Von Gohren v. Pacific Nat. Bank of Wash., 630--II

Decision Date16 January 1973
Docket NumberNo. 630--II,630--II
Citation8 Wn.App. 245,505 P.2d 467
Parties, 12 UCC Rep.Serv. 133 E. L. VON GOHREN, d/b/a Fencing and Awning Company, Respondent, v. PACIFIC NATIONAL BANK OF WASHINGTON, a national banking association, Appellant.
CourtWashington Court of Appeals

Warren J. Daheim and William E. Holt, of Gordon, Thomas, Honeywell, Malanca, Peterson, O'Hern & Johnson, Tacoma, for appellant.

Leo C. Kendrick, of Gavin, Robinson, Kendrick, Redman & Mays, Yakima, for respondent and cross-appellant.

PEARSON, Chief Judge.

This appeal requires a determination of the legal rights and responsibilities of two relatively innocent parties, both of whom were victimized by the criminal activities of a fiduciary.

Resolution of the issues requires an interpretation of certain provisions of Articles 1, 3, and 4 of the Uniform Commercial Code, RCW 62A.1--101 et seq. The facts are largely undisputed.

In the fall of 1967, plaintiff (respondent, E. L. Von Gohren, d/b/a Fencing and Awning Company) hired Ella Martin as the bookkeeper and general office assistant of his retail business. Plaintiff did not check her references prior to employing her, but was able to obtain a $10,000 fidelity bond, conditioned on her faithful performance. She was then placed in almost sole control of plaintiff's financial affairs. She was authorized to write and sign plaintiff's checks, post them, reconcile bank statements, and prepare profit and loss statements and balance sheets.

Plaintiff's business account was in the Bank of Yakima, where plaintiff signed an authorization which allowed Mrs. Martin to sign checks on behalf of plaintiff and to endorse checks in blank and deposit them in the Bank of Yakima. During the ensuing months, Mrs. Martin not only signed most of plaintiff's checks, including payroll checks, but she also reconciled the monthly bank statement. This fact made plaintiff particularly vulnerable to the criminal activity of Mrs. Martin, which culminated in this suit.

On November 10, 1967, Mrs. Martin deposited two checks in her personal account with defendant (appellant, Pacific National Bank of Washington). One check she had drawn on plaintiff's account, payable to herself. The second was a customer's check payable to 'Fencing and Awning' which she endorsed (referred to as a third party check). Both checks were honored, the former by the Bank of Yakima. Contrary to its own established procedures, and contrary to the custom of the banking industry, defendant made no effort to ascertain the authority of Mrs. Martin to deposit the third party check to her personal account. Likewise, no inquiry was made to ascertain her authority to draw checks on her employer's account, but the testimony supported the conclusion that such inquiry was not customarily made in a deposit situation.

During the next 14 months, Mrs. Martin engaged in similar conduct, usually depositing plaintiff's checks at the drive-in window of defendant's bank during the busiest days and hours of the week. She covered these transactions by removing the canceled checks payable to herself from the monthly bank statements. She also forged balances on the company books to cover her activities.

The embezzlements were not discovered by plaintiff until January or February, 1969, when cash shortages caused plaintiff to review his bank statements. The trial court noted, 'if he (plaintiff) had exercised his own internal controls and not blindly trusted this lady, he would have discovered sooner than he did what was happening to his business.'

After discovery of the losses, Mrs. Martin was imprisoned for a time, and later repaid plaintiff approximately $5,000. The bonding company has also paid plaintiff $10,000.

This action was brought by plaintiff against defendant, seeking recovery of the following:

(1) $20,846.68, representing checks which defendant had either cashed for Mrs. Martin or credited to her account over her unauthorized endorsement, and which were payable to plaintiff from various customers.

(2) $10,600.98, representing unauthorized checks which Mrs. Martin had drawn on plaintiff's account in the Bank of Yakima payable to herself.

(3) $545.61, representing monies Mrs. Martin had embezzled from plaintiff's petty cash fund.

(4) $15,146.09, representing the alleged costs incurred by plaintiff for accountants and lawyers in order to discover Mrs. Martin's wrongful acts.

(5) Six percent interest on the amount of each check negotiated by defendant from the time of its negotiation.

(6) $4,546.61 in costs incurred in effecting collection.

In general, plaintiff contended alternatively that defendant's negligence proximately caused the claims outlined above or the losses were occasioned by defendant's conversion of the sums involved.

