University of Western Sydney Law Review
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Robin Edwards[*]
This article argues that the distinction between contracts that are void and voidable involves metaphysical deliberations that make decisions on conversion of cheques unduly complicated. This means decisions are not simple and economically efficient.
The article further explores whether some changes to the law may reduce the incidence of conversion and provide a more efficient rule as to who should bear the loss.
When a cheque finishes up in the hands of a holder in due course it does not matter that there are prior defects in title or prior equities.[1] The holder in due course takes free from these. The Cheques Act 1986(Cth) also makes it explicit that a holder in due course can obtain a good title even when the prior party had no title at all.[2] This is indeed the essence of negotiable instruments: they are an exception to the nemo dat rule. However, between the immediate parties to the instrument, for example, the drawer and the payee, and as regards remote parties who are not holders in due course, cheques being chattels are basically subject to the same rules for passing of property as goods. The distinction between void contracts and voidable contracts therefore still has relevance.
This distinction is, however, often difficult to apply and poses many problems.
Economists argue that loss allocation rules should be efficient. First, they should reflect who is able to best bear the loss. Secondly, they should reflect who can most cheaply reduce the loss. Thirdly, the loss allocation rules should be cheap to enforce.[3]
It might be more sensible in the context of negotiable instruments to devise a simpler and more economically efficient loss allocation rule since the cases show that the current loss allocation rules fail on all these criteria.
Before looking at the cases on void and voidable title to cheques it is appropriate to discuss some preliminary points relating to conversion of cheques.
Since cheques, like other negotiable instruments, are not merely evidence of a contract, the benefit of the legal rights is intimately tied to the paper itself. Some writers refer to this as the 'reification' of the intangible rights.[4] Others talk about the rights being 'embodied' in the instruments.[5] Whatever the explanation, it is clear that there is a link between ownership of the piece of paper and the rights in regard to the cheque. The marriage between ownership of the paper and the benefit of the rights is not, however absolute; if an owner of a cheque loses it or has the cheque destroyed, the owner's rights do not cease. For example, the owner can ask the drawer to replace the lost or destroyed cheque upon giving a suitable indemnity.[6] Moreover, the court can order that the loss or destruction not be set up as a defence.[7] Just as a bill of lading is a symbol of the goods themselves, so too, a cheque is symbolic or reflects the intangible rights attaching to it.[8]
Coupled with the idea of ownership of the piece of paper is also the idea of possession. If the cheque is in a deliverable state, delivery is presumed.[9] Ownership is also roughly equated with possession.[10] Moreover, transfer of the piece of paper, even by someone not the owner of it at the time of transfer, can remarkably confer the privilege of ownership upon the transferee.
In the classic case of the exposition of the incidents of the banker-customer relationship Joachimson v Swiss Bank Corp the court emphasised the customer's orders being drawn on the bank.[11] The case is not, surprisingly perhaps, silent on the issue of the ownership of the paper, the cheque itself. Since cheque law is based on the law relating to bills of exchange, and since in a classic bill of exchange situation, the drawer will initially be the owner of the piece of paper constituting the bill, it is tempting to conclude that the customer of the bank is the owner of the cheque. This view is bolstered by the fact that in the past, anyway, banks made a charge for the provision of the cheque forms which implies that ownership of the cheque forms in that situation was given by the banks to the customer in exchange for a fee. Nowadays, many banks provide blank cheque forms free of charge. Nevertheless it would seem fair to conclude that ownership in the blank cheque form passes to the customer.
To bring an action against a party for conversion, the plaintiff must be able to demonstrate something akin to ownership of the chattel. It is true that the right to bring an action for conversion is not confined to persons who have legal or equitable ownership the tort consists of intentional interference with the rights of another. A number of cases clearly indicate that an action for conversion can be based on a right to immediate possession.[12] A person can even bring an action for conversion even though he or she may not have property or ownership in the cheque, if the person can show an immediate right to possession.[13] Even if the drawer can be viewed as having ownership of the cheque, a payee having a right to immediate possession, may still sue in conversion.[14] Thus ownership is not always necessary to successfully bring an action, yet s 95 of the Cheques Act 1986 (Cth) does refer to the true owner bringing the action of conversion. These words imply rights to possession and rights of ownership.
In the case of conversion of a cheque, the chattel is the cheque itself. This immediately raises the problem of the value of the cheque. Is the cheque merely the value of the piece of paper itself (which would be worth virtually nothing), or is the value of the cheque equal to the amount written on it? To enable the owner of the cheque to bring an action in conversion against the collecting bank, the courts have adopted the view that the value is the face value.[15]
This is a fiction that would seem difficult to sustain if the drawer countermands the cheque or if the drawer's signature has been placed on it without authority or if there is no money in the drawer's cheque account. One could be tempted to conclude that such cheques are worthless and that therefore an action in conversion against a collecting bank would not be possible. It should be remembered, however, that a countermanded cheque can be enforced by a holder in due course against the drawer even if it has been countermanded. Even a cheque which has the drawer's signature forged on it may confer rights on the holder against an indorser who negotiates it to such a holder.[16] If the cheque on which the unauthorised signature appears remains with the payee or immediate bearer, one could also be forgiven for thinking that it would be unenforceable against the drawer by the payee and therefore a complete nullity; ergo, an action in conversion on such a cheque would fail. However, it would appear that the courts will not even baulk at this. Thus in Orbit Mining & Trading Co Ltd v Westminster Bank Ltd [17] a director signed a company cheque without any authority, made it out to 'cash or order' and paid it into his bank for collection. It did not seem to unduly worry the court here that a payee or holder of such a cheque might not be able to enforce it against the company because the unauthorised signature made the cheque a nullity. It may have been a nullity between the payee or bearer and the person whose signature was placed on it without authority; yet the true owner, Orbit Mining & Trading Co Ltd, was able to bring an action in conversion.
