This was not a good enough reason.

The statutes say to call the authorities! No more. Banker should have done what section 7 suggestsREPORT

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Dynamic behind every transaction…the issueAnguish: the period between delivery of goods and payment or vice versa. 758-759 of case book. Was at issue because at first they wanted to give him a draft for the disk. Bank said it would take 3 weeks to have funds available (too long). Instead they used a wire transfer that they did together. Going from bank to bank until the money was in the account

LVTS is very similar to CHAPS

Tayeb v. HSBC Bank (2004)-UK

Facts: Plaintiff is a businessman with a Tunisian passport, who does not reside in UK. He opened an account at the HSBC bank in Derby, UK, in 2000, in anticipation of a business deal with a Libyan government corporation. The negotiations were successful, and the Libyan corporation transferred £944,114 as payment into plaintiff’s account in HSBC. The payment was done through the CHAPS system, which provides real-time transfer of money betweeb banks. The plaintiff’s account was credited. A manager at HSBC, however, became suspicious that the transfer smelled like money laundering, and put a marker on the account (freezing it). He was aware of the UK Criminal Justice Act provision (93) which makes it a criminal offence to abet a money launderer. The manager met with the plaintiff the next day to get an explanation of the transfer. The plaintiff explained, but the manager did not believe him. Shortly after, the manager transferred the money back to the account of the plaintiff’s debtor (at Barclays Bank). The plaintiff did not try to recover that money from his debtor, but instead sues HSBC for debt (once his account was credited, the bank owes him).

Issue: Does a bank have discretion to freeze funds that it perceives originate from fraud or money laundering?

Holding: No, The bank owes £944,114 to the plaintiff.

Legal Reasoning: CHAPS system operates such that payments are cleared the day on which they are made, and

the banks settle between themselves immediately. The CHAPS rules require authorization of the client should the funds be returned. This means

that the bank who has accepted funds from another does not hold them as an agent of the payee, but rather as a debtor to its own customer.

One of the bank’s contractual duties to the client is to credit the client’s account when it receives funds from external sources. A bank can refuse payment when the amount is less than the minimum permissible amount, or when a payee’s cheque is post-dated, or where a transaction is prohibited by law (e.g. if Libya had international sanctions imposed on it). But commercial un-desirability of transfer does not entitle the bank to refuse the deposit: the contrctual obligations to the client cannot be ignored.

The bank manager did not report his suspicion to a money laundering officer or his supervisor. Instead, he simply wired the funds back. The Act states a requirement of disclosure of a suspicion to a constable or, if the suspicious person is an employee, to the appropriate supervisor. It says nothing about the return of suspicious funds to the payee (in fact, Money Laundering Guide advises banks not to terminate their relationship with a

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suspicious customer before consulting with an investigating officer, so as not to tip-off the criminals). The act of reporting provides a statutory defense to abetting of money laundering.

The CHAPS rules make no mention of the return of non-erroneous payments. “There must therefore be the very strong implication that following application to the customer’s account, in the absence of error, the banking practice relating to CHAPS transfers is that they are ordinarily irreversible.” The CHAPS rules made specific provision for the return of unapplied transfers and for applied transfers made in error. That’s it

There is no unavoidable inconsistency between compliance with CHAPS and with the Act. If a bank entertains suspicion about funds, it can still credit the customer, report the suspicion to authorities and freeze the account meanwhile so that no funds are taken out of it. They can also apply to court for directions.

A bank is impliedly authorized by a customer to accept credit, and the bank’s consent to receiving banks is not necessary. Neither is the client’s being informed of the transfer necessary for the finality of a transfer.

The fact that the bank put a marker on the plaintiff’s account does not relieve it of its debt. The freezing of the account simply means that the bank won’t release the funds to the customer on demand until investigation, but the bank is still indebted to the customer for that amount.

Ratio : HSBC was contractually bound to accept GPTC’s transfer; The CHAPS rules only provides for the return of transfers when they have been made in error or are unable to be applied to an account by the receiving bank. The strong implication is that, in the absence of error or unapplied payment, banking practice is that a CHAPS transfer is ordinarily irreversible.

B-Filer v. Toronto-Dominion Bank B-Filer has an account with TD. B-Filer receives funds from Canadian customers from other

Canadian banks and transfers them to online casinos in the US. Described itself as a financial service business when it opened account with TD. Very little account action in first year. All of a sudden account action blew up. B-Filer acted as a facilitator of payment to American Casinos. This violated the bank’s policies: We don’t want to be associated with illegal online gambling activities.

The activity in the account offended policies of the TDo Had no grounds under section 7 discussed above BUT it had internal policies not to be

associated with online gambling activitiesso here TD, based on its rights under contracts and its policies, refused to do business with the company

Grace was pissed because he considered it a legit business and he was making good moneyrare case of a customer taking a bank to court to force the bank to keep the account open (mandatory injunction)

Key: nobody has a “right” to a bank account other than very exceptional policieso Every account has a provision that any party can terminate the account, and even if this

provision didn’t exist, both parties would still have the right to terminate the account whenever they wantedno obligation to keep an account open

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B-Filer v. Toronto-Dominion Bank (2008)-ABQB

Facts: B-Filer does business as GPAY. Mr. Grace, the owner, signed banking agreements with TD and set up accounts under GPAY – said GPAY was a “financial services” business that helped customers pay collections agencies. The agreement allowed for either GPAY or TD to cancel the agreement and services with 30 day notice. Grace had another joint venture, the business of which was to transfer money from the bank account of Canadian customers to GPAY’s accounts and other accounts controlled by Mr. Grace and then ultimately to online casino management companies or other “payment processing gateways” outside of Canada. Basically GPAY was collecting money from Canadian gamblers who gambled on certain online gambling sites. To do this, each customer had to disclose to GPAY their bank account # and password. TD has a policy that precludes it from providing accounts to businesses that accept payments for online gambling. Furthermore, the TD cardholder agreement with its customers precludes customers from disclosing their online banking password to others. TD exercised its right under contract to terminate its accounts with GPAY – GPAY brought an injunction to compel TD to continue to provide banking services to GPAY.

Issue: Should the Injunction be granted?

Holding: No

Legal Reasoning: (Romaine) Test for injunctions is set out in RJR Macdonald v. Canada(1) there is a serious question to be

tried (2) the application would suffer serious irreparable harm if the injunction was refused (3) assessment of which of the parties would suffer greater harm based on each outcome

Step 1Nature of the injunction requested Where a mandatory injunction is being sought (as is the case here), the plaintiff must show under the

first branch of the RJR test that there is a “strong prima facie case” rather than only a “serious issue to tried.”

Whether there is a strong prima facie caseo GPAY asserts that the cancellation clause in the contract is unconscionable and that it was not

brought to the attention of Grace (because the contract was a standard form contract written by the bank)

o Court disagrees Mr. Grace is a sophisticated business person and has conceded that he either knew, or could have guessed, that such a term was contained within the contract. There is no evidence that he was rushed, pressured or unduly influenced in signing the agreements.

o GPAY also submits that there is no breach of the cardholder agreement when a banking customer provides his confidential online banking password to the JV on the basis that it is the “agent” of the customerThis is a skewed and forced interpretation of the language of the cardholder agreement. In any event, this practice also poses a significant risk to the security of the electronic banking system

No strong prima facie case – first branch of RJR Test is not satisfiedStep 2Irreparable Harm Step not satisfiedGPAY would not suffer irreparable ham

o First, GPAY doesn’t actually profit from these activities – it is the other JVo Second, GPAY only started using the TD account when its accounts with other banks were

shut down if other banks could terminate accounts, so can TD, AND if GPAY didn’t suffer

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irreparable harm after having those other accounts terminated, then it shouldn’t hereStep 3Balance of Convenience/Interests Business impact on GPAY has to be weighed against TD’s obligations to comply with applicable

legislation TD argues that the injunction would put it in the position of having to offer banking services to a

customer whose entire manner of business violates numerous bank policies, creates difficult duties for the bank under money laundering and terrorist financing legislation and precludes it from complying with its own diligence duties

GPAY claims that its transfers do not breach rule E2 of the Canadian Payments AssociationTD agrees but states the transfers are still very attractive to money launderers and lead to a high degree of risk of fraud

Court says the public interest must also be considered very high public interest in preventing money laundering and terrorist financing

o Proceeds of Crime (Money Laundering) and Terrorist Financing Act goals are to implement measures to detect and deter money laundering and activities meant to finance terrorist activities; to respond to the threat posed by organized crime by providing information to law enforcement to help deprive criminals of the proceeds of their crimes and to help fulfill Canada’s international commitments to assist in fighting transnational crime including money laundering and terrorist activities. These goals, of course, require the cooperation of the banking system

o Allowing GPAY to continue to operate its account could lead to TD unknowingly allowing transactions in violation of the Act if TD were required to accept GPAY as a customer, there would be a significant burden placed on TD to conduct appropriate due diligence inquiries to comply with the regulations

[52] I am not suggesting that GPAY or Mr. Grace are involved in money laundering or terrorist financing. However, TD and all other Canadian banks are required to comply with legislation designed to prevent such activities. There is a significant public interest in compliance with legislation that has been enacted to address these issues. For this reason, I find that the public interest weighs very heavily in favour of TD’s position. There is little public interest in ensuring the uninterrupted flow of online gambling payments to offshore casinos

D) Extra-contractual Liability to Third Parties for Operations in Account

*Remember bank accounts have two functions1. Payment function (pay others)2. Collection function (account accepting money and turning it into credit)

Payment Function Collection Function

3rd party beneficiary 3rd party beneficiary

Account holder Account holder

Paying bank collecting (negotiating bank)

Extra-Contractual Liability

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In the context of its relationship with a customer, the bank is open to liability with third parties, even though it has no contract with them

The cases below deal with liability to a bank with someone who isn’t a customer some deal with the payment function of a bank account, and others deal with the collection function

The cases show that the jurisdiction matters and that different treatment of similar circumstances occur across Canada. Lemieux thinks that perhaps legislators should step in so that the risk and guidelines for businesses and banks can be consistent across Canada.

a) Misdealing in account (payment function)

In the CVL tradition:

1457 CCQ 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.

124329 Canada inc. v. National Bank (Jackson Case) Contractual trust relationship between bank and Blancher. The money doesn’t belong to Blancher

he is just the trustee. Blancher transfers the money from the trust to his personal account (sometimes this okay, but only in rare circumstances).

Blancher’s account activity appeared to be unusual, more than normal transactions (15 transaction in the same day). Money going in and out of his different accounts in the same day (trust account to personal). Eventually all of the money was taken out of the trust account and transferred to the account of his accomplice.

This is known as Kiting: form of check fraud, involving taking advantage of the float to make use of non-existent funds in a checking or other bank account. In this way, instead of being used as a negotiable instrument, checks are misused as a form of unauthorised credit.

