By: Thomas S. Tripodianos Published: June 2007

Joint Checks

Question. Does a bank’s compliance with a restrictive indorsement establish compliance with reasonable commercial standards as a matter of law and if not, is the bank’s liability limited to proceeds remaining in its possession?

Answer NO. The situation at hand involves a contractor who was not confident that his subcontractor would use the funds it was being paid on the project to pay for project expenses. If indeed this was happening it could create disruption to the job, result in liens and may also put the contractor in the situation of paying twice for the same work and materials. In order to avoid such unpleasant circumstances the contractor, with the subcontractor’s consent, began paying the subcontractor with checks made payable directly to the subcontractor’s suppliers, sub-subcontractors, etc. The checks were not made out to joint payees and were not delivered directly to the suppliers and sub-subcontractors.

Despite the contractor’s best intentions the payments never reached the suppliers and sub-subcontractors. Instead, the subcontractor, placed handwritten indorsements on the back of each check (the checks totaled approximately $500,000) stating:

Pay to the order of
For Deposit”

with Subcontractor’s account number underneath. Contractor brought a claim against the depositor bank for money had and received through the fraudulent indorsements.

It is normally a bank’s policy to deposit checks only to the business account of the named payee. They are not to be deposited to an individual account even though the payee may be an officer of the business. It is also against reasonable banking standards to deposit the checks into an account other than that of the named payee.

This particular bank took the position that the bank had not violated reasonable banking standards because it had complied with the indorsements on the back of the checks.

Section 3-419 (3) of the Uniform Commercial Code provides that

“[s]ubject to the provisions of this Act concerning restrictive indorsements a representative, including a depositary or collecting bank, who has in good faith and in accordance with the reasonable commercial standards applicable to the business of such representative dealt with an instrument or its proceeds on behalf of one who was not the true owner is not liable in conversion or otherwise to the true owner beyond the amount of any proceeds remaining in [its] hands.”

As to restrictive indorsements, the UCC states that, where there is an indorsement such as “for deposit,” the transferee “must pay or apply any value given by him for or on the security of the instrument consistently with the indorsement and to the extent that [it] does so [it] becomes a holder for value” ( UCC 3-206[3] ). The Bank's primary argument is that it is not liable under Contractor's claim for money had and received because it complied with the restrictive indorsements on the checks.

Section 3-419(3) limits the liability of representatives-including, as relevant here, depositary banks. As long as the bank complies with any restrictive indorsements and acts in good faith and in accordance with reasonable commercial standards, its liability will be limited to “the amount of any proceeds remaining in [its] hands” ( UCC 3-419[3] ). Since the statute provides that the bank will not be “liable in conversion or otherwise,” the defense applies to a claim for money had and received.

The Bank argues that compliance with the restrictive indorsements is tantamount to acting in accordance with reasonable commercial standards under the statute.
The Bank also argues that it was entitled to judgment as a matter of law because Contractor did not prove that the bank retained any of the proceeds of the checks. If correct, the Bank would be immunized from liability since it is apparently undisputed that the Bank no longer retains the proceeds. This argument also lacks merit.

As noted above, section 3-419(3) limits a depositary bank's liability on an action for money had and received only when the bank satisfies the statutory criteria-compliance with restrictive indorsements, good faith and acting in accordance with reasonable commercial standards. Since the Bank did not satisfy all of the above criteria, because it did not act in conformity with reasonable commercial standards, the defense is unavailable and the bank's liability is not limited to the amount of the proceeds remaining in its possession.
Rather, the Bank's liability is determined by the common-law action for money had and received as it existed prior to the enactment of the UCC. According to that rationale, when a bank took a check for collection, it had an obligation to pay the proceeds collected to the true payee owner in the absence of a valid indorsement. The moment the collecting bank receives the proceeds it holds money belonging to the owner of the check and becomes a debtor of such owner and of no one else in the absence of a valid indorsement.

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