Again, with a cheque that is fraudulently and materially altered it is discharged (that is, dead) but the law still allows a holder to enforce it against the person who made the alteration, agreed to the alteration or who indorsed it after the alteration. Moreover in the case of a clever alteration, a holder in due course (that is, a person who would have otherwise been a holder in due course), can enforce it according to its original tenor (that is the sum before it was altered).[18] Such cheques are not really valueless or nullities.
However, the English Court of Appeal in a recent case Smith v Lloyd's Bank TSB plc [19] held that an action in conversion by the true owner did not lie against a bank that had collected a cheque that was fraudulently and materially altered.
Mr Justice Bloefeld of the Queens Bench Division agreed with the main argument by the defendant bank that it could not be liable for conversion of a cheque that was materially altered. The case went to the Court of Appeal and Mr Justice Bloefeld's decision was affirmed.
The Court of Appeal held that a materially altered cheque was a worthless piece of paper. Pill LJ said:
The piece of paper is no longer a cheque and no action can be brought upon it as a cheque. The cheque is invalidated and no distinction can be drawn between parties who, but for the material alteration, would have had contractual rights based on the cheque. No party can bring an action for damages in conversion for its face value because it no longer represents a chose in action for that amount[20]
This leads to some strange results. As the drawer had not facilitated the alterations, this meant that the paying bank had no right to debit the drawer's account.[21] The paying bank could not arguably even derive comfort from paying according to the crossing since s 92 of the Cheques Act 1986(Cth) only applies if it is a cheque and the court held that it was worthless piece of paper.[22] The collecting bank was not liable for conversion since it was held that it was a worthless piece of paper. The payee as holder could not obtain a replacement cheque since the section only applies if the cheque is lost or destroyed.[23] The court held that it was discharged because of the alteration. Could the payee sue for the drawer for the debt? Normally if a cheque is not paid the debt revives; but here it was not dishonoured. The paying bank had paid it. Arguably, the payee could not even sue the drawer for debt since in National Australia Bank Td v KDS Construction Services Pty Ltd it was said that if a cheque is dishonoured the debt revives; therefore, if the cheque is discharged rather than being dishonoured the debt does not revive.[24] If this were correct the loss therefore falls completely on the paying bank and it would seem that the drawer is free from even the debt.[25]
To say that a cheque that is materially altered is a worthless piece of paper seems to fly in the face of the fact that valuable rights can still attach to it.
Accordingly, it is suggested that the odd few cases that suggest that one cannot bring an action for conversion in cases where the signature is forged on the cheque or where there has been a fraudulent material alteration because the cheques are not valid or are valueless, are not very convincing and lead to some bizarre results.[26]
Many of the Australian cases on conversion of cheques involve rogues who have taken advantage of a weakness in the financing of equipment. Business people who wish to acquire goods on credit approach finance companies and the finance companies then buys the desired goods from a supplier. The finance company then in turn supplies the goods to the business person on lease, hire-purchase or pursuant to some other form of credit arrangement. The finance companies only want to deal in paper. The gambit is for the rogue 'business person' to acquire an invoice from a supplier of goods and persuade the finance company to hand over the cheque made out to the supplier of the goods. The rogue then deposits it with a bank that collects the proceeds, the rogue next withdraws the money, typically leaving the finance company to try and recover from the collecting bank on the basis that it has converted the cheque.
A review of some of the main cases shows that the outcomes of cases depend on very subtle distinctions, distinctions that are, it is submitted, difficult to justify in terms of efficiency.
In a number of cases the courts have ruled that there was a voidable title to the cheque rather than a void title. This will usually mean that no action by the true owner will lie against the alleged converter since title has passed.
One of the more puzzling cases is Commercial Banking Co of Sydney v Mann [27] a Privy Council decision. R, who had no actual authority from M his partner, obtained bank cheques made out to H Ward or bearer for fraudulent purposes from the partner's bank, ANZ. Ward obtained payment of the cheques throughout CBS. R had authority vis-à-vis ANZ since both partners had authority to operate the trust account. But as between M & R, R had no authority to operate in a fraudulent manner. M sued the collecting bank for conversion but the Privy Council held that M could not ratify the obtaining of the bank cheque which was clearly outside the authority conferred by M on R, since to do so would mean that M would also have been viewed as ratifying the conversion. M's action in conversion against CBS failed. To whom did the bank cheques belong? Presumably the rogues, M & W, had a voidable title which was not voided at the time of the conversion. M seems, moreover, to have no remedy except against R & W. M could not sue ANZ because R had authority to operate the trust account. Moreover, he could not sue the collecting bank because he had no ownership in the bank cheques. This seems a very unsatisfactory outcome. Courts in subsequent cases have been anxious to circumvent this case.
Mann's case was distinguished in Grantham Homes Pty Ltd v Interstate Permanent Building Society Ltd And another. [28] Here a fraudulent employee of the plaintiff dishonestly obtained monies out of the plaintiff's account with the defendant using withdrawal forms properly signed by Mr Grantham.[29] The cheques in the Grantham case drawn by the building society were payable to the plaintiff and crossed and marked 'not negotiable account payee only'. There was an endorsement or marking on the back of the cheque in favour of the rogue who later paid the cheques into his account with the second defendant, the ANZ bank. Since the cheques were made out to the name of the plaintiff, MacGregor J had no difficulty in finding that the plaintiff had title to these cheques. MacGregor J pointed out
In my view, it is correct to say that the authority conferred on Mr. Anderson (the rogue) was to complete the withdrawal forms, present them to the building society, and to receive the cheques drawn in response thereto. These considerations, assisted perhaps by the building society's intention to deliver the cheques to the plaintiff, which it had made out conformably to this intention, indicate that the plaintiff had the right to immediate possession of the cheques. The positive action of Mr. Grantham in signing the withdrawal form is possibly a distinguishing feature of these facts from Mann's case (1960) 34 ALJR 293 where Richardson himself initiated the fraudulent process. [30]
The English House of Lords in Lipkin Gorman v Karpdale and Lloyds Bank [31] also distinguished Mann's case on the facts. In the Lipkin case an inveterate gambler and partner in a law firm bribed the firm bookkeeper to obtain bank drafts with firm monies and cashed them at a casino. The drafts were payable to the firm. The firm sued the bank, amongst other things, for conversion. If the Mann case were followed it would mean that the firm would not succeed. However, since the drafts in the Lipkin case were made out to the name of the firm it was held that this entitled the firm to immediate possession, thus enabling the firm to sue for conversion.