The Jacksons try to sue Blancher but he has nothing. So Jacksons go after the bank. Rule:

o Kasirer says bank has a duty to dispel the suspicions or take measures to protect customers.

o 1457 imposes a duty to act upon suspicion. Bank is found liable Court of appeal said the bank manager (once they saw Blancher making many

transactions (15+)) should have asked him what he was doing generally. Court says that if the bank had asked questions they would have been able to

freeze the account.

124329 Canada inc. v. National Bank (Jackson Case) (2011)-QCCA

Facts: Blancher is a sole practitioner with a trust account and personal account in the same branch of National Bank. Mr. F wanted to fund a company, he needed investors in order to get a loan. Jacksons decided to invest. It was decided that the loan would be kept in a joint account of F and the Jacksons and that it would be left in Blancher’s trust account. Less than a week later

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Blancher does 15 transactions. By end of transactions, $500 000 end up in Blancher’s personal accounts. Blancher draws 2 particularly weird cheques. 1) Blancher draws 400 000$ cheque on personal account for ostrich company and deposits it in trust; 2) takes 600 000$ from trust to ostrich and deposits in his account. This process is known as hiking. Blancher is eventually caught and disbarred but no longer has the money. Jackson’s want the bank the to be held liable for the fraud.

*Recall, Money Laundering Act gives implicit duty to DETECT suspicious transactions!!

Issue: Does the bank owe the Jacksons a duty of care? What is bank responsibility to 3rd parties?

Holding: Yes, 1457 imposes a duty on banks to act upon what they believe to be suspicious activities.

Legal Reasoning (Kasirer):

No suspicious activities = NO DUTY. No duty to police the account nor question operation of account. ONLY duty when harm is suspicious

Court puts lots of reference on HARM “reckless” Judicial technique => verbal inflation of what is going on Most banks today won’t let you deposit cheques form 3rd parties into your chequing account Conclusion: there is a duty based on suspicious transactions and this duty is to 3rd parties (General

Duty of Care) Causality: 1) breach

2) Damages 3) Causal link

Bank should have done something:o Asked who owns the funds in the trust accounto Asked what the cheques were abouto Think of holding the funds, freezing the accountcourt mentions this.o *Doing nothing is a cardinal sin*

*Banks are essentially becoming insurers of investors who get screwed!

Dynasty Furniture Manufacturing v. TD Bank In this CML case they could not recognize the duty of care/ Case involved an account opened at TD bank in the name of another bank (Standford bank). An

investor promised investors 20%. This money was deposited in Standford bank but was then used personally by the investor. Classic Ponzy scheme, eventually the house of cards came tumbling down. Paying Bank is TD bank, the account holder/customer is Standford bank. (This is a type of situation known as a corresponding bank account-opened for clients in areas doing business where there bank does not have a branch, in this example, the Caribbean).

Question is whether paying bank owes a duty of care to 3rd party beneficiaries (foolish investors)? Stanford has no money, this is why the 3rd party goes after TD No general duty of care in the common law. Since there is no 1457, they run the Ann’s test. The

threshold was not met. The 3rd party beneficiaries were not able to establish that a duty of care was owed to them. They had no evidence of misconduct that would raise suspicions. All that the investors can say is that it was coming from Antigua. Not enough meat on the bones to recognize a duty of care.

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See 124329 Canada inc (Jackson) where the bank is held to be liable in Quebec. Notice the difference in jurisdictions.

Dynasty Furniture Manufacturing v. TD Bank (2010)-ONSC

Facts: In this case, the third party is an investor with a bank called the Stanford Bank. Investors are approached by this Stanford Group; give us your money, you’ll make unbelievable profits and returns, etc. The Stanford Group receives these deposits and places them in accounts under the name of the Stanford Group at TD Bank. TD Bank has accounts open under the name of Stanford Group which it knows are the results of private investors investing in the Group. You don’t have a trust account, but you have a situation where funds are held by somebody for the benefit of a third party.

Issue: Do banks owe a duty of care to third parties to prevent the use of its facilities for fraudulent purposes in the presence of constructive knowledge? *Constructive knowledge: knowledge of circumstances which would indicate the facts to an honest person or knowledge of facts which would put an honest person on inquiry.

Holding: No, duty arises only if bank has acquired actual knowledge of fraudulent usage

Legal Reasoning: The Ann’s test is conducted. At first stage plaintiff is unable to establish enough proximity. If the

P could prove actual knowledge, willful blindness or recklessness then they would have a claim; they don’t here.

Policy considerations:o Regulatory regime exists for fraudo Indeterminate liabilityo Banks don’t have expertise or resources to conduct the fraud inquiries necessaryo Not effective to thwart trans-national fraudo Would transform chartered bank into an insurer of parties who invested in it

b) Conversion of instruments (collection function)

Deal with situations of transforming cheques and other instruments into credit. In the below cases the account holder is depositing fraudulent instruments. The account holder could be fraudulent or innocent when they launder money. The below cases involve intentionally malevolent account holders. Cases ask whether the collection bank has a duty to the victim of the fraud.

Courts will find a way to create liability of collecting to third party victims with whom that bank has no contract.

Boma Manufacturing v. CIBC In Boma, the victim is the drawer of the cheque. The case is about the liability of the collecting

bank to a third party victim of fraud perpetrated by a customer of the collecting bank.

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Boma, Small company in BC that manufacturers souvenirs. Two owners, husband and wife. Ms. Alm is the controller. They are the three signatories. Alm began to steal money by writing cheques to people that the company did not owe money to. She would then take these cheques to her personal account at CIBC (often without endorsement). In the course of 5 years she deposited 155 cheques all-payable to somebody else for a total of over $90,000.

Boma tried to collect from Ms. Alm but there was nothing left. Boma then tried to sue their own bank and CIBC (collecting bank) focus of this case.

Bank’s policy required an endorsement. This was not followed. Third party cheque is a cheque payable to someone else besides account holder. The tort of conversion: conversion is when you take something of value from someone who is

not entitled to it and you help that person convert this valuable property into money and run away with it. Tort of conversion is one of strict liability

o Here there were a bunch of valid cheques because the fraudster was an authorized signatory, the bank took these cheques and converted them into proceeds for the fraudster.

o Bank didn’t follow its policy of requiring a valid endorsement

Boma Manufacturing v. CIBC (1996)-SCC

Facts: BOMA is a company which employed a rogue bookkeeper, Donna Alm. Alm made out 155 cheques, totalling $91K+ payable to a number of people connected with the company, and deposited them into her account. One of the payees on such cheques was “J. Lam” and “J.R. Lam” – a name similar to one of the company’s subcontractors named Van Sang Lam, and also to Alm’s first husband (she had a joint account with him), who had the same last name. Alm’s account was with CIBC – the bank credited her with the amounts on those cheques, without requiring any endorsement of the payee on the cheques (the name “Lam” gave the false sense of legitimacy). The other cheques – Alm forged endorsements of the payees. BOMA sues CIBC (the receiving bank) for the tort of conversion. CIBC relies on defences of (i) non-existent/ fictitious payees (20(5) BEA) and bank’s legislative status of holder in due course (165(3) BEA).

Issue:

Holding: Bank is strictly liable for conversion; both defenses fail

Legal Reasoning: First, conversion is wrongful interference with goods of another, and it’s a strict-liability

tort, which excludes contributory negligence (lack of any internal verification systems in BOMA).

Second, point of clarification: “It is the intention of the drawer, not the signatory of the cheque, that is relevant, as will be discussed in greater detail below. Alm is not the drawer because she cannot be said to be the directing mind of the corporate appellants; she simply had signing authority.”

20(5) BEA says that cheques payable to fictitious and non-existent payees must be treated as payable to bearer – no endorsement is required. It’s an exception to 48(1) BEA which states that forged or unauthorized signatures on a bill renders the bill wholly inoperative and prohibits anyone form retaining or enforcing payment on them.

Who are non-existent/fictitious payees? What matters is whether they are real people, and whether the drawer (NOT Alm) intended to pay to them (Alm’s intention could not be

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vicariously imputed to BOMA – vicarious liability is inappropriate in this area of law) So if a drawer does intend to pay a real person, then, notwithstanding the fact that the

drawee has been induced to do so by a fraudulent manipulation of a rogue, the payee is NOT fictitious or non-existent. This is the case here: BOMA did intend to pay the people Alm put as payees on the cheques. This includes J.R. Lam, who BOMA honestly thought was their subcontractor Van Sang Lam.

Thus, the cheques were payable to order, and the bank had to require endorsement before crediting the amounts to Alm.

165(3) BEA applies to situations where a valid payee or endorsee deposits a cheque to a bank – in this situation, the bank is presumed to be a holder in due course, not liable for conversion. This is a simple policy rule: it’s much harder to defraud a company by issuing cheques payable to the rogue himself. But when it comes to cheques payable to a 3rd party, the bank must demand their endorsement. Defense fails.

Banque Canadienne Nationale v. Gingras Cheque made payable to a construction company (BD) by a municipality. The president/ part

owner of the construction company (Mr. Desjardins) takes the corporate cheque to his personal bank and endorses it with his signature (not even the corporate signature of his company). The branch manager said that he had seen this for years he didn’t ask any questions. In this case the 3 rd

party is BD Construction Company. So Desjardins is stealing from his own company. However, the company had other shareholders who were unhappy about this. It is actually the trustee who sues after BD goes bankrupt.

Is the collecting bank liable to third party victim for forged endorsement?o Court found that the bank’s failure to ask was the reason for the loss. once again based

on 1457 CCQ here

Banque Canadienne Nationale v. Gingras (1977)-SCC

Facts: BD Construction received 5 cheques from its debtor, the City of Charlesbourg. The president of BD, Marcel Desjardins (“M”) fraudulently endorsed the cheques and deposited them in his account for his own use. M’s Bank, CNB, accepted the cheques without bothering to look at BD’s resolution, authorizing the endorsements of its negotiable documents. The resolution authorized M and one Henri Blouin to sign & endorse cheques. Gingras, a trustee in bankruptcy of BD, is suing M and CNB jointly for the damages in the amount of the cheques.

Issue: Is the collecting bank liable to third party victim for forged endorsement?

Holding: Yes, CNB bank is liable. Court found that the bank’s failure to enquire was the reason for BD’s loss.

Legal Reasoning: In the case at bar, action was brought against the person who made the unauthorized

endorsements and he was condemned to pay the full amount of the cheques. [M] certainly had the right to receive [the cheques], although he did not have the power to appropriate them [by fraudulently endorsing them]. .. I do not think that the company, which had regularly received them in payment of the debt due to it, could have a remedy against the drawer [i.e. Charlesbourg] because these cheques were subsequently fraudulently cashed by its

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president” The only remedy was against [M] and those who by their fault contributed to the conversion, that is, the bank which took the cheques for the personal account of M and obtained payment for them.

