CASE NOTES

Contract principles displaced by Uniform Commercial Code. —

Title 8.4, which governs the relationships between a bank and its customers, delineates the rights of a customer against its drawee bank for the improper payment of checks drawn on the customer’s account; the principles of contract law have been displaced by the Uniform Commercial Code, which was enacted to promote uniformity, predictability and finality in certain types of commercial transactions. Halifax Corp. v. First Union Nat'l Bank, 262 Va. 91 , 546 S.E.2d 696, 2001 Va. LEXIS 74 (2001).

OFFICIAL COMMENT

1. The great number of checks handled by banks and the country-wide nature of the bank collection process require uniformity in the law of bank collections.  There is needed a uniform statement of the principal rules of the bank collection process with ample provision for flexibility to meet the needs of the large volume handled and the changing needs and conditions that are bound to come with the years. This Article meets that need.
2. In 1950 at the time Article 4 was drafted, 6.7 billion checks were written annually.  By the time of the 1990 revision of Article 4 annual volume was estimated by the American Bankers Association to be about 50 billion checks. The banking system could not have coped with this increase in check volume had it not developed in the late 1950s and early 1960s an automated system for check collection based on encoding checks with machine-readable information by Magnetic Ink Character Recognition (MICR).  An important goal of the 1990 revision of Article 4 is to promote the efficiency of the check collection process by making the provisions of Article 4 more compatible with the needs of an automated system and, by doing so, increase the speed and lower the cost of check collection for those who write and receive checks.  An additional goal of the 1990 revision of Article 4 is to remove any statutory barriers in the Article to the ultimate adoption of programs allowing the presentment of checks to payor banks by electronic transmission of information captured from the MICR line on the checks.  The potential of these programs for saving the time and expense of transporting the huge volume of checks from depositary to payor banks is evident.
3. Article 4 defines rights between parties with respect to bank deposits and collections.  It is not a regulatory statute.  It does not regulate the terms of the bank-customer agreement, nor does it prescribe what constraints different jurisdictions may wish to impose on that relationship in the interest of consumer protection.  The revisions in Article 4 are intended to create a legal framework that accommodates automation and truncation for the benefit of all bank customers.  This may raise consumer problems which enacting jurisdictions may wish to address in individual legislation. For example, with respect to Section 4-401(c), jurisdictions may wish to examine their unfair and deceptive practices laws to determine whether they are adequate to protect drawers who postdate checks from unscrupulous practices that may arise on the part of persons who induce drawers to issue postdated checks in the erroneous belief that the checks will not be immediately payable.  Another example arises from the fact that under various truncation plans customers will no longer receive their cancelled checks and will no longer have the cancelled check to prove payment.  Individual legislation might provide that a copy of a bank statement along with a copy of the check is prima facie evidence of payment.

VIRGINIA COMMENT

Title 8.4 is discussed in Harrell, Virginia and Article 4 of the Uniform Commercial Code, 18 Wash. and Lee L. Rev. 350 (1961).

This title replaces the Uniform Negotiable Instruments Law, enacted in Virginia in 1897, to the extent that it applied to this subject. See Virginia Comment to Title 8.3. Virginia never adopted the Bank Collection Code of the American Bankers Association, the basis for many of the rules contained in this title.

OFFICIAL COMMENT

1. The rules of Article 3 governing negotiable instruments, their transfer, and the contracts of the parties thereto apply to the items collected through banking channels wherever no specific provision is found in this Article.  In the case of conflict, this Article governs.  See Section 3-102(b).
2. Subsection (b) is designed to state a workable rule for the solution of otherwise vexatious problems of the conflicts of laws:
   1. The routine and mechanical nature of bank collections makes it imperative that one law govern the activities of one office of a bank.  The requirement found in some cases that to hold an indorser notice must be given in accordance with the law of the place of indorsement, since that method of notice became an implied term of the indorser’s contract, is more theoretical than practical.
   2. Adoption of what is in essence a tort theory of the conflict of laws is consistent with the general theory of this Article that the basic duty of a collecting bank is one of good faith and the exercise of ordinary care.  Justification lies in the fact that, in using an ambulatory instrument, the drawer, payee, and indorsers must know that action will be taken with respect to it in other jurisdictions.  This is especially pertinent with respect to the law of the place of payment.
   3. The phrase “action or non-action with respect to any item handled by it for purposes of presentment, payment, or collection” is intended to make the conflicts rule of subsection (b) apply from the inception of the collection process of an item through all phases of deposit, forwarding, presentment, payment and remittance or credit of proceeds. Specifically the subsection applies to the initial act of a depositary bank in receiving an item and to the incidents of such receipt.  The conflicts rule of Weissman v. Banque de Bruxelles, 254 N.Y. 488, 173 N.E. 835 (1930), is rejected. The subsection applies to questions of possible vicarious liability of a bank for action or non-action of sub-agents (see Section 4-202(c)), and tests these questions by the law of the state of the location of the bank which uses the sub-agent.  The conflicts rule of St. Nicholas Bank of New York v. State Nat. Bank, 128 N.Y. 26, 27 N.E. 849, 13 L.R.A. 241 (1891), is rejected.  The subsection applies to action or non-action of a payor bank in connection with handling an item (see Sections 4-215(a), 4-301, 4-302, 4-303) as well as action or non-action of a collecting bank (Sections 4-201 through 4-216); to action or non-action of a bank which suspends payment or is affected by another bank suspending payment (Section 4-216); to action or non-action of a bank with respect to an item under the rule of Part 4 of Article 4.
   4. In a case in which subsection (b) makes this Article applicable, Section 4-103(a) leaves open the possibility of an agreement with respect to applicable law.  This freedom of agreement follows the general policy of Section 1-105.

Bonds and like instruments constituting investment securities under Article 8 may also be handled by banks for collection purposes. Various sections of Article 8 prescribe rules of transfer some of which (see Sections 8-304 and 8-306) may conflict with provisions of this Article (Sections 4-205, 4-207, and 4-208). In the case of conflict, Article 8 governs.

Section 4-210 deals specifically with overlapping problems and possible conflicts between this Article and Article 9. However, similar reconciling provisions are not necessary in the case of Articles 5 and 7. Sections 4-301 and 4-302 are consistent with Section 5-112. In the case of Article 7 documents of title frequently accompany items but they are not themselves items. See Section 4-104(a)(9).

In Clearfield Trust Co. v. United States, 318 U.S. 363 (1943), the Court held that if the United States is a party to an instrument, its rights and duties are governed by federal common law in the absence of a specific federal statute or regulation. In United States v. Kimbell Foods, Inc., 440 U.S. 715 (1979), the Court stated a three-pronged test to ascertain whether the federal common-law rule should follow the state rule. In most instances courts under the Kimbell test have shown a willingness to adopt UCC rules in formulating federal common law on the subject. In Kimbell the Court adopted the priorities rules of Article 9.

In addition, applicable federal law may supersede provisions of this Article. One federal law that does so is the Expedited Funds Availability Act, 12 U.S.C. § 4001 et seq., and its implementing Regulation CC, 12 CFR Pt. 229. In some instances this law is alluded to in the statute, e.g., Section 4-215(e) and (f). In other instances, although not referred to in this Article, the provisions of the EFAA and Regulation CC control with respect to checks. For example, except between the depositary bank and its customer, all settlements are final and not provisional (Regulation CC, Section 229.36(d)), and the midnight deadline may be extended (Regulation CC, Section 229.30(c)). The Comments to this Article suggest in most instances the relevant Regulation CC provisions.

VIRGINIA COMMENT

This section is consistent with Fourth National Bank v. Bragg, 127 Va. 47 , 60-64, 102, 102 S.E. 649 , (1920), which applied the law of the place where a bank took an instrument from its customer to determine whether the bank was a purchaser or agent. Under this section the question would be determined by the law of the place where the bank is located.

CASE NOTES

Variation of period for reporting unauthorized signatures. —

Under subsection (a) of this section, a bank and its customer could validly agree to reduce the time period within which the customer was obligated to report any unauthorized signatures or alterations on withdrawals from its account from one year to 60 days. Nat'l Title Ins. Corp. Agency v. First Union Nat'l Bank, 263 Va. 355 , 559 S.E.2d 668, 2002 Va. LEXIS 30 (2002).

OFFICIAL COMMENT

1. Section 1-102 states the general principles and rules for variation of the effect of this Act by agreement and the limitations to this power.  Section 4-103 states the specific rules for variation of Article 4 by agreement and also certain standards of ordinary care.  In view of the technical complexity of the field of bank collections, the enormous number of items handled by banks, the certainty that there will be variations from the normal in each day’s work in each bank, the certainty of changing conditions and the possibility of developing improved methods of collection to speed the process, it would be unwise to freeze present methods of operation by mandatory statutory rules. This section, therefore, permits within wide limits variation of the effect of provisions of the Article by agreement.
2. Subsection (a) confers blanket power to vary all provisions of the Article by agreements of the ordinary kind.  The agreements may not disclaim a bank’s responsibility for its own lack of good faith or failure to exercise ordinary care and may not limit the measure of damages for the lack or failure, but this subsection like Section 1-102(3) approves the practice of parties determining by agreement the standards by which the responsibility is to be measured.  In the absence of a showing that the standards manifestly are unreasonable, the agreement controls.  Owners of items and other interested parties are not affected by agreements under this subsection unless they are parties to the agreement or are bound by adoption, ratification, estoppel or the like.
3. Subsection (a) (subject to its limitations with respect to good faith and ordinary care) goes far to meet the requirements of flexibility.  However, it does not by itself confer fully effective flexibility.  Since it is recognized that banks handle a great number of items every business day and that the parties interested in each item include the owner of the item, the drawer (if it is a check), all nonbank indorsers, the payor bank and from one to five or more collecting banks, it is obvious that it is impossible, practically, to obtain direct agreements from all of these parties on all items.  In total, the interested parties constitute virtually every adult person and business organization in the United States.  On the other hand they may become bound to agreements on the principle that collecting banks acting as agents have authority to make binding agreements with respect to items being handled.  This conclusion was assumed but was not flatly decided in Federal Reserve Bank of Richmond v. Malloy, 264 U.S. 160, at 167, 44 S. Ct. 296, at 298, 68 L. Ed. 617, 31 A.L.R. 1261 (1924).
4. Under this Article banks come under the general obligations of the use of good faith and the exercise of ordinary care. “Good faith” is defined in Section 3-103(a)(4).  The term “ordinary care” is defined in Section 3-103(a)(7).  These definitions are made to apply to Article 4 by Section 4-104(c).  Section 4-202 states respects in which collecting banks must use ordinary care.  Subsection (c) of Section 4-103 provides that action or non-action approved by the Article or pursuant to Federal Reserve regulations or operating circulars constitutes the exercise of ordinary care.  Federal Reserve regulations and operating circulars constitute an affirmative standard of ordinary care equally with the provisions of Article 4 itself.
5. Subsection (d), in line with the flexible approach required for the bank collection process is designed to make clear that a novel procedure adopted by a bank is not to be considered unreasonable merely because that procedure is not specifically contemplated by this Article or by agreement, or because it has not yet been generally accepted as a bank usage.  Changing conditions constantly call for new procedures and someone has to use the new procedure first.  If this procedure is found to be reasonable under the circumstances, provided, of course, that it is not inconsistent with any provision of the Article or other law or agreement, the bank which has followed the new procedure should not be found to have failed in the exercise of ordinary care.
6. Subsection (e) sets forth a rule for determining the measure of damages for failure to exercise ordinary care which, under subsection (a), cannot be limited by agreement. In the absence of bad faith the maximum recovery is the amount of the item concerned.  The term “bad faith” is not defined; the connotation is the absence of good faith (Section 3-103). When it is established that some part or all of the item could not have been collected even by the use of ordinary care the recovery is reduced by the amount that would have been in any event uncollectible.  This limitation on recovery follows the case law.  Finally, if bad faith is established the rule opens to allow the recovery of other damages, whose “proximateness” is to be tested by the ordinary rules applied in comparable cases.  Of course, it continues to be as necessary under subsection (e) as it has been under ordinary common law principles that, before the damage rule of the subsection becomes operative, liability of the bank and some loss to the customer or owner must be established.

As here used “agreement” has the meaning given to it by Section 1-201(3). The agreement may be direct, as between the owner and the depositary bank; or indirect, as in the case in which the owner authorizes a particular type of procedure and any bank in the collection chain acts pursuant to such authorization. It may be with respect to a single item; or to all items handled for a particular customer, e.g., a general agreement between the depositary bank and the customer at the time a deposit account is opened. Legends on deposit tickets, collection letters and acknowledgments of items, coupled with action by the affected party constituting acceptance, adoption, ratification, estoppel or the like, are agreements if they meet the tests of the definition of “agreement.” See Section 1-201(3). First Nat. Bank of Denver v. Federal Reserve Bank, 6 F.2d 339 (8th Cir. 1925) (deposit slip); Jefferson County Bldg. Ass’n v. Southern Bank & Trust Co., 225 Ala. 25, 142 So. 66 (1932) (signature card and deposit slip); Semingson v. Stock Yards Nat. Bank, 162 Minn. 424, 203 N.W. 412 (1925) (passbook); Farmers State Bank v. Union Nat. Bank, 42 N.D. 449, 454, 173 N.W. 789, 790 (1919) (acknowledgment of receipt of item).

To meet this problem subsection (b) provides that official or quasi-official rules of collection, that is Federal Reserve regulations and operating circulars, clearing-house rules, and the like, have the effect of agreements under subsection (a), whether or not specifically assented to by all parties interested in items handled. Consequently, such official or quasi-official rules may, standing by themselves but subject to the good faith and ordinary care limitations, vary the effect of the provisions of Article 4.

Federal Reserve regulations. Various sections of the Federal Reserve Act (12 U.S.C. § 221 et seq.) authorize the Board of Governors of the Federal Reserve System to direct the Federal Reserve banks to exercise bank collection functions. For example, Section 16 (12 U.S.C. § 248(o)) authorizes the Board to require each Federal Reserve bank to exercise the functions of a clearing house for its members and Section 13 (12 U.S.C. § 342) authorizes each Federal Reserve bank to receive deposits from nonmember banks solely for the purposes of exchange or of collection. Under this statutory authorization the Board has issued Regulation J (Subpart A — Collection of Checks and Other Items). Under the supremacy clause of the Constitution, federal regulations prevail over state statutes. Moreover, the Expedited Funds Availability Act, 12 U.S.C. Section 4007(b) provides that the Act and Regulation CC, 12 CFR 229, supersede “any provision of the law of any State, including the Uniform Commercial Code as in effect in such State, which is inconsistent with this chapter or such regulations.” See Comment 1 to Section 4-102.

Federal Reserve operating circulars. The regulations of the Federal Reserve Board authorize the Federal Reserve banks to promulgate operating circulars covering operating details. Regulation J, for example, provides that “Each Reserve Bank shall receive and handle items in accordance with this subpart, and shall issue operating circulars governing the details of its handling of items and other matters deemed appropriate by the Reserve Bank.” This Article recognizes that “operating circulars” issued pursuant to the regulations and concerned with operating details as appropriate may, within their proper sphere, vary the effect of the Article.

Clearing-House Rules. Local clearing houses have long issued rules governing the details of clearing; hours of clearing, media of remittance, time for return of mis-sent items and the like. The case law has recognized these rules, within their proper sphere, as binding on affected parties and as appropriate sources for the courts to look to in filling out details of bank collection law. Subsection (b) in recognizing clearing-house rules as a means of preserving flexibility continues the sensible approach indicated in the cases. Included in the term “clearing houses” are county and regional clearing houses as well as those within a single city or town. There is, of course, no intention of authorizing a local clearing house or a group of clearing houses to rewrite the basic law generally. The term “clearing-house rules” should be understood in the light of functions the clearing houses have exercised in the past.

And the like. This phrase is to be construed in the light of the foregoing. “Federal Reserve regulations and operating circulars” cover rules and regulations issued by public or quasi-public agencies under statutory authority. “Clearing-house rules” cover rules issued by a group of banks which have associated themselves to perform through a clearing house some of their collection, payment and clearing functions. Other agencies or associations of this kind may be established in the future whose rules and regulations could be appropriately looked on as constituting means of avoiding absolute statutory rigidity. The phrase “and the like” leaves open possibilities for future development. An agreement between a number of banks or even all the banks in an area simply because they are banks, would not of itself, by virtue of the phrase “and the like,” meet the purposes and objectives of subsection (b).

Subsection (c) further provides that, absent special instructions, action or non-action consistent with clearing-house rules and the like or with a general banking usage not disapproved by the Article, prima facie constitutes the exercise of ordinary care. Clearing-house rules and the phrase “and the like” have the significance set forth above in these Comments. The term “general banking usage” is not defined but should be taken to mean a general usage common to banks in the area concerned. See Section 1-205(2). In a case in which the adjective “general” is used, the intention is to require a usage broader than a mere practice between two or three banks but it is not intended to require anything as broad as a country-wide usage. A usage followed generally throughout a state, a substantial portion of a state, a metropolitan area or the like would certainly be sufficient. Consistently with the principle of Section 1-205(3), action or non-action consistent with clearing-house rules or the like or with banking usages prima facie constitutes the exercise of ordinary care. However, the phrase “in the absence of special instructions” affords owners of items an opportunity to prescribe other standards and although there may be no direct supervision or control of clearing houses or banking usages by official supervisory authorities, the confirmation of ordinary care by compliance with these standards is prima facie only, thus conferring on the courts the ultimate power to determine ordinary care in any case in which it should appear desirable to do so. The prima facie rule does, however, impose on the party contesting the standards to establish that they are unreasonable, arbitrary or unfair as used by the particular bank.

CASE NOTES

Investors failed to prove that they were “customers.” —

Investors failed to prove that they were “customers” of a bank under circumstances in which third parties deposited the investors’ funds in accounts at the bank as part of the third parties’ scheme to defraud the investors. Collins v. First Union Nat'l Bank, 272 Va. 744 , 636 S.E.2d 442, 2006 Va. LEXIS 95 (2006).

Deposit by one person to credit of another. —

A “depositor” is ordinarily a person who delivers to or leaves with a bank money subject to his order, either upon time deposit or subject to check. But when one person makes a deposit of money in a bank to the credit of another, with the latter’s consent, the latter person becomes the “depositor” and a debtor-creditor relationship is created between the bank and the “depositor.” Such depositor becomes a “customer” within the meaning of subsection (1) (e), and the bank is liable for any payment from that account not authorized by the customer. United Va. Bank v. E.L.B. Tank Constr., Inc., 226 Va. 551 , 311 S.E.2d 773, 1984 Va. LEXIS 294 (1984).