The issue of ownership of the cheques and the right to sue in conversion was explored in Midland Bank plc v Brown Shipley.[32] Here, rogues fraudulently tricked several banks by pretending to be representatives of a customer. The banks concerned handed over bank cheques to the rogues. The bank cheques were made out to the defendant bank that specialised in giving and handling foreign currency in the form of cash. The rogues handed over the bank cheques to the defendant bank in return for cash and disappeared. The court held that at the time of the conversion the rogues had title to the cheques. Title to the bank cheques passed to them since the contract was not void for unilateral mistake as to identity but rather voidable for fraudulent misrepresentation, and, at the time of the conversion by the defendant bank, had not been voided.
In the recent Australian case of Orix Australia V M Wright Hotel Refrigeration Pty Ltd and ANZ Bank [33] the issue was once again whether title to the cheque passed (voidable) or whether title did not pass.
In a comedy of errors, Orix Australia Corp Ltd (hereafter Orix) drew a crossed 'not negotiable' cheque for $28, 400 payable to 'M. W Refrigeration Pty Ltd (technically the wrong name) or bearer'. It should have been made out to M Wright Hotel Refrigeration Pty Ltd (hereafter called Wright). Orix drew this cheque based on fraudulent information supplied by a rogue consisting of a fake invoice in the name of Wright for a metal forming machine. The intended financial arrangement, as explained by the rogue to Orix, was that there would be sale by Wright to Orix of a metal forming machine. Orix in turn would hire the machinery to the rogue. (In fact the rogue previously had asked Wright to acquire a piece of machinery for him.) This cheque finished up in the hands of Wright via the rogue and a broker. The ANZ bank collected it for the account of Wright. Wright originally wrongly thought that it was a finance company cheque to pay for some work in progress being done for the rogue. But the rogue explained that it was payment for a metal forming machine that the rogue had asked Wright to acquire. In fact Wright had not acquired the machine. Because of the deceit of the rogue Wright believed there was no entitlement to the money and naively drew a cheque in favour of the rogue. This was paid in due course. The fraud was subsequently discovered.
Orix sued Wright and the collecting bank for conversion. The matter was first heard in the Magistrate's Court and there was a subsequent appeal to the Supreme Court of South Australia
One of the key issues to be determined by the Supreme Court of South Australia was whether Orix, the drawer, was the true owner. If it was not it could not sue the bank for conversion. It was found that Orix intended Wright to be paid the cheque even though the name was incorrect.
Further, it was found that Wright was
| (1) | a holder for value, that is, it had received the cheque in exchange for work done for the rogue |
| (2) | that it had received a voidable title because of the rogue's fraud and |
| (3) | that Orix was unable to avoid liability on the cheque because Wright acquired the cheque in good faith and for value. |
On the second issue, the cheque was 'delivered either to the broker or to Mr Thornalley (the rogue) for the purposes of delivering it to the payee'.[34] Bleby J of the Supreme Court of South Australia found that the Magistrate was correct in finding that Orix intended to pay the cheque to Wright. This meant that Wright obtained a good title to it since he gave value for it. It was too late for Orix to avoid it.
Bleby J held that there was some similarity [35] with the facts in Hunter BNZ Finance Ltd v CG Maloney Pty Ltd where it was said:
Where A as the result of fraudulent representations by B transfers goods to B, property passes to B and B obtains a title, though a voidable title. There is no reason why the result should be different where A as the result of fraudulent representations by B transfers the goods to C, C being a consenting recipient thereof. [36]
In the Hunter BNZ Finance Ltd v CG Maloney Pty Ltd the plaintiff finance company drew two cheques in favour of a furniture supplier because of the fraud of the sole director of CG Maloney Pty Ltd (M). The cheques were crossed and marked 'not negotiable' A/C payee only. M tricked the furniture supplier into indorsing the cheques in his favour and lodged them for collection with Westpac Bank. The bank argued that the supplier had title to the cheques because they were made out to its name and even had the cheques in its possession, albeit for a short time. Giles J held that the title to the cheques was voidable and had been avoided by the commencement of the legal action and therefore title reinvested in the drawer finance company which could sue the converting bank.
On the third issue in the Orix case, namely rescission, this will only be possible if both parties can be put back in the position in which they had been prior to the transaction. But in the Orix case it was held that this could not be so since Wright not only took the cheque in the first place for value but also gave the rogue its own cheque. The upshot of this being that title to the cheque remained with Wright.
This meant that the true owner of the cheque was not Orix but Wright. Hence Orix could not as the true owner bring an action against ANZ, the collecting bank.
Thus, a case of conversion will fail if the title to the cheque is voidable and is not in fact avoided. On the other hand, if the title to the cheque is voidable and is avoided in time an action in conversion may succeed.
Again the distinctions here for deciding whether the title has been avoided or not are very fine. This makes decision making difficult and costly. Moreover, the cases are difficult to reconcile.
Where a cheque is given in pursuance of a contract that is void the true owner will usually be successful in a case of conversion.
The cases of Australian Guarantee Corporation Ltd v Commissioners of the State Bank of Victoria [37] and Hunter BNZ Finance v ANZ Banking Group [38] represent the classic finance company cheque fraud. Small business fraudsters obtained cheques from finance companies by dishonestly representing to the finance companies that there were sales to the finance companies when in fact there were not. As no sales were intended the small business fraudsters or brokers involved did not receive the cheques as agents for the finance companies which meant that the finance companies had title to the cheques.