Even if such remedy were possible, Charlesbourg would turn around and sue M and CNB. It’s not “in the interest of justice” to cause a circuit of actions in guarantee

Cheques, Bills, and Notes (The Bills of Exchange Act)

4 Layers of rules that apply to all cases involving a bill of exchange (cheques) (USE FOR FACT PATTERN):

1. Bills of Exchange Acta. The provisions here are the first layer of legal rules that you need to consider

2. Rules of the Canadian Payments Association that establish how the settlement of an instrument works

3. Contracts between the drawer and their drawee bank + the contract between the payee and their collecting bank

a. Note: if these two cheques are the same – there is no recourse through the clearing system because the payment never goes through the system!

4. Common Law and Civil Law grounds for liability other than contracta. Example: BMP case – allows for the doctrine of restitution

Bills of exchange Act: Cheques and bank drafts are the paper instruments that we have familiarity with under the act. Distinction between bank drafts and cheques is that a bank draft is written by the bank itself. It’s a promise to pay from the bank instead of a customer of the bank.

Letters of credit are another paper instrument, but they are not governed by the Bills of Exchange Act

The Bills of Exchange Act captures the ethics of custom as it developed over centuries. The act deals with cheques, bills, and notes. Although we won’t really study notes (except the Range case). The statute is what grants rights to holder (section 2: person in physical possession of a note who is either payee or endorsee

Some Vocabulary:Drawer: Person writing the cheque (writer of the cheque)Drawee: Person paying the cheque (their bank)

Three important contracts discussed throughout the BEA. These contracts relate to the 3 types of parties that put their signatures on a bill. Signatures creates liability.

(1) Drawer’s contract see s.129Instrument will be paid when presented to holder (2) Acceptor’s contract “acceptance” see s.34+126,127,28, CPA Rule A4 s.3-4 (certification of

the cheque by the drawee bank) (3) Endorser’s contract see s.132 (guarantees previous signatures)

Formal Requirements/Definitions

Bills of (1) A bill of exchange is an unconditional order in writing, addressed by one

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Exchange Act

Section 16 Bills Defined

person to another, signed by the person giving it, requiring the person to whom it is addressed to pay, on demand or at a fixed or determinable future time, a sum certain in money to or to the order of a specified person or to bearer.

Non-compliance with requisites

(2) An instrument that does not comply with the requirements of subsection (1), or that orders any act to be done in addition to the payment of money, is not, except as hereinafter provided, a bill.

A cheque has the following components (in writing): drawer’s address (person signing), date (fixed or determinable/future time), “pay” in the imperative (unconditional) the sum of a certain amount to a specified person, drawer’s signature (giving the order to the drawee…the drawer’s bank), bank logo, magnetic coding.

The drawee is usually the bank where the drawer has an account The drawer-drawee relationship is the banker customer contract. There is no liability without signature. Once there is a signature there is liability. Cheques are payable on demandwhen it is presented to the drawee, they must pay up. If you give a cheque to your landlord, the landlord has no recourse against your bank. The

landlord has recourse against the drawer (person writing the cheque). The bank has an implicit obligation to the customer to repay their deposits. By virtue of the customer’s contract with the bank the customer can sue the bank if deposits aren’t repaid.

o The landlord will only have recourse against the bank if they certify the cheque (See s.126 below)

The sum must be free from doubt and certain. One should not have to refer to any other document. For example % of profits would not suffice.

The description of the payee can have a bit more latitude.

Bills of Exchange Act

Section 176 Promissory note

(1) A promissory note is an unconditional promise in writing made by one person to another person, signed by the maker, engaging to pay, on demand or at a fixed or determinable future time, a sum certain in money to, or to the order of, a specified person or to bearer.

Endorsed by maker

(2) An instrument in the form of a note payable to the maker’s order is not a note within the meaning of this section, unless it is endorsed by the maker.

Pledge of collateral security

(3) A note is not invalid by reason only that it contains also a pledge of collateral security with authority to sell or dispose

An unconditional promise that someone makes as opposed to unconditional order (to a bank) someone makes to another person (Promisory Note v Bill)

A form of contract One person making a promise, the bank isn’t involved. It’s like an IOU instead of an order to

your bank. We don’t have this anymore…now we have credit cards. Range: The name of the purchaser is Range and the name of the store is Durand&Coutu. The

price for the coat is $792 payable in 24 monthly installments of $33. Typical consumer transaction in Canada in 1960’s, pre credit cards. These installments are to the benefit of the consumer. Durand&Coutu receive the instrument, endorse it, and delivered it to a company called

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United Loan. Remember this piece of paper is not money; it only becomes money on a certain day of the month-every month. United Loan purchased the instrument as Durand&Coutu also needed credit to run their operation. United Loan being the 2nd holder negotiates the instrument to a third holder, CIBC. CIBC then negotiates to a 4th holder, Belvedere who then tries to collect.

o Ultimately the court decided that the instrument was not a note.

Bills of Exchange Act

Section 165 Cheque

(1) A cheque is a bill drawn on a bank, payable on demand.

Provisions as to bills apply

(2) Except as otherwise provided in this Part, the provisions of this Act applicable to a bill payable on demand apply to a cheque.

Cheque for deposit to account

(3) Where a cheque is delivered to a bank for deposit to the credit of a 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.

165 (3) is there to get around the definition of section 2 (Holder in next section). The bank isn’t the payee or endorsee (unless you sign it) thus it wouldn’t be considered a holder under the section 2 definition. Problematic because most people don’t sign their cheques before they deposit them.

Boma shows the limitations of the scope. Generally speaking, 165 (3) addresses a specific concern (lazy person not signing - and the technical difficulties of banks, remember, title is needed to introduce a cheque into the clearing and settlement system).

o The provision has a large scope because it doesn’t mention who deposits the cheque, it just says “person”

o In Boma this was raised as a defense. A disgruntled employee, Alm, began defrauding her company. She was an authorized signatory but she began writing unauthorized cheques so that she could steal from the company. She would make cheques payable to a bunch of payees who had a semblance of the company (shareholders, fictions person named J Lam-looked like supplier, similar to her name). The cheques were never endorsed yet she deposits them in her account at CIBC.

o Is Ms. Alm a holder of these cheques? No, she isn’t a payee or endorsee (see section 2). o Bank had a procedure and should have had common sense not to accept cheques

payable to someone else without endorsement of the payee. o Boma sues the banks where the cheques were drawn and deposited. This case goes all the

way to SCC where only CIBC and Boma are left. At the lower levels of court the drawee bank was also sued by Boma for paying unauthorized cheques.

o CIBC used 165 (3) and says it meets all the criteria and is a holder in due coursethus has the ability to defeat personal defenses, including tort of conversion (section 73 (b)).

o This is obviously not what parliament wanted when they adopted 165 (3). “As long as a payee or endorsee is entitled to the proceeds of the cheque, the

cheque can be deposited without endorsement without harming the position of the bank.”

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“Section 165(3) represents a policy decision with respect to the allocation of risk. When a collecting bank is presented with a cheque for deposit to the credit of the payee, the bank is entitled, essentially, to assume that it was truly the intention of the drawer that the payee receive the proceeds of the cheque. It is more difflrcult for a fraudulent employee to manage to have cheques wrongfully made out in their own name; respect to these cheques, to prevent the bank from being exposed to personal defences and defects in title should the cheque be dishonoured. The collecting bank is permitted to overlook endorsement with respect to these cheques, because it is very likely that they are indeed genuine. The likelihood with respect to cheques presented by the payee is that they are genuine. Accordingly, a polícy decision has been made to overlook the lack of endorsement with respect to these cheques, because it is very likely that they are indeed genuine.”

However, the likelihood of fraud is dramatically higher when a person presents a third party cheque, particularly when it bears no endorsement. A collecting bank is not permitted to assume that the transaction is genuine in the face of circumstances that are so clearly prone to fraud . This is why the collecting bank is required, in the case of third party cheques, to ensure that they have been endorsed. It should be remembered that it was the respondent's own internal policy that third party cheques were not to be accepted without endorsement.

KEY “The bank could not then be a holder in due course, and would be exposed to any equities between the payee and the drawer of the cheque. Section l65(3) remedies this' situation. As long as a payee or endorsee is entitled to, the proceeds of the cheque, the cheque can be deposited without endorsement without harming the position of the bank.”

o So a person in 165 (3) means a person who is entitled o Cheques were made to facilitate commerce and should be negotiated easily. This case

represents a great shift in ease and use of cheques. This process slows the negotiation of cheques down and suggests they are becoming more and more obsolete.

Holders

Act is focused on around laying out the rights in favor of different kinds of holders.Bills of Exchange Act

Section 2 Holder

“Holder” means the payee or endorsee of a bill or note who is in possession of it, or the bearer thereof;

Two requirements: (1) he be payee or endorsee (2) he be in possession Initial person who cheque is written to (the payee). Section 38 below says it’s revocable until

delivery. When he takes possession he becomes the holder. If a thief were to take possession he would not become the holder as he is not the payee or endorsee.

Bills of Exchange Act

(1) A holder in due course is a holder who has taken a bill, complete and regular on the face of it, under the following conditions, namely,

(a) that he became the holder of it before it was overdue and without notice

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Section 55 Holder in due course

that it had been previously dishonoured, if such was the fact; and

(b) that he took the bill in good faith and for value, and that at the time the bill was negotiated to him he had no notice of any defect in the title of the person who negotiated it .

Title defective

(2) In particular, the title of a person who negotiates a bill is defective within the meaning of this Act when he obtained the bill, or the acceptance thereof, by fraud, duress or force and fear, or other unlawful means, or for an illegal consideration, or when he negotiates it in breach of faith, or under such circumstances as amount to a fraud.

2nd type of holder-not just a simple holder Any kind of holder can sue on the instrument and can sue on the drawer’s contract (section 129) Someone who has taken the instrument for value and in good faith without any knowledge of

anything have gone wrong IF you know there is something wrong with the instrument or the underlying transaction,

you are NOT a holder in due course

Bills of Exchange Act

Section 73 Rights and powers of holder

The rights and powers of the holder of a bill are as follows:

(a) He may sue on the bill in his own name;

(b) Where he is a holder in due course, he holds the bill free from any defect of title of prior parties, as well as from mere personal defences available to prior parties among themselves, and may enforce payment against all parties liable on the bill;

(c) Where his title is defective, if he negotiates the bill to a holder in due course, that holder obtains a good and complete title to the bill; and

(d) Where his title is defective, if he obtains payment of the bill, the person who pays him in due course gets a valid discharge for the bill.

Section (a) repeats section 129 Drawer’s Contract (verify) A holder in due course has superior power. Every holder can sue every person liable on the instrument The holder in due course holds the bill free of personal defense or defect in title (difference

between holder in due course and simple holder). Personal defense meaning defense from some sort of contract that exists between the parties before they got a hold of it.

