SECTION
229.53—Substitute-Check Indemnity
A. 229.53(a) Scope of Indemnity 1. Each
bank that for consideration transfers, presents, or returns a substitute
check or a paper or electronic representation of a substitute check
is responsible for providing the substitute-check indemnity.
2. The indemnity covers losses due
to any subsequent recipient’s receipt of the substitute check instead
of the original check. The indemnity therefore covers the loss caused
by receipt of the substitute check as well as the loss that a bank
incurs because it pays an indemnity to another person. A bank that
pays an indemnity would in turn have an indemnity claim regardless
of whether it received the substitute check or a paper or electronic
representation of the substitute check. The indemnity would not apply
to a person that handled only the original check or a paper or electronic
image of the original check that was not derived from a substitute
check.
3. A reconverting bank also provides the substitute check
indemnity to a person to whom the bank transfers a substitute check
(or a paper or electronic representation of a substitute check) derived
from a check that the bank has rejected for deposit regardless of
whether the bank providing the indemnity has received consideration.
Examples
a. A paying bank
makes payment based on a substitute check that was derived from a
fraudulent original cashier’s check. The amount and other characteristics
of the original cashier’s check are such that, had the original check
been presented instead, the paying bank would have inspected the original
check for security features. The paying bank’s fraud-detection procedures
were designed to detect the fraud in question and allow the bank to
return the fraudulent check in a timely manner. However, the security
features that the bank would have inspected were security features
that did not survive the imaging process (see the commentary
to section 229.51(a)). Under these circumstances, the paying bank
could assert an indemnity claim against the bank that presented the
substitute check.
b. By contrast with the previous examples, the indemnity
would not apply if the characteristics of the presented substitute
check were such that the bank’s security policies and procedures would
not have detected the fraud even if the original had been presented.
For example, if the check was under the threshold amount at which
the bank subjects an item to its fraud-detection procedures, the bank
would not have inspected the item for security features regardless
of the form of the item and accordingly would have suffered a loss
even if it had received the original check.
c. A paying bank makes an erroneous payment based on an
electronic representation of a substitute check because the electronic
cash letter accompanying the electronic item included the wrong amount
to be charged. The paying bank would not have an indemnity claim associated
with that payment because its loss did not result from receipt of
an actual substitute check instead of the original check. However,
the paying bank could protect itself from such losses through its
agreement with the bank that sent the check to it electronically and
may have rights under other law.
d. A drawer has agreed with its bank that the drawer will
not receive paid checks with periodic account statements. The drawer
requested a copy of a paid check in order to prove payment and received
a photocopy of a substitute check. The photocopy that the bank provided
in response to this request was illegible, such that the drawer could
not prove payment. Any loss that the drawer suffered as a result of
receiving the blurry check image would not trigger an indemnity claim
because the loss was not caused by the receipt of a substitute check.
The drawer may, however, still have a warranty claim if he received
a copy of a substitute check, and may also have rights under the UCC.
9-575.2
1. If a recipient of a substitute check is making an
indemnity claim because a bank has breached one of the substitute-check
warranties, the recipient can recover any losses proximately caused by
that warranty breach.
Examples
a. A drawer discovers that its account has been charged
for two different substitute checks that were provided to the drawer
and that were associated with the same original check. As a result
of this duplicative charge, the paying bank dishonored several subsequently
presented checks that it otherwise would have paid and charged the
drawer returned-check fees. The payees of the returned checks also
charged the drawer returned-check fees. The drawer would have a warranty
claim against any of the warranting banks, including its bank, for
breach of the warranty described in section 229.52(a)(1)(ii). The
drawer also could assert an indemnity claim. Because there is only
one original check for any payment transaction, if the collecting
bank and presenting bank had collected the original check instead
of using a substitute check the bank would have been asked to make
only one payment. The drawer could assert its warranty and indemnity
claims against the paying bank, because that is the bank with which
the drawer has a customer relationship and the drawer has received
an indemnity from that bank. The drawer could recover from the indemnifying
bank the amount of the erroneous charge, as well as the amount of
the returned-check fees charged by both the paying bank and the payees
of the returned checks. If the drawer’s account were an interest-bearing
account, the drawer also could recover any interest lost on the erroneously
debited amount and the erroneous returned-check fees. The drawer also
could recover its expenditures for representation in connection with
the claim. Finally, the drawer could recover any other losses that
were proximately caused by the warranty breach.
b. In the example above, the paying bank that
received the duplicate substitute checks also would have a warranty
claim against the previous transferor(s) of those substitute checks
and could seek an indemnity from that bank (or either of those banks).
The indemnifying bank would be responsible for compensating the paying
bank for all the losses proximately caused by the warranty breach,
including representation expenses and other costs incurred by the
paying bank in settling the drawer’s claim.
2. If the recipient of the substitute check does not have
a substitute-check warranty claim with respect to the substitute check,
the amount of the loss the recipient may recover under section 229.53
is limited to the amount of the substitute check, plus interest and
expenses. However, the indemnified person might be entitled to additional
damages under some other provision of law.
Examples
a. A drawer received a substitute
check that met all the legal-equivalence requirements and for which
the drawer was only charged once, but the drawer believed that the
underlying original check was a forgery. If the drawer suffered a
loss because it could not prove the forgery based on the substitute
check, for example because proving the forgery required analysis of
pen pressure that could be determined only from the original check,
the drawer would have an indemnity claim. However, the drawer would
not have a substitute-check warranty claim because the substitute
check was the legal equivalent of the original check and no person
was asked to pay the substitute check more than once. In that case,
the amount of the drawer’s indemnity under section 229.53 would be
limited to the amount of the substitute check, plus interest and expenses.
However, the drawer could attempt to recover additional losses, if
any, under other law.
b. As described more fully in the commentary to section
229.53(a) regarding the scope of the indemnity, a paying bank could
have an indemnity claim if it paid a legally equivalent substitute
check that was created from a fraudulent cashier’s check that the
paying bank’s fraud-detection procedures would have caught and that
the bank would have returned by its midnight deadline had it received
the original check. However, if the substitute check was not subject
to a warranty claim (because it met the legal-equivalence requirements
and there was only one payment request) the paying bank’s indemnity
would be limited to the amount of the substitute check plus interest
and expenses.
3. The amount of an indemnity would be reduced in proportion
to the amount of any loss attributable to the indemnified person’s
negligence or bad faith. This comparative-negligence standard is intended
to allocate liability in the same manner as the comparative-negligence
provision of section 229.38(c).
4. An indemnifying bank may limit the losses for which
it is responsible under section 229.53 by producing the original check
or a sufficient copy. However, production of the original check or
a sufficient copy does not absolve the indemnifying bank from liability
claims relating to a warranty the bank has provided under section
229.52 or any other law, including but not limited to subpart C of
this part or the UCC.
9-575.3
1. A bank that pays an
indemnity claim is subrogated to the rights of the person it indemnified,
to the extent of the indemnity it provided, so that it may attempt
to recover that amount from another person based on an indemnity,
warranty, or other claim. The person that the bank indemnified must
comply with reasonable requests from the indemnifying bank for assistance
with respect to the subrogated claim.
Example
A paying bank indemnifies a drawer for a substitute
check that the drawer alleged was a forgery that would have been detected
had the original check instead been presented. The bank that provided
the indemnity could pursue its own indemnity claim against the bank
that presented the substitute check, could attempt to recover from
the forger, or could pursue any claim that it might have under other
law. The bank also could request from the drawer any information that
the drawer might possess regarding the possible identity of the forger.