The recent case of Papandony and Another v Citibank [39] represents a slightly different version of the same theme.
The first plaintiff, Papandony, won Lotto in 1998 and incorporated the second plaintiff. He opened an account with St George bank in the name of the second plaintiff into which the Lotto winnings were deposited. A fraudster by the name of Brachmanis claimed that Brac Enterprises Pty Ltd (a company set up by him) had been granted an exclusive distributorship by Sears International Marketing Inc of Sears power tools and gardening products in Australia and New Zealand to which Sears Roebuck & Co was to contribute an advertising subsidy. Brachmanis told Panadony, the first plaintiff, that he intended to sell the products through a chain of franchised stores. He tricked Papandony into drawing and passing to him cheques drawn by Papadony's company, the second plaintiff, and made payable to the various entities associated with the proposed scheme. All of these cheques were deposited to the account of Brachmanis with the defendant bank
The real argument in the case turned on the issue of whether the plaintiff, the drawer, could bring an action in conversion against the bank as the true owner. If there were no contract between the drawer and the payee rogue, the drawer would remain the true owner. On the other hand, so the bank argued, if there were a contract that was merely voidable it would mean that the title in the cheques would pass to the payee and remain with the payee until the contract was avoided, and this in turn would mean that the drawer would not be the true owner and therefore could not bring an action against the bank for conversion.
Counsel for the bank argued that there was a concluded contract between the plaintiffs and Brachmanis' companies and that, although this might have been avoidable, it was sufficient to pass title to these companies and that therefore at the time of the alleged conversion the plaintiffs were not the true owners.[40] This argument is supported by some of the classic texts, for example, Paget[41] states, citing Tate v Wilts and Dorset Bank
Where a fully negotiable instrument by reason, say, of the circumstances under which it has been obtained, is voidable but not void, even the person who has so obtained it has temporary revocable property in it. If prior to its revocation or repudiation, an innocent third party takes the instrument as holder for value, or even without value, subsequent revocation or repudiation cannot affect his rights or fix liability upon him.[42]
However, Gzell J decided that there were no concluded contracts since the drawing of the cheques was because of Brachmanis' fraud whereas in the Tate case the drawer of the cheque intended to part with the property in the cheque: it was a voidable contract that had not been avoided when the collecting bank paid the cheque over to the rogue.[43] But in the Papandony case Brachmanis had no right to sell the Sears franchises in Australia.[44] And he made a similar finding in regard to the other cheques. Gzell J said:
To use the words of Lord Penzanze (in Cundy v Lindsay)[45] , this was a case of a man who, being deceived did not enter into a contract. [46]
Since there was no contract, this meant that the plaintiff's were the true owners of the cheques and therefore could bring an action in conversion against the defendant bank.
Counsel for the plaintiff also advanced an alternative argument based on Hunter BNZ Finance that if there was a contract that was voidable for fraudulent misrepresentations rather than there being no contract at all, it was effectively rescinded by the proceedings.[47] Gzell J having decided that there was no contract at all made no decision on this argument.
Once again even when the courts find there is a void title to the cheques, the path to this conclusion is tortuous and often difficult to follow.
The distinction between void and voidable in terms of conversion may not be important when a cheque is crossed and marked 'Not negotiable' and negotiated to a third party. Paget points out that:
...where the voidable instrument is a cheque crossed 'not negotiable', the distinction between void and voidable is swept away. [48]
This is neatly illustrated by the Australian case of Radford v Ferguson[49] . The plaintiff entered into an ostensible building contract in writing with a person who turned out to be a rogue. The rogue falsely and fraudulently represented to the plaintiff that he was a registered builder, and that he could build a house within six weeks. The rogue asked for a down payment for the land and materials and was given a bank cheque for £475 that was crossed and marked 'Bank Not Negotiable'. The defendant cashed the cheque for the rogue. The plaintiff successfully sued the defendant for conversion, claiming £475 plus interest.
The plaintiff argued that the rogue stole the cheque and that therefore the rogue had no title to the bank cheque. This would have meant that the defendant' s title was void. But Wolff J said the facts did not support stealing. The plaintiff, in handing over the cheque, intended to part with the property in the cheque. As, however, the cheque was obtained by fraudulent false pretences, the rogue had a title, and was capable of giving some title to the defendant. As the judge put it ' The question is what was the nature of the title he was capable of transferring '.[50] Wolff J held that as the rogue's title was voidable for fraud and the title he was able to confer 'was tainted in the same way as the title he had'.[51] Therefore, because of the 'not negotiable' crossing the defendant's title was subject to the plaintiff's claim for the refund of the money. The defendant tried to argue that there was undue delay by the plaintiff in making the claim and that as he had altered his position for the worse by cashing the cheque, the claim should not succeed.[52] This was rejected.
Since the cheque was crossed and marked 'not negotiable', whether the contract was void or voidable, the result would be the same.[53] Thus where a crossed cheque marked 'not negotiable' is voidable for fraud, the right to rescind ab initio enures against the remote party who is not a holder in due course.
Would the task of the courts in conversion cases be easier if the payee could be regarded as a holder in due course?
In quite a few of the cases described in this article- CES v Mann, Midland, Orix, Hunter BNZ Finance, Papandony - the payees actually received the cheques.
Assuming that the cheque is not crossed and marked 'not negotiable', in such circumstances, could the payee on such a cheque qualify as a holder in due course and acquire a good title? And would this not make the task of the court easier?
Probably not. First, the holder in due course concept involves the idea of the ultimate legal title to a negotiable instrument. The plaintiff in a case of conversion only has to demonstrate possessory rights, that is something far less than full legal title. Second, to qualify as a holder in due course there has to be a negotiation to the holder. Normally the payee does not have the cheque negotiated to him or her. However if the cheque is made out to the name of the payee or bearer, the argument in favour of the payee being able to qualify as a holder in due course would be as follows (assuming it is not crossed and marked 'not negotiable').