In Range, the court ultimately found that the promissory note wasn’t a bill of exchange so Range was not held liable BUT he would have been had the court found this was a note. The discussion below is hypothetical-talking about the instrument as if it were found to be a promissory note.

Going back to the promissory note in the Range case. Promise to pay Durand & Coutu. Initial holder and payee is D&C (they have rights but no obligations-obligations only occur with signature). They then endorse it (and sign it-liability under s. 132) over to Union Bank specifically (payable to order s.20) (they could have just signed without specifying to who-endorsement in blank. Difference in delivery requirements). Union Bank is now the holder. 3 weeks after the sale (installments had been made) D&C became bankrupted and Range never received coat, in response, he stopped making payments. Union bank called Range and knew

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about this situation (thus they were in bad faith ). Union bank is not a holder in due course because they are tainted with knowledge that something is wrong with the instrument or the underlying transaction.

o A simple holder’s claim can be defeated because Range never received the coat (personal defense).

Union bank endorsed the instrument to CIBC making them the holder. CIBC asked no questions and is given no information. They are completely unaware and are holders in due course. Section (c) allows CIBC to be a holder in due course (washes out the dirt).

CIBC then endorses the cheque to Belvedere. Union Bank had become bankrupt; Belevedere is a vulture fund looking to recover what they could. Belvedere is deemed to be a holder in due course suing the maker: Mr. Range. (Vulture fund doesn’t mean bad faith.). Belvedere would also be protected under (c)

If the court found that the note was a bill of exchange, Range (only solvent party liable on the bill) would have been responsible because of 73 (b).

The Requirement of Delivery

Bills of Exchange Act

Section 38 When acceptance complete

Every contract on a bill, whether it is the drawer’s, the acceptor’s or an endorser’s, is incomplete and revocable until delivery of the instrument in order to give effect thereto, but where an acceptance is written on a bill and the drawee gives notice to, or according to the directions of, the person entitled to the bill that he has accepted it, the acceptance then becomes complete and irrevocable.

Only place in the statute that explicitly mentions contracts deriving from a Bill of Exchange. (Bills of exchange give rise to contracts, the statute tells us what the contract is)

*Delivery is transfer of possession from one person to another. Until the cheque is put in the landlord’s hand it is incomplete and revocable. (Doesn’t matter

if it is signed and left in your drawer)

Bills of Exchange Act

Section 39 Requisites

(1) As between immediate parties and as regards a remote party, other than a holder in due course, the delivery of a bill

(a) in order to be effectual must be made either by or under the authority of the party drawing, accepting or endorsing, as the case may be; or

(b) may be shown to have been conditional or for a special purpose only, and not for the purpose of transferring the property in the bill.

Delivery is conclusively presumed when the bill is in the hands of the other party. The transfer of a bill can also be conditional or for a special purpose only

Bills of Exchange Act

Necessity for presentment

(1) Subject to this Act, a bill must be duly presented for payment.

If not presented

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Section 84 Necessity for Presentment

(2) If a bill is not duly presented for payment, the drawer and endorsers are discharged.

Manner of presentment

(3) Where the holder of a bill presents it for payment, he shall exhibit the bill to the person from whom he demands

In order for the contracts to be valid the bill must be presented for payment.

Bills of Exchange Act

Section 86 By and to Whom

(1) Presentment of a bill must be made by the holder or by a person authorized to receive payment on his behalf, at the proper place as defined in section 87, and either to the person designated by the bill as payer or to his representative or a person authorized to pay or to refuse payment on his behalf, if with the exercise of reasonable diligence such person can there be found.

Two acceptors

(2) When a bill is drawn on or accepted by two or more persons who are not partners and no place of payment is specified, presentment must be made to all of them.

Personal representation

(3) When the drawee or acceptor of a bill is dead and no place of payment is specified, presentment of the bill must be made to a personal representative if there is one and with the exercise of reasonable diligence he can be found

The bill has to either be presented to the drawee, or a representative of the drawee who has power to accept (a bank s.165)

Bills of Exchange Act

Section 91 When payment is dispensed with

(1) Presentment of a bill for payment is dispensed with

(a) where, after the exercise of reasonable diligence, presentment, as required by this Act, cannot be effected;

(b) where the drawee is a fictitious person;

(c) with respect to the drawer, where the drawee or acceptor is not bound, as between himself and the drawer, to accept or pay the bill, and the drawer has no reason to believe that the bill would be paid if presented; or

(d) with respect to an endorser, where the bill was accepted or made for the accommodation of that endorser, and he has no reason to expect that the bill would be paid if presented;

(e) by waiver of presentment, express or implied. We waive this in the banking contract we sign

Bills of Exchange Act

The drawer of a bill by drawing it

(a) engages that on due presentment it shall be accepted and paid according to its tenor, and that if it is dishonoured he will compensate the holder or any endorser who is compelled to pay it, if the requisite proceedings on dishonour are

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Section 129 Drawer’s Contract

duly taken; and

(b) is precluded from denying to a holder in due course the existence of the payee and his then capacity to endorse.

You undertake as a drawer that when the cheque is duly presented to your bank it will be paid, and if it is not you will indemnify the holder or any endorser.

Person signing the bill of exchange is know as the drawerThe writer of the cheque The drawer has an undertaking to the holder (beneficiary of the contract).

o Conditional on due presentiment

Bills of Exchange Act

Section 94 Dishonour by non-payment

(1) A bill is dishonoured by non-payment when

(a) it is duly presented for payment and payment is refused or cannot be obtained; or

(b) presentment is excused and the bill is overdue and unpaid.

Recourse

(2) Subject to this Act, when a bill is dishonoured by non-payment, an immediate right of recourse against the drawer, acceptor and endorsers accrues to the holder.

Holder has recourse against, drawer, acceptor, and endorser. They can choose.

Negotiation/Endorsement

Bills of Exchange Act

Section 20 Transfer words (bearer/blank)

(1) When a bill contains words prohibiting transfer, or indicating an intention that it should not be transferable, it is valid as between the parties thereto, but it is not negotiable.

Negotiable bill

(2) A negotiable bill may be payable either to order or to bearer.

When payable to bearer

(3) A bill is payable to bearer (1) that is expressed to be so payable, (2) or on which the only or last endorsement is an endorsement in blank.

Certainty of payee

(4) Where a bill is not payable to bearer, the payee must be named or otherwise indicated therein with reasonable certainty.

Fictitious payee

(5) (3) Where the payee is a fictitious or non-existing person, the bill may be treated as payable to bearer.

Not all bills are negotiable Bearer is anyone (not really used), Order is to a specific mentioned person

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Endorsement in blank (section 66 below): when the holder (payee) signs the back of their cheque anyone can then become the holder.

Boma some of the cheques were payable to non-existent/fictitious persons.

Bills of Exchange Act

Section 59 Negotiation by transfer

(1) A bill is negotiated when it is transferred from one person to another in such a manner as to constitute the transferee the holder of the bill.

By delivery

(2) A bill payable to bearer is negotiated by delivery.

By endorsement

(3) A bill payable to order is negotiated by the endorsement of the holder. A bill is a negotiable instrument and can be transferred. Negotiation means transfer (in our case the bundle of rights evidenced by bills/notes)

o Two ways to transfer bills. If Bill is payable to bearer (unnamed) then all that is needed is delivery (bearer

is anyone who puts their hands on it)- 3 instances section 20 above (1) That is expressed to be so payable, (2) Or on which the only or last endorsement is an endorsement in blank. (3) Where the payee is a fictitious or non-existing person, the bill may be

treated as payable to bearer. If bill is payable to order (any other type of bill-usually to a specific person)

you also need the signature of the endorsee. Note: if you are assigning rights under a contract – you can only assign the actual rights you have

– can’t assign additional rights. From this point of view, negotiation is better than assignmentnegotiation means to transfer, and transferring means to transfer the bundle of rights that are associated with a bill or note

You can negotiate the bill without notifying the drawer (Range). At the end of the day the holder can exercise the rights (in Range it was Belvedere who he did not know)

Bills of Exchange Act

Section 61 Endorser

(1) An endorsement in order to operate as a negotiation must be

(a) written on the bill itself and be signed by the endorser; and

(b) an endorsement of the entire bill.

Allonge

(2) An endorsement written on an allonge, or on a copy of a bill issued or negotiated in a country where copies are recognized, is deemed to be written on the bill itself.

Partial endorsement

(3) A partial endorsement, that is to say, an endorsement that purports to transfer to the endorsee a part only of the amount payable, or that purports to transfer the bill to two or more endorsees severally, does not operate as a negotiation of the bill.

Signature of endorser needs to appear on the instrument

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Bills of Exchange Act

Section 62 Signature sufficient

(1) The simple signature of the endorser on a bill, without additional words, is a sufficient endorsement.

Two or more payees

(2) Where a bill is payable to the order of two or more payees or endorsees who are not partners, all must endorse, unless the one endorsing has authority to endorse for the others.

Signature suffices (endorsement in blank) becomes payable to bearer (anyone) They could also write pay “James Povitz” on the back and then sig (endorsement in special)

Probably a safer move.

Bills of Exchange Act

Section 66 Endorsement

(1) An endorsement may be made in blank or special.

Blank

(2) An endorsement in blank specifies no endorsee, and a bill so endorsed becomes payable to bearer.

Special

(3) A special endorsement specifies the person to whom, or to whose order, the bill is to be payable.

Application of Act

(4) The provisions of this Act relating to a payee apply, with such modifications as the circumstances require, to an endorsee under a special endorsement.

Conversion of blank endorsement

(5) Where a bill has been endorsed in blank, any holder may convert the blank endorsement into a special endorsement by

Blank endorsement doesn’t specify next person. Special endorsement does.

Bills of Exchange Act

Section 67 Restrictive Endorsement

(1) An endorsement may contain terms making it restrictive.

(2) An endorsement is restrictive that prohibits the further negotiation of the bill, or that expresses that it is a mere authority to deal with the bill as thereby directed, and not a transfer of the ownership thereof, as, for example, if a bill is endorsed “Pay ... only”, or “Pay ... for the account of ...”, or “Pay ..., or order, for collection”.

Rights of endorsee

(3) A restrictive endorsement gives the endorsee the right to receive payment of the bill and to sue any party thereto that his endorser could have sued, but gives him no power to transfer his rights as endorsee unless it expressly authorizes him to do so.

If further transfer is authorized

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(4) Where a restrictive endorsement authorizes further transfer, all subsequent endorsees take the bill with the same

If you write on the back of your cheque “for deposit” than you have restricted the ability to further negotiate the instrument.

