Damages Recoverable Electronic Funds Transfer Transactions Under UK Law - Dissertation Example

? Damages recoverable electronic funds transfer transactions under UK Law Introduction The system of funds transfer generally refers to an entire setup of nation’s financial institutions like banks, and the associated practices that allow and facilitate in the process of inter-bank funds transactions.1 The system of funds transfer until recently was primarily paper-based, and it was only during the nineties that there was a shift in this traditional system of funds transfer and there came into being the computer - to- computer (online) transfer of funds system that was known as electronic funds transaction. To deal with this new system there were created new ‘closed user networks,’ and such similar technical requirements made it necessary for the formation of various formal stringent operating, messaging and emergency processes. The electronic funds transfer system is more vulnerable to the internet fraudulent activities operated by the techno-savvy criminals, and thus led to establishment of various security processes and legal measures.2 Traditionally, the monitoring measures, laws and regulatory norms associated with the banking procedures were designed primarily to address safety and transparency issues within the functioning of financial institutions. To create a process that is safe for the customers, and well protected from losses arising from a lack of adequate legal remedial processes, is of utmost importance for a successful banking operation, which by its very nature of handling large amounts of money, comes under ‘high-risk’ business practice. Such high risks associated with banks comprised mainly of credit-interest risks, law related issues, and liquidity risks. With the start of the internet banking or the electronic funds transfer system has further increased these risks while creating some additional new ones, which may arise from the banks trying to circumvent regulatory and supervisory norms, in order to expand their customer reach. Other risks of a legal nature include the ambiguities on various legal processes and requirements that vary from country to country. 3 Though there are laws that specifically address the issue of frauds and other legal problems within internet banking and funds transfer, not much attention has been given to the area of remedies. In this era of high-end technology, it is necessary to review and re-examine various remedial processes like damage claims and injunction, within the electronic funds transfer transaction process. Discussion Banking system and electronic funds transfer under the English law: Under the English law, 'banking business' 4 is seen as comprising of two main basic features: “acceptance of money from and collection of cheques for their customers and placing them to the customer’s credit, and honouring cheques drawn on the bank by its customers and debiting customers' account accordingly.”5 The term 'banking' has been framed differently within the English legislation, and is covered under Banking Act 1979, the Banking Act 1987 and, the Financial Services and Markets Act 2000 also referred to as FSMA 2000.6 In the context of modern banking system through the internet, “electronic banking” or “e-banking” is defined as banking operations conducted by authorised banks (or their official representatives), from a remote location through tools that function under the bank's direct management or through outsourced agents. Thus, e-banking encompasses an entire set of process through which a customer can transfer funds electronically, without having to visit a bank physically, and these processes also includes services where the customers can access their accounts, conduct business transaction, receive necessary information on different financial services and products all the Internet (fig 1). In UK, all electronic modes of payments/transactions come under the jurisdiction of the “law of contract and agency and the customs and usages of banking.” 7 Fig 1: Various processes and available services as seen within e banking.8 As per the ruling of Lord Atkins in the Joachimson vs Swiss Bank (1921),9 the relationship between a bank and its clients comprise of contracts that involve obligatory conditions for both the partners under certain specific conditions as outlined in the ruling: a bank must commit to receive funds and cheques for its customer’s account; These proceeds received in the name of the customer are not kept as they are but the bank takes a loan of the proceeds and then contracts to pay back in the loan with added interests to the customer; The repay contract is at the bank branch where the customer holds his account and includes a contract to pay back any amount (of the total loan proceeds) that is due as per the instructions given by the customer to the bank branch; The bank cannot stop dealing with the customer without a prior handed and a logical notice; The customer on the other hand guarantees to take care in giving instructions to bank that is not misleading