The cheque is issued to the rogue.[54] The rogue is the ' or bearer'. There is thus a delivery to the rogue.[55] The rogue then negotiates the cheque to the payee who is a subsequent holder.[56] If the payee satisfies the terms of the definition of the holder in due course the payee will obtain a good title.[57] The Canadian case of Johnston v Johnston supports this interpretation.[58] However, in the cases examined in this article where the payees have been treated as obtaining title it has been viewed as a direct title rather than a derivative one.[59]
What if the finance company cheque is made out to the name of the payee or order and is in the hands of the payee?
In everyday parlance in such circumstances the payee seems like a remote party. The cheque is typically given to him by the person (the rogue or the broker) who acquires the cheque from the drawer finance company; see, for example, the Orix case.
Crawford and Falconbridge maintain that
if a negotiable instrument payable to a named person is procured by one who wishes to use it to remit payment to the named payee, even though there is no negotiation from bearer to the payee, he is also a remote party and should be able to qualify as a holder in due course. [60]
On principle this is logical. However, the case of R.E. Jones Ltd v Waring & Gillow Ltd[61] is a powerful precedent that goes against such a view.
In short, if the cheque is made out to the name of the payee 'or order' as opposed to the name of the payee 'or bearer', the cheque is not negotiated to the payee and this would prevent the payee in such circumstances from being regarded as a holder for value.
To enable the payee to qualify as a holder in due course on an order cheque in Australia would thus necessitate some changes to the legislation.
It is noteworthy that the American Uniform Commercial Code expressly provides that the payee can be a holder in due course.[62] The official commentary gives some examples of when a payee could be a holder in due course.[63] But none of these examples really fit the pattern of the Australian financial company cheque fraud cases. Changing the legislation to allow the payee to qualify as a holder in due course would not necessarily simplify matters. Moreover, given the widespread use of the 'not negotiable' crossing in Australia, it would not advance matters very far even if the legislation were so changed.
The above cases show that there can be an infinite variety of situations where the courts have been required to decide whether the cheque has been obtained under circumstances that make the title to it voidable or void. Nevertheless, some rules appear to emerge.
| 1. | If there is no contract and no goods are supplied to the drawer of the cheque then no title to the cheque can arise. Assuming that the cheque is not in the hands of a holder in due course the drawer has the right to the possession of the cheque and can sue for conversion.[64] |
| 2. | Even if there is a contract that is voidable for fraud if it is avoided before third persons acquire rights to the cheque, then the rescission re-vests title in the drawer enabling him to sue for conversion.[65] |
Whether rescission is available depends on whether the payee's rights are adversely affected as a third party. In the Midland case the court found that the contract was not void for unilateral mistake, that is, the plaintiff drawers of the bank cheques intended to deliver it to the defendant bank as payee via a messenger about whom they were not mistaken. Even if the contract giving rise to the bank drafts was voidable for fraud it was too late to do so as the defendant had taken the cheque and given the rogues cash in exchange. Rescission would have meant an innocent third party's rights would have been adversely affected.[66] In the Hunter case Giles J seemed to treat the payee (the prospective supplier of goods to the finance company) on the finance company cheque as a third party but who had not provided value; accordingly, rescission was possible since the third party was not adversely affected. By way of contrast in the Orix case, the third party, the payee on the finance company cheque, provided consideration. Therefore, rescission was not available.
| 3. | If the cheque is not in the possession of the payee or his agent then the drawer has the right of possession and can sue for conversion.[67] |
A number of matters make the decisions in the cases described above problematic.
The application of the contractual rules as to void and voidable title is notoriously difficult. The distinction, for example, between contracts that are void for unilateral mistake as to identity induced by fraud[68] and contracts that are merely voidable for fraudulent misrepresentation[69] is not very convincing. Lord Denning in Lewis v Avery[70] cast doubt on the correctness of In gram v Little and the distinctions are too fine to be a satisfactory.
The other common problem in the cheque cases discussed is the role of the agent. The exact role of the agent is often an important element in deciding whether the title to the cheque has passed to the payee. Sometimes the decision depends upon whether the post is viewed as the agent of the payee.[71] Or whether a broker was acting for the payee or for the drawer.[72] Or whether the collecting bank is acting as an agent or is a remote party such as a holder for value.[73]
All of these elements complicate the resolution of these problems.
Economic analysis can be utilised to explain current law along economic lines, a descriptive approach; or to prescribe the law as it should be, that is, in a normative sense. It is the latter approach that will be utilised here.
The advantage of using an economic approach is that it might provide a more rational and, hopefully, objective way of determining liability. The Kaldor-Hicks model of efficiency examines whether the transaction results in a net overall benefit, so that the combined benefits to the parties involved do not exceed the resulting (net) detriment to any third parties adversely affected by the transaction.[74]
In the area at hand economists have identified three major principles of economic efficiency: loss spreading (who can best bear the loss); loss reduction (which party can mostly cheaply reduce the loss); and loss imposition (loss allocation rules should be cheapest to enforce). A few comments about these principles is apposite
In our context this will nearly always be the financial institution like bank or finance company rather than individual or a proprietary company. Loss from conversion of a cheque, for example, can be spread over the whole of a financial institution's operations and can be effectively passed on. But for an individual or a proprietary company concerned it may represent a considerable loss unless this loss can be covered through insurance. As the occurrence of conversion is fairly rare the market for such a product for an individual would be unlikely to exist or be costly. It is more likely that a financial institution can access appropriate insurance and thereby reduce the risk.
Therefore we can say that a financial institution can best bear the loss.
Efficiency demands that a legal system attribute liability to the person that can reduce the loss at the lowest cost (often this means most easily). Between X and Z, which is best placed to avoid the loss? If it is cheaper for X to do it than Y, then the law should impose liability on X. This is often a tricky principle since it touches upon human reactions to rules. There is little data and research as to why people in our context react to rules. Even when people surveyed say they are going to react in a certain way they may not in fact do so.[75]
We all tend to assume that if the cost for not complying with a certain rule is raised then compliance will be greater. But this is largely supposition.