Bills of Exchange Act

Section 132 Endorser’s Contract

The endorser of a bill by endorsing it, subject to the effect of any express stipulation authorized by this Act,

(a) engages that on due presentment it shall be accepted and paid according to its tenor, and that if it is dishonoured he will compensate the holder or a subsequent endorser who is compelled to pay it, if the requisite proceedings on dishonour are duly taken;

(b) is precluded from denying to a holder in due course the genuineness and regularity in all respects of the drawer’s signature and all previous endorsements; and

(c) is precluded from denying to his immediate or a subsequent endorsee that the bill was, at the time of his endorsement, a valid and subsisting bill, and that he had then a good title thereto.

Endorser undertakes that bill will be paid according to tenor once presented. If dishonored, the endorser will provide an indemnity to any holder or subsequent endorser. It’s a right of action.

An endorsement is a guarantee of the others signatures. As the instrument is negotiated, endorsers get more and more liable. Once your signature is on

the note you become liable to next holder and any subsequent endorser. The end Holder can chose whom to go after (one or all). Belvedere can’t exercise against CIBC because they had clause in contract not allowing any

recourse against them. In theory, Belvedere could go after Union or D&C but they are insolvent, so Belvedere goes after Range.

(b) To a holder who is in due course an endorser guarantees all signatures before him. SO if ever one of the prior signatures on the instrument was forged, the endorser in question can’t hide behind that fact IF the holder is a holder in due course (Adds something else to the right of action provided by A)

o CPA Rule A3: Instruments need to be marked by collecting bank as they are introduced into the clear system (stamped). Rule A3 says that the stamp by collecting bank is guarantee of the other endorsements. It mirrors 132 (b)

Belvedere can’t exercise against CIBC because they had clause in contract not allowing any recourse against them. In theory, Belvedere could go after Union Bank or D&C (any subsequent endorser) but they are insolvent, so Belvedere goes after Range (who is the ultimate debtor-the drawer/maker of the note-he has no recourse against anyone). Belvedere is a holder in due course, and gets the benefit of 132-b (in good faith-no notice of business between Range and D&C)

Certified Cheques “Acceptor’s Contract”

A signature of the cheque by the drawee bank. It allows the holder to sue the drawer or drawee. Holder will go after the bank, makes more sense.

o Provides additional security.

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o Wide spread use in Canada and USA, not in UKo Note : when the cheque is certified, the bank debit the account of the drawer and holds

that amount in some reserve account so they know they have the money when that cheque comes to be paid

These instruments are more secure because:o The bank has a better credit rating than their customers.o Once a cheque has been certified it cannot be countermanded (A.E Lepage)

The BEA doesn’t mention certified cheques. So the courts have used the concept of acceptance to find the legal basis for certification

Bills of Exchange Act

Section 34 Acceptor’s Contract

(1) The acceptance of a bill is the signification by the drawee of his assent to the order of the drawer.

Drawee’s name wrong

(2) Where in a bill the drawee is wrongly designated or his name is misspelt, he may accept the bill as therein described, adding, if he thinks fit, his proper signature or he may accept by his proper signature.

Acceptance is the assent by the drawee of the order given by the drawer (simple signature/magnetic stamp). No signature/stamp, no liability of the drawee bank.

This certification gives rise to acceptor’s contract (126,127,128)

Bills of Exchange Act

Section 126 Equitable Assignment

A bill, of itself, does not operate as an assignment of funds in the hands of the drawee available for the payment thereof, and the drawee of a bill who does not accept as required by this Act is not liable on the instrument.

Drawee bank has no liability unless they accept instrument (certification)

Bills of Exchange Act

Section 127 Engagement by acceptance

The acceptor of a bill by accepting it engages that he will pay it according to the tenor of his acceptance.

Once acceptance is given, obligation to pay the holder is created if instrument is dishonored.

Bills of Exchange Act

The acceptor of a bill by accepting it is precluded from denying to a holder in due course

(a) the existence of the drawer, the genuineness of his signature and his

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Section 128 Estoppel

capacity and authority to draw the bill;

(b) in the case of a bill payable to drawer’s order, the then capacity of the drawer to endorse, but not the genuineness or validity of his endorsement; or

(c) in the case of a bill payable to the order of a third person, the existence of the payee and his then capacity to endorse, but not the genuineness or validity of his endorsement.

In addition to the basic right to sue the bank a holder in due course gets further benefits. Once bank certifies/accepts, it can’t deny the authenticity of the bill ((1) claim the drawer’s

signature was forged (2) question drawer’s existence (3) question drawer’s capacity to draw the bill) to a holder in due course

Certification is explicitly covered in Rule A4 ss. 3-4 (see p.79)A.E. Lepage lnvestments Ltd. v Rattray Publications Ltd

Rattray had a change of heart about the offer to lease decision after they had already presented the cheque to Lepage. Lepage sensed this change and went to Rattray’s bank (CIBC) to have the cheque certified. Rattray had countermanded the cheque but the teller missed this. Rattray’s bank (CIBC) certified the cheque in error; they had no authority to certify, as an order had been given by Rattray not to. The cheque went through the clearing and settlement system and was returned to TD (Lepage’s bank where he had deposited the cheque). Even though CIBC made a mistake, the court said certification is not revocable.

Rule: Certification cannot be revoked or countermanded. So a drawer can’t do anything once the cheque is certified.

Rule: Either Party (Payee or Payor) can certify a cheque. Section 127 BEA

A.E. Lepage lnvestments Ltd. v Rattray Publications Ltd., (1994)-ONCA

Facts: LePage was a landlord of a building. After approaching LePage, Rattray made an offer to lease part of the building on April 12. Accompanying the offer was a cheque for $20,825.89, which was to apply to the first rent to become due under the lease contemplated by the offer. Cheque was payable to LePage and was drawn on Rattray’s account at CIBC. The offer was to become binding on Rattray on April 18. LePage accepted on April 24. There had been a suggestion by Rattray to Lepage of a change of heart about the terms of the lease to be entered into pursuant to the offer, but on that day, LePage delivered the offer to London Life (their partner) for signature and on April 25, London Life accepted the offer. On April 25, Rattray called CIBC and ordered a stop-payment of the cheque. On April 26, LePage preseted Rattray’s cheque at a CIBC branch (because of Rattray’s change of heart). The teller at the branch called Rattray’s branch and the person didn’t see the stop cheque order so they certified the cheque (when they shouldn’t have!). LePage deposited the certified cheque into their account at TD. During the clearing process CIBC returned the cheque to TD refusing to settle it, claiming it had been certified in error. Amount was re-credited to Rattray’s account at CIBC.

Issue: Can a drawee bank withdraw certification of a cheque, granted erroneously after a stop payment order by the drawer, where that certification has been granted pursuant to a request by the payee?

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Holding: No. There is no difference in law between cheques certified at the request of the drawor vs the payee.

Legal Reasoning: Practice of certification is well established in Canada even though the BEA doesn’t explicitly deal

with itthe lack of statutory authority has led to some confusion over the underlying obligations of certification, especially if the drawer requested it or the payee

o Seems like there is more of an obligation on the bank to honour the certification it is requested by the drawer vs the payeethis is the issue of the case

Argument is that the bank’s primary obligation is to its customer (the drawer), with whom it has a contractual relationship. Its mandate is to pay funds from its customer's account at the direction of the customer. That authority or duty to pay is terminated by the drawer’s countermand.

Had the cheque been certified by Rattray, they couldn’t have then countermanded it (CIBC agrees)fact that it was the payee who requested certification shouldn’t lead to a different result

Certification is the equivalent of acceptance – regardless of who is responsible for certificationTreating certification as acceptance brings it under the scope of the BEA under section 38 and 127 of the BEA acceptance makes the bill irrevocable

General Contractual Requirements-Forged Endorsements

Three types forgeries 1. Forged signature of the drawer (BMP, CP Hotels, Arrow Transfer)2. Forged endorsements (Bank of Montreal v, AG Quebec)3. Fraudulent alteration by third party.

Bills of Exchange Act

Section 48 Forgery and Forged Endorsement

(1) Subject to this Act, where a signature on a bill is forged, or placed thereon without the authority of the person whose signature it purports to be, the forged or unauthorized signature is wholly inoperative, and no right to retain the bill or to give a discharge therefor or to enforce payment thereof against any party thereto can be acquired through or under that signature, unless the party against whom it is sought to retain or enforce payment of the bill is precluded from setting up the forgery or want of authority.

Recovery of amount paid on forged cheque

(3) Where a cheque payable to order is paid by the drawee on a forged endorsement out of the funds of the drawer, or is so paid and charged to his account, the drawer has no right of action against the drawee for the recovery of the amount so paid, nor any defence to any claim made by the drawee for the amount so paid, as the case may be, unless he gives notice in writing of the forgery to the drawee within one year after he has acquired notice of the forgery.

Default of notice

(4) In case of failure by the drawer to give notice of the forgery within the period referred to in subsection (3), the cheque shall be held to have been paid in due course with respect to every other party thereto or named therein, who has not previously instituted proceedings for the protection of his rights.

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If signature is forged or unauthorized, it is treated as if it is not there (wholly inoperative) 48 (3) rare place where act talk about when drawer can recover from the drawee (instead of

holder focus). Usually dealt with in banker-customer contracto Rule: Where there is notice to the drawer that the endorsement has been forged. The

drawer can recover funds debited by the drawee within one year. (Account holder and their bank).

Bank of Montreal v, AG Quebec Remember the 30 day rule from BMO contract doesn’t apply to forged endorsements, get 6

years.

Bills of Exchange ActSection 144

Alteration of a Bill

(1) Subject to subsection (2), where a bill or an acceptance is materially altered without the assent of all parties liable on the bill, the bill is voided, except as against a party who has himself made, authorized or assented to the alteration and subsequent endorsers.

Right of holder in due course

(2) Where a bill has been materially altered, but the alteration is not apparent, and the bill is in the hands of a holder in due course, the holder may avail himself of the bill as if it had not been altered and may enforce payment of it according to its original tenor.

Name of beneficiary is changed with liquid paper and changed Amount is changed by beneficiary

o The Bill is voided, the drawer would get their funds back. B.M.P. Global Distribution lnc. v Bank of Nova Scotia

BMP receives a cheque payable from drawer first national on drawee bank RBC for 900k. BMP deposits it in their bank NBC. NBC puts a hold on the amount and asks around. Cheque seems good. After 7-10 days the cheque doesn’t come back so they release the hold.

BMP distributes the money to various accounts within the same bank. A month later RBC receives word that the cheque was a forgery (forged drawer’s signature). It is now too late to send the cheque back into clearing, past the 24hr deadline in rule A4 (the delay is only 24 hrs because a bank is deemed to know customer signature, they have a specimen).

RBC asks BNS to help them out and freeze the money in the remaining accounts and transfer remaining funds back to RBC. BNS does this with indemnity making sure RBC covers their ass.

BMP then sues bank of Nova Scotia saying they had no right to withdraw the funds from the account. Despite the fact that BMP couldn’t explain why they had the rights to the funds in the first place.