OFFICIAL COMMENT

1. Paragraph (a)(1):  “Account” is defined to include both asset accounts in which a customer has deposited money and accounts from which a customer may draw on a line of credit. The limiting factor is that the account must be in a bank.
2. Paragraph (a)(3):  “Banking day.”  Under this definition that part of a business day when a bank is open only for limited functions, e.g., to receive deposits and cash checks, but with loan, bookkeeping and other departments closed, is not part of a banking day.
3. Paragraph (a)(4):  “Clearing house.”  Occasionally express companies, governmental agencies and other nonbanks deal directly with a clearing house; hence the definition does not limit the term to an association of banks.
4. Paragraph (a)(5):  “Customer.”  It is to be noted that this term includes a bank carrying an account with another bank as well as the more typical nonbank customer or depositor.
5. Paragraph (a)(6):  “Documentary draft” applies even though the documents do not accompany the draft but are to be received by the drawee or other payor before acceptance or payment of the draft.
6. Paragraph (a)(7):  “Draft” is defined in Section 3-104 as a form of instrument.  Since Article 4 applies to items that may not fall within the definition of instrument, the term is defined here to include an item that is a written order to pay money, even though the item may not qualify as an instrument. The term “order” is defined in Section 3-103.
7. Paragraph (a)(8):  “Drawee” is defined in Section 3-103 in terms of an Article 3 draft which is a form of instrument. Here “drawee” is defined in terms of an Article 4 draft which includes items that may not be instruments.
8. Paragraph (a)(9):  “Item” is defined broadly to include an instrument, as defined in Section 3-104, as well as promises or orders that may not be within the definition of “instrument.”  The terms “promise” and “order” are defined in Section 3-103.  A promise is a written undertaking to pay money.  An order is a written instruction to pay money.  But see Section 4-110(c).  Since bonds and other investment securities under Article 8 may be within the term “instrument” or “promise,” they are items and when handled by banks for collection are subject to this Article.  See Comment 1 to Section 4-102.  The functional limitation on the meaning of this term is the willingness of the banking system to handle the instrument, undertaking or instruction for collection or payment.
9. Paragraph (a)(10):  “Midnight deadline.”  The use of this phrase is an example of the more mechanical approach used in this Article.  Midnight is selected as a termination point or time limit to obtain greater uniformity and definiteness than would be possible from other possible terminating points, such as the close of the banking day or business day.
10. Paragraph (a)(11):  The term “settle” has substantial importance throughout Article 4.  In the American Bankers Association Bank Collection Code, in deferred posting statutes, in Federal Reserve regulations and operating circulars, in clearing-house rules, in agreements between banks and customers and in legends on deposit tickets and collection letters, there is repeated reference to “conditional” or “provisional” credits or payments.  Tied in with this concept of credits or payments being in some way tentative, has been a related but somewhat different problem as to when an item is “paid” or “finally paid” either to determine the relative priority of the item as against attachments, stop-payment orders and the like or in insolvency situations.  There has been extensive litigation in the various states on these problems.  To a substantial extent the confusion, the litigation and even the resulting court decisions fail to take into account that in the collection process some debits or credits are provisional or tentative and others are final and that very many debits or credits are provisional or tentative for awhile but later become final. Similarly, some cases fail to recognize that within a single bank, particularly a payor bank, each item goes through a series of processes and that in a payor bank most of these processes are preliminary to the basic act of payment or “final payment.”
11. Paragraph (a)(12):  “Suspends payments.”  This term is designed to afford an objective test to determine when a bank is no longer operating as a part of the banking system.

The term “settle” is used as a convenient term to characterize a broad variety of conditional, provisional, tentative and also final payments of items. Such a comprehensive term is needed because it is frequently difficult or unnecessary to determine whether a particular action is tentative or final or when a particular credit shifts from the tentative class to the final class. Therefore, its use throughout the Article indicates that in that particular context it is unnecessary or unwise to determine whether the debit or the credit or the payment is tentative or final. However, if qualified by the adjective “provisional” its tentative nature is intended, and if qualified by the adjective “final” its permanent nature is intended.

Examples of the various types of settlement contemplated by the term include payments in cash; the efficient but somewhat complicated process of payment through the adjustment and offsetting of balances through clearing houses; debit or credit entries in accounts between banks; the forwarding of various types of remittance instruments, sometimes to cover a particular item but more frequently to cover an entire group of items received on a particular day.

OFFICIAL COMMENT

1. The definitions in general exclude a bank to which an item is issued, as this bank does not take by transfer except in the particular case covered in which the item is issued to a payee for collection, as in the case in which a corporation is transferring balances from one account to another.  Thus, the definition of “depositary bank” does not include the bank to which a check is made payable if a check is given in payment of a mortgage.  This bank has the status of a payee under Article 3 on Negotiable Instruments and not that of a collecting bank.
2. Paragraph (1):  “Bank” is defined in Section 1-201(4) as meaning “any person engaged in the business of banking.” The definition in paragraph (1) makes clear that “bank” includes savings banks, savings and loan associations, credit unions and trust companies, in addition to the commercial banks commonly denoted by use of the term “bank.”
3. Paragraph (2):  A bank that takes an “on us” item for collection, for application to a customer’s loan, or first handles the item for other reasons is a depositary bank even though it is also the payor bank.  However, if the holder presents the item for immediate payment over the counter, the payor bank is not a depositary bank.
4. Paragraph (3):  The definition of “payor bank” is clarified by use of the term “drawee.”  That term is defined in Section 4-104 as meaning “a person ordered in a draft to make payment.”  An “order” is defined in Section 3-103 as meaning “a written instruction to pay money . . . .  An authorization to pay is not an order unless the person authorized to pay is also instructed to pay.”  The definition of order is incorporated into Article 4 by Section 4-104(c). Thus a payor bank is one instructed to pay in the item.  A bank does not become a payor bank by being merely authorized to pay or by being given an instruction to pay not contained in the item.
5. Paragraph (4):  The term “intermediary bank” includes the last bank in the collection process if the drawee is not a bank. Usually the last bank is also a presenting bank.

OFFICIAL COMMENT

1. This section replaces former Sections 3-120 and 3-121. Some items are made “payable through” a particular bank. Subsection (a) states that such language makes the bank a collecting bank and not a payor bank.  An item identifying a “payable through” bank can be presented for payment to the drawee only by the “payable through” bank.  The item cannot be presented to the drawee over the counter for immediate payment or by a collecting bank other than the “payable through” bank.
2. Subsection (b) retains the alternative approach of the present law.  Under Alternative A a note payable at a bank is the equivalent of a draft drawn on the bank and the midnight deadline provisions of Sections 4-301 and 4-302 apply.  Under Alternative B a “payable at” bank is in the same position as a “payable through” bank under subsection (a).
3. Subsection (c) rejects the view of some cases that a bank named below the name of a drawee is itself a drawee.  The commercial understanding is that this bank is a collecting bank and is not accountable under Section 4-302 for holding an item beyond its deadline.  The liability of the bank is governed by Sections 4-202(a) and 4-103(e).

OFFICIAL COMMENT

1. A rule with respect to the status of a branch or separate office of a bank as a part of any statute on bank collections is highly desirable if not absolutely necessary.  However, practices in the operations of branches and separate offices vary substantially in the different states and it has not been possible to find any single rule that is logically correct, fair in all situations and workable under all different types of practices.  The decision not to draft the section with greater specificity leaves to the courts the resolution of the issues arising under this section on the basis of the facts of each case.
2. In many states and for many purposes a branch or separate office of the bank should be treated as a separate bank.  Many branches function as separate banks in the handling and payment of items and require time for doing so similar to that of a separate bank.  This is particularly true if branch banking is permitted throughout a state or in different towns and cities.  Similarly, if there is this separate functioning a particular branch or separate office is the only proper place for various types of action to be taken or orders or notices to be given.  Examples include the drawing of a check on a particular branch by a customer whose account is carried at that branch; the presentment of that same check at that branch; the issuance of an order to the branch to stop payment on the check.
3. Section 1 of the American Bankers Association Bank Collection Code provided simply:  “A branch or office of any such bank shall be deemed a bank.”  Although this rule appears to be brief and simple, as applied to particular sections of the ABA Code it produces illogical and, in some cases, unreasonable results.  For example, under Section 11 of the ABA Code it seems anomalous for one branch of a bank to have charged an item to the account of the drawer and another branch to have the power to elect to treat the item as dishonored.  Similar logical problems would flow from applying the same rule to Article 4. Warranties by one branch to another branch under Sections 4-207 and 4-208 (each considered a separate bank) do not make sense.
4. Assuming that it is not desirable to make each branch a separate bank for all purposes, this section provides that a branch or separate office is a separate bank for certain purposes.  In so doing the single legal entity of the bank as a whole is preserved, thereby carrying with it the liability of the institution as a whole on such obligations as it may be under.  On the other hand, in cases in which the Article provides a number of time limits for different types of action by banks, if a branch functions as a separate bank, it should have the time limits available to a separate bank.  Similarly if in its relations to customers a branch functions as a separate bank, notices and orders with respect to accounts of customers of the branch should be given at the branch.  For example, whether a branch has notice sufficient to affect its status as a holder in due course of an item taken by it should depend upon what notice that branch has received with respect to the item.  Similarly the receipt of a stop-payment order at one branch should not be notice to another branch so as to impair the right of the second branch to be a holder in due course of the item, although in circumstances in which ordinary care requires the communication of a notice or order to the proper branch of a bank, the notice or order would be effective at the proper branch from the time it was or should have been received.  See Section 1-201 (27).
5. The bracketed language (“maintaining its own deposit ledger”) in former Section 4-106 is deleted.  Today banks keep records on customer accounts by electronic data storage. This has led most banks with branches to centralize to some degree their record keeping. The place where records are kept has little meaning if the information is electronically stored and is instantly retrievable at all branches of the bank. Hence, the inference to be drawn from the deletion of the bracketed language is that where record keeping is done is no longer an important factor in determining whether a branch is a separate bank.

OFFICIAL COMMENT

1. Each of the huge volume of checks processed each day must go through a series of accounting procedures that consume time.  Many banks have found it necessary to establish a cutoff hour to allow time for these procedures to be completed within the time limits imposed by Article 4.  Subsection (a) approves a cutoff hour of this type provided it is not earlier than 2 P.M. Subsection (b) provides that if such a cutoff hour is fixed, items received after the cutoff hour may be treated as being received at the opening of the next banking day.  If the number of items received either through the mail or over the counter tends to taper off radically as the afternoon hours progress, a 2 P.M. cutoff hour does not involve a large portion of the items received but at the same time permits a bank using such a cutoff hour to leave its doors open later in the afternoon without forcing into the evening the completion of its settling and proving process.
2. The provision in subsection (b) that items or deposits received after the close of the banking day may be treated as received at the opening of the next banking day is important in cases in which a bank closes at twelve or one o’clock, e.g., on a Saturday, but continues to receive some items by mail or over the counter if, for example, it opens Saturday evening for the limited purpose of receiving deposits and cashing checks.

OFFICIAL COMMENT

1. Sections 4-202(b), 4-214, 4-301, and 4-302 prescribe various time limits for the handling of items.  These are the limits of time within which a bank, in fulfillment of its obligation to exercise ordinary care, must handle items entrusted to it for collection or payment.  Under Section 4-103 they may be varied by agreement or by Federal Reserve regulations or operating circular, clearing-house rules, or the like.  Subsection (a) permits a very limited extension of these time limits.  It authorizes a collecting bank to take additional time in attempting to collect drafts drawn on nonbank payors with or without the approval of any interested party.  The right of a collecting bank to waive time limits under subsection (a) does not apply to checks.  The two-day extension can only be granted in a good faith effort to secure payment and only with respect to specific items. It cannot be exercised if the customer instructs otherwise.  Thus limited the escape provision should afford a limited degree of flexibility in special cases but should not interfere with the overall requirement and objective of speedy collections.
2. An extension granted under subsection (a) is without discharge of drawers or indorsers.  It therefore extends the times for presentment or payment as specified in Article 3.
3. Subsection (b) is another escape clause from time limits. This clause operates not only with respect to time limits imposed by the Article itself but also time limits imposed by special instructions, by agreement or by Federal regulations or operating circulars, clearing-house rules or the like.  The latter time limits are “permitted” by the Code.  For example, a payor bank that fails to make timely return of a dishonored item may be accountable for the amount of the item.  Subsection (b) excuses a bank from this liability when its failure to meet its midnight deadline resulted from, for example, a computer breakdown that was beyond the control of the bank, so long as the bank exercised the degree of diligence that the circumstances required.  In Port City State Bank v. American National Bank, 486 F.2d 196 (10th Cir. 1973), the court held that a bank exercised sufficient diligence to be excused under this subsection.  If delay is sought to be excused under this subsection, the bank has the burden of proof on the issue of whether it exercised “such diligence as the circumstances require.”  The subsection is consistent with Regulation CC, Section 229.38(e).

OFFICIAL COMMENT

1. “An agreement for electronic presentment” refers to an agreement under which presentment may be made to a payor bank by a presentment notice rather than by presentment of the item.  Under imaging technology now under development, the presentment notice might be an image of the item.  The electronic presentment agreement may provide that the item may be retained by a depositary bank, other collecting bank, or even a customer of the depositary bank, or it may provide that the item will follow the presentment notice.  The identifying characteristic of an electronic presentment agreement is that presentment occurs when the presentment notice is received. “An agreement for electronic presentment” does not refer to the common case of retention of items by payor banks because the item itself is presented to the payor bank in these cases.  Payor bank check retention is a matter of agreement between payor banks and their customers. Provisions on payor bank check retention are found in Section 4-406(b).
2. The assumptions under which the electronic presentment amendments are based are as follows:  No bank will participate in an electronic presentment program without an agreement. These agreements may be either bilateral (Section 4-103(a)), under which two banks that frequently do business with each other may agree to depositary bank check retention, or multilateral (Section 4-103(b)), in which large segments of the banking industry may participate in such a program.  In the latter case, federal or other uniform regulatory standards would likely supply the substance of the electronic presentment agreement, the application of which could be triggered by the use of some form of identifier on the item. Regulation CC, Section 229.36(c) authorizes truncation agreements but forbids them from extending return times or otherwise varying requirements of the part of Regulation CC governing check collection without the agreement of all parties interested in the check.  For instance, an extension of return time could damage a depositary bank which must make funds available to its customers under mandatory availability schedules.  The Expedited Funds Availability Act, 12 U.S.C. Section 4008(b)(2), directs the Federal Reserve Board to consider requiring that banks provide for check truncation.
3. The parties affected by an agreement for electronic presentment, with the exception of the customer, can be expected to protect themselves.  For example, the payor bank can probably be expected to limit its risk of loss from drawer forgery by limiting the dollar amount of eligible items (Federal Reserve program), by reconcilement agreements (ABA Safekeeping program), by insurance (credit union share draft program), or by other means.  Because agreements will exist, only minimal amendments are needed to make clear that the UCC does not prohibit electronic presentment.

OFFICIAL COMMENT

This section conforms to the period of limitations set by Section 3-118(g) for actions for breach of warranty and to enforce other obligations, duties or rights arising under Article 3. Bracketing “cause of action” recognizes that some states use a different term, such as “claim for relief.”

CASE NOTES

Assignee of checks was not a “holder” of the checks, which were order paper, because they had not been indorsed to him or to his order or to bearer or in blank. Strickler v. Marx, 246 Va. 384 , 436 S.E.2d 447, 10 Va. Law Rep. 443, 1993 Va. LEXIS 137 (1993).