To complicate matters further often more than one party can take precautions. Dual liability can assist in achieving this end. Sole liability will not. But in the context of taking into account damages against a collecting bank for conversion there is a problem in so far as the courts in Australia seem to have set their face against allowing contributory negligence of the true owner to be taken into account.[76]
Applying the Kaldor-Hicks model of efficiency also requires innovation to be considered. In this sense assigning liability to a financial institution may arguably act as a spur to making safer arrangements for the safeguard of cheques. In the context of conversion of cheques this is an important consideration in considering assigning liability for loss.
i. Possession of the cheque
The usual first step that leads to the conversion is the fact that the cheque is not handed over directly to the payee. Should this be regarded as determinative in terms of which party can most cheaply reduce the loss?
What is striking about many of these cases is how lax the drawer financial companies have been. Handing over the cheque to someone who is not the payee seems almost to be inviting trouble. In the English Midland case the rogues tricked the drawer into drawing the bank cheques. There was no proper system to guard against this (the drawer bank lost). The laxity was the matter of judicial comment. In the Orix case even the name on the cheque was not correct (here the drawer financial institution lost the case). In the Hunter case the finance company was the easy victim of the fraud of the director of CG Maloney Pty Ltd (but the drawer finance company ultimately won the case). In Associated Midland the cheque in question was not handed to the payee but to someone else (but again the drawer finance company ultimately won the case). In the cases of Australian Guarantee Corporation Ltd v Commissioners of the State Bank of Victoria and Hunter BNZ Finance v ANZ Banking Group the cheques were never handed over to payees (but here again the drawer finance company ultimately won the case).
We have seen that the application of the current test for determining the right to sue for conversion, namely, whether the title has passed is in practice a difficult one to apply. Some of the judgements make explicit reference to the issue of who took the risk (and therefore should bear the loss). For example, Lord Denning in Lewis v Avery in rejecting the idea that a mistake as to identity renders a contract void, said:
As I listened to the arguments in this case, I felt it wrong that an innocent purchaser (who knew nothing of what passed between the seller and rogue) should have his title depend on such
refinements. After all, he has acted with complete circumspection and in entire good faith: whereas it was the seller who let the rogue have the goods and thus enabled him to commit the fraud. I do not, therefore, accept the theory that a mistake as to identity renders a contract void.[77]
Likewise, if the drawer gives the cheque to the rogue it enables him to commit the fraud. The loss therefore should fall upon the risk taker.
However, in most of the cases dealing with the passing of the title, the issue of who took the risk in handing over the cheque is rarely commented upon and when it is, it is usually only in the context of whether the person to whom it was handed was acting for the drawer or the payee. It is part of the bigger picture of whether title has passed. Thus who can most easily and cheaply avoid the risk is only partially addressed by the current test.
The handing over of the cheque to the right person would seem to be a fairly easy thing to judge. This therefore would seem to be a likely candidate for determining which party can most cheaply reduce the loss.
ii. The form of the cheque
Another way for a drawer to prevent conversion would be to make the cheque payable only to the payee. If the law allowed this, would this be helpful in determining which party can most cheaply reduce the loss? The Cheques Act 1986, however, expressly provides in s 39(2) that a cheque may be transferred by negotiation notwithstanding anything written or placed on the cheque. Like its predecessor the Cheques Act 1986 gives no statutory recognition to the ‘account payee only’ crossing.[78] The Privy Council in Universal Guarantee Pty Ltd v
National Bank of Australasia[79] , on appeal from the Supreme Court of NSW, has made this point. Clearly the words 'account payee only' contradict the words 'or bearer' or, if it is an order cheque, the words 'or order'. Hence they have always been interpreted as not preventing transfer.
Being able to make cheques non-transferable, would seem to be a fairly easy change to the law and it would be an easy way for the drawer to reduce the incidence of conversion. It would, however, increase the likelihood of an adverse finding of conversion against a collecting bank if it collected the cheque for anyone other than the true owner. Making cheques not transferable might make many such cheques not collectable if the name of the payee is incorrect. At the present moment with cheques that are made out to the name of the payee 'or bearer' (this would be the majority of cheques) where the payee's name is incorrectly spelt, the collecting bank can, after making appropriate enquiries (and unless there are suspicious circumstances), fairly safely collect for the customer even if the customer's name is spelt incorrectly since the words 'or bearer' give a measure of protection.
Efficiency demands that the enforcement process be as cheap as possible. Broadly speaking the simpler the rule, the cheaper it will be to administer. Strict liability or per se liability has an appeal from this point of view. The current test is not simple and therefore cheap to administer. The cases involving financial institutions' cheques typically go through several courts before being finally decided. The distinctions between the cases are technical and fine. This often therefore leads to appeals and greater costs. Alternative forms of dispute resolution may also be important in this regard. In Australia customers of banks are very fortunate to have available to them the Australian Banking Industry Ombudsman (ABIO) to resolve disputes. The banks fund this.[80] But this will not, however, be available to a person such as the true owner against the collecting bank since the collecting bank is providing no financial service to the true owner in these circumstances.[81]
The above rules do have to be given equal weight in working out efficiency. It is the overall result that counts: in assigning liability do the gains to the society as a whole outweigh the compensation to the losers?
