HONG KONG COURT OF FINAL APPEAL CLARIFIES A BANK'S LIABILITY FOR TRANSFERRING CUSTOMER FUNDS IN BREACH OF ITS QUINCECARE DUTY OF CARE BEFORE UNAUTHORISED CLOSURE OF THE ACCOUNT

In PT Asuransi Tugu Pratama Indonesia TBK (formerly known as PT Tugu Pratama Indonesia) v Citibank N.A. [2023] HKCFA 3, the Hong Kong Court of Final Appeal ("CFA") gave important guidance on a bank's liability in the event it transfers funds out of a customer's account without authority and the account is subsequently closed.

The CFA considered whether the bank's liability would lie in an action for damages or in debt, which in turn determines whether it could rely on the defence of contributory negligence and at which point would such an action become time-barred.

BACKGROUND

In 1990, three officers of the appellant ("Tugu") had opened an account (the "Account") with the Hong Kong branch of the respondent bank (the "Bank"). The banking mandate authorised any two of the three officers who opened the Account to operate it. From June 1994 to July 1998, funds received by the Account were paid out to four individual Tugu officers in 26 transfers totalling US$51.64 million. Each transfer was instructed by two of the Tugu officers authorised to operate the Account. After all funds in the Account were paid out, the Bank took steps to close the Account on 30 July 1998 on the instructions of the two Tugu officers given on 16 July 1998.

Tugu wrote to the Bank On 6 October 2006, alleging that all 26 of the transfers were dishonestly authorised and demanded payment of the sums transferred out of the Account in full.

Subsequently, Tugu commenced proceedings on 2 February 2007, claiming, inter alia:

1. The disputed debit entries resulting from the Tugu officers' instructions to pay out funds and to close the Account, which were all unauthorised, were of no effect, such that the Account remained in existence and fell to be reconstituted by reversing the disputed debit entries.
2. Further or alternatively, damages for breach of its Quinecare duty of care owed by the Bank either in contract or in tort not to carry out payment instructions in circumstances where the Bank knew of facts which would lead a reasonable and honest banker to consider that "there was a serious or real possibility that… [Tugu] might be being defrauded… by the giving of that payment instruction."

The Court of First Instance (the "CFI") held the transfers were fraudulent and that a reasonable and prudent banker would have been put on inquiry by the time the two Tugu officers instructed the third transaction. The Bank breached its Quincecare duty of care on the basis that it did not make any inquiries. However, the Judge held the instruction to close the Account was given with authority, such that the banking relationship terminated on 30 July 1998. It followed that Tugu's claims commenced in 2007 were out of time under the Limitation Ordnance (Cap. 347), being more than six years from the termination of the contractual relationship with the Bank.

Tugu's appeal against the first instance decision was dismissed by the Court of Appeal ("CA") and the CA's conclusions largely mirrored those of the CFI's. The CA upheld the CFI's finding that the Bank had been put on inquiry and found that necessary inquiries were not made. In the CA's view, the Bank should have contacted directors independent of the operators and beneficiaries of the fraud.

On closure of the Account, unlike the CFI, the CA held that was unauthorised and repudiatory, but it was nevertheless effective to bring the relationship of banker and customer to an end. A cause of action in debt arises when a customer demands for payment by the bank of the balance in its account; however, the necessity for a demand would be waived if the relationship of banker and customer is terminated by the bank's repudiation, (i.e. a balance on a bank account is payable by the bank on the termination of the banking relationship with or without a demand). Alternatively, a cause of action may arise in tort for breach of a bank's duty of care independently of any demand. The CA held that the unauthorised closure of the Account and the repudiation by the Bank operated as a waiver of the need for a demand; it was irrelevant that the repudiation was not accepted by the customer. Therefore, Tugu's cause of action for the wrongful payments by the Bank accrued in 1998 and these claims were time-barred by 2007.

While the issue did not arise due to Tugu's claims having been brought out of time, both the CFI and the CA held that the Bank would have been entitled to rely on the defence of contributory negligence.

Tugu subsequently obtained leave to appeal to the CFA. Taking into account the broad context, Lord Sumption NPJ, who gave the leading judgment on behalf of the CFA, rephrased the issue in appeal as follows: "Does a cause of action for sums debited without authority to the account arise upon the closure of the account, without the need for demand?"

THE CFA DECISION

In short, the CFA's view was that the closure of the Account did not discharge the debt represented by the reconstituted balance, and for as long as that debt remained outstanding the relationship of banker and customer subsisted. This means that the running of time for limitation purposes may be indefinitely deferred by the customer, and that an account may be dormant without activity for many years without affecting the customer's right eventually to demand the balance.

Lord Sumption NPJ highlighted the two juridical sources for a bank's duty in making payments out of its customer's account. First, the bank has a duty to make payments only with the authority of the customer. Second, the bank acts as the customer's agent. This means a bank owes all the ordinary duties to be expected from an agent, including to the duty to exercise reasonable skill and care when performing its obligations. The standard of duty is the same under either head, because the duty of care is a duty in the performance of the mandate.

In the CFA's view, the instructions to close the Account was "a pure question of authority", to which the Tugu officers had none. This has serious implications on the nature of the financial remedy available to Tugu.

If the Bank had debited funds from the Account without authority, this would be considered as a nullity which Tugu could ignore. Any award for damages would be nominal as Tugu could not be said to have suffered any losses. Given so, Tugu's only effective financial remedy lies in an action in debt.

Considering the Account was closed without authority and a bank is never allowed to ignore its liabilities for debts owed to customers without repaying, the banking relationship between Tugu and the Bank continued to subsist. Accordingly, Tugu could seek payment of a debt corresponding to the reconstituted balance of the Account on demand. Under the circumstances, there is no question of Tugu's action being time-barred.

The CFA also confirmed that the Bank could not rely on the defence of contributory negligence, having established that Tugu was entitled to succeed in its action in debt and was not advancing a claim for damages for breach of the Bank's duty of care in the making of payments to third parties. Also, a claim in debt, as in Tugu's case, was not a claim in respect of "damage" or for relief on account of the Bank's "fault" in failing to make the relevant inquiries, such that section 21(1) and 21(10) of the Law Amendment and Reform (Consolidation) Ordinance (Cap. 23) – which provides a statutory basis for a contributory negligence defence – had no application.

COMMENTARY

This decision unequivocally affirms that Hong Kong courts will not draw distinctions between different instructions given by persons who do not have authority to operate a bank account.

Following the CFA's ruling, banks should be conscious that even if an account was closed after unauthorised transfers were made, they remain liable in debt to their customers to reconstitute the original balance on demand if the closure was made without authority. In such a case, the running of time could be deferred indefinitely unless and until the customer demands for payment from the bank.

For more information, please contact Gareth Thomas, Partner, Jojo Fan, Partner, Rachael Shek, Partner, Timothy Shaw, Senior Associate, or your usual Herbert Smith Freehills contact.