Defendant answered by denying that the transactions were unauthorized or that defendant was guilty of negligence or of conversion of plaintiff's funds. Affirmatively, defendant pleaded contributory negligence, assumption of risk, estoppel, and that plaintiff was not the real party in interest in the action.

The case was tried to a jury. At the conclusion of plaintiff's case, the trial court sustained defendant's challenge to all of the claims except for item 1--representing checks payable to plaintiff which Mrs. Martin had negotiated to defendant by endorsement. This claim was submitted to the jury on the negligence theory, with the plaintiff's contributory negligence also submitted in substantial accord with RCW 62A.3--406. The jury found in plaintiff's favor in the sum of $21,338.19, to which the court allowed interest on each check from the date it was negotiated to the date of the verdict. Judgment was entered in plaintiff's favor in the total sum of $25,521.43.

Defendant appeals from that judgment and plaintiff cross-appeals from the judgment of dismissal of the other claims.

We consider initially defendant's appeal. Twelve of the sixteen assignments of error relate to a single question--did the trial court erroneously apply a negligence standard to defendant's conduct, rather than a standard of bad faith requiring actual knowledge by defendant of Mrs. Martin's breach of her fiduciary duty to plaintiff?

In support of its contention that a negligence standard was inapplicable, defendant claims that it was a holder in due course as to the checks which were endorsed by Mrs. Martin and deposited to her personal account, and consequently the instruments were taken by defendant free from all claims against them by any person. RCW 62A.3--302; RCW 62A.3--305.

It is apparent that if defendant does qualify as a holder in due course, plaintiff would be denied the claims and defenses otherwise available to his under RCW 62A.3--306. 1

That the defendant could be a holder in due course if the requirements of RCW 62A.3--302 were satisfied cannot be doubted. See 62A.4--208 and 62A.4--209. A holder in due course is a holder who takes an instrument '(a) for value and (b) in good faith; and (c) without notice . . . of any defense against or claim to it on the part of any person.' RCW 62A.3--302(1).

Assuming, without deciding, that defendant was a holder who gave value, 2 the question we must determine is whether it acted in Good faith and Without notice of plaintiff's claim. In making this analysis, we are assuming that defendant did not exercise reasonable care under commercially recognized standards in accepting the third party checks for deposit in Mrs. Martin's personal account, upon her endorsement (the jury finding). The precise issue, then, is whether the 'good faith' or 'without notice' requirements encompass a reasonable care standard. If they do not, then it was error to allow the jury to determine defendant's liability on that standard of care.

This question is one of first impression in Washington since adoption of the Uniform Commercial Code. In tracing the history of the code, it is apparent at the outset that the drafters intended to eliminate a reasonable care standard from the 'good faith' requirement.

'Good faith' is defined in RCW 62A.1--201(19) as 'honesty in fact in the conduct or transaction concerned.' Since there is no separate definition of good faith in Article 3, the Article 1 definition would, in our view, control. See RCW 62A.1--201(19). Prior to the adoption of the code, the authorities were split on the question of whether the test for good faith was a subjective one or involved some element of commercial reasonable behavior (the so-called objective standard). See Britton, Bills and Notes § 101 (2d Ed. 1961). The Negotiable Instruments Law, as adopted in Washington appears to have enunciated a subjective test (RCW 62.01.056) by requiring actual knowledge of an infirmity before a person was deemed to have taken an instrument in bad faith. The Supreme Court previously applied this test of good faith. Mott Iron Works v. Metropolitan Bank, 78 Wash. 294, 139 P. 36 (1914); Rice v. Peoples Savings Bank, 140 Wash. 20, 247 P. 1009 (1926); Cf. Bowles v. Billik, 27 Wash.2d 629, 178 P.2d 954 (1947).

The first draft of the Uniform Commercial Code released in 1949 and which was Not approved by the American Law Institute nor the National Conference of Commissioners on Uniform State Laws defined good faith in Section 1--201(16) as:

'Good faith' means honesty in fact in the conduct or transaction concerned. Good faith includes good faith toward all prior parties and observance by a person of the reasonable commercial standards of any business or trade in which he is engaged.

(Italics ours.) When the final draft was approved, the italicized sentence was deleted and only the first sentence was left.

This history makes it rather clear that a reasonable conduct standard was intentionally omitted from the good faith requirement. The resulting subjectivity of this test of good faith has received criticism from the scholars because of the difficulty in ascertaining the subjective honesty of the...

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