| 1. | The distinction between void contracts and voidable contracts is currently determinative of the issue of who can sue for conversion of cheques since passing of title depends on this. The distinctions between situations where there is a void title as opposed to a voidable title involve almost metaphysical analysis. Trying to decide, for example, whether the identity of the rogue as opposed to his 'attributes' is crucial to the decision of the drawer to hand over the cheque, involves such a subtle distinction that it casts doubt on the very suitability of the test. In addition, even if the title is found to be voidable, whether it is avoided in time before an innocent third party for value acquires it, involves a further step that complicates the application of the test. |
| 2. | The test in economic terms is not efficient, and the existence of a cheap efficient dispute resolution system exemplified by the Australian Industry Banking Ombudsman will not necessarily overcome this. |
| 3. | Changing the law to allow the payee to qualify as a holder in due course would not advance matters much since the use of the 'not negotiable' crossing is very wide spread in Australia. This would prevent a payee from qualifying as holder in due course even if the law were altered to allow the payee to qualify as a holder in due course. |
| 4. | Changing the law in Australia to allow cheques to be made non-transferable would facilitate risk avoidance for the drawer of the cheque and be likely to lessen the incidence of conversion. Moreover, it might provide an answer to the issue of which party can most easily and cheaply reduce the risk of loss. |
[*] Associate Professor, Department of Business Law & Tax, Faculty of Business & Economics, Monash University <Robin.Edwards@buseco.monash.edu.au>
[1] Cheques Act 1986(Cth) s49 (2) (a).
[2] Cheques Act 1986(Cth) s 50(1) (b) (iii) (B).
[3] R D Cooter and E L Rubin 'A theory of loss allocation for consumer payments' (1987-1988) 66 Texas Law Review 63.
[4] J S Ziegel & B Geva Commercial and Consumer Transactions (2nd ed, 1987) 89.
[5] R M Goode Commercial law (1982) 50, 66.
[6] Cheques Act 1986 (Cth) s 115.
[7] Cheques Act 1986(Cth) s 116.
[8] See Gurney v Behrend (1854) 3 E1 & B1 662; [1854] EngR 462; 118 ER 1275 for a description of a bill of lading as representing goods.
[9] Cheques Act 1986(Cth) s 28.
[10] Cheques Act 1986 (Cth) s 51.
[12] Grantham Homes Pty Ltd v Interstate Permanent Building (1979) 37 FLR 191.
[13] Bute (Marquess of) v Barclays Bank Ltd [1955] 1 QB 202.
[14] United Malayan Banking Corp BHD v Kek Tok Huat [1990] 1 MLJ 83.
[15] International Factors Ltd v Rodriguez [1979] QB 351.
[16] Cheques Act 1986 (Cth) s 74.
[18] Cheques Act 1986 (Cth) s 82(3).
[19] [2000] EWCA Civ 240; [2001] 1 All ER 424.
[20] Ibid 434.
[21] Commonwealth Trading Bank of Australia v Sydney Wide Stores Pty Ltd [1981] HCA 43; (1981) 55 ALJR 574 reaffirmed an English line of decisions to the effect that the drawer owes a duty of care when drawing up the cheque not to facilitate alterations.
[22] Section 92 the Cheques Act 1986 (Cth) provides that subject to subsection 32(1), where the drawee institution, in good faith and without negligence, pays a crossed cheque to a financial institution, the drawee institution is taken to have paid the cheque in due course.
[23] Section 115 of the Cheques Act 1986 (Cth) provides that where a cheque is lost or destroyed the holder may request the drawer to give a replacement cheque to the same tenor as the original cheque.
[24] [1987] HCA 65; (1987) 62 ALJR 63 at para 13 of the joint judgment of the majority.
[25] R Edwards 'Non-liability of banks for conversion of materially altered cheques' (2000) 16 Australian Banking & Finance Law Bulletin, 41; see also A L Tyree 'Conversion of altered cheques' (2001) 12 Journal of Banking and Finance Law and Practice 119.
[26] Arrow Transfer Co Ltd v Royal Bank of Canada (1972) 27 DLR (3rd) 81 (forgery); Koster's Premier Pottery Ltd v Bank of Adelaide (1981) 28 SASR 355) (forgery); Smith v Lloyd's Bank TSB plc [2000] EWCA Civ 240; [2001] 1 All ER 424 (conversion).
[29] At that time in Australia non-banks could not directly offer customers cheque accounts. To circumvent this building societies would draw the cheques on their banks at the instigation of their customers after receiving the cash from their customers. The practice was a little like buying a bank cheque or draft, except, of course, the cheques drawn by the building society were not bank cheques or drafts.
[30] n 28 at 207.
[32] [1991] 1 Lloyd's Rep 596.
[33] [2000] SASC 57; (2000) 155 FLR 267.
[34] Ibid 271 para 20.
[35] Ibid 272 para 26.
[36] (1988) 18 NSWLR 420 at 432.
[37] [1989] VicRp 57; [1989] VR 617.
[38] [1990] VicRp 4; [1990] VR 41.
[40] Ibid para 16.
[41] M Hapgood, Paget's Law of Banking, 11th ed, 1996, 250.
[42] (1899) 1 Legal Decisions Affecting Bankers 286.
[43] In the Tate case Ibid the court seemed to decide that the collecting bank really did not just collect the cheque as agent for the rogue; rather, having decided that the cheque was going to be paid by the paying bank it allowed him to draw against the proceeds. The court seems to have come close to saying that the collecting bank was a holder for value rather than just an agent for collection for its principal, the rogue. Further, it seemed to say that even if the collecting bank were merely acting as agents, the case of Holland v Russell (1 Best and Smith) holds that where an agent receives monies and hands them over to his principal ignorant of the defrauded person's intention to rescind, the defrauded person is not entitled to recover the money from the agent.
[44] n 39 para 18.
[45] (1878) 3 App Cas 459 at 466.
[46] n 39 para 18.
[47] n 39 para 37.
[48] n 41, 251.
[49] [1947] WALawRp 8; (1947) 50 WALR 14.
[50] Ibid 21.
[51] Ibid.
[52] The defendant also argued, inter alia, that the contract between the plaintiff and Johnson was illegal as prohibited by section 4 of the Builders’ Registration Act, 1939-1944, and accordingly the money was irrecoverable but the court held that as the plaintiff and the rogue were not in pari delicitio the breach of section 4 of the Builders’ Registration Act did not bar the plaintiff’s action.