or facilitates in the process of fund forgery, and; The bank cannot be held liable for the payment of the full loan proceeds to the customer, until he asks for it at the branch where his current account is kept. Under e banking, the services provided as outlined above are modified to meet the new age customer needs: 24 hour account access; written orders for payments are no compulsory; use of digital signatures; use of public access terminals for making payments like ATMs/ Direct electronic funds transfer/ Electronic cheques/ online pay-roll. The electronic funds transfer (EFT) is a process where under instructions from a customer, a bank transfers funds from the customer’s bank account to the bank account of the customer named beneficiary. EFT transactions occur within the existent UK legal agreement frameworks, and in transactions like bank debit/credit, or ATM cards, the agreement between the bank and the customer forms the legal formats between the two partners and shapes how any future dispute resolution will take place.10 Evidences of any EFT are maintained through printed papers (or documentations like bank statements) which a customer must sign in case of purchases made via credit and debit cards. In UK, all obligations for both the parties (bank and customer) come under the jurisdiction of the English Common Law. Here the customer is obliged to check the details of a bank statement and report any misprint or unauthorised transactions, while the bank is under an obligation to dispatch the bank statements to the customer, though the frequency of receiving the statement depends on the agreement between the two parties concerned. Damages: Within the agreement made between the bank and the customer there are exclusion clauses, which are provisions made for disbarring accountability for damages, caused owing to a contract breach by one or either party member. A majority of these clauses aim to remove the liabilities for indirect or consequential damages, which is evident in one such clause that says, “Neither party shall be liable to the other for any consequential or indirect damages.”11 McGregor on Damages defines the term damages as "the pecuniary compensation, obtainable by success in an action, for a wrong which is either a tort or a breach of contract, the compensation being in the form of a lump sum which is awarded unconditionally and is generally, but now not necessarily, expressed in English currency.” 12 In this context, it is necessary to comprehend that damages are remedial measures in the form of compensation awarded to a party, as a result of incurred expenses or losses, caused by a contract breach. 13 This is breach of contract comes into being when one partner in the agreement does not comply with one or more of the obligations, which form a part of the contract. This failure may relate to an obligation comply with some terms or it may also be an obligation where the party must refrain from some taking certain particular measures or steps. 14 Under such conditions, the party who owes the obligation rights gets the damage compensation (mainly in the form of monetary compensation), the contract breach results in the party incurring expenses, or losses, or any other form of harm. In UK under the common law laws are created by ‘precedence,’ where a judgement declared in a previous case, , is taken as a law for all later cases that are identical or similar in nature. There are no such case laws acting as ‘precedence’ for regulating the damage compensation award within EFT in UK. Furthermore, since the EFT transactions do not include an exchange bill the damage compensation process that comes under section 57 of the Bills of Exchange Act (1882) cannot be applied to this system. 15 The absence of a legal regulation for the damage compensation process related to a bank’s noncompliance to the obligations in EFT transaction within UK law can be termed as a breach of contractual duty that may hamper in the damage recoverability process. Damages for Breach of Contractual Duty and its Application within EFT Transactions: In the Hadley v. Baxendale case, there were measures outlined for the process of damage recovery, which is applicable only in instances where the bank's accountability depends on a breach of contractual obligation (indicative or connoted). As we have already seen the two partners within an EFT, the bank and its customer, have relationship that is contractual (based on an agreement) in nature. A breach of the contract, in most cases, initiates an application for a damage measure, which is based on the notions, "where a party sustains a loss by reason of a breach of contract, he is, so far as money can do it, to be placed in the same situation with regard to damages as if the contract had been performed.”16 This rule was moderated a few years later, in Hadley v. Buxendale case,17 under the test of remoteness, where it was clearly stated that “Where two parties have made a contract which one of them has broken the damages which the other party ought to receive in respect of such breach of contract should be such as may fairly and reasonably be considered arising naturally, i.e., according to the usual course of things, from such breach of contract itself, or such as may reasonably to have been in the contemplation of both parties, at the time they made the contract, as the probable result of the breach of it."18 This law of ‘remoteness’ was also applied in the case of Seven seas properties ltd v. al-essa based on the Hadley v. Buxendale case, where the appellant's claim for damage recovery was dismissed as being as too remote. 