OFFICIAL COMMENT

1. This section states certain basic rules of the bank collection process.  One basic rule, appearing in the last sentence of subsection (a), is that, to the extent applicable, the provisions of the Article govern without regard to whether a bank handling an item owns the item or is an agent for collection.  Historically, much time has been spent and effort expended in determining or attempting to determine whether a bank was a purchaser of an item or merely an agent for collection.  See discussion of this subject and cases cited in 11 A.L.R. 1043, 16 A.L.R. 1084, 42 A.L.R. 492, 68 A.L.R. 725, 99 A.L.R. 486.  See also Section 4 of the American Bankers Association Bank Collection Code.  The general approach of Article 4, similar to that of other articles, is to provide, within reasonable limits, rules or answers to major problems known to exist in the bank collection process without regard to questions of status and ownership but to keep general principles such as status and ownership available to cover residual areas not covered by specific rules.  In line with this approach, the last sentence of subsection (a) says in effect that Article 4 applies to practically every item moving through banks for the purpose of presentment, payment or collection.
2. Within this general rule of broad coverage, the first two sentences of subsection (a) state a rule of agency status. “Unless a contrary intent clearly appears” the status of a collecting bank is that of an agent or sub-agent for the owner of the item.  Although as indicated in Comment 1 it is much less important under Article 4 to determine status than has been the case heretofore, status may have importance in some residual areas not covered by specific rules. Further, since status has been considered so important in the past, to omit all reference to it might cause confusion.  The status of agency “applies regardless of the form of indorsement or lack of indorsement and even though credit given for the item is subject to immediate withdrawal as of right or is in fact withdrawn.”  Thus questions heretofore litigated as to whether ordinary indorsements “for deposit,” “for collection” or in blank have the effect of creating an agency status or a purchase, no longer have significance in varying the prima facie rule of agency.  Similarly, the nature of the credit given for an item or whether it is subject to immediate withdrawal as of right or is in fact withdrawn, does not alter the agency status. See A.L.R. references supra in Comment 1.
3. The prima facie agency status of collecting banks is consistent with prevailing law and practice today.  Section 2 of the American Bankers Association Bank Collection Code so provided.  Legends on deposit tickets, collection letters and acknowledgments of items and Federal Reserve operating circulars consistently so provide.  The status is consistent with rights of charge-back (Section 4-214 and Section 11 of the ABA Code) and risk of loss in the event of insolvency (Section 4-216 and Section 13 of the ABA Code).  The right of charge-back with respect to checks is limited by Regulation CC, Section 226.36(d).
4. Affirmative statement of a prima facie agency status for collecting banks requires certain limitations and qualifications. Under current practices substantially all bank collections sooner or later merge into bank credits, at least if collection is effected. Usually, this takes place within a few days of the initiation of collection.  An intermediary bank receives final collection and evidences the result of its collection by a “credit” on its books to the depositary bank. The depositary bank evidences the results of its collection by a “credit” in the account of its customer.  As used in these instances the term “credit” clearly indicates a debtor-credit relationship.  At some stage in the bank collection process the agency status of a collecting bank changes to that of debtor, a debtor of its customer. Usually at about the same time it also becomes a creditor for the amount of the item, a creditor of some intermediary, payor or other bank.  Thus the collection is completed, all agency aspects are terminated and the identity of the item has become completely merged in bank accounts, that of the customer with the depositary bank and that of one bank with another.
5. In those cases in which some period of time elapses between the final payment of the item by the payor bank and the time that the settlement of the collecting bank is or becomes final, e.g., if the payor bank or an intermediary bank accounts for the item with a remittance draft or in straight noncash collections, the continuance of the agency status of the collecting bank necessarily carries with it the continuance of the owner’s status as principal.  The second sentence of subsection (a) provides that whatever rights the owner has to proceeds of the item are subject to the rights of collecting banks for outstanding advances on the item and other valid rights, if any. The rule provides a sound rule to govern cases of attempted attachment of proceeds of a noncash item in the hands of the payor bank as property of the absent owner.  If a collecting bank has made an advance on an item which is still outstanding, its right to obtain reimbursement for this advance should be superior to the rights of the owner to the proceeds or to the rights of a creditor of the owner. An intentional crediting of proceeds of an item to the account of a prior bank known to be insolvent, for the purpose of acquiring a right of setoff, would not produce a valid setoff.  See 8 Zollman, Banks and Banking (1936) Sec. 5443.
6. This section and Article 4 as a whole represent an intentional abandonment of the approach to bank collection problems appearing in Section 4 of the American Bankers Association Bank Collection Code.  Because the tremendous volume of items handled makes impossible the examination by all banks of all indorsements on all items and thus in fact this examination is not made, except perhaps by depositary banks, it is unrealistic to base the rights and duties of all banks in the collection chain on variations in the form of indorsements.  It is anomalous to provide throughout the ABA Code that the prima facie status of collecting banks is that of agent or sub-agent but in Section 4 to provide that subsequent holders (sub-agents) shall have the right to rely on the presumption that the bank of deposit (the primary agent) is the owner of the item.  It is unrealistic, particularly in this background, to base rights and duties on status of agent or owner.  Thus Section 4-201 makes the pertinent provisions of Article 4 applicable to substantially all items handled by banks for presentment, payment or collection, recognizes the prima facie status of most banks as agents, and then seeks to state appropriate limits and some attributes to the general rules so expressed.
7. Subsection (b) protects the ownership rights with respect to an item indorsed “pay any bank or banker” or in similar terms of a customer initiating collection or of any bank acquiring a security interest under Section 4-210, in the event the item is subsequently acquired under improper circumstances by a person who is not a bank and transferred by that person to another person, whether or not a bank. Upon return to the customer initiating collection of an item so indorsed, the indorsement may be cancelled (Section 3-207).  A bank holding an item so indorsed may transfer the item out of banking channels by special indorsement; however, under Section 4-103(e), the bank would be liable to the owner of the item for any loss resulting therefrom if the transfer had been made in bad faith or with lack of ordinary care.  If briefer and more simple forms of bank indorsements are developed under Section 4-206 (e.g., the use of bank transit numbers in lieu of present lengthy forms of bank indorsements), a depositary bank having the transit number “X100” could make subsection (b) operative by indorsements such as “Pay any bank — X100.”  Regulation CC Section 229.35(c) states the effect of an indorsement on a check by a bank.

A contrary intent can change agency status but this must be clear. An example of a clear contrary intent would be if collateral papers established or the item bore a legend stating that the item was sold absolutely to the depositary bank.

Although Section 4-215(a) provides that an item is finally paid when the payor bank takes or fails to take certain action with respect to the item, the final payment of the item may or may not result in the simultaneous final settlement for the item in the case of all prior parties. If a series of provisional debits and credits for the item have been entered in accounts between banks, the final payment of the item by the payor bank may result in the automatic firming up of all these provisional debits and credits under Section 4-215(c), and the consequent receipt of final settlement for the item by each collecting bank and the customer of the depositary bank simultaneously with such action of the payor bank. However, if the payor bank or some intermediary bank accounts for the item with a remittance draft, the next prior bank usually does not receive final settlement for the item until the remittance draft finally clears. See Section 4-213(c). The first sentence of subsection (a) provides that the agency status of a collecting bank (whether intermediary or depositary) continues until the settlement given by it for the item is or becomes final. In the case of the series of provisional credits covered by Section 4-215(c), this could be simultaneously with the final payment of the item by the payor bank. In cases in which remittance drafts are used or in straight noncash collections, this would not be until the times specified in Sections 4-213(c) and 4-215(d). With respect to checks Regulation CC Sections 229.31(c), 229.32(b) and 229.36(d) provide that all settlements between banks are final in both the forward collection and return of checks.

Under Section 4-213(a) settlements for items may be made by any means agreed to by the parties. Since it is impossible to contemplate all the kinds of settlements that will be utilized, no attempt is made in Article 4 to provide when settlement is final in all cases. The guiding principle is that settlements should be final when the presenting person has received usable funds. Section 4-213(c) and (d) and Section 4-215(c) provide when final settlement occurs with respect to certain kinds of settlement, but these provisions are not intended to be exclusive.

A number of practical results flow from the rule continuing the agency status of a collecting bank until its settlement for the item is or becomes final, some of which are specifically set forth in this Article. One is that risk of loss continues in the owner of the item rather than the agent bank. See Section 4-214. Offsetting rights favorable to the owner are that pending such final settlement, the owner has the preference rights of Section 4-216 and the direct rights of Section 4-302 against the payor bank. It also follows from this rule that the dollar limitations of Federal Deposit Insurance are measured by the claim of the owner of the item rather than that of the collecting bank. With respect to checks, rights of the parties in insolvency are determined by Regulation CC Section 229.39 and the liability of a bank handling a check to a subsequent bank that does not receive payment because of suspension of payments by another bank is stated in Regulation CC Section 229.35(b).

VIRGINIA COMMENT

The considerably litigated question of whether a bank takes an item as purchaser or as agent for collection is settled under the UCC in favor of the view that the bank always takes “for collection” unless a contrary intent clearly appears. The form of the indorsement is immaterial. It may be, though, that the same problem remains under a somewhat different name.

The problem often arises in this manner: A seller sends goods to a buyer, drawing a draft on the buyer, attaching a bill of lading and perhaps other documents, and places them with his bank for collection. The draft with documents is forwarded to another bank for collection. That bank collects the proceeds from the buyer, but immediately thereafter the buyer, considering the goods not up to contract, attaches the proceeds while they are still in the hands of the collecting bank. Elkhart State Bank v. Bristol Broom Co., 143 Va. 1 , 129 S.E. 371 (1925); Greensburg Nat’l Bank v. C. Syer & Co., 113 Va. 53 , 73 S.E. 438 (1912); Lynchburg Milling Co. v. Nat’l Exchange Bank, 109 Va. 639 , 64 S.E. 980 (1909). Or, a third person, who has no connection with the transaction, attaches the proceeds. Fourth Nat’l Bank v. Bragg, 127 Va. 47 , 102 S.E. 649 (1920); Buckeye Nat’l Bank v. Huff & Cook, 114 Va. 1 , 75 S.E. 769 (1912). The virtue of this procedure is that the buyer, or the third person, can enforce his claim in his own home area—to the extent of the proceeds of the draft—and so does not have to seek a remedy against the seller in the seller’s own jurisdiction. The depositary bank, in which the seller initially deposited the draft, may intervene claiming the proceeds for itself. Under prior law, the party that would succeed was generally determined by ascertaining whether the depositary bank purchased the draft or only took it as an agent for collection. Under the UCC a somewhat similar question can arise, but it will be phrased in terms of the rights of the collecting bank, such as whether the bank under § 8.4-208 has a security interest in the proceeds.

Previously, the form of an indorsement and the entry made on a deposit slip by the original owner of the draft have been considered of large significance in determining whether a bank was a purchaser or an agent. Fourth Nat’l Bank v. Bragg, 127 Va. 47 , 102 S.E. 649 (1920); Greensburg Nat’l Bank v. C. Syer & Co., 113 Va. 53 , 73 S.E. 438 (1912). These forms are no longer of significance under the UCC.

Virginia has not attached any particular significance to the form of indorsement placed on the draft by the depositary bank itself, or to a right of recourse by the depositary bank against the drawer of the draft. Fourth Nat’l Bank v. Bragg, 127 Va. 47 , 102 S.E. 649 (1920); Lynchburg Milling Co. v. Nat’l Exchange Bank, 109 Va. 639 , 64 S.E. 980 (1909). This aspect of the prior Virginia approach is consistent with the UCC.

The UCC does not expressly cover drafts in which the depositary bank is named as payee. Virginia has held that when the draft is drawn payable to the depositary bank, the bank is prima facie the owner. First Wisconsin Nat’l Bank v. People’s Nat’l Bank, 136 Va. 276 , 283-84, 118 S.E. 82 (1923); Lynchburg Milling Co. v. Nat’l Exchange Bank, 109 Va. 639 , 64 S.E. 980 (1909). It may be that such an instrument, under the UCC, shows a clear intent that the depositary bank is to be the owner.

In Fine v. Receiver of Dickenson County Bank, 163 Va. 157 , 175 S.E. 863 , 94 A.L.R. 1393 (1934), a customer was held entitled to the proceeds of a check deposited for collection as against the receiver of the insolvent depositary bank, the deposit slip stating that the bank was acting only as a collection agent. A similar result would be reached under the UCC, even without the deposit slip statement. Under § 8.4-214 the owner of the item is given a preference.

CASE NOTES

Priority in case of insolvent bank under former N.I.L. —

See Lifsey v. Goodyear Tire & Rubber Co., 67 F.2d 82, 1933 U.S. App. LEXIS 4365 (4th Cir. 1933).

OFFICIAL COMMENT

1. Subsection (a) states the basic responsibilities of a collecting bank.  Of course, under Section 1-203 a collecting bank is subject to the standard requirement of good faith.  By subsection (a) it must also use ordinary care in the exercise of its basic collection tasks.  By Section 4-103(a) neither requirement may be disclaimed.
2. If the bank makes presentment itself, subsection (a)(1) requires ordinary care with respect both to the time and manner of presentment.  (Sections 3-501 and 4-212.)  If it forwards the item to be presented the subsection requires ordinary care with respect to routing (Section 4-204), and also in the selection of intermediary banks or other agents.
3. Subsection (a) describes types of basic action with respect to which a collecting bank must use ordinary care.  Subsection (b) deals with the time for taking action.  It first prescribes the general standard for timely action, namely, for items received on Monday, proper action (such as forwarding or presenting) on Monday or Tuesday is timely.  Although under current “production line” operations banks customarily move items along on regular schedules substantially briefer than two days, the subsection states an outside time within which a bank may know it has taken timely action.  To provide flexibility from this standard norm, the subsection further states that action within a reasonably longer time may be timely but the bank has the burden of proof.  In the case of time items, action after the midnight deadline, but sufficiently in advance of maturity for proper presentation, is a clear example of a “reasonably longer time” that is timely.  The standard of requiring action not later than Tuesday in the case of Monday items is also subject to possibilities of variation under the general provisions of Section 4-103, or under the special provisions regarding time of receipt of items (Section 4-108), and regarding delays (Section 4-109).  This subsection (b) deals only with collecting banks.  The time limits applicable to payor banks appear in Sections 4-301 and 4-302.
4. At common law the so-called New York collection rule subjected the initial collecting bank to liability for the actions of subsequent banks in the collection chain; the so-called Massachusetts rule was that each bank, subject to the duty of selecting proper intermediaries, was liable only for its own negligence.  Subsection (c) adopts the Massachusetts rule.  But since this is stated to be subject to subsection (a)(1) a collecting bank remains responsible for using ordinary care in selecting properly qualified intermediary banks and agents and in giving proper instructions to them.  Regulation CC Section 229.36(d) states the liability of a bank during the forward collection of checks.

VIRGINIA COMMENT

This section is in accord with Code 1950, § 6-63, repealed by the act enacting the UCC, which authorizes direct forwarding to a payor bank for collection, in requiring the collecting bank to use due diligence in other respects in the collection of the item.

Under the UCC the collecting bank must use ordinary care in settling for an item when the bank has received final payment. This is in accord with the general views expressed in First Wisconsin Nat’l Bank v. People’s Nat’l Bank, 136 Va. 276 , 284-88, 118 S.E. 82 (1923). In this case a collecting bank was found to be negligent in failing to remit proceeds of a draft collected from a non-bank payor, in that it held the proceeds for six days, during which time they were attached. The supreme court of appeals also thought the bank was negligent in not promptly informing its principal of an adverse claim to the proceeds; in not disclosing its agency to the court during the attachment proceedings; and in neither employing counsel at its principal’s request, or notifying the principal of its refusal to do so. The UCC is silent as respects these other duties owed by a collecting bank to its principal.

A collecting bank must use ordinary care in giving notice of dishonor or non-payment or returning the item after learning that it has not been paid or accepted. This is in accord with the views expressed in Smith v. Bank of Glade Springs, 12 F.2d 535, 538-39 (4th Cir. 1926), in which it was held that the bank did exercise ordinary care and reasonable diligence in giving notice of dishonor.

OFFICIAL COMMENT

This section adopts a “chain of command” theory which renders it unnecessary for an intermediary or collecting bank to determine whether its transferor is “authorized” to give the instructions. Equally the bank is not put on notice of any “revocation of authority” or “lack of authority” by notice received from any other person. The desirability of speed in the collection process and the fact that, by reason of advances made, the transferor may have the paramount interest in the item requires the rule.

The section is made subject to the provisions of Article 3 concerning conversion of instruments (Section 3-420) and restrictive indorsements (Section 3-206). Of course instructions from or an agreement with its transferor does not relieve a collecting bank of its general obligation to exercise good faith and ordinary care. See Section 4-103(a). If in any particular case a bank has exercised good faith and ordinary care and is relieved of responsibility by reason of instructions of or an agreement with its transferor, the owner of the item may still have a remedy for loss against the transferor (another bank) if such transferor has given wrongful instructions.

The rules of the section are applied only to collecting banks. Payor banks always have the problem of making proper payment of an item; whether such payment is proper should be based upon all of the rules of Articles 3 and 4 and all of the facts of any particular case, and should not be dependent exclusively upon instructions from or an agreement with a person presenting the item.

OFFICIAL COMMENT

1. Subsection (a) prescribes the general standards applicable to proper sending or forwarding of items.  Because of the many types of methods available and the desirability of preserving flexibility any attempt to prescribe limited or precise methods is avoided.
2. Subsection (b)(1) codifies the practice of direct mail, express, messenger or like presentment to payor banks.  The practice is now country-wide and is justified by the need for speed, the general responsibility of banks, Federal Deposit Insurance protection and other reasons.
3. Full approval of the practice of direct sending is limited to cases in which a bank is a payor.  Since nonbank drawees or payors may be of unknown responsibility, substantial risks may be attached to placing in their hands the instruments calling for payments from them. This is obviously so in the case of documentary drafts.  However, in some cities practices have long existed under clearing-house procedures to forward certain types of items to certain nonbank payors.  Examples include insurance loss drafts drawn by field agents on home offices. For the purpose of leaving the door open to legitimate practices of this kind, subsection (b)(3) affirmatively approves direct sending of any item other than documentary drafts to any nonbank payor, if authorized by Federal Reserve regulation or operating circular, clearing-house rule or the like.
4. Section 3-501(b) provides where presentment may be made. This provision is expressly subject to Article 4.  Section 4-204(c) specifically approves presentment by a presenting bank at any place requested by the payor bank or other payor. The time when a check is received by a payor bank for presentment is governed by Regulation CC Section 229.36(b).

On the other hand subsection (b)(2) approves sending any item directly to a nonbank payor if authorized by a collecting bank’s transferor. This permits special instructions or agreements out of the norm and is consistent with the “chain of command” theory of Section 4-203. However, if a transferor other than the owner of the item, e.g., a prior collecting bank, authorizes a direct sending to a nonbank payor, such transferor assumes responsibility for the propriety or impropriety of such authorization.

VIRGINIA COMMENT

The UCC is in accord with Code 1950, § 6-63, repealed by the act enacting the UCC, which authorizes a collecting bank to forward an item directly to the payor bank. The Virginia statute also gives a preference, if the payor bank fails before a check or draft given in payment is finally paid. Section 8.4-214 contains a more general provision regarding insolvency. See Virginia Comment to § 8.4-214 .

In Federal Reserve Bank of Richmond v. Peters, 139 Va. 45 , 54, 123 S.E. 379 (1924), the supreme court of appeals said, “When a bank receives from its correspondent a check upon itself it is an agent for its correspondent to make a presentation to itself.” The UCC accomplishes the same result, more directly.

CASE NOTES

Where defendant was unaware of the words that plaintiff had written on the back of the check, and since defendant could not have accepted an offer of which it was unaware, mutual assent was lacking, and the parties could not have reached an accord. John Grier Constr. Co. v. Jones Welding & Repair, Inc., 238 Va. 270 , 383 S.E.2d 719, 6 Va. Law Rep. 385, 1989 Va. LEXIS 144 (1989) (decided under former § 8.4-205 ).

CIRCUIT COURT OPINIONS

Cashier’s check wrongfully dishonored where indorsement was missing. —

Credit union was liable to a bank for wrongfully refusing to honor a cashier’s check on presentment as the check was properly indorsed when a bank customer wrote its account number on the check for deposit; in light of the bank’s warranty under this section, there was no need to return the check to the bank to guarantee the missing endorsement of its customer as the customer’s endorsement was immaterial. Patriot Bank v. Navy Federal Credit Union, 58 Va. Cir. 251, 2002 Va. Cir. LEXIS 25 (Fairfax County Feb. 26, 2002).