This case is about RBC (the drawee bank) has the right to recover the payment it made to BNS (the collecting bank)

o We say payment because the cheque has already been paid (cleared and settled) through the clearing and settlement system

o This is a payment “made by mistake”can use the common law doctrine of recovery of money paid in mistake of fact (doctrine of restitution)

If this would have been in CVL, we would have used 1499 CCQ

CCQ1499

A condition upon which an obligation depends is one that is possible and neither unlawful nor contrary to public order; otherwise, it is null and renders null the obligation that depends upon it.

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Doctrine of restitution o General rule that allows you to recover payment in mistake of facto 3 different ways to overcome this general rule:

(1) The payor intends that the payee shall have the money at all events or is deemed in law so to intend;

Did First National intend for BMP to keep the funds? NO (2) The payment is made for good consideration; OR

NO, Remember, BMP received no consideration for this random cheque they received

(3) The payee has changed his position in good faith or is deemed in law to have done so

NO – BMP didn’t act in good faiththe funds immediately got dispersed to a bunch of different accounts

o SO doctrine of restitution is not defeated and BMP not allowed to keep moneyo BMP’s argumentthe “principle of finality of payment” – argue that after a certain

amount of time the payment becomes final (rejected by SCC) This is a case involving a forged drawer’s signature

o Remember, for forged drawer’s signatures, the delay to return the cheque in the clearing and settlement system is just the standard 24-hoursWhy: historically, the drawee bank is deemed to know its customer’s signature, so they should hypothetically be able to look at a cheque and immediately know it is a forgery

SO RBC didn’t have this optionthat’s why they called BNS for help – BNS were nice enough to freeze the approx. $700,000 remaining in relating BNS accounts (well not that nice since they made RBC signed an indemnity account)

Section 128 BEA argument used by BMP o BMP says that when BNS paid the cheque, they “accepted” it, becoming a holder in due

course under section 165Therefore they argue that section 128 (the estoppel) can be applied so that a forged drawer signature can’t be held against BNS (a holder in due course) and therefore they argue that RBC must suffer the loss

o SCC rejects this argumentsays it may be true that BNS was a holder in due course and that they can’t defeat BNS’ claim as a holder in due course from a forged drawer’s signature BUT they say that BMP cannot force BNS to use this argumentBMP is a third party in that relationship – they were NOT a holder in due course (they gave no value and they are the payee)

SCC: the payee on an instrument is typically unable to qualify as a holder in due coursebecause remember holders in due course are supposed to have negotiated the cheque and negotiation = endorsement

Chargeback provision in bank-client agreements says the bank can debit any amount that was paid or credited to the customer’s account and for which the bank did not receive settlement for any reason, including fraud or forged endorsement

o BUT this cheque was already settledin this case the money was NOT returned through the settlement process, it is being claimed based on mistake of factSO BMP claims this chargeback provision doesn’t apply

o SCC dimisses BMP’s argument says the doctrine of mistake of fact forms an implicit clause in the contract between the banker and the customer

Implicit provision that the banker can debit the customer’s account if the money is claimed back NOT through clearing but through the restitution principle

SCC: chargeback provision doesn’t just apply to clearing and settling

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B.M.P. Global Distribution lnc. v Bank of Nova Scotia (2009)-SCC

Facts: Plaintiff is a company called BMP Global. It’s a customer of Bank of Nova Scotia (BNS). BMP received a cheque with forged signatures payable to it (they are the fraudsters), and deposited it into its account at BNS. BMP had nothing to do with the fraud, it was a completely innocent party. In a series of strange dealings, BMP actually gave no consideration for the cheque – i.e. it was a total windfall. After the deposit, BMP issued cheques to several of its agents, drawing on the windfall. The drawee bank, RBC, soon realized that the signatures were forged and asked BNS to help it out (I suppose RBC returned the sums to its own customer). BNS debited its customer BMP and returned the funds to RBC. It also unilaterally traced the money given out by BMP to other accounts, and debited those accounts, too. BMP claims that BNS breached its banker duties, and claims entitlement to the funds, even though they are fraudulent windfall.

Issue: Is BMP entitled to money?

Holding: BMP not entitled to money due to equitable principles, despite BNS’ breach of banker duty to honour transfers

Legal Reasoning: BNS’ retention of the money would be UJE with respect to BMP. Although it’s the RBC that

would actually be impoverished… The vibrant law of equity prevents parties from retaining property which in good conscience

they should not be permitted to retain “One might ask whether the court should give a monetary jgmt which will accomplish the

substance of fraud.” Also, there is a broad principle that “a person cannot avail himself of what has been obtained by the fraud of another, unless he not only is innocent of the fraud, but has given some valuable consideration.”

For BNS’s breach of duties: a nominal damages of $1 Tracing by BNS, on the other hand, was unauthorized. The cheques drawn on BMP’s

account were not forged, and were not made in BF. BNS therefore has no R to debit those accounts.

Bills of Exchange Act

Section 49 Recovery of amount paid on forged endorsements

(1) Where a bill bearing a forged or an unauthorized endorsement is paid in good faith and in the ordinary course of business by or on behalf of the drawee or acceptor, the person by whom or on whose behalf the payment is made has the right to recover the amount paid from the person to whom it was paid or from any endorser who has endorsed the bill subsequent to the forged or unauthorized endorsement if notice of the endorsement being a forged or an unauthorized endorsement is given to each such subsequent endorser within the time and in the manner mentioned in this section.

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Rights against prior endorsers

(2) Any person or endorser from whom an amount has been recovered under subsection (1) has the like right of recovery against any prior endorser subsequent to the forged or unauthorized endorsement.

Notice of forgery

(3) The notice referred to in subsection (1) shall be given within a reasonable time after the person seeking to recover the amount has acquired notice that the endorsement is forged or unauthorized, and may be given in the same manner, and if sent by post may be addressed in the same way as notice of protest or dishonour of a bill may be given or addressed under this Act.

Deals with the recourse of the drawee (having paid) to the endorser. Cheque made out to beneficiary, the signature of the beneficiary is forged. Forger then deposits it

in their bank account. Drawer’s bank (drawee) account is debited; forger’s account is credited.o Drawee bank (paid the bill) has recourse against the collecting bank (who got paid). o Liability really lies with the collecting bank

Must act within a reasonable time Section 49 is nothing but the expression of restitution.

Canadian Payments Act

Rule A4 (Reintroducing)

Can send the instrument back in the clearing system, refusing to settle it, if there is a forgery. Immediate return.

Typical time frame for clearing and settling is 24-hoursthese situations lead to longer periods

o Forged Signature = 24-hourso Forged endorsements = 6 year periodo Material alterations = 90 day period

Note: in all these regulations, the responsibility lies with the collecting bank

Countermand, no funds in account, customer bankrupt, customer dead. Each reason would be valid for bank to return instrument through clearing. The drawee bank is entitled to re-introduce the check as a returned instrument, just like all other checks it is clearing. s.4 item may be returned by drawee within 90 days, if for any reason, payment is refused or cannot be obtained Ex. If the number written on check doesn’t match the writing of the amount, can

be returned S.4(c) you cannot countermand (return) a bank draft or certified check (see

s.167 Bills of exchange act ) s.5 when the check is received by the drawee (bank of payor) and they can determine if check will be paid, the drawee has 24hrs to revoke. As soon as you return instrument, there is a provisional settlement made in your

favour. You reverse process. You receive funds that were provisionally given to the payee’s bank. This is a huge safety for the drawee bank. You make yourself whole instantly. Sick for drawee bank, terrible for payee bank.

s.6 exceptions for time limitations on checks (ex. Forged instruments can be returned up to 6 yrs later)

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Canadian Payments Act

Rule A3

Gives the drawee bank the right to return instruments after they were paid, on the basis of numerous different scenarios, including forged endorsements

Sets rule that requires collecting bank to stamp cheque put into clearing and settlement system. Stamp is guarantee by collecting bank that all previous endorsements are valid.

Have to contact the stamping bank to get them to follow up on their guarantee.

If we are outside the given period, we still have the principle of restitution (and mistake) this can grant a right to recover the money.

Letters of Credit

Canadian law does not govern letters of credit. A private body, the International Chamber of Commerce (ICC) who created the Uniform Customs and Practice for Documentary Credits (*UCP), governs them. The rules capture the exposition of practice, customs and rules that have been evolving for years.

Two forms of letters of credito Standbyused as security (we won’t be looking at it)o Commercial letters of creditused as payment in international sales

Letter of Credit: Is an irrevocable undertaking by the buyer’s bank to pay the beneficiary, the seller, the amount stated in the letter of credit when presented with the required documents.

o Undertaking is not conditional in sense that it is irrevocable but it is conditional based on docs that need to be presented

o Presented through transfer system called SWIFT. o Amount on LOC will be price the two parties have agreed on in business terms

How Letters of Credit Work

Commercial letters of credit The letter of credit allows a delivery to occur concurrently with payment. This is done with

help of a letter of credit from an intermediary bank. Issue is that purchaser wants to receive goods before they pay money, seller wants to receive cash

before giving product. The discrepant interests of seller and purchaser grow with geographic distance.

General Process + Terms Letter is issued by the issuing bank at the request of the buyer (applicant)in issuing this letter

of credit, the bank is making a form of payment available to the person The applicant asks its issuing bank to issue a letter to a seller (beneficiary)

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The letter would be signed by the issuing bank, addressed to the beneficiary, saying they obligate themselves to pay the stipulated amount upon presentation of x documents before the expiry of the undertaking

Letter of credit becomes payable upon presentation by the seller to the bank of the required docs (see below)

The seller can deliver these documents to the bank for payment the second the goods have been shipped out

o The seller presents the docs to its own bank (nominated bank) who then transfers them to the issuing bank, who then asks whether the documents are compliant with the letter of credit, and if they are, then they pay

Must be compliant with all requirements in letter of credito Buyer has the assurance that the bank will not pay until it receives the goods and receives

title AND they typically have someone checking to make sure the goods are in good condition (certificate of assurance)

The letter of credit will state when payment is going to be madeo Generally “payment at sight” – means the beneficiary gets payment when they are

presented with the documents o The payment may be deferred for a number of days after presentation – will be stated in

letter of credit Note : payment doesn’t occur right away – buyer usually has 30/60/90 days to pay

o Will also state what documents need to be presented Documents which may be required for Letters of Credit

o Invoice document issued by the seller (proves there has been a purchase order)o Transport document issued by the seller (or by the transporter to the seller) once it

sends the goods to be transported The document needs to be issued in the name of the person who will be picking

the goods upo Insurance document says who is responsible if something goes wrongo Certificate of origin says where the goods come fromo Packing list list of what the transporter saw was being transportedo Certification of quality / inspector is something additional that can be included.o THE LETTER ITSELF

All letters of credit have a maturity/expiry date At the very bottom of the letter of credit are the legal terms (see more notes below)

o Generally at the bottom there will be some fine print saying that this letter has credit has been irrevocably issued in favour of the beneficiary

o Also will say that it is in accordance with the terms of the some form of international rulesGenerally the UCP

o The association to these rules is what creates the legal obligations attached to this doc the legal obligations are created with reference to these external rules

Two ways for issuing bank to get money from the applicant: o (1) Can debit the money from their account (like a certified cheque)o (2) Can debit the money from some pre-existing line of credit they already have (if the

bank and the applicant already have some sort of credit facility that already exists) Typically this is the case – would only do other method if there is no pre-existing

relationship Nominated bank 3 functions

1. Advise the seller that a letter of credit has been issued 2. Confirm the letter of credit, meaning it adds on its own personal obligations to that of the

issuing bank

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3. Negotiate the letter of credit This is what happened in Angelica Whitewear

o NOTE: the nominated bank would generally take on these obligations for a feeo NOTE 2: the nominated bank is generally the bank of the seller/beneficiary

Payment is made against delivery because buyer has assurance that issuing bank wont pay unless transport document is presented. So, buyer has assurance they won’t pay until they have right to recover goods. Concurrent payment and receipt of goods. As if the B and S met half way and made exchange.

o LOC is equivalent to ask bank for certified cheque (accept a cheque is payable on demand where as a letter of credit has conditions).