19 Since there are no clearly defined legal norms in UK to rule an action for a damage recovery for EFT transaction, in the well-known case Evra Corp. v. Swiss Bank Corp, the Court of Appeal of the Seventh Circuit made Hadley v. Baxendale as the ‘case precedent’ and denied all claims by the prosecutor for consequential damage recovery. Here the Court of Appeal of the Seventh Circuit ruled that since the claimed losses were of little effect to the failure by an intermediary bank to pass a timely order for payment. 20 The ruling in this case held that a failure to make the payment order did not provide notice to the defendant of any future consequential damages, and there were no contingencies supporting such damages. In this case, the court based its judgements on the use of telegrams in the Hadley v. Baxendale case, and it was contended in the Evra Corp. v. Swiss Bank Corp case that the identical functional capacity of EFT transactions and telegrams validated the application of the rule of precedence. It was held that EFT directives and telegrams both comprise of an electrical process (for transferring funds in the latter case, and communicating in the former case). Damages recoverable in electronic credit/debit transfer transactions: The recoverability for damage encountered within an electronic credit transfer transaction is primarily based on the fact as whether the expounder bank is the bank of the beneficiary who is receiving the fund, or is the bank that is transferring the fund. Recoverable Damages when the defender is the Transferring Bank: The recoverable damages for a bank’s failure to pass an order for payment, or even a late order for payment, depends on the customer will to choose to invalidate (overlook) the contractual agreement terms and go ahead with a transfer, or file a case for damages. A contractual agreement to transfer funds to the beneficiary’s bank account is an administrative one, and remains as such, until the transferring bank makes the payment by forming a credit in the name of the beneficiary, or even partially executes the payment order. 21 In cases where there is a failure on the part of the bank to form the credit account, or delays in the process of payment, the customer of the transferring bank may choose to nullify the agreement, instead of going for damage claims, especially in cases of foreign currency transfers, if the currency rates deflate before the transfer could be effected by the bank. Choosing a rescission, where there are no better propositions for damage claims, may translate into the deflation rate of the foreign currencies to rest on the transferring bank. However, choosing this method may not always be in the favour of the customer who may end up incurring indirect losses. For UK banks, where there is a lack of legal contractual agreement, there are no obligatory duties to make the electronic credit transfer. Therefore, there are no recoverable damages, even when the bank fails completely to make the credit payment/transfer order. In such cases, the UK banks may create specific agreement terms with the customers to form instructions for credit transfer transactions, or there may be a certain specific term within the agreement, which makes the banks under obligations to make the electronic fund (credit) transfer. Here a complete or partial failure to pass the payment order instructions is a breach of the account agreement, liable for recoverable damage measures, if the customer files a case. Direct damage recovery: When a bank does not comply with a customer’s instructions on payment order, there may not be an initial loss on the principal amount since here has been no monetary transaction from the account of the customer. Here a customer may incur losses on the services charges payable to the bank for processing such transfers, and owing to failure to make the payment if the customer has to make use of another bank’s services he will also stand to incur losses in the difference between services charges (in case the latter bank applies a higher service charges ).22 EFT is a service provided by banks for their customers, (or even non-customers) in contractual agreement terms, which states that “the breach of contract consists in a failure to render services, the basic loss is the price the plaintiff would have to pay in the market in order to obtain such services, always deducting the contract price if that has not yet been paid."23 Here the customer does not incur any losses from fund interest, as the fund does not move from his