In a decision delivered in October 2017, the Supreme Court of Canada ruled that banks that had been the victims of a fraudulent cheque scheme were required to repay the company whose employee drew up the false cheques.
In a decision delivered in October 2017, the Supreme Court of Canada ruled that banks that had been the victims of a fraudulent cheque scheme were required to repay the company whose employee drew up the false cheques.
The decision in Teva Canada Ltd. v. TD Canada Trust, 2017 SCC 51 was of particular interest to payments lawyers, who were hoping that the court would finally move to update the jurisprudence of the Bills of Exchange Act.
In Teva, a Teva employee’s scheme involved drafting false cheque requisition forms for businesses with similar names to those of Teva’s real customers but to whom no debt was owed.
The cheques were issued with mechanically applied signatures, and the employee deposited them in bank accounts belonging to the false businesses, which he had registered as sole proprietorships. In total, he deposited 63 fraudulent cheques totalling $5,483,249.40, which Teva then sued the banks to recover.
The SCC majority ruled that the existing jurisprudence and that the test established in Boma Manufacturing Ltd. v. Canadian Imperial Bank of Commerce, 1996 CanLII 149 (SCC) sufficed, so both TD Canada Trust and the Bank of Nova Scotia had to foot the bill for the fraudulent cheques.
“Banks are well-situated to handle the losses arising from fraudulent cheques, allowing those losses to be distributed among users, rather than by potentially bankrupting individuals or small businesses which are the victims of fraud,” said the ruling.
The SCC decision involved allocating fault between innocent parties, says Tracy Molino, counsel at Dentons Canada LLP in Toronto.
As a payments lawyer, her sympathies lie with the dissenters on the SCC, who focused on the orderly functioning of the payments system and placed the onus on detecting fraud on the company drawing the cheque.
“[The dissenters on the SCC] talk repeatedly about negotiability, certainty and finality of payment — all of those principles being necessary for the smooth operating of the payment system,” says Molino.
“Cheques are not as common [an] instrument as they used to be, but they’re still a very important payment instrument to businesses.”
Colby Linthwaite, a partner with Fred Tayar & Associates in Toronto who represented Teva at the Supreme Court, says if the dissent had been adopted, it would have accepted a state of law that hasn’t existed in the United Kingdom since 1908.
The SCC ruling clarifies the Bills of Exchange Act, which was enacted in Canada in the 1890s but encoded much older common law principles from the United Kingdom.
The act states that where “the payee is a fictitious or non-existing person, the bill may be treated as payable to bearer,” while courts have been struggling to interpret the difference between the two. In Teva, the majority upheld a two-pronged test regarding fictitious payees that was further refined and narrowed within the subjective analysis of whether or not there was an intent to pay.
“There were certain disagreements with the technical elements of the test — disagreements [that] have now been resolved by the court in a fashion that makes the law clearer,” says Linthwaite.
Molino, however, says she needed to draw a flow chart to understand the fictitious payee reasoning contained in the SCC decision. She says that while she understands that subjective tests are used throughout the common law, she is troubled by the majority’s decision.
If followed to its logical conclusion, she says, it would create a scenario where the directing mind of a company could be found not to have the intent to pay.
“There are a few reasons why the courts struggle with it [the act],” says Molino.
“It’s complicated and overly technical . . . the relationships that the Bills of Exchange Act sets out are ones that we don’t look at all that regularly, but they tend to have a profound impact on us from a business perspective.”
Molino says that, when reading the SCC decision, “you could feel that frustration in the dissent.”
“I think the courts have lost the bigger policy issues in trying to interpret the Bills of Exchange Act in a vacuum, but that may be in part because it’s been so long and it hasn’t been amended,” she says.
Molino says that she was sure that the appellate court decision from the Ontario Court of Appeal would stand, though not necessarily for the same reasoning, and hoped that the SCC would take the opportunity to refine previous decisions. The majority on the Supreme Court of Canada overturned the OCA decision instead.
“I was surprised that it was a 5-4 split [by the SCC], and the decision of the dissent really resonated with me,” says Molino. “I understand the struggle that the court went through.”
The decision may also have implications for lawyers who advise corporate clients and financial institutions with white-collar crime issues, says Patrick McCann, counsel with Fasken Martineau DuMoulin LLP in Ottawa.
“Although the majority judgment maintains the previous jurisprudence, which favours the corporate victims of employee fraud, the strong dissent favouring financial institutions could become a majority judgment if the issue comes before the court some time in the future,” says McCann.
The fact that the courts continued to put the onus on the banks could mean more expensive cheque processing overall as a trend, says Molino.
“I’m not sure that you’ll see any sharp increases, but the overall trend will be an increase in cost or less efficiency in the system overall at a time where cheques are already an expensive item to process,” says Molino, adding that detecting fraud is not costless to the banks.
“There’s the other side in terms of managing the fraud and who’s in the best position to do that, and from a practical perspective . . . I’m not sure how the bank is in a better position to mitigate fraud as opposed to the company that makes out the cheque,” says Molino.
Linthwaite says the best advice to clients is to make sure that their internal controls are rigorous so as not to put themselves in this position where they have to rely on this law.
“[My clients] got defrauded for $7 million and change,” Linthwaite says.
“They had to fight for 11 years to be made whole.”
The counsel for TD Bank in the case did not provide comment; nor did counsel for Scotiabank, by deadline.