OFFICIAL COMMENT

Section 3-201(b) provides that negotiation of an instrument payable to order requires indorsement by the holder. The rule of former Section 4-205(1) was that the depositary bank may supply a missing indorsement of its customer unless the item contains the words “payee’s indorsement required” or the like. The cases have differed on the status of the depositary bank as a holder if it fails to supply its customer’s indorsement. Marine Midland Bank, N.A. v. Price, Miller, Evans & Flowers, 446 N.Y.S.2d 797 (N.Y.App.Div. 4th Dept. 1981), rev’d, 455 N.Y.S.2d 565 (N.Y. 1982). It is common practice for depositary banks to receive unindorsed checks under so-called “lock-box” agreements from customers who receive a high volume of checks. No function would be served by requiring a depositary bank to run these items through a machine that would supply the customer’s indorsement except to afford the drawer and the subsequent banks evidence that the proceeds of the item reached the customer’s account. Paragraph (1) provides that the depositary bank becomes a holder when it takes the item for deposit if the depositor is a holder. Whether it supplies the customer’s indorsement is immaterial. Paragraph (2) satisfies the need for a receipt of funds by the depositary bank by imposing on that bank a warranty that it paid the customer or deposited the item to the customer’s account. This warranty runs not only to collecting banks and to the payor bank or nonbank drawee but also to the drawer, affording protection to these parties that the depositary bank received the item and applied it to the benefit of the holder.

OFFICIAL COMMENT

This section is designed to permit the simplest possible form of transfer from one bank to another, once an item gets in the bank collection chain, provided only identity of the transferor bank is preserved. This is important for tracing purposes and if recourse is necessary. However, since the responsibilities of the various banks appear in the Article it becomes unnecessary to have liability or responsibility depend on more formal indorsements. Simplicity in the form of transfer is conducive to speed. If the transfer is between banks, this section takes the place of the more formal requirements of Section 3-201.

OFFICIAL COMMENT

Except for subsection (b), this section conforms to Section 3-416 and extends its coverage to items. The substance of this section is discussed in the Comment to Section 3-416. Subsection (b) provides that customers or collecting banks that transfer items, whether by indorsement or not, undertake to pay the item if the item is dishonored. This obligation cannot be disclaimed by a “without recourse” indorsement or otherwise. With respect to checks, Regulation CC Section 229.34 states the warranties made by paying and returning banks.

CASE NOTES

No warranty of sufficient funds on deposit. —

The warranties set forth in subsection (1) of former § 8.4-207 (see now subsection (a)) and former § 8.3-417 (1) do not include a warranty that the drawer of a check has sufficient funds on deposit to cover the check. Kirby v. First & Merchants Nat'l Bank, 210 Va. 88 , 168 S.E.2d 273, 1969 Va. LEXIS 202 (1969).

The term “good title,” within the meaning of subdivision (1)(a) of former § 8.4-207 is not analogous to the concept of title in property law; instead, the term means only that a collecting bank is warranting that it is presenting a check whose indorsements appear to be genuine. Fairfax Bank & Trust Co. v. Crestar Bank, 247 Va. 356 , 442 S.E.2d 651, 10 Va. Law Rep. 1178, 1994 Va. LEXIS 52 (1994).

Under former § 8.4-207 , the term “good title” carries a specialized construction limiting good title to the apparent validity of the chain of indorsements; in other words, the warranty of “good title” is nothing more than an assurance that no one has better title to the check than the warrantor, and therefore, that no one is in a position to claim title as against the warrantee, as the payee or other owner of a genuine check could do if his indorsement were forged. Fairfax Bank & Trust Co. v. Crestar Bank, 247 Va. 356 , 442 S.E.2d 651, 10 Va. Law Rep. 1178, 1994 Va. LEXIS 52 (1994).

The rule that a drawee who mistakenly pays a check has recourse only against the drawer was firmly established before adoption of the Uniform Commercial Code. Kirby v. First & Merchants Nat'l Bank, 210 Va. 88 , 168 S.E.2d 273, 1969 Va. LEXIS 202 (1969).

The drawer of a check, and not the holder who receives payment, is primarily responsible for the drawing out of funds from a bank. An overdraft is an act by reason of which the drawer and not the holder obtains money from the bank on his check. The holder therefore in the absence of fraud or express understanding for repayment, has no concern with the question whether the drawer has funds in the bank to meet the check. The bank is estopped, as against him, from claiming that by its acceptance an overdraft occurred. A mere mistake is not sufficient to enable it to recover from him. Banks cannot always guard against fraud, but can guard against mistakes. It is therefore the general rule, sustained by almost universal authority, that a payment in the ordinary course of business of a check by a bank on which it is drawn under the mistaken belief that the drawer has funds in the bank subject to check is not such a payment under a mistake of fact as will permit the bank to recover the money so paid from the recipient of such payment. To permit the bank to repudiate the payment would destroy the certainty which must pertain to commercial transactions if they are to remain useful to the business public. Otherwise no one would ever know when he can safely receive payment of a check. Kirby v. First & Merchants Nat'l Bank, 210 Va. 88 , 168 S.E.2d 273, 1969 Va. LEXIS 202 (1969).

Burden of proving breach of warranty of presentment. —

Defendant failed to offer any evidence from which reasonable fact finder could conclude that check was altered as opposed to counterfeited, so defendant could not carry its burden of proving that plaintiff breached its warranty of presentment under § 8.4-207.2 , and its claim failed. Defendant presented no witnesses who could testify regarding defendant’s receipt of the check, meaning that no one could offer evidence regarding the condition of the check when it was presented for payment, and more importantly, defendant could not present the original check, having destroyed it after making a digital copy. Chevy Chase Bank, F.S.B. v. Wachovia Bank, N.A., 208 Fed. Appx. 232, 2006 U.S. App. LEXIS 29944 (4th Cir. 2006).

OFFICIAL COMMENT

This section conforms to Section 3-417 and extends its coverage to items. The substance of this section is discussed in the Comment to Section 3-417. “Draft” is defined in Section 4-104 as including an item that is an order to pay so as to make clear that the term “draft” in Article 4 may include items that are not instruments within Section 3-104.

VIRGINIA COMMENT

The warranties imposed by this section are similar in substance to the warranties imposed under (former) § 8.3-417, but their application to particular factual situations, often complex, is not always clear.

The section is in accord with Main Street Bank v. Planters Nat’l Bank, 116 Va. 137 , 81 S.E. 24 (1914), which held that an indorser warrants the genuineness of signatures. It also appears to be consistent with Commercial Savings Bank v. Maher, 202 Va. 286 , 117 S.E.2d 120 (1960), although this case did not decide on which party a loss would ultimately fall.

In Commercial Savings Bank v. Maher, 202 Va. 286 , 117 S.E.2d 120 (1960), a deed of trust and a bearer negotiable instrument for $6,000 were transferred to the Shenandoah bank in exchange for a bank check payable to the order of Stella Maher. This instrument was indorsed, “Deposit to credit of Stella Maher,” also rubberstamped, “For Deposit Only Shawnee Building and Loan Association, Inc.”. In this form it was transferred to the Commercial bank, which deposited the proceeds to the account of Shawnee. Commercial indorsed the check, “Pay to the order of any Bank or Trust Company. All Prior Endorsements Guaranteed, March 4, 1955. The Commercial and Savings Bank, Winchester, Virginia.” In this form it was presented to the Shenandoah bank and paid. Stella Maher brought an action against both banks in which she established that the indorsement “Deposit to credit of Stella Maher” had been made without her authority, and so judgment was entered in her favor, without determining on which bank the loss would ultimately rest. Since the Commercial bank, in presenting the instrument to Shenandoah bank for payment, guaranteed all prior indorsements it would seem that the loss would fall on Commercial bank, which also was the bank that dealt with the wrongdoer. This would be the result reached under § 4-207(1)(a), even without the indorsement guaranteeing prior indorsements.

Although not expressly covered by the UCC, this section appears to be in accord with Citizens Bank of Norfolk v. Schwarzchild and Sultzberger Co., 109 Va. 539 , 64 S.E. 954 (1909), in applying the rule of Price v. Neal to a payment made by a drawee who was mistaken as to the status of the drawer’s account.

The case of Central Nat’l Bank v. First and Merchants Nat’l Bank, 171 Va. 289 , 198 S.E. 883 (1940), involves problems of interpretation that make it difficult to draw categorical conclusions. The facts of the case have been summarized as follows: “A fraudulent party, who called himself Clancy, learned that one Justin Moore had a substantial checking account with the Central Bank. He forged Moore’s name as drawer of a check for $8,500 on the Central Bank and deposited it in the Merchants Bank to the credit of Moore. Previous to the time of this transaction, Moore already had a substantial checking account with the Merchants Bank. Central Bank paid the full amount of the original check through the clearing house to Merchants Bank by checks to which Moore’s name was forged. Moore discovered the forgery of the $8,500 check and demanded that the Central Bank recredit his account for the amount. Central did recredit Moore’s account and demanded of Merchants that they return the $8,500. Merchants refused and Central brought suit against Merchants for money had and received under mistake. Merchants’ main defense is that under the rule of Price v. Neal and § 62 of the NIL, Central is not entitled to recover because of its legal responsibility for recognizing its own depositor’s signature.” McDowell, Equitable Exceptions to Price v. Neal, 1 Wash. & Lee L. Rev. 224, 225.

The supreme court of appeals allowed a recovery by Central Bank, holding that Price v. Neal was not applicable since Merchants Bank was not a holder of the forged check. The court said, “Even if it be assumed that First was not a collecting agent in this instance by reason of the unusual manner in which it received the check, certainly title to the check which had been forged would not have passed to it from the forger.” 171 Va. at 308. The court cited NIL 23, Code 1950, § 6-375, repealed by the act enacting the UCC, and Hillman v. Cornett, 137 Va. 200 , 119 S.E. 74 (1923). The difficulty with this approach is that where forgery is involved the transferee never gets good title; the rule of Price v. Neal applies in spite of the fact that the payor did not get title and the transferor could not convey a good title. A more tenable rationale for this decision is that the case presented a situation calling for the application of an equitable exception to the Price v. Neal rule, that is, that Merchants Bank was itself negligent and so not in a position to invoke the doctrine of Price v. Neal. This equitable exception to the Price v. Neal doctrine is apparently abolished by (former) § 8.3-418. However, the comment to this section, Point 4, speaks in terms of negligence on the part of the person who takes the instrument and later receives payment, and not of negligence on the part of the party who pays other and subsequent checks on forged indorsements, the situation in this Central Bank case. Another difficulty in applying the UCC to this case is that the UCC provisions do not exactly mesh. Since Merchants Bank collected the check, under (former) subsection 8.4-207(1)(b) the Merchants Bank would warrant to Central Bank that it “has no knowledge that the signature of the . . . drawer is unauthorized.” Merchants Bank, not having this knowledge, would not break the warranty. However, under (former) § 8.3-418 payment is not final unless Merchants Bank is a holder in due course. Consequently, the decision would turn upon whether or not Merchants Bank gave value, a question the Virginia court did not decide. This leads to the intricacies of bank credit as value as set forth in § 8.4-208 . Under the language of subsection 8.4-208 (1)(a) it would seem that to the extent that credit was withdrawn from the Merchants Bank, it would have obtained a security interest in the item, and so would have given value under § 8.4-209 . This would lead to the conclusion that Central Bank would not be able to recover the payment, a result opposite to that actually reached in the case.

OFFICIAL COMMENT

1. Encoding and retention warranties are included in Article 4 because they are unique to the bank collection process.  These warranties are breached only by the person doing the encoding or retaining the item and not by subsequent banks handling the item. Encoding and check retention may be done by customers who are payees of a large volume of checks; hence, this section imposes warranties on customers as well as banks.  If a customer encodes or retains, the depositary bank is also liable for any breach of this warranty.
2. A misencoding of the amount on the MICR line is not an alteration under Section 3-407(a) which defines alteration as changing the contract of the parties.  If a drawer wrote a check for $2,500 and the depositary bank encoded $25,000 on the MICR line, the payor bank could debit the drawer’s account for only $2,500.  This subsection would allow the payor bank to hold the depositary bank liable for the amount paid out over $2,500 without first pursuing the person who received payment.  Intervening collecting banks would not be liable to the payor bank for the depositary bank’s error.  If a drawer wrote a check for $25,000 and the depositary bank encoded $2,500, the payor bank becomes liable for the full amount of the check.  The payor bank’s rights against the depositary bank depend on whether the payor bank has suffered a loss. Since the payor bank can debit the drawer’s account for $25,000, the payor bank has a loss only to the extent that the drawer’s account is less than the full amount of the check. There is no requirement that the payor bank pursue collection against the drawer beyond the amount in the drawer’s account as a condition to the payor bank’s action against the depositary bank for breach of warranty.  See Georgia Railroad Bank & Trust Co. v. First National Bank & Trust, 229 S.E.2d 482 (Ga. App. 1976), aff’d, 235 S.E.2d 1 (Ga. 1977), and First National Bank of Boston v. Fidelity Bank, National Association, 724 F. Supp. 1168 (E.D. Pa. 1989).
3. A person retaining items under an electronic presentment agreement (Section 4-110) warrants that it has complied with the terms of the  agreement regarding its possession of the item and its sending a proper presentment notice.  If the keeper is a customer, its depositary bank also makes this warranty.

OFFICIAL COMMENT

1. Subsection (a) states a rational rule for the interest of a bank in an item.  The customer of the depositary bank is normally the owner of the item and the several collecting banks are agents of the customer (Section 4-201).  A collecting agent may properly make advances on the security of paper held for collection, and acquires at common law a possessory lien for these advances.  Subsection (a) applies an analogous principle to a bank in the collection chain which extends credit on items in the course of collection.  The bank has a security interest to the extent stated in this section. To the extent of its security interest it is a holder for value (Sections 3-303, 4-211) and a holder in due course if it satisfies the other requirements for that status (Section 3-302).  Subsection (a) does not derogate from the banker’s general common law lien or right of setoff against indebtedness owing in deposit accounts.  See Section 1-103. Rather subsection (a) specifically implements and extends the principle as a part of the bank collection process.
2. Subsection (b) spreads the security interest of the bank over all items in a single deposit or received under a single agreement and a single giving of credit.  It also adopts the “first-in, first-out” rule.
3. Collection statistics establish that the vast majority of items handled for collection are in fact collected.  The first sentence of subsection (c) reflects the fact that in the normal case the bank’s security interest is self-liquidating. The remainder of the subsection correlates the security interest with the provisions of Article 9, particularly for use in the cases of noncollection in which the security interest may be important.

VIRGINIA COMMENT

The UCC recognized that a bank has a security interest in an item or its proceeds to the extent that bank credit given on the basis of the item has been withdrawn. This is in accord with McAuley v. Morris Plan Bank, 155 Va. 777 , 156 S.E. 418 (1931), which held that a bank was a taker for value, where bank credit has been withdrawn, even though the bank had a right of charge-back. This case appears by inference to overrule the approval given by the supreme court of appeals in Greensburg Nat’l Bank v. C. Syer & Co., 113 Va. 53 , 57, 73 S.E. 438 (1912), to a trial court instruction that included the following language: “Checks or drafts deposited or credited, if intended to be for collection only do not become the property of the bank, even if the depositor has been allowed to check against the deposit before the paper is collected.” In this case, in which an attaching drawee was held to be entitled to the proceeds of a draft rather that the depositary bank, it is not clear whether the bank credit was in fact withdrawn.

In speaking of bank credit as value, the supreme court of appeals in Miller v. Norton, 114 Va. 609 , 617, 77 S.E. 452 (1913), said: “In this country, though the rule seems to be different in England, it is settled that the mere giving of credit to a depositor’s account of a check does not constitute the bank a holder for value, but in order to have that effect the credit must be drawn upon.” The holding in Fayette Nat’l Bank v. Summers, 105 Va. 689 , 54 S.E. 862 (1906), in which a bank was not found to be a purchaser for value of a check on which payment had been stopped, is an earlier application of the same rule.

Point 3 of the Official Comment to (former) § 8.3-303 is consistent with this Virginia rule, the comment referring to “bank credit not drawn upon, which can be and is revoked when a claim or defense appears,” as an example of what is not a taking for value. However, § 8.4-208(1)(b) recognizes that a bank may have a security interest in an item, and so have given value, if the credit is available for withdrawal as of right, whether or not drawn upon. Since the UCC does not make clear exactly what this provision is intended to cover, its effect on Miller v. Norton is not clear.

OFFICIAL COMMENT

The section completes the thought of the previous section and makes clear that a security interest in an item is “value” for the purpose of determining the holder’s status as a holder in due course. The provision is in accord with the prior law (N.I.L. Section 27) and with Article 3 (Section 3-303). The section does not prescribe a security interest under Section 4-210 as a test of “value” generally because the meaning of “value” under other Articles is adequately defined in Section 1-201 .

VIRGINIA COMMENT

The UCC is in accord with McAuley v. Morris Plan Bank, 155 Va. 777 , 156 S.E. 418 (1931), which held that a bank could be a holder in due course of a check, whether it was an absolute owner or had made advances by giving bank credit that had been drawn upon. See also Virginia Comment to § 8.4-208 .

OFFICIAL COMMENT

1. This section codifies a practice extensively followed in presentation of trade acceptances and documentary and other drafts drawn on nonbank payors.  It imposes a duty on the payor to respond to the notice of the item if the item is not to be considered dishonored. Notice of such a dishonor charges drawers and indorsers.  Presentment under this section is good presentment under Article 3.  See Section 3-501.
2. A drawee not receiving notice is not, of course, liable to the drawer for wrongful dishonor.
3. A bank so presenting an instrument must be sufficiently close to the drawee to be able to exhibit the instrument on the day it is requested to do so or the next business day at the latest.