account. Where there is a partial funds transfer, however a customer may stand to lose on his principal amount, and will simultaneously lose the use of his fund, unless the bank makes a re-credit in his account or completes the funds transfer as per the correct instructions. The customer will also lose all expenses within the funds transfer.24 Here there is a late payment, which is made into the beneficiary’s account, while the primary customer faces direct losses on the principal sum’s interest for any delay in credit payment. For the losses arising from a direct damage situation, the recoverable amount depends on the amount of damages that has taken place. However, under the precedence case of Hadley v. Baxendde, such losses are generally considered as recoverable, as per the first rule (direct damages). Under normal circumstances, UK Courts will view such direct damage losses as "arising naturally” owing to the bank's failure to pass a payment order on behalf of its customer to the beneficiary; and losses from direct damages come as a result of " the usual course of thing.”25 Consequential/ indirect damages recovery: Often a bank’s noncompliance (complete or partial failure) to a customer’s instructions for funds transfer may result in indirect losses for the customer. Here the beneficiary fails to receive the funds as per the customer’s instructions, which may result losses like failure to buy shares at low prices, nullification of an important business contract, poor credit rating, or other damages. A partial funds transfer or even a late transfer may lead to the aforementioned indirect losses for the customer. Such losses that generally include a third member in the entire transaction, is termed as indirect or consequential damages.26 In the context of these damages, the Review Committee proposed a new law under UK legislations where the banks must be held as “normally liable to the customer for any direct, or clearly consequential, loss due to the failure of EFT equipment to complete a transaction, notwithstanding the terms of any contract to the contrary.” 27 However, this proposal remains yet to be implemented and indirect/ consequential losses and damage recoverable depend on the understanding between the customer and the beneficiary and the nature of entire transaction. As per the second rule of Hudley v. Baxendale, (taken as precedence case), it can be held that a customer is not accredited for any damage recoverable from the bank, in case of indirect/ consequential damages except in cases where it was "reasonably …supposed to have been in the contemplation of both parties at the time they made the contract as the probable result of the breach of it.” 28 So one can deduce that unless the bank is aware of the fact the failure in funds transfer would lead to losses for the customer, there is no damage recoverable permitted. However, the customer, if able to prove that the bank was aware of the potential losses, can recover the rent increase for the contract period. Here the loss contemplation arises from the bank's consciousness of the "special circumstances" that led to losses for the customer; however, the customer must make sure that the "special circumstances" is shown to the bank in a manner where the former has accepted the potential risk in the entire funds transfer process. Thus, "not only must the parties contemplate that the damage resulting from the special circumstances may occur, but they must further contemplate that the defender is taking the risk of being liable for such consequences should they occur."29 Often the customer’s bank's awareness of such "special circumstances" is either censured or real, 30 and this awareness (censured) comes within the first rule of Hudley v. Baxendule, while real awareness falls under the "special circumstances" of the second rule.31 Since EFT fund transfers generally take place within the commercial arena, a transferring bank generally takes into account that a customer will incur a certain amount of losses, the funds transfer do not take as per instructions. Here the damages recoverable for the customer of the transferrin bank must at minimum must account for the losses caused by the funds transfer failure or incomplete transfer. Here it may also be that even though a bank, maybe aware of the customer’s nature of may not be actually aware of the losses that may result from a failure to process the payment order accurately. It is indeed often quite impossible to analyse correctly the actual commercial loss arising from any situation pertaining to indirect damages since the UK courts have not yet decided how such a basic fixed value "usual commercial loss.” 32 Here one must consider the relationship between the customers and the banks, where the latter has some idea of the nature of losses incurred from failure to process the funds transfer, however, each claims for indirect damage recovery has to be judged separately based on the facts of that particular case. In case of EFT transactions, it would be difficult to prove that the bank’s knowledge of the potential loss was ‘actual,’ which would help in the recovery process, thus making it imperative that such information be made available to the bank at the time of the opening of the account.33 Here it must be noted that a customer is not liable for any damage recovery if the loss caused was due to his own negligence or mistake. Recoverability of Currency Exchange Losses: Within EFT transactions, currency exchange losses are not a rare phenomenon (except in cases of ATM and EETPOS transactions). There are many instances where the foreign exchange rates have changed from the time when the money should have been transferred, and the actual time taken for the transfer, if there is a delay in processing the payment order as per the customer’s instructions. 