Cooper v. Union Bank

• Decision Date: 20 March 1973
• Citation: 107 Cal.Rptr. 1,507 P.2d 609,9 Cal.3d 371
• Court: California Supreme Court
• Parties: , 507 P.2d 609, 12 UCC Rep.Serv. 209 Abraham COOPER et al., Plaintiffs and Appellants, v. UNION BANK et al., Defendants and Respondents. L.A. 30087. In Bank

Page 1

107 Cal.Rptr. 1

9 Cal.3d 371, 507 P.2d 609, 12 UCC Rep.Serv. 209

Abraham COOPER et al., Plaintiffs and Appellants, v. UNION BANK et al., Defendants and Respondents.

L.A. 30087.

Supreme Court of California,

In Bank.

March 20, 1973.

As Modified on Denial of Rehearing April 19, 1973.

Stell & Levine, and Arthur S. Levine, Los Angeles, for plaintiffs and appellants.

Ernest S. Gould, Robert F. Strange, Cosgrove, Cramer, Rindge & Barnum, and L. P. McElhaney, Los Angeles, for defendants and respondents.

MOSK, Justice.

We here consider the rights of the true owner of a negotiable instrument which has been collected and paid on a forged indorsement. The question has not previously arisen in this state under the Uniform Commercial Code, and has seldom been addressed in other jurisdictions. ¹

The record recounts a typical tale of forgery. Plaintiff Joseph Stell, an attorney, employed one Bernice Ruff as a secretary and bookkeeper. During a period of approximately a year and one-half Ruff purloined some 29 checks intended for Stell and forged the necessary indorsements thereon. ² She cashed some of these checks at defendants Union Bank and Crocker Citizens National Bank and deposited the remainder (except one that was cashed elsewhere) to her personal account at the latter bank. The entire amount of such deposits was subsequently withdrawn by Ruff prior to discovery of the forgeries. Certain of the checks were forwarded to and paid by defendants Crocker Citizens National Bank, Security First National Bank, and First Western Bank and Trust Company; the remainder were drawn on payors who are not parties to this action.

Stell and his partners bring this action in conversion against both the collecting and the payor banks to recover the amounts of the instruments handled by them on the forged indorsements. The critical California Commercial Code provision ³ is section 3419 which establishes that '(1) An instrument is converted when . . . (c) It is paid on a forged indorsement.' Notwithstanding this language, the superior court denied recovery on the basis of section 3419, subdivision 3, which provides: '(3) Subject to the provisions of this code concerning restrictive indorsements a representative, including a depositary or collecting bank, who has in good faith and in accordance with reasonable commercial standards applicable to the business of such representative dealt with an instrument or its proceeds on behalf of one who was not the true owner is not liable in conversion or otherwise to the true owner beyond the amount of any proceeds remaining in his hands.'

The court concluded that all defendants in the case, including payor as well as collecting banks, qualified as representatives, had acted in good faith and in accordance with reasonable commercial standards, and had no proceeds remaining in their hands. Thus defendants were held immune from liability. The court also found that plaintiffs had been negligent in failing to discover Ruff's defalcations by April 1, 1966, approximately six months following their commencement, and that such negligence substantially contributed to the making of the subsequent forged indorsements. On this additional basis it held plaintiffs were 'precluded from asserting such forgeries or lack of authorized signatures against any of the respective Defendants herein on checks presented after April 1, 1966.'

We hold that the trial court relied on an erroneous interpretation of section 3419 and that therefore the judgment must be reversed in part. Inasmuch as collecting banks and payor banks raise distinctive issues under section 3419, the application of this section to the two categories of banks will be discussed separately.