OFFICIAL COMMENT

1. Subsection (a) sets forth the medium of settlement that the person receiving settlement must accept.  In nearly all cases the medium of settlement will be determined by agreement or by Federal Reserve regulations and circulars, clearing-house rules, and the like. In the absence of regulations, rules or agreement, the person receiving settlement may demand cash or credit in a Federal Reserve bank.  If the person receiving settlement does not have an account in a Federal Reserve bank, it may specify the account of another bank in a Federal Reserve bank.  In the unusual case in which there is no agreement on the medium of settlement and the bank making settlement tenders settlement other than cash or Federal Reserve bank credit, no settlement has occurred under subsection (b) unless the person receiving settlement accepts the settlement tendered.  For example, if a payor bank, without agreement, tenders a teller’s check, the bank receiving the settlement may reject the check and return it to the payor bank or it may accept the check as settlement.
2. In several provisions of Article 4 the time that a settlement occurs is relevant.  Subsection (a) sets out a general rule that the time of settlement, like the means of settlement, may be prescribed by agreement.  In the absence of agreement, the time of settlement for tender of the common agreed media of settlement is that set out in subsection (a)(2).  The time of settlement by cash, cashier’s or teller’s check or authority to charge an account is the time the cash, check or authority is sent, unless presentment is over the counter in which case settlement occurs upon delivery to the presenter.  If there is no agreement on the time of settlement and the tender of settlement is not made by one of the media set out in subsection (a), under subsection (b) the time of settlement is the time the settlement is accepted by the person receiving settlement.
3. Subsections (c) and (d) are special provisions for settlement by remittance drafts and authority to charge an account in the bank receiving settlement.  The relationship between final settlement and final payment under Section 4-215 is addressed in subsection (b) of Section 4-215.  With respect to settlement by cashier’s checks or teller’s checks, other than in response to over-the-counter presentment, the bank receiving settlement can keep the risk that the check will not be paid on the bank tendering the check in settlement by acting to initiate collection of the check within the midnight deadline of the bank receiving settlement.  If the bank fails to initiate settlement before its midnight deadline, final settlement occurs at the midnight deadline, and the bank receiving settlement assumes the risk that the check will not be paid.  If there is no agreement that permits the bank tendering settlement to tender a cashier’s or teller’s check, subsection (b) allows the bank receiving the check to reject it, and, if it does, no settlement occurs. However, if the bank accepts the check, settlement occurs and the time of final settlement is governed by subsection (c).

With respect to settlement by tender of authority to charge the account of the bank making settlement in the bank receiving settlement, subsection (d) provides that final settlement does not take place until the account charged has available funds to cover the amount of the item. If there is no agreement that permits the bank tendering settlement to tender an authority to charge an account as settlement, subsection (b) allows the bank receiving the tender to reject it. However, if the bank accepts the authority, settlement occurs and the time of final settlement is governed by subsection (d).

VIRGINIA COMMENT

A collecting bank may take from a payor other than a bank in settlement of an item a cashier’s check, certified check or obligation. If this is an exclusive enumeration, the type of payment that may be taken may be narrower than that impliedly authorized in Lifsey v. Goodyear Tire & Rubber Co., 67 F.2d 82 (4th Cir. 1933), in which the collecting bank took the personal check of the payor.

OFFICIAL COMMENT

1. Under current bank practice, in a major portion of cases banks make provisional settlement for items when they are first received and then await subsequent determination of whether the item will be finally paid.  This is the principal characteristic of what are referred to in banking parlance as “cash items.”  Statistically, this practice of settling provisionally first and then awaiting final payment is justified because the vast majority of such cash items are finally paid, with the result that in this great preponderance of cases it becomes unnecessary for the banks making the provisional settlements to make any further entries.  In due course the provisional settlements become final simply with the lapse of time.  However, in those cases in which the item being collected is not finally paid or if for various reasons the bank making the provisional settlement does not itself receive final payment, provision is made in subsection (a) for the reversal of the provisional settlements, charge-back of provisional credits and the right to obtain refund.
2. Various causes of a bank’s not receiving final payment, with the resulting right of charge-back or refund, are stated or suggested in subsection (a).  These include dishonor of the original item; dishonor of a remittance instrument given for it; reversal of a provisional credit for the item; suspension of payments by another bank.  The causes stated are illustrative; the right of charge-back or refund is stated to exist whether the failure to receive final payment in ordinary course arises through one of them “or otherwise.”
3. The right of charge-back or refund exists if a collecting bank has made a provisional settlement for an item with its customer but terminates if and when a settlement received by the bank for the item is or becomes final.  If the bank fails to receive such a final settlement the right of charge-back or refund must be exercised promptly after the bank learns the facts.  The right exists (if so promptly exercised) whether or not the bank is able to return the item. The second sentence of subsection (a) adopts the view of Appliance Buyers Credit Corp. v. Prospect National Bank, 708 F.2d 290 (7th Cir. 1983), that if the midnight deadline for returning an item or giving notice is not met, a collecting bank loses its rights only to the extent of damages for any loss resulting from the delay.
4. Subsection (b) states when an item is returned by a collecting bank.  Regulation CC, Section 229.31 preempts this subsection with respect to checks by allowing direct return to the depositary bank.  Because a returned check may follow a different path than in forward collection, settlement given for the check is final and not provisional except as between the depositary bank and its customer. Regulation CC Section 229.36(d).  See also Regulations CC Sections 229.31(c) and 229.32(b).  Thus owing to the federal preemption, this subsection applies only to noncheck items.
5. The rule of subsection (d) relating to charge-back (as distinguished from claim for refund) applies irrespective of the cause of the nonpayment, and of the person ultimately liable for nonpayment. Thus charge-back is permitted even if nonpayment results from the depositary bank’s own negligence. Any other rule would result in litigation based upon a claim for wrongful dishonor of other checks of the customer, with potential damages far in excess of the amount of the item. Any other rule would require a bank to determine difficult questions of fact.  The customer’s protection is found in the general obligation of good faith (Sections 1-203 and 4-103). If bad faith is established the customer’s recovery “includes other damages, if any, suffered by the party as a proximate consequence” (Section 4-103(e); see also Section 4-402).
6. It is clear that the charge-back does not relieve the bank from any liability for failure to exercise ordinary care in handling the item.  The measure of damages for such failure is stated in Section 4-103(e).
7. Subsection (f) states a rule fixing the time for determining the rate of exchange if there is a charge-back or refund of a credit given in dollars for an item payable in a foreign currency. Compare Section 3-107.  Fixing such a rule is desirable to avoid disputes.  If in any case the parties wish to fix a different time for determining the rate of exchange, they may do so by agreement.

CASE NOTES

Requirement of good faith by person receiving credit. —

Title 8.4 neither specifically addresses nor excludes recovery by a bank after final payment when the person receiving the credit acted in bad faith. But to read the requirement of good faith out of Title 8.4 would run contrary to established law that existed prior to the Code as well as contrary to its manifest objectives. Bartlett v. Bank of Carroll, 218 Va. 240 , 237 S.E.2d 115, 1977 Va. LEXIS 185 (1977).

If the general provisions of the Code are applied, bad faith, if established, would vitiate plaintiff’s claim. If not, then the court can resort to supplementary principles of law and equity for this result under § 8.1-103 [see now 8.1A-304 ]. Bartlett v. Bank of Carroll, 218 Va. 240 , 237 S.E.2d 115, 1977 Va. LEXIS 185 (1977).

The Uniform Commercial Code permits the payor bank to provisionally post a customer’s account on the day a check is received for payment. The provisional posting is not final payment and may be reversed by returning the check prior to the bank’s midnight deadline. Bagheri v. Commonwealth, 12 Va. App. 1071, 408 S.E.2d 259, 8 Va. Law Rep. 440, 1991 Va. App. LEXIS 275 (1991).

OFFICIAL COMMENT

1. By the definition and use of the term “settle” (Section 4-104(a)(11)) this Article recognizes that various debits or credits, remittances, settlements or payments given for an item may be either provisional or final, that settlements sometimes are provisional and sometimes are final and sometimes are provisional for awhile but later become final. Subsection (a) defines when settlement for an item constitutes final payment.
2. If an item being collected moves through several states, e.g., is deposited for collection in California, moves through two or three California banks to the Federal Reserve Bank of San Francisco, to the Federal Reserve Bank of Boston, to a payor bank in Maine, the collection process involves the eastward journey of the item from California to Maine and the westward journey of the proceeds from Maine to California. Subsection (a) recognizes that final payment does not take place, in this hypothetical case, on the journey of the item eastward.  It also adopts the view that neither does final payment occur on the journey westward because what in fact is journeying westward are proceeds of the item.
3. Traditionally and under various decisions payment in cash of an item by a payor bank has been considered final payment. Subsection (a)(1) recognizes and provides that payment of an item in cash by a payor bank is final payment.
4. Section 4-104(a)(11) defines “settle” as meaning “to pay in cash, by clearing-house settlement, in a charge or credit or by remittance, or otherwise as agreed.  A settlement may be either provisional or final.”  Subsection (a)(2) of Section 4-215 provides that an item is finally paid by a payor bank when the bank has “settled for the item without having a right to revoke the settlement under statute, clearing-house rule or agreement.”  Former subsection (1)(b) is modified by subsection (a)(2) to make clear that a payor bank cannot make settlement provisional by unilaterally reserving a right to revoke the settlement.  The right must come from a statute (e.g., Section 4-301), clearing-house rule or other agreement.  Subsection (a)(2) provides in effect that if the payor bank finally settles for an item this constitutes final payment of the item.  The subsection operates if nothing has occurred and no situation exists making the settlement provisional.  If under statute, clearing-house rule or agreement, a right of revocation of the settlement exists, the settlement is provisional.  Conversely, if there is an absence of a right to revoke under statute, clearing-house rule or agreement, the settlement is final and such final settlement constitutes final payment of the item.
5. Former Section 4-213(1)(c) provided that final payment occurred when the payor bank completed the “process of posting.”  The term was defined in former Section 4-109.  In the present Article, Section 4-109 has been deleted and the process-of-posting test has been abandoned in Section 4-215(a) for determining when final payment is made.  Difficulties in determining when the events described in former Section 4-109 take place make the process-of-posting test unsuitable for a system of automated check collection or electronic presentment.
6. The last sentence of former Section 4-213(1) is deleted as an unnecessary source of confusion.  Initially the view that payor bank may be accountable for, that is, liable for the amount of, an item that it has already paid seems incongruous.  This is particularly true in the light of the language formerly found in Section 4-302 stating that the payor bank can defend against liability for accountability by showing that it has already settled for the item.  But, at least with respect to former Section 4-213(1)(c), such a provision was needed because under the process-of-posting test a payor bank may have paid an item without settling for it.  Now that Article 4 has abandoned the process-of-posting test, the sentence is no longer needed.  If the payor bank has neither paid the item nor returned it within its midnight deadline, the payor bank is accountable under Section 4-302.
7. Subsection (a)(3) covers the situation in which the payor bank makes a provisional settlement for an item, and this settlement becomes final at a later time by reason of the failure of the payor bank to revoke it in the time and manner permitted by statute, clearing-house rule or agreement.  An example of this type of situation is the clearing-house settlement referred to in Comment 4.  In the illustration there given if the time limit for the return of items received in the Monday morning clearing is 2:00 p.m. on Tuesday and the provisional settlement has not been revoked at that time in a manner permitted by the clearing-house rules, the provisional settlement made on Monday morning becomes final at 2:00 p.m. on Tuesday.  Subsection (a)(3) provides specifically that in this situation the item is finally paid at 2:00 p.m. Tuesday. If on the other hand a payor bank receives an item in the mail on Monday and makes some provisional settlement for the item on Monday, it has until midnight on Tuesday to return the item or give notice and revoke any settlement under Section 4-301. In this situation subsection (a)(3) of Section 4-215 provides that if the provisional settlement made on Monday is not revoked before midnight on Tuesday as permitted by Section 4-301, the item is finally paid at midnight on Tuesday.  With respect to checks, Regulation CC Section 229.30 (c) allows an extension of the midnight deadline under certain circumstances.  If a bank does not expeditiously return a check liability may accrue under Regulation CC Section 229.38.  For the relationship of that liability to responsibility under this Article, see Regulation CC Sections 229.30 and 229.38.
8. Subsection (b) relates final settlement to final payment under Section 4-215.  For example, if a payor bank makes provisional settlement for an item by sending a cashier’s or teller’s check and that settlement fails to become final under Section 4-213(c), subsection (b) provides that final payment has not occurred.  If the item is not paid, the drawer remains liable, and under Section 4-302(a) the payor bank is accountable unless it has returned the item before its midnight deadline.  In this regard, subsection (b) is an exception to subsection (a)(3).  Even if the payor bank has not returned an item by its midnight deadline there is still no final payment if provisional settlement had been made and settlement failed to become final. However, if presentment of the item was over the counter for immediate payment, final payment has occurred under Section 4-215(a)(2). Subsection (b) does not apply because the settlement was not provisional. Section 4-301(a).  In this case the presenting person, often the payee of the item, has the right to demand cash or the cash equivalent of federal reserve credit.  If the presenting person accepts another medium of settlement such as a cashier’s or teller’s check, the presenting person takes the risk that the payor bank may fail to pay a cashier’s check because of insolvency or that the drawee of a teller’s check may dishonor it.
9. Subsection (c) states the country-wide usage that when the item is finally paid by the payor bank under subsection (a) this final payment automatically without further action “firms up” other provisional settlements made for it. However, the subsection makes clear that this “firming up” occurs only if the settlement between the presenting and payor banks was made either through a clearing house or by debits and credits in accounts between them.  It does not take place if the payor bank remits for the item by sending some form of remittance instrument.  Further, the “firming up” continues only to the extent that provisional debits and credits are entered seriatim in accounts between banks which are successive to the presenting bank. The automatic “firming up” is broken at any time that any collecting bank remits for the item by sending a remittance draft, because final payment to the remittee then usually depends upon final payment of the remittance draft.
10. Subsection (d) states the general rule that if a collecting bank receives settlement for an item which is or becomes final, the bank is accountable to its customer for the amount of the item.  One means of accounting is to remit to its customer the amount it has received on the item.  If previously it gave to its customer a provisional credit for the item in an account its receipt of final settlement for the item “firms up” this provisional credit and makes it final. When this credit given by it so becomes final, in the usual case its agency status terminates and it becomes a debtor to its customer for the amount of the item.  See Section 4-201(a).  If the accounting is by a remittance instrument or authorization to charge further time will usually be required to complete its accounting (Section 4-213).
11. Subsection (e) states when certain credits given by a bank to its customer become available for withdrawal as of right. Subsection (e)(1) deals with the situation in which a bank has given a credit (usually provisional) for an item to its customer and in turn has received a provisional settlement for the item from an intermediary or payor bank to which it has forwarded the item.  In this situation before the provisional credit entered by the collecting bank in the account of its customer becomes available for withdrawal as of right, it is not only necessary that the provisional settlement received by the bank for the item becomes final but also that the collecting bank has a reasonable time to receive return of the item and the item has not been received within that time.  How much time is “reasonable” for these purposes will of course depend on the distance the item has to travel and the number of banks through which it must pass (having in mind not only travel time by regular lines of transmission but also the successive midnight deadlines of the several banks) and other pertinent facts.  Also, if the provisional settlement received is some form of a remittance instrument or authorization to charge, the “reasonable” time depends on the indentity and location of the payor of the remittance instrument, the means for clearing such instrument, and other pertinent facts.  With respect to checks Regulation CC Sections 229.10-229.13 or similar applicable state law (Section 229.20) control. This is also time for the situation described in Comment 12.
12. Subsection (e)(2) deals with the situation of a bank that is both a depositary bank and a payor bank.  The subsection recognizes that if A and B are both customers of a depositary-payor bank and A deposits B’s check on the depositary-payor in A’s account on Monday, time must be allowed to permit the check under the deferred posting rules of Section 4-301 to reach the bookkeeper for B’s account at some time on Tuesday, and, if there are insufficient funds in B’s account, to reverse or charge back the provisional credit in A’s account. Consequently this provisional credit in A’s account does not become available for withdrawal as of right until the opening of business on Wednesday.  If it is determined on Tuesday that there are insufficient funds in B’s account to pay the check, the credit to A’s account can be reversed on Tuesday.  On the other hand if the item is in fact paid on Tuesday, the rule of subsection (e)(2) is desirable to avoid uncertainty and possible disputes between the bank and its customer as to exactly what hour within the day the credit is available.

Final payment of an item is important for a number of reasons. It is one of several factors determining the relative priorities between items and notices, stop-payment orders, legal process and setoffs (Section 4-303). It is the “end of the line” in the collection process and the “turn around” point commencing the return flow of proceeds. It is the point at which many provisional settlements become final. See Section 4-215(c). Final payment of an item by the payor bank fixes preferential rights under Section 4-216.

A primary example of a statutory right on the part of the payor bank to revoke a settlement is the right to revoke conferred by Section 4-301. The underlying theory and reason for deferred posting statutes (Section 4-301) is to require a settlement on the date of receipt of an item but to keep that settlement provisional with the right to revoke prior to the midnight deadline. In any case in which Section 4-301 is applicable, any settlement by the payor bank is provisional solely by virtue of the statute, subsection (a)(2) of Section 4-215 does not operate, and such provisional settlement does not constitute final payment of the item. With respect to checks, Regulation CC Section 229.36(d) provides that settlement between banks for the forward collection of checks is final. The relationship of this provision to Article 4 is discussed in the Commentary to that section.

A second important example of a right to revoke a settlement is that arising under clearing-house rules. It is very common for clearing-house rules to provide that items exchanged and settled for in a clearing (e.g., before 10:00 a.m. on Monday) may be returned and the settlements revoked up to but not later than 2:00 p.m. on the same day (Monday) or under deferred posting at some hour on the next business day (e.g., 2:00 p.m. Tuesday). Under this type of rule the Monday morning settlement is provisional and being provisional does not constitute a final payment of the item.

An example of an agreement allowing the payor bank to revoke a settlement is a case in which the payor bank is also the depositary bank and has signed a receipt or duplicate deposit ticket or has made an entry in a passbook acknowledging receipt, for credit to the account of A, of a check drawn on it by B. If the receipt, deposit ticket, passbook or other agreement with A is to the effect that any credit so entered is provisional and may be revoked pending the time required by the payor bank to process the item to determine if it is in good form and there are funds to cover it, the agreement keeps the receipt or credit provisional and avoids its being either final settlement or final payment.

The most important application of subsection (a)(2) is that in which presentment of an item has been made over the counter for immediate payment. In this case Section 4-301(a) does not apply to make the settlement provisional, and final payment has occurred unless a rule or agreement provides otherwise.