34Here the damages recoverable thus pertain to whether the customer is accredited for damage recovery claims for the loss incurred owing to change in the currencies exchange rate. Scrutton in the Di Ferdinando v. Simn Smits & Co. opined that, "it might possibly be that subsequent variation in the exchange could be included in the damages in the nature of interest. I have been unable to find that interest by way of damages has ever been allowed to cover alteration in the exchange, and Counsel have also been unable to find any such case. I think the reason is the one I have already given - namely, that those damages are too remote. The variation of exchange is not sufficiently connected with the breach as to be within the contemplation of the parties."35 Under UK law, if such losses were anticipated beforehand then the damage claim was recoverable.36 In the case of the President of India v. Lips Maritimem" a ship which was been chartered by a party made provisions for the detention period in a port must be paid at 6,000 US dollars. During the time of arbitration, it was decided that the owners incurred currency exchange loss which was termed as special damage recoverable, as per the Hadley v. Baxendale second rule, and the case was taken to taken to the High Court. Here Staughton ruled that currency exchange loss was not equal to "special damage, and “he varied the award to exclude the damages element, thereby limiting the award to demurrage payable in sterling in accordance with clause 30 of the charter party.”37 On further appeal to the Court of Appeal it was ruled that the “currency exchange loss was recoverable as "special damage" for breach of contract and that the owners' claim for damages was not precluded by the determination of rate of exchange provision in clause 30. The Court relied on the point that this clause does not apply when the paying party is in breach of contract by failing to pay within two months of completion of discharge.” 38 The case further went to the House of Lords, which reaffirmed Staughton’s ruling and stated, "All that happened was that the charterer did not pay liquidated damages for the detention of the ship at the time when the cause of action in respect of such damages occurred, or indeed at any time, including the time of the umpire's award. For that non-payment the only remedy which the law affords to the owners is interest on the sum remaining unpaid.”39 Therefore, it is evident that the damage recovery of currency exchange losses was not completely dismissed like other contract breach under the test of remoteness, and if applicable, the damage claims are recoverable as per Hadley v. Baxendale’s second rule. J. Hobhouse has summed damage recovery for losses pertaining to currency exchange rate disparity, where, in the context of currency exchange loss taken as special damages, he states that “In my judgment, the surviving principle of legal policy is that it is a legal presumption that in the ordinary course of things a person does not suffer any loss by reason of the late payment of money. This is an artificial presumption, but is justified by the fact that the usual loss is an interest loss and that compensation for this has been provided for and limited by statute. It follows that a plaintiff, where he is seeking to recover damages for the late payment of money, must prove not only that he has suffered the alleged additional special loss and that it was caused by the defendant's default, but also that the defendant had knowledge of the facts or circumstances which make such a loss a not unlikely consequence of such default. In the eyes of law, those facts or circumstances are deemed to be special, whether in truth they are or not, and knowledge of them must be proved. Where, as in the present case, the relevant facts or circumstances are commonplace, the burden of proof will be easy to discharge and the courts may will be willing to draw inferences of knowledge; in other cases, there may be a question which would, in any event, have had to be dealt with under the second rule in Hudley v. Buxendule, and then the burden of proof will be more significant. I do not see it as any objection to the recovery of the damages claimed in the present case that in very many other international transactions similar damages would be recoverable in the