[53] In Great Western Railway Co v London and County Banking Co Ltd [1901] AC 414 Lord Lindley said in regard to a cheque crossed and marked 'Not negotiable' that a rogue who had no title to cheque was not because of the crossing capable of giving a better title than he had.
[54] Section 3 of the Cheques Act 1986 (Cth) defines provides that 'issue', in relation to a cheque, means the first delivery of the cheque to a person who takes the cheque as holder.
[55] Section 26 of the Cheques Act 1986 (Cth) provides that the delivery of a cheque is not effective to complete a contract arising out of the drawing or an indorsement of the cheque unless the delivery is made by the drawer or indorser, as the case may be, in order to give effect to the drawing or indorsement, as the case may be.
[56] Section 40(3) of the Cheques Act 1986 (Cth) provides that a cheque payable to bearer is transferred by negotiation if it is delivered by the holder to another person (whether or not the cheque is indorsed by the holder).
[57] Section 50 of the Cheques Act 1986 (Cth) provides that the holder of a cheque is a holder in due course if the cheque is negotiated to the holder and is not crossed and marked 'not negotiable' and if the holder takes it in good faith and for value and without any notice of a defect in title.
[59] Waller J, for example, in the Midland case said 'title to the banker's draft was (as I see it) transferred directly from Citybank or Midland to Brown Shipley’: [1991] 1 Lloyd's Rep 576 at 585.
[60] Crawford & Falconbridge Banking & Bills of Exchange (8th ed, 1986) Vol 2, 1477.
[62] §3-302, section 2.
[63] Example 1 A defrauds the maker into signing an instrument payable to P. P pays A for it in good faith and without notice, and the maker delivers the instrument directly to P. Author's comment: this example does not exactly fit the classic finance company fraud for two reasons: first, the finance company (the maker/drawer) cheque is usually not delivered directly to the payee (P) directly; second, the payee, does not usually provide consideration to A, the rogue. In the classic finance company fraud the consideration for the bank cheque is because of the fraud to be provided by the payee to the finance company, namely the purported sale of the goods. But this can be viewed as good consideration because of s 37 Cheques Act 1986 (Cth). Example 2: D draws a check payable to P and gives it to his agent to be delivered to P in payment of D's debt. The agent delivers it to P, who takes it in good faith and without notice in payment of the agent's debt to P. Example 3: D draws a check payable to P but blank as to the amount, and gives it to his agent to be delivered to P. The agent fills in the check with an excessive amount, and P takes it for value, in good faith and without notice. Example 4: D draws a check payable blank as to the name of the payee, and gives it to his agent to be filled in with the name of A and delivered to A. The agent fills in the name of P, and P takes it for value, in good faith and without notice. Author's comments: examples 3 & 4 are just examples of inchoate examples where the instruments have been filled in fraudulently; but, if the payee in the USA innocently receives them for value, the payee has a good title.
[64] Papandony n 39.
[65] Hunter BNZ Finance Ltd n 36.
[66] Car and Universal Finance Co Ltd v Caldwell [1965] 1 QB 131.
[67] Associated Midland Corporation Ltd v Bank of New South Wales [1983] 1 NSWLR 533.
[68] Ingram v Little [1960] EWCA Civ 1; [1961] 1 QB 31.
[69] Phillips v Brooks Ltd [1919] 2 KB 243.
[70] [1971] EWCA Civ 4; [1972] 1 QB 198 at 207.
[71] Channon v English, Scottish and Australian Bank [1918] NSWStRp 16; (1918) 18 SR (NSW) 30.
[72] Associated Midland Corporation Ltd v Bank of New South Wales n 67.
[73] Tate v Wilts and Dorset Bank (1899) 1 Legal Decisions Afecting Bankers 286.
[74] R Posner, Economic Analysis of Law (4th ed, 1992) 13.
[75] K Avram and R Edwards on the 'Irrationality of the Plastic Card Consumer’ (Paper presented to the Australian Institute of Bankers Conference 1993).
[76] Australian Guarantee Corp Ltd v Commissioners of the State Bank of Victoria [1989] VicRp 57; [1989] VR 617; W S Weerasooria 'Collection of third party cheques and the Defence of Contributory Negligence' (1996) 3 Cambridge Law Review 151.
[77] n 70 at 207 (emphasis added)
[78] The Banking Services: Law and Practice Report by the Review Committee, (1989) (Chairman Professor Jack) was not in favour of giving legislative recognition to the words 'Account Payee only' since it recommended the creation of a new non-transferable instrument. The option of a new non-transferable instrument was never taken up by the United Kingdom Government since it was opposed by the banking community which viewed the idea of a ‘account payee only’ on a non-transferable basis as being the lesser of two evils. The United Kingdom Cheques Act 1992 was accordingly amended by the insertion of the following:
When a cheque is crossed and bears across its face the words 'account payee' or 'A/C payee', either with or without the words 'only', the cheque shall not be transferable but shall only be valid as between the partners thereto.
Therefore if a bank collects such a cheque for someone other than the payee it will not be able to establish that it has not been negligent under the United Kingdom equivalent of the 95 of the Cheque Act 1986; accordingly, the collection bank will be liable for conversion.
[79] [1965] 65 SR (NSW) 102 at 106.
[80] The Australian Banking Industry Ombudsman is obliged to observe the relevant law, general principles of good banking practice and any relevant code of practice: para 1.3 Terms of reference. In addition, the Ombudsman when making an award or determination must make one that is fair in all the circumstances. The applicant is not bound by the ABIO's decision and can subsequently litigate. However, if the complainant accepts the decision the bank is bound by it.
Strictly speaking there is no appeal from the decision of the Australian Banking Industry Ombudsman. However, if the customer has not accepted the recommendation or award he or she is free to pursue remedies at law through the court system: paragraph 1.6 Terms of Reference. However, if the customer accepts the conditions of the award it becomes binding on the bank: paragraph 1.6 Terms of Reference.
[81] Australian Banking Industry Ombudsman Terms of Reference paragraph 2.1
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