OFFICIAL COMMENT

1. The underlying purpose of the provisions of this section is not to confer upon banks, holders of items or anyone else preferential positions in the event of bank failures over general depositors or any other creditors of the failed banks.  The purpose is to fix as definitely as possible the cut-off point of time for the completion or cessation of the collection process in the case of items that happen to be in the process at the time a particular bank suspends payments. It must be remembered that in bank collections as a whole and in the handling of items by an individual bank, items go through a whole series of processes.  It must also be remembered that at any particular point of time a particular bank (at least one of any size) is functioning as a depositary bank for some items, as an intermediary bank for others, as a presenting bank for still others and as a payor bank for still others, and that when it suspends payments it will have close to its normal load of items working through its various processes.  For the convenience of receivers, owners of items, banks, and in fact substantially everyone concerned, it is recognized that at the particular moment of time that a bank suspends payment, a certain portion of the items being handled by it have progressed far enough in the bank collection process that it is preferable to permit them to continue the remaining distance, rather than to send them back and reverse the many entries that have been made or the steps that have been taken with respect to them.  Therefore, having this background and these purposes in mind, the section states what items must be turned backward at the moment suspension intervenes and what items have progressed far enough that the collection process with respect to them continues, with the resulting necessary statement of rights of various parties flowing from this prescription of the cut-off time.
2. The rules stated are similar to those stated in the American Bankers Association Bank Collection Code, but with the abandonment of any theory of trust.  On the other hand, some law previous to this Act may be relevant.  See Note, Uniform Commercial Code:  Stopping Payment of an Item Deposited with an Insolvent Depositary Bank, 40 Okla. L. Rev. 689 (1987).  Although for practical purposes Federal Deposit Insurance affects materially the result of bank failures on holders of items and banks, no attempt is made to vary the rules of the section by reason of such insurance.
3. It is recognized that in view of Jennings v. United States Fidelity & Guaranty Co., 294 U.S. 216, 55 S. Ct. 394, 79 L. Ed. 869, 99 A.L.R. 1248 (1935), amendment of the National Bank Act would be necessary to have this section apply to national banks. But there is no reason why it should not apply to others.  See Section 1-108.

VIRGINIA COMMENT

Code 1950, § 6-63, repealed by the act enacting the UCC, in terms covers only situations in which items have been forwarded directly to the payor bank for collection. The UCC section is not so limited. It may be, however, that the Virginia statute was as comprehensive since any situation in which a remittance is used might be considered an example of direct forwarding.

The UCC accords with prior Virginia law under which the owner of an item has a preference when a bank collects the item and because of insolvency fails to remit the proceeds. Webb v. O’Geary, 145 Va. 356 , 133 S.E. 568 (1926); Federal Reserve Bank of Richmond v. Peters, 139 Va. 45 , 54-69, 123 S.E. 379 (1924); Miller v. Norton, 114 Va. 609 , 617-18, 77 S.E. 452 (1913); First Nat’l Bank v. Payne & Co.’s Assignees, 85 Va. 890 , 9 S.E. 153 (1898).

The UCC does not cover the subject of whether the right of set-off against a bank operates as a preference. See Dickenson v. Charles, 173 Va. 393 , 405, 4 S.E.2d 351 (1939).

The UCC does not affect the holding in Lifsey v. Goodyear Tire & Rubber Co., 67 F.2d 82 (4th Cir. 1933), in which a preference was denied in the assets of a bank to which a note had been forwarded for collection, but which failed before it had done anything with a check given by its depositor in payment of the note, the depositor at the time being indebted to the bank in a greater amount than his deposit.

The UCC permits the owner to recover an item not finally paid because of insolvency of a payor or collecting bank. In Fine v. Receiver of Dickenson County Bank, 163 Va. 157 , 175 S.E. 863 , 94 A.L.R. 1393 (1934), the depositor tried to stop payment on a check, when the depositary bank failed before it was collected. The check was eventually paid to the insolvent bank, but the depositor was permitted to recover the entire amount of the check from the insolvent bank, since the deposit slip showed that the bank was acting as a collection agent for the owner as its principal. The UCC would give the same result, although it would seem the owner should be able to stop payment and recover the item itself.

CASE NOTES

The Uniform Commercial Code permits the payor bank to provisionally post a customer’s account on the day a check is received for payment. The provisional posting is not final payment and may be reversed by returning the check prior to the bank’s midnight deadline. Bagheri v. Commonwealth, 12 Va. App. 1071, 408 S.E.2d 259, 8 Va. Law Rep. 440, 1991 Va. App. LEXIS 275 (1991).

OFFICIAL COMMENT

1. The term “deferred posting” appears in the caption of Section 4-301.  This refers to the practice permitted by statute in most of the states before the UCC under which a payor bank receives items on one day but does not post the items to the customer’s account until the next day.  Items dishonored were then returned after the posting on the day after receipt.  Under Section 4-301 the concept of “deferred posting” merely allows a payor bank that has settled for an item on the day of receipt to return a dishonored item on the next day before its midnight deadline, without regard to when the item was actually posted.  With respect to checks Regulation CC Section 229.30(c) extends the midnight deadline under the UCC under certain circumstances.  See the Commentary to Regulation CC Section 229.38(d) on the relationship between the UCC and Regulation CC on settlement.
2. The function of this section is to provide the circumstances under which a payor bank that has made timely settlement for an item may return the item and revoke the settlement so that it may recover any settlement made.  These circumstances are:  (1) the item must be a demand item other than a documentary draft; (2) the item must be presented otherwise than for immediate payment over the counter; and (3) the payor bank must return the item (or give notice if the item is unavailable for return) before its midnight deadline and before it has paid the item.  With respect to checks, see Regulation CC Section 229.31(f) on notice in lieu of return an Regulation CC Section 229.33 as to the different requirement of notice of nonpayment.  An instance of when an item may be unavailable for return arises under a collecting bank check retention plan under which presentment is made by a presentment notice and the item is retained by the collecting bank. Subsection 4-215(a)(2) provides that final payment occurs if the payor bank has settled for an item without a right to revoke the settlement under statute, clearing-house rule or agreement.  In any case in which Section 4-301(a) is applicable, the payor bank has a right to revoke the settlement by statute; therefore, Section 4-215(a)(2) is inoperable, and the settlement is provisional.  Hence, if the settlement is not over the counter and the payor bank settles in a manner that does not constitute final payment, the payor bank can revoke the settlement by returning the item before its midnight deadline.
3. The relationship of Section 4-301(a) to final settlement and final payment under Section 4-215 is illustrated by the following case.  Depositary Bank sends by mail an item to Payor Bank with instructions to settle by remitting a teller’s check drawn on a bank in the city where Depositary Bank is located.  Payor Bank sends the teller’s check on the day the item was presented.  Having made timely settlement, under the deferred posting provisions of Section 4-301(a), Payor Bank may revoke that settlement by returning the item before its midnight deadline.  If it fails to return the item before its midnight deadline, it has finally paid the item if the bank on which the teller’s check was drawn honors the check.  But if the teller’s check is dishonored there has been no final settlement under Section 4-213(c) and no final payment under Section 4-215(b).  Since the Payor Bank has neither paid the item nor made timely return, it is accountable for the item under Section 4-302(a).
4. The time limits for action imposed by subsection (a) are adopted by subsection (b) for cases in which the payor bank is also the depositary bank, but in this case the requirement of a settlement on the day of receipt is omitted.
5. Subsection (c) fixes a base point from which to measure the time within which notice of dishonor must be given.  See Section 3-503.
6. Subsection (d) leaves banks free to agree upon the manner of returning items but establishes a precise time when an item is “returned.”  For definition of “sent” as used in paragraphs (1) and (2) see Section 1-201 (38).  Obviously the subsection assumes that the item has not been “finally paid” under Section 4-215(a).  If it has been, this provision has no operation.
7. The fact that an item has been paid under proposed Section 4-215 does not preclude the payor bank from asserting rights of restitution or revocation under Section 3-418.  National Savings and Trust Co. v. Park Corp., 722 F.2d 1303 (6th Cir. 1983), cert. denied, 466 U.S. 939 (1984), is the correct interpretation of the present law on this issue.

VIRGINIA COMMENT

The deferred posting sections of the UCC carry out the same basic purposes as the prior Virginia statutes. Code 1950, § 6-543.1, repealed by the act enacting the UCC applies when the bank, “gives credit therefor before midnight of the day of receipt.” The term “credit” is then defined in Code 1950, § 6-543.2, repealed by the act enacting the UCC, as including “payment, remittance, advice of credit, or authorization to charge and, in case where the item is received for deposit as well as for payment, also includes the making of appropriate entries to the receiving bank’s general ledger without regard to whether the item is posted to individual customers’ ledgers.” While the UCC uses different terminology, there are no apparent significant differences as compared with the prior Virginia statutes.

CASE NOTES

Strict liability. —

It is well established that this provision imposes strict liability on payor banks for failure to meet the “midnight deadline” requirement. Equally well established is that the purpose of this section’s strict liability rule is to satisfy the need for finality and certainty in business transactions. American Title Ins. Co. v. Burke & Herbert Bank & Trust Co., 813 F. Supp. 423, 1993 U.S. Dist. LEXIS 2167 (E.D. Va. 1993), aff'd, 25 F.3d 1038, 1994 U.S. App. LEXIS 20790 (4th Cir. 1994).

Who may sue payor bank. —

The Code does not specify with precision who may sue a payor bank for violation of the midnight deadline requirement. At best, the Official Comment makes the obvious point that an entity must have some direct connection with the check collection and payment process in order to bring suit. American Title Ins. Co. v. Burke & Herbert Bank & Trust Co., 813 F. Supp. 423, 1993 U.S. Dist. LEXIS 2167 (E.D. Va. 1993), aff'd, 25 F.3d 1038, 1994 U.S. App. LEXIS 20790 (4th Cir. 1994).

Where a payor bank delays returning a dishonored check, liability for the face amount of the check is imposed on payor bank without regard to whether any damages have been sustained as a result of bank’s failure to make a timely return. American Title Ins. Co. v. Burke & Herbert Bank & Trust Co., 813 F. Supp. 423, 1993 U.S. Dist. LEXIS 2167 (E.D. Va. 1993), aff'd, 25 F.3d 1038, 1994 U.S. App. LEXIS 20790 (4th Cir. 1994).

Where a party becomes a holder, transferee and assignee of checks after their untimely return by a payor bank, that party has no standing to bring a cause of action for the bank’s violation of this section. Limiting standing in this manner does not, in any way, diminish the deterrent sting of the strict liability rule, for it simply entrusts enforcement of this rule to those with the greatest incentive to enforce compliance. American Title Ins. Co. v. Burke & Herbert Bank & Trust Co., 813 F. Supp. 423, 1993 U.S. Dist. LEXIS 2167 (E.D. Va. 1993), aff'd, 25 F.3d 1038, 1994 U.S. App. LEXIS 20790 (4th Cir. 1994).

OFFICIAL COMMENT

1. Subsection (a)(1) continues the former law distinguishing between cases in which the payor bank is not also the depositary bank and those in which the payor bank is also the depositary bank (“on us” items).  For “on us” items the payor bank is accountable if it retains the item beyond its midnight deadline without settling for it. If the payor bank is not the depositary bank it is accountable if it retains the item beyond midnight of the banking day of receipt without settling for it.  It may avoid accountability either by settling for the item on the day of receipt and returning the item before its midnight deadline under Section 4-301 or by returning the item on the day of receipt.  This rule is consistent with the deferred posting practice authorized by Section 4-301 which allows the payor bank to make provisional settlement for an item on the day of receipt and to revoke that settlement by returning the item on the next day.  With respect to checks, Regulation CC Section 229.36(d) provides that settlements between banks for forward collection of checks are final when made.  See the Commentary on that provision for its effect on the UCC.
2. If the settlement given by the payor bank does not become final, there has been no payment under Section 4-215(b), and the payor bank giving the failed settlement is accountable under subsection (a)(1) of Section 4-302.  For instance, the payor bank makes provisional settlement by sending a teller’s check that is dishonored. In such a case settlement is not final under Section 4-213(c) and no payment occurs under Section 4-215(b).  Payor bank is accountable on the item.  The general principle is that unless settlement provides the presenting bank with usable funds, settlement has failed and the payor bank is accountable for the amount of the item.
3. Subsection (b) is an elaboration of the deleted introductory language of former Section 4-302:  “In the absence of a valid defense such as breach of a presentment warranty (subsection (1) of Section 4-207), settlement effected or the like . . . .”  A payor bank can defend an action against it based on accountability by showing that the item contained a forged indorsement or a fraudulent alteration.  Subsection (b) drops the ambiguous “or the like” language and provides that the payor bank may also raise the defense of fraud.  Decisions that hold an accountable bank’s liability to be “absolute” are rejected. A payor bank that makes a late return of an item should not be liable to a defrauder operating a check-kiting scheme.  In Bank of Leumi Trust Co. v. Bally’s Park Place Inc., 528 F. Supp. 349 (S.D.N.Y. 1981), and American National Bank v. Foodbasket, 497 P.2d 546 (Wyo. 1972), banks that were accountable under Section 4-302 for missing their midnight deadline were successful in defending against parties who initiated collection knowing that the check would not be paid.  The “settlement effected” language is deleted as unnecessary.  If a payor bank is accountable for an item it is liable to pay it.  If it has made final payment for an item, it is no longer accountable for the item.

VIRGINIA COMMENT

See Virginia Comment to § 8.4-301 .

OFFICIAL COMMENT

1. While a payor bank is processing an item presented for payment, it may receive knowledge or a legal notice affecting the item, such as knowledge or a notice that the drawer has filed a petition in bankruptcy or made an assignment for the benefit of creditors; may receive an order of the drawer stopping payment on the item; may have served on it an attachment of the account of the drawer; or the bank itself may exercise a right of setoff against the drawer’s account. Each of these events affects the account of the drawer and may eliminate or freeze all or part of whatever balance is available to pay the item.  Subsection (a) states the rule for determining the relative priorities between these various legal events and the item.
2. The rule is that if any one of several things has been done to the item or if it has reached any one of several stages in its processing at the time the knowledge, notice, stop-payment order or legal process is received or served and a reasonable time for the bank to act thereon expires or the setoff is exercised, the knowledge, notice, stop-payment order, legal process or setoff comes too late, the item has priority and a charge to the customer’s account may be made and is effective.  With respect to the effect of the customer’s bankruptcy, the bank’s rights are governed by Bankruptcy Code Section 542(c) which codifies the result of Bank of Marin v. England, 385 U.S. 99 (1966).Section 4-405 applies to the death or incompetence of the customer.
3. Once a payor bank has accepted or certified an item or has paid the item in cash, the event has occurred that determines priorities between the item and the various legal events usually described as the “four legals.”  Paragraphs (1) and (2) of subsection (a) so provide.  If a payor bank settles for an item presented over the counter for immediate payment by a cashier’s check or teller’s check which the presenting person agrees to accept, paragraph (3) of subsection (a) would control and the event determining priority has occurred. Because presentment was over the counter, Section 4-301(a) does not apply to give the payor bank the statutory right to revoke the settlement.  Thus the requirements of paragraph (3) have been met unless a clearing-house rule or agreement of the parties provides otherwise.
4. In the usual case settlement for checks is by entries in bank accounts.  Since the process-of-posting test has been abandoned as inappropriate for automated check collection, the determining event for priorities is a given hour on the day after the item is received. (Paragraph (5) of subsection (a).)  The hour may be fixed by the bank no earlier than one hour after the opening on the next banking day after the bank received the check and no later than the close of that banking day.  If an item is received after the payor bank’s regular Section 4-108 cutoff hour, it is treated as received the next banking day.  If a bank receives an item after its regular cutoff hour on Monday and an attachment is levied at noon on Tuesday, the attachment is prior to the item if the bank had not before that hour taken the action described in paragraphs (1), (2), and (3) of subsection (a). The Commentary to Regulation CC Section 229.36(d) explains that even though settlement by a paying bank for a check is final for Regulation CC purposes, the paying bank’s right to return the check before its midnight deadline under the UCC is not affected.
5. Another event conferring priority for an item and a charge to the customer’s account based upon the item is stated by the language “become accountable for the amount of the item under Section 4-302 dealing with the payor bank’s responsibility for late return of items.”  Expiration of the deadline under Section 4-302 with resulting accountability by the payor bank for the amount of the item, establishes priority of the item over notices, stop-payment orders, legal process or setoff.
6. In the case of knowledge, notice, stop-payment orders and legal process the effective time for determining whether they were received too late to affect the payment of an item and a charge to the customer’s account by reason of such payment, is receipt plus a reasonable time for the bank to act on any of these communications. Usually a relatively short time is required to communicate to the accounting department advice of one of these events but certainly some time is necessary. Compare Sections 1-201 (27) and 4-403.  In the case of setoff the effective time is when the setoff is actually made.
7. As between one item and another no priority rule is stated.  This is justified because of the impossibility of stating a rule that would be fair in all cases, having in mind the almost infinite number of combinations of large and small checks in relation to the available balance on hand in the drawer’s account; the possible methods of receipt; and other variables.  Further, the drawer has drawn all the checks, the drawer should have funds available to meet all of them and has no basis for urging one should be paid before another; and the holders have no direct right against the payor or bank in any event, unless of course, the bank has accepted, certified or finally paid a particular item, or has become liable for it under Section 4-302.  Under subsection (b) the bank has the right to pay items for which it is itself liable ahead of those for which it is not.

VIRGINIA COMMENT

The UCC does not deal with the right of a debtor of a bank to setoff a debt owing by the bank to him, the situation presented in Dickenson v. Charles, 173 Va. 393 , 399, 4 S.E.2d 351 (1939).

CASE NOTES

Authority to charge worthless check discretionary. —

The authority of a Virginia bank to charge a worthless check against a customer’s account, even though the charge creates an overdraft, is discretionary. Warren v. Commonwealth, 219 Va. 416 , 247 S.E.2d 692, 1978 Va. LEXIS 198 (1978).

And criminal actions not excused by bank’s refusal to do so. —

The refusal of a bank to exercise the authority to charge a worthless check against a customer’s account even though such charge would create an overdraft did not excuse the actions of the customer in presenting a worthless check, where those actions were otherwise criminally actionable under the “Bad Check Law.” Warren v. Commonwealth, 219 Va. 416 , 247 S.E.2d 692, 1978 Va. LEXIS 198 (1978).