event of the default."40 When the circumstances are ‘special,’ it is the duty of the falconer to prove that the circumstances were under the defender’s consideration during the contractual agreement. In such cases, the gathered evidences hold a significant place in proving the right to claim damage recovery compensations and the case result. Though in cases of EFT (credit/debit) losses arising from differences in currency rates can occur it cannot be taken for granted that currency exchange loss arises naturally from all payments failed or delayed. It is indeed difficult for the banks to analyse beforehand as the rate of fluctuation on the foreign currency rates, thus making it imperative that the banks should not be held accountable under the charge of having an anticipation of knowledge pertaining to currency rates variation and subsequent loss for the customer. Damages recoverable from beneficiary's banks: Damages recoverable from beneficiary’s banks are generally based on breach of delictual duty, and any bank causing such losses for the customer is liable to make compensations for the incurred loss, if evidences show that it has violated the delictual liability clause. This provision is the only possible process for claiming damage recovery when the affected person has no contractual agreement with the bank (the beneficiary’s bank), and generally comes into being when bank negligence results in a failure or delay in the funds transfer transaction. “This cause of action could prove to be vital, in particular under English law, where the transferring bank disclaims liability for other banks’ failures to effect payment.” 41 The beneficiary bank’s activities that can potentially cause financial losses for the customer arise from situations where there is negligence in the services provided, or there is a wrong representation of figures owing to a mistake or negligence, and in such cases, the customer is entitled to damage recovery. Conclusion From the above discourse, it stands out clearly that even though in the recent times the EFT has grown in importance, owing to the large-scale Internet use globally, for all commercial and financial transactions, there is no set of a comprehensive legal mechanism in UK to supervise, monitor, and appropriately govern the electronic funds transfers. The Bills of Exchange Act (1882), that governs the bills of exchange and provides for it legal implementation (like cheques), cannot be applied in cases of EFT transaction, as the distinctive delineation of the “bills of exchange and promissory notes restricted the scope of the Act to such instruments.”42 The English Common law has defined a certain framework for the customer-bank partnership and the various circumstances under which this partnership can be forged or terminated, while specific terms with special connotations have been added from time to time by the English courts, in cases where the contractual agreement failed to solve contentious issues between the concerned partners. Generally, the relationship between a bank and the customer is based on contractual agreement; however, in cases of EFT transactions, express contracts form the thumb rule, which is evident in card payments like ATM. A survey by the review committee of the different UK banks has showed us that in most cases, the agreements between a bank and a customer tend to relieve the former from bearing any liability towards the customer, thus making damage recovery process for the customers almost non-existent. It is of utmost important that the present UK legislative body pay more attention to this process of damage recoverable within the EFT to accord higher protection to the customer. Bibliography Anderson, R., 1987. Incidental and Consequential damages, Journal of Law and Commerce 7, 327- 350. AL-Gudah, F., 1992. The liability Of Bank in Electronic Fund Transfer Transactions (A study in the British and the United States law), Ph. D – The University of Edinburgh. Arora, A., 1993. Electronic Banking and the Law (2nd Edn.). London: Banking Technology. Baker, D., and Brandel, R., 1988 (suppl. 1991). The Law of Electronic Fund Transfer Systems (2nd ed.). Boston: Warren, Gorham & Lamont. 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Electronic Funds Transfer: Exploring the Difficulties of Security. Journal of International Commercial Law and Technology, Vol. 5, Issue 4. Ozalid Group (Export) Ltd. v. African Continental Bank Ltd [ 1979] 2 Lloyd's Rep. 23 1. Parke, B., in Robinson v Harman (1848) 1 Exch 850 at 855, [1843-60] All ER Rep 383 at 385). Office of fair trading, 2008. The legal and regulatory framework behind personal current accounts, OFT1005a, retrieved from, http://www.oft.gov.uk/shared_oft/reports/financial_products/oft1005a.pdf. Seven seas properties ltd v. al-essa (no.2) [1993]1 WLR 1083). Simpson v. London and northwestern railway co (1876)1 QBD 274. Uncitral Legal Guide on Electronic Funds Transfers, 1987, United Nations, accessed on 7th June 2011, http://www.uncitral.org/pdf/english/texts/payments/transfers/LG_E-fundstransfer-e.pdf Read More