Components of an actual Letter of Credit

The letter of credit will state when the payment will be made Instructions to the beneficiary is the most important part. It outlines which documents are

necessary to get paid.o Commercial Invoiceo Transport document: document issued when seller sends goods off to transport. Given

to the seller by Transportation Company. The document needs to be issued in the name of the person who will be picking up the goods at the end (the buyer/applicant)

o Insurance document: Says who is responsible if something goes wrong. o Certificate of origin: Says where goods come from. Won’t have Cuba stuff in the USAo Packaging list: List of what transporter saw when picked up the goods

Date of issuance and Date of expiry (up to a year later) Signature of issuing bank Disclaimer at the end implicitly expresses the liability to the issuing bank. It says it

governed by the UCP. o There will always be a reference to international rules. This reference creates the lega

obligations

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The Principle of Autonomy (Letter of Credit is independent of transaction)

Autonomy principle (letter of credit is independent of transaction): The exclusive focus is on the documents presented. Banks deal in documents not goods. (Angelica)

UCP600 Article 4 Credits v Contracts

a. A credit by its nature is a separate transaction from the sale or other contract on which it may be based. Banks are in no way concerned with or bound by such contract, even if any reference whatsoever to it is included in the credit. Consequently, the undertaking of a bank to honour, to negotiate or to fulfil any other obligation under the credit is not subject to claims or defences by the applicant resulting from its relationships with the issuing bank or the beneficiary.

A beneficiary can in no case avail itself of the contractual relationships existing between banks or between the applicant and the issuing bank.

b. An issuing bank should discourage any attempt by the applicant to include, as an integral part of the credit, copies of the underlying contract, proforma invoice and the like.

Issuing bank should not listen to the applicant when they complain about defects in the products. The only thing the issuing bank cares about are the documents presented to it.

UCP600

Article 5Documents v. Goods, Services or Performance

Banks deal with documents and not with goods, services or performance to which the documents may relate.

Another expression of article. The bank only deals with the documents given to it by beneficiary. Nothing more!

The Requirements of Strict Document Compliance

UCP600

Article 7Issuing Bank Undertaking

a. Provided that the stipulated documents are presented to the nominated bank or to the issuing bank and that they constitute a complying presentation, the issuing bank must honour if the credit is available by:i. sight payment, deferred payment or acceptance with the issuing bank; ii. sight payment with a nominated bank and that nominated bank does not pay;iii. deferred payment with a nominated bank and that nominated bank does not incur its deferred payment undertaking or, having incurred its deferred payment undertaking, does not pay at maturity;

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iv. acceptance with a nominated bank and that nominated bank does not accept a draft drawn on it or, having accepted a draft drawn on it, does not pay at maturity;v. negotiation with a nominated bank and that nominated bank does not negotiate.

b. An issuing bank is irrevocably bound to honour as of the time it issues the credit.

c. An issuing bank undertakes to reimburse a nominated bank that has honoured or negotiated a complying presentation and forwarded the documents to the issuing bank. Reimbursement for the amount of a complying presentation under a credit available by acceptance or deferred payment is due at maturity, whether or not the nominated bank prepaid or purchased before maturity. An issuing bank's undertaking to reimburse a nominated bank is independent of the issuing bank's undertaking to the beneficiary.

Provision that issuing bank undertakes. Provided that the documents presented are compliant with requirements in the letter of credit. This is why the document description is very important. Documents must be identical (total and absolute) to what the bank is expecting to receive

If satisfied, the issuing bank MUST honor the letter of credit

UCP600

Article 14Standard for Examination of Documents

a. A nominated bank acting on its nomination, a confirming bank, if any, and the issuing bank must examine a presentation to determine, on the basis of the documents alone, whether or not the documents appear on their face to constitute a complying presentation.

b. A nominated bank acting on its nomination, a confirming bank, if any, and the issuing bank shall each have a maximum of five banking days following the day of presentation to determine if a presentation is complying. This period is not curtailed or otherwise affected by the occurrence on or after the date of presentation of any expiry date or last day for presentation.

c. A presentation including one or more original transport documents subject to articles 19, 20, 21, 22, 23, 24 or 25 must be made by or on behalf of the beneficiary not later than 21 calendar days after the date of shipment as described in these rules, but in any event not later than the expiry date of the credit.

d. Data in a document, when read in context with the credit, the document itself and international standard banking practice, need not be identical to, but must not conflict with, data in that document, any other stipulated document or the credit.

e. In documents other than the commercial invoice, the description of the goods, services or performance, if stated, may be in general terms not conflicting with their description in the credit.

f. If a credit requires presentation of a document other than a transport document, insurance document or commercial invoice, without stipulating by whom the document is to be issued or its data content, banks will accept the document as

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presented if its content appears to fulfil the function of the required document and otherwise complies with sub-article 14 (d).

g. A document presented but not required by the credit will be disregarded and may be returned to the presenter.

h. If a credit contains a condition without stipulating the document to indicate compliance with the condition, banks will deem such condition as not stated and will disregard it.

i. A document may be dated prior to the issuance date of the credit, but must not be dated later than its date of presentation.

j. When the addresses of the beneficiary and the applicant appear in any stipulated document, they need not be the same as those stated in the credit or in any other stipulated document, but must be within the same country as the respective addresses mentioned in the credit. Contact details (telefax, telephone, emailand the like) stated as part of the beneficiary's and the applicant's address will be disregarded. However, when the address and contact details of the applicant appear as part of the consignee or notify party details on a transport document subject to articles 19, 20, 21, 22, 23, 24 or 25, they must be as stated in the credit.

k. The shipper or consignor of the goods indicated on any document need not be the beneficiary of the credit.

l. A transport document may be issued by any party other than a carrier, owner, master or charterer provided that the transport document meets the requirements of articles 19, 20, 21, 22, 23 or 24 of these rules.

Obligation to pay is determined on the basis of the documents alone (nothing else) Documents must appear on their face, compliant. There is no obligation on the part of the issuing

bank to do anything more. For example, don’t need to call to confirm a signature. Applies to both issuing and nominated bank

UCP600

Article 15Complying Presentation

a. When an issuing bank determines that a presentation is complying, it must honour.

b. When a confirming bank determines that a presentation is complying, it must honour or negotiate and forward the documents to the issuing bank.

c. When a nominated bank determines that a presentation is complying and honours or negotiates, it must forward the documents to the confirming bank or issuing bank.

Once issuing bank determines docs look good, it has to honor the letter

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The Exception of Fraud

Note: there are a couple of forms of letters of credit: (1) Straight letter of credityou bring the required documents to the bank and you get paid –

not “negotiable” (2) Negotiable letter of creditallows beneficiary to draw drafts on the issuing bank and then

negotiate this draft with any other bankso you can have the bank purchase your draft (by endorsing it to the bank) and the required documents and then it will collect the money itself (facilitates collection)

Functions with a negotiable bill of lading that the person can bring to any bank Draft = a piece of paper containing an order buy one person to another person to

pay a specified person a specified amount of money

Angelica Whitewear v. Bank of Nova Scotia Angelica Whitewear (applicant) is a Montreal-based company buying garments from a Hong

Kong company called Protective Clothing. The nominated bank is the Shanghai bank – the credit is available by negotiation. The issuing bank is Bank of Nova Scotia (BNS)

Angelica (applicant) demands BNS (issuing bank) to issue a negotiation credit. Up to Angelica and Protective Clothing to determine the deal (price, quality, shipment, etc, insurance). Protective (seller/future beneficiary once letter of credit is demanded) says I want payment through letter of Credit. Lots of reasons why protective would want letter (bankruptcy etc). The beneficiary must ask for the letter of credit and tell Angelica exactly what it should look like so it will be able to collect.

Negotiable letter of credit gives the ability to the beneficiary to draw drafts on issuing bank and negotiate it to any other bankThe bank purchases your drafts and documents and makes issuing bank pay them (done for convenience). Different from a straight letter of credit, which is just the exchange of transport documents for payment. Protective endorses the negotiable letter to Shanghai bank.

Despite Angelica saying don’t pay (because of problems below), BNC decided to pay anyways. Now Angelica is suing BNC. (This is related to draft 2; SCC concluded the BNC was not responsible for payment of Draft 1, despite the forged signature. This was because they were only made aware of forgery after payment.)

o Rules of UCP says documents on there face must be compliant with conditions of the credit (article 7)

o Angelica freaks out over 3 discrepancies (1) Inspection certificate has a mistake: SCC says it was not a big deal because in

the document there were other indications that it was legitimate. (2) There was a discrepancy between inspection certificate and invoice. SCC said

it is not material because it said more garments had been inspected than actually sold (5 dozen more) (if 5 dozen less it would have been material).

(3) Discrepancy between transport document and invoice with respect to the destination of prepaid transport of goods. One said it was prepaid until Vancouver; the other prepaid it until Montreal. SCC found this material is despite the fact that Angelica benefited from the transport (got to Montreal) SCC said this was a significant discrepancy and BNC was blamed. Because they agreed on a price based on receiving transport all the way to Montreal, then that is what should be received.

SO this discrepancy was deemed to be material and BNS was charged with wrongly debiting Angelica’s account because it paid for non-

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compliant documents - indemnity that Angelica has given does not apply

Room for discrepancies to be immaterial is very smallmost discrepancies will NOT be tolerated (wrong date, misspelled name etc. are all material)

The exclusive focus for banks having issued letters of credit is on the documents that are presented (they can ignore the applicant BUT they MUST focus on the documents)

Note : notice how the bank was allowed to consider each draft separate of each otherSCC said it didn’t matter if BNS knew there had been a forgery on draft 1 when it came to consider the second draft, because they were independent.