OFFICIAL COMMENT

1. An item is properly payable from a customer’s account if the customer has authorized the payment and the payment does not violate any agreement that may exist between the bank and its customer. For an example of a payment held to violate an agreement with a customer, see Torrance National Bank v. Enesco Federal Credit Union, 285 P.2d 737 (Cal.App. 1955).  An item drawn for more than the amount of a customer’s account may be properly payable.  Thus under subsection (a) a bank may charge the customer’s account for an item even though payment results in an overdraft.  An item containing a forged drawer’s signature or forged indorsement is not properly payable. Concern has arisen whether a bank may require a customer to execute a stop-payment order when the customer notifies the bank of the loss of an unindorsed or specially indorsed check.  Since such a check cannot be properly payable from the customer’s account, it is inappropriate for a bank to require stop-payment order in such a case.
2. Subsection (b) adopts the view of case authority holding that if there is more than one customer who can draw on an account, the nonsigning customer is not liable for an overdraft unless that person benefits from the proceeds of the item.
3. Subsection (c) is added because the automated check collection system cannot accommodate postdated checks.  A check is usually paid upon presentment without respect to the date of the check. Under the former law, if a payor bank paid a postdated check before its stated date, it could not charge the customer’s account because the check was not “properly payable.”  Hence, the bank might have been liable for wrongfully dishonoring subsequent checks of the drawer that would have been paid had the postdated check not been prematurely paid. Under subsection (c) a customer wishing to postdate a check must notify the payor bank of its postdating in time to allow the bank to act on the customer’s notice before the bank has to commit itself to pay the check.  If the bank fails to act on the customer’s timely notice, it may be liable for damages for the resulting loss which may include damages for dishonor of subsequent items.  This Act does not regulate fees that banks charge their customers for a notice of postdating or other services covered by the Act, but under principles of law such as unconscionability or good faith and fair dealing, courts have reviewed fees and the bank’s exercise of a discretion to set fees. Perdue v. Crocker National Bank, 38 Cal.3d 913 (1985) (unconscionability); Best v. United Bank of Oregon, 739 P.2d 554, 562-566 (1987) (good faith and fair dealing).  In addition, Section 1-203 provides that every contract or duty within this Act imposes an obligation of good faith in its performance or enforcement.
4. Section 3-407(c) states that a payor bank or drawee which pays a fraudulently altered instrument in good faith and without notice of the alteration may enforce rights with respect to the instrument according to its original terms or, in the case of an incomplete instrument altered by unauthorized completion, according to its terms as completed. Section 4-401(d) follows the rule stated in Section 3-407(c) by applying it to an altered item and allows the bank to enforce rights with respect to the altered item by charging the customer’s account.

VIRGINIA COMMENT

The UCC follows prior law in allowing a bank to charge a customer’s account according to the original tenor of an altered item. Nat’l Bank of Virginia v. Nolting, 94 Va. 263 , 267, 26 S.E. 826 (1897), held that a bank could not charge the drawer’s account for payment of a $500 check, which had been raised from $10, but no particular point was made as to whether the bank could charge the account for $10, the original tenor.

CASE NOTES

Requirement of good faith by person receiving credit. —

Title 8.4 neither specifically addresses nor excludes recovery by a bank after final payment when the person receiving the credit acted in bad faith. But to read the requirement of good faith out of Title 8.4 would run contrary to established law that existed prior to the Code as well as contrary to its manifest objectives. Bartlett v. Bank of Carroll, 218 Va. 240 , 237 S.E.2d 115, 1977 Va. LEXIS 185 (1977).

If the general provisions of the Code are applied, bad faith, if established, would vitiate plaintiff’s claim. If not, then the court can resort to supplementary principles of law and equity for this result under § 8.1-103 [see now 8.1A-304 ]. Bartlett v. Bank of Carroll, 218 Va. 240 , 237 S.E.2d 115, 1977 Va. LEXIS 185 (1977).

OFFICIAL COMMENT

1. Subsection (a) states positively what has been assumed under the original Article:  that if a bank fails to honor a properly payable item it may be liable to its customer for wrongful dishonor. Under subsection (b) the payor bank’s wrongful dishonor of an item gives rise to a statutory cause of action.  Damages may include consequential damages. Confusion has resulted from the attempts of courts to reconcile the first and second sentences of former Section 4-402.  The second sentence implied that the bank was liable for some form of damages other than those proximately caused by the dishonor if the dishonor was other than by mistake. But nothing in the section described what these noncompensatory damages might be.  Some courts have held that in distinguishing between mistaken dishonors and nonmistaken dishonors, the so-called “trader” rule has been retained that allowed a “merchant or trader” to recover substantial damages for wrongful dishonor without proof of damages actually suffered. Comment 3 to former Section 4-402 indicated that this was not the intent of the drafters.  White & Summers, Uniform Commercial Code, Section 18-4 (1988), states:  “The negative implication is that when wrongful dishonors occur not ‘through mistake’ but willfully, the court may impose damages greater than ‘actual damages’ . . . . Certainly the reference to ‘mistake’ in the second sentence of 4-402 invites a court to adopt the relevant pre-Code distinction.” Subsection (b) by deleting the reference to mistake in the second sentence precludes any inference that Section 4-402 retains the “trader” rule.  Whether a bank is liable for noncompensatory damages, such as punitive damages, must be decided by Section 1-103 and Section 1-106 (“by other rule of law”).
2. Wrongful dishonor is different from “failure to exercise ordinary care in handling an item,” and the measure of damages is that stated in this section, not that stated in Section 4-103(e).  By the same token, if a dishonor comes within this section, the measure of damages of this section applies and not another measure of damages.  If the wrongful refusal of the beneficiary’s bank to make funds available from a funds transfer causes the beneficiary’s check to be dishonored, no specific guidance is given as to whether recovery is under this section or Article 4A.  In each case this issue must be viewed in its factual context, and it was thought unwise to seek to establish certainty at the cost of fairness.
3. The second and third sentences of the subsection (b) reject decisions holding that as a matter of law the dishonor of a check is not the “proximate cause” of the arrest and prosecution of the customer and leave to determination in each case as a question of fact whether the dishonor is or may be the “proximate cause.”
4. Banks commonly determine whether there are sufficient funds in an account to pay an item after the close of banking hours on the day of presentment when they post debit and credit items to the account.  The determination is made on the basis of credits available for withdrawal as of right or made available for withdrawal by the bank as an accommodation to its customer.  When it is determined that payment of the item would overdraw the account, the item may be returned at any time before the bank’s midnight deadline the following day. Before the item is returned new credits that are withdrawable as of right may have been added to the account.  Subsection (c) eliminates uncertainty under Article 4 as to whether the failure to make a second determination before the item is returned on the day following presentment is a wrongful dishonor if new credits were added to the account on that day that would have covered the amount of the check.
5. Section 4-402 has been construed to preclude an action for wrongful dishonor by a plaintiff other than the bank’s customer. Loucks v. Albuquerque National Bank, 418 P.2d 191 (N.Mex. 1966).  Some courts have allowed a plaintiff other than the customer to sue when the customer is a business entity that is one and the same with the individual or individuals operating it.  Murdaugh Volkswagen, Inc. v. First National Bank, 801 F.2d 719 (4th Cir. 1986) and Karsh v. American City Bank, 113 Cal.App.3d 419, 169 Cal.Rptr. 851 (1980).  However, where the wrongful dishonor impugns the reputation of an operator of the business, the issue is not merely, as the court in Koger v. East First National Bank, 443 So.2d 141 (Fla.App. 1983), put it, one of a literal versus a liberal interpretation of Section 4-402.  Rather the issue is whether the statutory cause of action in Section 4-402 displaces, in accordance with Section 1-103, any cause of action that existed at common law in a person who is not the customer whose reputation was damaged.  See Marcum v. Security Trust and Savings Co., 221 Ala. 419, 129 So. 74 (1930).  While Section 4-402 should not be interpreted to displace the latter cause of action, the section itself gives no cause of action to other than a “customer,” however that definition is construed, and thus confers no cause of action on the holder of a dishonored item.  First American National Bank v. Commerce Union Bank, 692 S.W.2d 642 (Tenn.App. 1985).

VIRGINIA COMMENT

Although worded differently, the UCC is in accord with Code 1950, § 6-71, repealed by the act enacting the UCC, regulating a bank’s liability to a customer for wrongful dishonor. The Virginia statute limited the liability of a bank for nonmalicious refusal to pay a check of a depositor to proven “actual damages,” without specifying what actual damages are. The UCC similarly limits liability to actual damages, but does indicate that damages for an arrest or prosecution are cognizable as consequential actual damages. See also Wood v. American Nat’l Bank, 100 Va. 306 , 40 S.E. 931 (1902), holding that exemplary damages may be awarded where a dishonor is wilful and malicious, or the negligence so gross as to evince a culpable indifference to consequences, but only compensatory damages are authorized where no evil motive is proved.

CASE NOTES

Customer held not required to indemnify savings and loan for loss. —

A savings and loan association, which ordered that payment be stopped on a check issued on its bank account at the request of a customer of the savings and loan and then had a second check issued to replace it when it was reported to have been lost, was held liable for the amount of the first check where the funds represented by it had been withdrawn from the bank in which it had been deposited. The owners of the savings and loan account against which the first check was debited were not required to indemnify the savings and loan for the amount recovered from the savings and loan by the bank, since, except for the original withdrawal from the savings and loan, the entire transaction was under the control of the savings and loan. Moreover, the owners of the account were never asked to execute a second withdrawal application prior to issuance of the replacement check; thus the savings and loan failed to seek or receive authorization to debit their account a second time. The savings and loan, not the customer, set in motion and orchestrated the series of events resulting in double payment and thus the savings and loan should have suffered the loss. Galax Sav. & Loan Ass'n v. Goad, 226 Va. 403 , 309 S.E.2d 312, 1983 Va. LEXIS 297 (1983).

Stop payment order. —

Former husband’s letter to a bank, instructing it to “freeze my loan from further advances,” satisfied the requirements for a stop payment order because the bank replied the same day and was able to identify the type of payment to be stopped, and the bank’s immediate response demonstrated that the former husband delivered his order in a manner that afforded the bank a reasonable opportunity to act. Rusnack v. Cardinal Bank, N.A., 695 Fed. Appx. 704, 2017 U.S. App. LEXIS 13409 (4th Cir. 2017).

Notice provided. —

Former husband satisfied the one-year “discover and report” requirement because the former husband called the bank soon after he discovered the former wife’s first $ 10,000 withdrawal from the account upon which the former husband had placed a stop payment order. Rusnack v. Cardinal Bank, N.A., 695 Fed. Appx. 704, 2017 U.S. App. LEXIS 13409 (4th Cir. 2017).

OFFICIAL COMMENT

1. The position taken by this section is that stopping payment or closing an account is a service which depositors expect and are entitled to receive from banks notwithstanding its difficulty, inconvenience and expense.  The inevitable occasional losses through failure to stop or close should be borne by the banks as a cost of the business of banking.
2. Subsection (a) follows the decisions holding that a payee or indorsee has no right to stop payment.  This is consistent with the provision governing payment or satisfaction.  See Section 3-602.  The sole exception to this rule is found in Section 4-405 on payment after notice of death, by which any person claiming an interest in the account can stop payment.
3. Payment is commonly stopped only on checks; but the right to stop payment is not limited to checks, and extends to any item payable by any bank.  If the maker of a note payable at a bank is in a position analogous to that of a drawer (Section 4-106) the maker may stop payment of the note.  By analogy the rule extends to drawees other than banks.
4. A cashier’s check or teller’s check purchased by a customer whose account is debited in payment for the check is not a check drawn on the customer’s account within the meaning of subsection (a); hence, a customer purchasing a cashier’s check or teller’s check has no right to stop payment of such a check under subsection (a).  If a bank issuing a cashier’s check or teller’s check refuses to pay the check as an accommodation to its customer or for other reasons, its liability on the check is governed by Section 3-411.  There is no right to stop payment after certification of a check or other acceptance of a draft, and this is true no matter who procures the certification.  See Sections 3-411 and 4-303. The acceptance is the drawee’s own engagement to pay, and it is not required to impair its credit by refusing payment for the convenience of the drawer.
5. Subsection (a) makes clear that if there is more than one person authorized to draw on a customer’s account any one of them can stop payment of any check drawn on the account or can order the account closed.  Moreover, if there is a customer, such as a corporation, that requires its checks to bear the signatures of more than one person, any of these persons may stop payment on a check.  In describing the item, the customer, in the absence of a contrary agreement, must meet the standard of what information allows the bank under the technology then existing to identify the item with reasonable certainty.
6. Under subsection (b), a stop-payment order is effective after the order, whether written or oral, is received by the bank and the bank has a reasonable opportunity to act on it. If the order is written it remains in effect for six months from that time.  If the order is oral it lapses after 14 days unless there is written confirmation.  If there is written confirmation within the 14-day period, the six-month period dates from the giving of the oral order. A stop-payment order may be renewed any number of times by written notice given during a six-month period while a stop order is in effect. A new stop-payment order may be given after a six-month period expires, but such a notice takes effect from the date given. When a stop-payment order expires it is as though the order had never been given, and the payor bank may pay the item in good faith under Section 4-404 even though a stop-payment order had once been given.
7. A payment in violation of an effective direction to stop payment is an improper payment, even though it is made by mistake or inadvertence.  Any agreement to the contrary is invalid under Section 4-103(a) if in paying the item over the stop-payment order the bank has failed to exercise ordinary care.  An agreement to the contrary which is imposed upon a customer as part of a standard form contract would have to be evaluated in the light of the general obligation of good faith.  Sections 1-203 and 4-104(c).  The drawee is, however, entitled to subrogation to prevent unjust enrichment (Section 4-407); retains common law defenses, e.g., that by conduct in recognizing the payment the customer has ratified the bank’s action in paying over a stop-payment order (Section 1-103); and retains common law rights, e.g., to recover money paid under a mistake under Section 3-418.  It has sometimes been said that payment cannot be stopped against a holder in due course, but the statement is inaccurate.  The payment can be stopped but the drawer remains liable on the instrument to the holder in due course (Sections 3-305, 3-414) and the drawee, if it pays, becomes subrogated to the rights of the holder in due course against the drawer.  Section 4-407.  The relationship between Section 4-403 and 4-407 is discussed in the Comments to Section 4-407.  Any defenses available against a holder in due course remain available to the drawer, but other defenses are cut off to the same extent as if the holder were bringing the action.

VIRGINIA COMMENT

The UCC recognizes the right of a customer to stop payment on any item payable from his account, if the order is received by the bank at such time and in such manner as to afford the bank a reasonable opportunity to act upon it. Oral orders are binding only for fourteen calendar days, unless confirmed in writing within that period. Written orders are effective only for six months, unless renewed in writing. The purposes of the UCC are the same, although the details differ, as those of the prior Virginia statute, which provides that a stop-payment, initially, shall not be valid for more than one year, but that further renewals, to be effective for not more than one year each, may be made. The prior Virginia statute requires the renewal to be in writing, but it does not impose this requirement for the original stop-payment order.

OFFICIAL COMMENT

This section incorporates a type of statute adopted in twenty-six jurisdictions. The time limit is set at six months because banking and commercial practice regards a check outstanding for longer than that period as stale, and a bank will normally not pay such a check without consulting the depositor. It is therefore not required to do so, but is given the option to pay because it may be in a position to know, as in the case of dividend checks, that the drawer wants payment made.

Certified checks are excluded from the section because they are the primary obligation of the certifying bank (Sections 3-411 and 3-413), which obligation runs direct to the holder of the check. The customer’s account was charged when the check was certified.

VIRGINIA COMMENT

The UCC provides that a bank is under no obligation to pay a stale check presented more than six months after its date. The prior Virginia statute provides that a bank is under no obligation to pay a “demand” check presented more than one year from its date of issue. Besides being more favorable to the banks, and more exact, the UCC also authorizes the bank to charge its customer’s account for good faith payments made after it is no longer obligated to make them.

CASE NOTES

Where depositor added the name of his girlfriend to his individual account, he did so for his personal convenience and established an agency relationship between himself and his girlfriend which terminated when depositor, as the principal, died, as death of the principal terminates an agent’s authority unless the agent’s authority is coupled with an interest. Sturgill v. Virginia Citizens Bank, 223 Va. 394 , 291 S.E.2d 207, 1982 Va. LEXIS 218 (1982).

OFFICIAL COMMENT

1. Subsection (a) follows existing decisions holding that a drawee (payor) bank is not liable for the payment of a check before it has notice of the death or incompetence of the drawer.  The justice and necessity of the rule are obvious.  A check is an order to pay which the bank must obey under penalty of possible liability for dishonor. Further, with the tremendous volume of items handled any rule that required banks to verify the continued life and competency of drawers would be completely unworkable.
2. Subsection (b) provides a limited period after death during which a bank may continue to pay checks (as distinguished from other items) even though it has notice. The purpose of the provision, as of the existing statutes, is to permit holders of checks drawn and issued shortly before death to cash them without the necessity of filing a claim in probate.  The justification is that these checks normally are given in immediate payment of an obligation, that there is almost never any reason why they should not be paid, and that filing in probate is a useless formality, burdensome to the holder, the executor, the court and the bank.
3. Any surviving relative, creditor or other person who claims an interest in the account may give a direction to the bank not to pay checks, or not to pay a particular check. Such notice has the same effect as a direction to stop payment. The bank has no responsibility to determine the validity of the claim or even whether it is “colorable.” But obviously anyone who has an interest in the estate, including the person named as executor in a will, even if the will has not yet been admitted to probate, is entitled to claim an interest in the account.

One or both of these same reasons apply to other phases of the bank collection and payment process and the rule is made wide enough to apply to these other phases. It applies to all kinds of “items”; to “customers” who own items as well as “customers” who draw or make them; to the function of collecting items as well as the function of accepting or paying them; to the carrying out of instructions to account for proceeds even though these may involve transfers to third parties; to depositary and intermediary banks as well as payor banks; and to incompetency existing at the time of the issuance of an item or the commencement of the collection or payment process as well as to incompetency occurring thereafter. Further, the requirement of actual knowledge makes inapplicable the rule of some cases that an adjudication of incompetency is constructive notice to all the world because obviously it is as impossible for banks to keep posted on such adjudications (in the absence of actual knowledge) as it is to keep posted as to death of immediate or remote customers.

This section does not prevent an executor or administrator from recovering the payment from the holder of the check. It is not intended to affect the validity of any gift causa mortis or other transfer in contemplation of death, but merely to relieve the bank of liability for the payment.