Collecting Banks

It is clear, excluding for the moment the issue of plaintiff's negligence, that defendant collecting banks are liable for conversion unless they can establish a defense under section 3419, subdivision (3). A careful study of this provision, however, reveals no possible defense in this case after it becomes evident that the court below erroneously held defendant collecting banks had parted with the proceeds of the fraudulently indorsed instruments. The code, unfortunately, fails to define the word 'proceeds' in the context of bank collection. Therefore, to fully comprehend the code section we must examine the concept of proceeds as it was understood prior to enactment of the code and to general theory of bank collection found elsewhere in the code and in other parts of the law. ⁴

Whether defendant depositary banks have any proceeds of the fraudulently indorsed checks remaining in their hands is resolved through a bifurcated inquiry: first, did they receive any proceeds and second, have they parted with any proceeds they may have received? Each of these queries is more complex than superficially appears. A collecting bank obviously does not receive any proceeds of an instrument unless such proceeds are forwarded to it from a payor bank. Under the dominant theory of bank collection that preexisted the code and which the code has left unchanged, however, the amounts a payor bank remits on a forged indorsement are not considered the proceeds of the instrument. The explanation for this result lies in the relationship between a payor bank and its customer, the depositor-drawer. The relationship is one of debtor and creditor: the bank is indebted to the customer and promises to debit his account only at his direction. If the bank pays, on an instrument drawn by its customer, any person other than the designated payee or a person to whom the instrument is negotiated, the bank's indebtedness to the customer is not diminished. If the bank does debit the customer's account, the customer can compel the bank to recredit the sum. Inasmuch as the full amount of the instrument remains in the account of the drawer when the bank pays on a forged indorsement, the bank manifestly does not part with the proceeds of the instrument but merely remits other funds from its own account. ⁵

General bank collection theory also instructs us that the true owner, in bringing an action against a collecting bank for conversion of a check collected on a forged indorsement, is deemed to have ratified the collection of the proceeds from the payor bank. This ratification transmutes the remittance of funds by the payor bank into an authorized act for which it may debit its customer's account. ⁶ In the case at bar, it appears that plaintiffs' action against defendant collecting banks constitutes such a ratification, and these banks, therefore, must be considered to have received the proceeds of the instruments.

Ratification of collection, however, does not constitute a ratification of the collecting banks' delivery of the proceeds to the wrong person. The dominant precode law established, on the contrary, that the proceeds were held, after collection by the collecting bank, for the benefit of the true owner. ⁷ Again resorting to general banking theory, we find that the amounts a collecting bank remits to a person who transfers to the bank a check bearing a forged indorsement do not constitute the proceeds of the instrument. This result is quite clear in the case of an instrument cashed over the counter. At the time the bank takes such an instrument it has obviously not made any prior collection and, thus, has nothing that could be considered proceeds. The money paid over the counter is, consequently, the bank's own money. Upon collection of the instrument, the proceeds become merged with the bank's general funds and are therefore retained by the bank. (See Advanced ALI--ABA Course of Study on Banking and Secured Transactions under the Uniform Commercial Code (ALI 1968) supra, p. 56.)

A bank that accepts an instrument for deposit likewise ultimately retains the proceeds of that instrument. Such a bank is initially considered to be an agent of the person who delivers the instrument to it for collection. When, however, the bank receives a final settlement for an item it has forwarded for collection, the agency status typically ends, and the bank becomes a mere debtor of its customer. As a mere debtor, it becomes entitled to use the proceeds as tis own. ⁸

The foregoing view was expressed by Justice Cardozo for the United States Supreme Court in the following terms: 'Whether a fiduciary relation continues even afterwards (when the collecting bank has completed the business of collection) upon the theory that the proceeds of the collection until remitted to the forwarder are subject to a trust, depends upon the circumstances. In the absence of tokens of a contrary intention, the better doctrine is, where the common law prevails, that the agency of the collecting bank is brought to an end by the collection of the paper, the bank, from then on being in the position of a debtor, with the liberty, like debtors generally, to use the proceeds as its own.' (Jennings v. United States Fidelity & Guaranty Co. (1935), 294 U.S. 216, 219, 55 S.Ct. 394, 395, 79 L.Ed. 869.) ⁹

It is significant that the Commercial Code does not make a collecting bank accountable to its customer for the Proceeds of an instrument but only for 'the Amount of the item.' (§ 4213, subd. (3); italics added.) Justice Cardozo's conception of the post-collection status of collecting banks is clearly preserved: '(I)f a collecting bank receives a 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.' (§ 4213, U....