Two main RULES from this case o (1) Autonomy principlethe obligation of banks that issue letters of credit is

exclusively predicated on the documents presented – nothing else matters, they don’t care what the applicant has to say once the document has been issued = strict document compliance

Nothing that goes on in the underlying transaction is important to the letter of credit transaction

o (2) One exception to the autonomy principle = Fraud exception If circumstances are brought to the knowledge of the bank before it makes

payment that makes it “(1) clear and (2) obvious that there has been a fraud”, then the bank is relieved from its duty to pay, regardless of the compliant documents

Note: regarding the fraudulent signature in this case (first draft), the fraud was not brought to the clear attention of the bank before payment, so the fraud exception didn’t apply herehad the statement been made to the bank before payment, it would have been OK

Big burden to satisfy in order to relieve issuing bank.

Angelica Whitewear v. Bank of Nova Scotia (1987)-SCC

Facts: Whitewear, plaintiff, ordered men uniforms from Protecting Clothing Company (“Protective”), and asked its bank, the Defendant, Bank of Nova Scotia (“Bank”) to issue a letter of credit, payable on the demand of a negotiating bank upon presentation of (i) letter of credit, (ii) supporting documents: bill of lading, invoice, etc. (see page 325) On July 18, the negotiating bank, Bank of Shanghai, presented the requisite documents + draft for the amount of the first invoice SS/3, and the Bank paid Shanghai that amount, debiting Whitewear’s account (on July 29). On August 2, Whitewear learned that one of the supporting documents presented to the Bank bore a forged signature. It informed the Bank, the Bank advised Shanghai. Shanghai asked the Bank to pay the second invoice 0014. Meanwhile, the plaintiff informed the Bank of certain discrepancies in the documents accompanying the draft for invoice 0014 (inspection certificate refers to wrong bank, quantity of merchandise incorrect, bills of lading calls for delivery in Vancouver instead of Montréal). The plaintiff also alleges that it informed the bank that the amount on the invoice was fraudulently inflated (the Bank denies this). The Bank nevertheless paid the invoice 0014. Whitewear sues it for that amount.

Issue: Does an overcharging of a few thousand dollars fulfill the fraud exception for letters of

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credit?

Holding: No

Legal Reasoning: The fundamental principle governing documentary letters of credit is that the obligation of

the issuing bank to honor the draft on a credit when it is accompanied by documents which appear on their face to be in accordance with the terms and conditions of the credit is independent of the performance of the underlying credit (p326).

An issuing bank is obliged to pay on a letter of credit if the supporting documents appear regular on their face; this obligation is independent of the performance of the underlying K.

The exception is for fraud must touch the core of the underlying contract (p331) and only if the beneficiary is himself a fraudster, and not if he is innocent. Knowledge of the fraud by the bank before it honored the draft must be sufficiently established to hold that a draft was improperly paid. This is a balance between the reliability of letters of credit and the disincentive to facilitate fraud (p328).

The fraud exception only applies to fraud by the beneficiary of credit, not to 3rd party fraud of which the beneficiary is innocent. The exception is also not opposable to a holder in due course of a draft on letter of credit

Case at bar: not sufficient evidence to show that Whitewear brought fraud to the attention of the Bank. It pointed out discrepancies, but no specific reference to the fraudulent inflation of price on invoice 0014. The fact that the Bank knew about the forgery in invoice SS/3 has no bearing to the question of invoice 0014: the Bank was entitled to assume that it was fully informed with respect to 0014.

The rule of documentary compliance requires only that the tendered documents appear reasonably on their face to conform to the terms and conditions of the letter of credit. Documents accompanying letter of credit and the terms of the letter of credit must converge (reasonably close examination required) This rule does not extend to minor variations or discrepancies that are not sufficiently material to justify a refusal of payment and thus which do not satisfy the requirement of sufficient knowledge to warrant refusal of payment, as is the case here.

Case at bar: variations in the accompanying documents were too minor to warrant application of the rule. However, the discrepancy on the bill of lading (destination) is major, and warrants application of the rule of documentary compliance. The fact that Whitewear eventually accepted goods (under protest) and sold them (to minimize loss), i.e. the fact that K was performed and that Whitewear was not prejudiced by something other than the actual discrepancy, has no importance to payment of a letter of credit.

Ratio: An issuing bank is obliged to honor a draft under a documentary letter of credit when it is

accompanied by documents which appear on their face to be regular and in accordance with terms and conditions of the credit. This obligation is independent of the performance of the underlying credit for which the credit was issued. The issuing bank agrees to pay upon presentment of documents, not goods.

The exception to this rule is for fraud: a bank should not pay where a fraud by the beneficiary of the credit has been sufficiently brought to its knowledge before payment of the draft or by an injunction to restrain the bank from honoring the draft.

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Wire Transfers

Pre-authorized debits (PADs) and Automated fund transfers (AFTs) under ACSS

Automated funds transfer come in two versions:1. Debit: Pre-authorized debits (PAD)

Used for payment of recurring amounts ex) utility bills, between supplier and client for recurring business agreements.

2. Credit: Direct Deposits-Automated fund Transfers (AFT) Mainly used for wages

They work in a similar fashion. They offer a lot of convenience but they don’t provide a good funds model as they are revocable. They have many of the same issues that present themselves when using cheques.

(1) Pre-authorized debits (PAD) Debit:

Credit pull system In every payment transaction there is always a payor (and their bank) and a payee (and their bank)

and their bank accounts. Two agreements that make this work

o (1) PAD payor agreement (set out in CPA’s Rule H1)person who owes the money allows the person to whom the money is owed to access the bank account

Form where the payor gives the payee all the bank account information, as well as the pre-agreed amounts of the debit (if applicable)

o Payee agreement payee agrees to undertake the process in accordance with Rule H1

The Process:1. Payee provides its bank with a computerized file that sets out the amounts and the payors whom

the payee has authority to take funds from + information the bank needs to send out the demands2. The bank then presents the file into the clearing and settlement system (ACSS)this causes the

instruction to be sent from the payee’s bank to the payor’s bank on each given date, and the payor’s account will be automatically debited for the set amount, and the payee’s account will be automatically credited the same amount

Distinguish from cheques: instead of sending the physical paper cheque that was deposited, the payee’s bank introduces an electronic payment instruction, on the authority of the PAD agreement, into the clearing and settlement system – the provisional credit and debit are almost instant

3. There is then a process whereby the payor’s bank has the opportunity to return this electronic instruction (much in the same way as cheques)

1. 24-hour delay (Rule A4) 2. Can return if:

a. There are no fundsb. Payor revokes authority to debit account

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Lemieux: just because the form of payment is electronic and more instantaneous, doesn’t mean it is more secure. There is no guarantee that the payee will have funds in the account – just makes clearing and settling easier/faster/more convenient than with paper cheques.

Remember: with cheques, there is a physical presentation requirement Only guarantee the payee has here is the authority to debit the account BUT the payor can

revoke this authority. o Payor has 90 days after the payments were made to say the authority was revoked, and so

payor’s bank would have to get money back from payee’s bank. Difference from cheques: because this is electronic, there is no risk of a fraudulent signature

like cheques + no issues concerning the holderbecause electronic funds are non-negotiable forms of payment

Rule H1 Canadian Payments Association-Pre Authorized Debits (PAD)

Applies specifically to pre-authorized debits: Consumer payments, or business to business payments

Appendix 2: Sets out mandatory elements which must be included in every Payor PAD Agreement

An authority to debit The amount and timing The right to cancel the agreement

Section 19 (Dishonor): Situations where item is introduced and there is no funds/account is closed etc

Ability of payor’s bank to return the debit into clearing without any lawyer. Not the ability to recover but the ease at which you can recover

Section 23 (No authority): A payor has 90 days from the date of debit to its account to claim funds back claiming there was no authority.

Section 24: Any contestation of the recourse of the payor or payee (under sections 20 and 23) is settled outside of Rule H1

Section 27: The right of the payor to cancel the agreement

These provisions show us that this is not a good funds modelnothing is guaranteed. The system starts to break down when there is a dispute. Similar to cheques

(2) Automated fund Transfers (AFT) Credit:

Credit Push system (although settlement only occurs when re-introduced) Mainly used for wages There would be an arrangement between payor and payee. Payee would need to give

coordinates to payor so they could receive funds.

The Process1. The employer sends an electronic file to its bank containing the names of payee and bank account

numbers. That bank sends that electronic instruction to each payee bank through clearing and settlement system (ACSS).

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2. Once the payee’s bank receives instruction, it introduces the instruction back into ACSS (way the system work). A provisional credit is provided to payee. Payor has a right of return. Most likely return is a cancellation of payment. Payor has ability to countermand/revoke

before payee bank reintroduces it into the system. The payee has no assurance that the funds are good

Rule F5 Canadian Payments Association-Automated Fund Transfers (AFT)

Section 2: Payor’s bank has ability to return the instrument if for any reason payment cannot be made (ex no funds in the account).

Section 13 (Credit Transaction Recall): The payor has the ability to recall instruction up until the payee bank re-introduces the instructions for process in the clearing and settlement system (similar to a countermand of a cheques)

Large Value Transfer System (LVTS)

LVTS is a true credit push system Initially created to remove systemic risk in the clearing and settlement system The system allows for businesses to make payments to each other in a fast and guaranteed

waythis was not foreseen by the CPA creators. Only weaknesses:

o Not advertised by bankso Not understood by merchants.

Provides two things1. Immediately available funds 2. Irrevocable form of payment

The Process:1. The payor and payee have a contract for goods and services. The payor gives instructions to its

bank (sending bank) to debit their account. Instructions will only be accepted if funds are available. Thus it is a true funds model.

LVTS only works for Canadian dollars between Canadian Banks.2. Sending bank sends funds in the form of a payment LVTS message. This is an electronic code

that is put in a servicing system called SWIFT.3. Once message is sent, the money will be delivered the same day. Once sent it is irrevocable.

There is an absolute guarantee of settlement. This is because the sending bank puts security into the Bank of Canada the

morning before payments are made. So there is a form of collateral put up by them. This removes systemic risk. It guarantees the funds even if sending bank goes bankrupt.

4. The receiving bank has an absolute obligation to make the funds immediately available to beneficiary when they are received.

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Much more advanced system than cheques that require a provision credit.

Canadian Payments Association By-law No. 7 Respecting the Large Value Transfer System

Section 42 (no reversal of transactions): Once a message is entered into system, it cannot be recalled (unlike AFT).

Section 43 (finality of payments): Obligation of receiving bank to make payment immediately available to payee. (Only service that does this. This is because of this statutory rule)

Section 44 (exceptions): Exception to 43- ex) bank being closed

Section 45 (finality of payments-stressed): Once funds have arrived at the receiving bank, they are deemed to have been received by the beneficiary.

Note: There are no sections discussing fraud, most likely because nothing has come up yet.

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