VIRGINIA COMMENT

Under the UCC, until a bank has knowledge of the death or an adjudication of incompetency of a customer and a reasonable opportunity to act on it, the authority of the bank to accept, pay, or collect his items is not revoked. Even with knowledge of death the bank for ten days after the date of death may pay or certify checks drawn on or prior to the date of death, although it is not intended to prevent the personal representative from recovering the payment. A person claiming an interest in the account may, however, order the bank to stop payment. Virginia, by an amendment to the NIL, provides in Code 1950, § 6-540, repealed by the act enacting the UCC, that the authority of a bank to pay checks is not revoked for a period of two weeks, but it is not clear whether the two-week period runs from the date of death of the drawer or from the date the bank has knowledge of the death of the drawer.

CASE NOTES

Agreements varying time period. —

Bank and its customer could validly agree to reduce the time period within which the customer was obligated to report any unauthorized signatures or alterations on withdrawals from its account from one year, as provided in subsection (f), to 60 days. Nat'l Title Ins. Corp. Agency v. First Union Nat'l Bank, 263 Va. 355 , 559 S.E.2d 668, 2002 Va. LEXIS 30 (2002).

Customer’s duty not limited to items bank paid in good faith. —

Subsection (c) of this section imposes a duty upon a customer to exercise reasonable promptness to examine bank statement or items to determine whether any payment was not authorized because of an alteration or unauthorized signature and to promptly notify the bank of the relevant facts; this provision does not limit the scope of the customer’s duty to those items that the bank paid in good faith. Halifax Corp. v. First Union Nat'l Bank, 262 Va. 91 , 546 S.E.2d 696, 2001 Va. LEXIS 74 (2001).

Subsection (f) of this section is devoid of any language which limits the customer’s duty to discover and report unauthorized signatures and alterations to items paid in good faith by the bank; the absence of the phrase “good faith” in the language chosen by the General Assembly compels the conclusion that a bank’s statutory right to assert a customer’s failure to give the statutorily prescribed notice is not predicated upon whether the bank exercised good faith in paying the item which contained the unauthorized signature or alteration. Halifax Corp. v. First Union Nat'l Bank, 262 Va. 91 , 546 S.E.2d 696, 2001 Va. LEXIS 74 (2001).

Specific statutory provisions control over general duty of good faith. —

To the extent that any conflict exists between § 8.1-203 [see now 8.1A-304 ], imposing a general duty of good faith in the performance of any obligation or duty under the Uniform Commercial Code, and subsection (f) of this section, which contains no requirement that a bank have paid a forged or altered item in good faith, the court must apply the statute of specific application and permit a bank to raise the failure of the customer to give notice within one year as a defense regardless of whether or not the bank paid the disputed items in good faith. Halifax Corp. v. First Union Nat'l Bank, 262 Va. 91 , 546 S.E.2d 696, 2001 Va. LEXIS 74 (2001).

Failure to comply with notice requirement bars claim. —

Subsection (f) of this section bars a customer who received a statement or item from a bank but failed to discover or report the customer’s unauthorized signature or alteration on the item to the bank within one year after the statement or item was made available to the customer from asserting a claim against the bank for the unauthorized signature or alteration; the customer’s compliance with this one-year statutory notice provision is a condition precedent to the customer’s right to file an action against the bank to recover losses caused by the unauthorized signature or alteration. Halifax Corp. v. First Union Nat'l Bank, 262 Va. 91 , 546 S.E.2d 696, 2001 Va. LEXIS 74 (2001).

Proper party. —

An attorney at law is a proper party to sue a bank that refuses to reimburse the attorney’s fiduciary account for a certain check, drawn by the attorney against the account, and honored by the bank over a forged indorsement. Radin v. Crestar Bank, 249 Va. 440 , 457 S.E.2d 65, 1995 Va. LEXIS 57 (1995).

OFFICIAL COMMENT

1. In order to impose on its customer the duty stated in subsection (c) to examine a statement or the returned items and report unauthorized signatures of the customer or alterations, the bank must comply with subsection (a) in sending or making available to the customer a statement of the account.  Whether the bank returns to the customer the items paid is a matter for bank-customer agreement.  If the agreement is that the bank does not return the items paid, a general standard is stated that the customer must be given information “sufficient to allow the customer reasonably to identify the items paid.”  If the bank supplies its customer with an image of an item, it complies with this standard.  But a safeharbor rule is provided.  If the item is described by item number, amount, and date of payment, the bank does comply.  This information was chosen because it can be obtained by the  bank’s computer from the check’s MICR line without examination of the items involved.  The other two items of information that the customer would normally want to know — the name of the payee and the date of the item — cannot currently be obtained from the MICR line.  The safeharbor rule is important in determining the feasibility of payor or collecting bank check retention plans.  A customer who keeps a record of items written will have sufficient information to identify the item on the basis of item number, amount and date of payment.  But customers who don’t keep records may not. The policy decision is that accommodating these customers is not as desirable as accommodating others who keep more careful records at less cost to the check collection system and, thus, to all customers of the system. It is expected that technological advances may make it possible for banks to give customers more information in the future in a manner that is fully compatible with automation or truncation systems.  At that time the Permanent Editorial Board may wish to make recommendation for an amendment revising the safe harbor requirements in the light of those advances.
2. Subsection (b) applies if the items are not returned to the customer.  Check retention plans may include a simple payor bank check retention plan or the kind of check retention plan that would be authorized by a truncation agreement in which a collecting bank or the payee may retain the items. Even after agreeing to a check retention plan, a customer may need to see one or more checks for litigation or other purposes.  The customer’s request for the check may always be made to the payor bank.  Under subsection (b) retaining banks may destroy items but must maintain the capacity to furnish legible copies for seven years.  A legible copy may include an image of an item.  This Act does not define the length of the reasonable period of time for a bank to provide the check or copy of the check.  What is reasonable depends on the capacity of the bank and the needs of the customer. This Act does not specify sanctions for failure to retain or furnish the items or legible copies; this is left to other laws regulating banks. See Comment 3 to Section 4-101.  Moreover, this Act does not regulate fees that banks charge their customers for furnishing items or copies or other services covered by the Act, but under principles of law such as unconscionability or good faith and fair dealing, courts have reviewed fees and the bank’s exercise of a discretion to set fees. Perdue v. Crocker National Bank, 38 Cal.3d 913 (1985) (unconscionability); Best v. United Bank of Oregon, 739 P.2d 554, 562-566 (1987) (good faith and fair dealing).  In addition, Section 1-203 provides that every contract or duty within this Act imposes an obligation of good faith in its performance or enforcement.
3. Subsection (c) imposes on the customer the duty to examine for and report unauthorized payments.  Subsection (d)(2) changes former subsection (2)(b) by adopting a 30-day period in place of a 14-day period.  Although the 14-day period may have been sufficient when the original version of Article 4 was drafted in the 1950s, given the much greater volume of checks at the time of the revision, a longer period was viewed as more appropriate.  The rule of subsection (d)(2) follows pre-Code case law that payment of an additional item or items bearing an unauthorized signature or alteration by the same wrongdoer is a loss suffered by the bank traceable to the customer’s failure to exercise reasonable care in examining the statement and notifying the bank of objections to it.  One of the most serious consequences of failure of the customer to comply with the requirements of subsection (c) is the opportunity presented to the wrongdoer to repeat the misdeeds. Conversely, one of the best ways to keep down losses in this type of situation is for the customer to promptly examine the statement and notify the bank of an unauthorized signature or alteration so that the bank will be alerted to stop paying further items.  Hence, the rule of subsection (d)(2) is prescribed, and to avoid dispute a specific time limit, 30 days, is designated for cases to which the subsection applies.  These considerations are not present if there are no losses resulting from the payment of additional items.  In these circumstances, a reasonable period for the customer to comply with its duties under subsection (c) would depend on the circumstances (Section 1-204(2)) and the subsection (d)(2) time limit should not be imported by analogy into subsection (c).
4. Subsection (e) replaces former subsection (3) and poses a modified comparative negligence test for determining liability.  See the discussion on this point in the Comments to Sections 3-404, 3-405 and 3-406.  The term “good faith” is defined in Section 3-103(a)(4) as including “observance of reasonable commercial standards of fair dealing.”  The connotation of this standard is fairness and not absence of negligence.
5. Several changes are made in former Section 4-406(5). First, former subsection (5) is deleted and its substance is made applicable only to the one-year notice preclusion in former subsection (4) (subsection (f)).  Thus if a drawer has not notified the payor bank of an unauthorized check or material alteration within the one-year period, the payor bank may not choose to recredit the drawer’s account and pass the loss to the collecting banks on the theory of breach of warranty.  Second, the reference in former subsection (4) to unauthorized indorsements is deleted.  Section 4-406 imposes no duties on the drawer to look for unauthorized indorsements.  Section 4-111 sets out a statute of limitations allowing a customer a three-year period to seek a credit to an account improperly charged by payment of an item bearing an unauthorized indorsement.  Third, subsection (c) is added to Section 4-208 to assure that if a depositary bank is sued for breach of a presentment warranty, it can defend by showing that the drawer is precluded by Section 3-406 or Section 4-406(c) and (d).

The term “ordinary care” used in subsection (e) is defined in Section 3-103(a)(7), made applicable to Article 4 by Section 4-104(c), to provide that sight examination by a payor bank is not required if its procedure is reasonable and is commonly followed by other comparable banks in the area. The case law is divided on this issue. The definition of “ordinary care” in Section 3-103 rejects those authorities that hold, in effect, that failure to use sight examination is negligence as a matter of law. The effect of the definition of “ordinary care” on Section 4-406 is only to provide that in the small percentage of cases in which a customer’s failure to examine its statement or returned items has led to loss under subsection (d) a bank should not have to share that loss solely because it has adopted an automated collection or payment procedure in order to deal with the great volume of items at a lower cost to all customers.

VIRGINIA COMMENT

Under both the UCC and prior Virginia law a depositor owes a bank the duty of examining statements of account and cancelled checks and to report unauthorized withdrawals from his account. Bank of Occoquan, Inc. v. Bushey, 156 Va. 25 , 157 S.E. 764 (1931); Trust Co. of Norfolk v. Snyder, 152 Va. 572 , 575-79, 147 S.E. 234 (1929); Trust Co. of Norfolk v. Synder, 148 Va. 381 , 386-87, 138 S.E. 477 (1927); Brown v. Lynchburg Nat’l Bank, 109 Va. 530 , 64 S.E. 950 (1909); First Nat’l Bank v. Richmond Electric Co., 106 Va. 347 , 56 S.E. 152 (1907). Both the prior Virginia statutes and the UCC draw some distinctions between the customer’s duty as regards his own forged signature and altered items, and his duty as regards forged indorsements, where he cannot be expected to know the indorser’s signature. Earlier Virginia case law established that the bank must itself be free from negligence in making an unauthorized payment in order to be relieved from liability. Trust Co. of Norfolk v. Snyder, 152 Va. 572 , 147 S.E. 234 (1929); Brown v. Lynchburg Nat’l Bank, 109 Va. 530 , 64 S.E. 950 (1909). The UCC is in accord, permitting the customer to recover from the bank if he can establish a lack of ordinary care on the part of the bank in paying the items.

Virginia has recognized that the bank customer owes the duty to the bank, even though it is a bank employee who is perpetrating the fraud. Bank of Occoquan, Inc. v. Bushey, 156 Va. 25 , 29-30, 157 S.E. 764 (1931); Brown v. Lynchburg Nat’l Bank, 109 Va. 530 , 64 S.E. 950 (1909). The UCC does not expressly cover the point.

The UCC is somewhat broader in its coverage, as regards items, signatures and types of alterations, than the prior Virginia statutes. The prior Virginia statutes are strictly statutes of limitations so that a bank would apparently be liable to the customer for unauthorized withdrawals occurring within the statutory period, regardless of how long the customer has been negligent in failing to examine his statements. Under the UCC, however, once the depositor has failed in his duty of examining his statements, he is thereafter precluded from asserting against the bank other unauthorized withdrawals made by the same wrongdoer.

The UCC imposes an absolute one-year statute of limitations as regards unauthorized withdrawals based on the customer’s signature or alteration of an item, and a three-year statute of limitations as regards unauthorized indorsements. The comparable periods under the prior Virginia statutes are ninety days and two years, respectively.

OFFICIAL COMMENT

1. Section 4-403 states that a stop-payment order or an order to close an account is binding on a bank.  If a bank pays an item over such an order it is prima facie liable, but under subsection (c) of Section 4-403 the burden of establishing the fact and amount of loss from such payment is on the customer. A defense frequently interposed by a bank in an action against it for wrongful payment over a stop-payment order is that the drawer or maker suffered no loss because it would have been liable to a holder in due course in any event.  On this argument some cases have held that payment cannot be stopped against a holder in due course.  Payment can be stopped, but if it is, the drawer or maker is liable and the sound rule is that the bank is subrogated to the rights of the holder in due course.  The preamble and paragraph (1) of this section state this rule.
2. Paragraph (2) also subrogates the bank to the rights of the payee or other holder against the drawer or maker either on the item or under the transaction out of which it arose. It may well be that the payee is not a holder in due course by still has good rights against the drawer.  These may be on the check but also may not be as, for example, where the drawer buys goods from the payee and the goods are partially defective so that the payee is not entitled to the full price, but the goods are still worth a portion of the contract price. If the drawer retains the goods it is obligated to pay a part of the agreed price.  If the bank has paid the check it should be subrogated to this claim of the payee against the drawer.
3. Paragraph (3) subrogates the bank to the rights of the drawer or maker against the payee or other holder with respect to the transaction out of which the item arose.  If, for example, the payee was a fraudulent salesman inducing the drawer to issue a check for defective securities, and the bank pays the check over a stop-payment order but reimburses the drawer for such payment, the bank should have a basis for getting the money back from the fraudulent salesman.
4. The limitations of the preamble prevent the bank itself from getting any double recovery or benefits out of its subrogation rights conferred by the section.
5. The spelling out of the affirmative rights of the bank in this section does not destroy other existing rights (Section 1-103). Among others these may include the defense of a payor bank that by conduct in recognizing the payment a customer has ratified the bank’s action in paying in disregard of a stop-payment order or right to recover money paid under a mistake.

VIRGINIA COMMENT

The UCC goes somewhat beyond the dictum in McAuley v. Morris Plan Bank, 155 Va. 777 , 156 S.E. 418 (1931), to the effect that a payor bank ignoring a stop-payment order would be subrogated as against the drawer to the rights of a holder in due course who had presented the instrument and received payment. In McAuley the precise question was not presented. A depositary bank paid its depositor by a check drawn on another bank. The depositor indorsed the check to a third person and then discovered that the automobile for which the check had been indorsed had been stolen. At the request of the depositor the depositary bank stopped payment on its check. But on learning that another bank had cashed the check in good faith, the bank withdrew the stop-payment order. In an action by the depositor against the depositary bank the court said that the ultimate question in such a case would be whether there was a holder in due course.

CASE NOTES

Bank’s role in handling of documentary draft is not a passive one. Its duties and obligations are delineated by statute. Suttle Motor Corp. v. Citizens Bank, 216 Va. 568 , 221 S.E.2d 784, 1976 Va. LEXIS 168 (1976).

Custom followed by banks in handling documentary drafts is not uniform. Suttle Motor Corp. v. Citizens Bank, 216 Va. 568 , 221 S.E.2d 784, 1976 Va. LEXIS 168 (1976).

Time permitted for payment or return of documentary drafts varies. What is seasonable time, and what is due diligence and good faith, must necessarily depend upon the facts and circumstances of each case. Suttle Motor Corp. v. Citizens Bank, 216 Va. 568 , 221 S.E.2d 784, 1976 Va. LEXIS 168 (1976).

But presenting bank has to act reasonably and seasonably and has to use diligence and good faith. Where indicated, it must notify the transferor of the draft of its nonpayment, or of a delay in payment, and the reasons therefor. Suttle Motor Corp. v. Citizens Bank, 216 Va. 568 , 221 S.E.2d 784, 1976 Va. LEXIS 168 (1976).

Acceptance or refusal contemplated. —

It is contemplated by this section that a draft will either be accepted and paid or that payment will be refused and the draft dishonored. Suttle Motor Corp. v. Citizens Bank, 216 Va. 568 , 221 S.E.2d 784, 1976 Va. LEXIS 168 (1976).

OFFICIAL COMMENT

This section states the duty of a bank handling a documentary draft for a customer. “Documentary draft” is defined in Section 4-104. The duty stated exists even if the bank has bought the draft. This is because to the customer the draft normally represents an underlying commercial transaction, and if that is not going through as planned the customer should know it promptly.

OFFICIAL COMMENT

The section is designed to establish a definite rule for “on arrival” drafts. The term includes not only drafts drawn payable “on arrival” but also drafts forwarded with instructions to present “on arrival.” The term refers to the arrival of the relevant goods. Unless a bank has actual knowledge of the arrival of the goods, as for example, when it is the “notify” party on the bill of lading, the section only requires the exercise of such judgment in estimating time as a bank may be expected to have. Commonly the buyer-drawee will want the goods and will therefore call for the documents and take up the draft when they do arrive.

CASE NOTES

Custom followed by banks in handling documentary drafts is not uniform. Suttle Motor Corp. v. Citizens Bank, 216 Va. 568 , 221 S.E.2d 784, 1976 Va. LEXIS 168 (1976).

Time permitted for payment or return of documentary drafts varies. What is seasonable time, and what is due diligence and good faith, must necessarily depend upon the facts and circumstances of each case. Suttle Motor Corp. v. Citizens Bank, 216 Va. 568 , 221 S.E.2d 784, 1976 Va. LEXIS 168 (1976).

OFFICIAL COMMENT

1. This section states the rules governing, in the absence of instructions, the duty of the presenting bank in case either of honor or of dishonor of documentary draft.  The section should be read in connection with Section 2-514 on when documents are deliverable on acceptance, when on payment.
2. If the draft is drawn under a letter of credit, Article 5 controls.  See Sections 5-109 through 5-114.

OFFICIAL COMMENT

The section gives the presenting bank, after dishonor, a privilege to deal with the goods in any commercially reasonable manner pending instructions from its transferor and, if still unable to communicate with its principal after a reasonable time, a right to realize its expenditures as if foreclosing on an unpaid seller’s lien (Section 2-706). The provision includes situations in which storage of goods or other action becomes commercially necessary pending receipt of any requested instructions, even if the requested instructions are later received.

The “reasonable manner” referred to means one reasonable in the light of business factors and the judgment of a business man.