Article by Richard F. Dole, Jr.
Most Western-oriented, developed countries have high-speed, large-value, and low-cost interbank systems that are utilized by businesses to transfer funds. Because of the size of these transfers and the routine use of electronic transmission, they are commonly referred to as “wholesale wire transfers.” The economic significance of wholesale wire transfers is illustrated by the fact that, in 1992, the aggregate payments upon the two American interbank systems—the New York City Clearing House Interbank Payments System (CHIPS) and the Federal Reserve Wire Transfer Network (FEDWIRE)—averaged in excess of $1.7 trillion per day. In view of the large dollars involved, both fraud and error in wholesale wire transfers pose serious problems. While fraud involves deliberate human misconduct, unintentional error can occur from software or hardware malfunction, as well as from human inadvertence. Fraud results in a loss of funds more frequently than error, but the insolvency of an erroneous recipient or a recipient's capitalization upon an opportunity for fraud that has been created by error can also result in a loss of funds. Furthermore, substantial litigation may be required to recover funds that have been transferred in error.
This Article explores the treatment of error in wholesale funds transfers by Article 4A of the Uniform Commercial Code (Article 4A) and by the Model Law on International Credit Transfers (Model Law) proposed by the United Nations Commission on International Trade Law (UNCITRAL), the first statutes to systematically address error in funds transfers. The Article focuses on the allocation of risk of loss caused by ambiguous terms in payment orders that do not express the subjective intention of the senders. It is important to note that the underlying reasons for the sender's subjective intention, including any mistakes of fact or judgment involved, ordinarily are not material to allocation of this risk of loss.
For purposes of this Article, error consists of the unintended inclusion or omission of terms in an authorized payment order. With the exception of unintended multiple transmissions of the same payment order, an operational mistake resulting in an authorized electronic transmission of a payment order that should not have been transmitted is not discussed. Transmission of unintended terms and unintended multiple transmissions are errors that can be made by any sender of a payment order in a funds transfer. The originator is merely the first sender to have an opportunity to commit these errors.
A sender and a receiving bank theoretically are free to establish a procedure to detect errors in the payment orders transmitted between them. However, Article 4A and the Model Law appear to provide receiving banks with little incentive to do so by indicating that senders bear the risk of their own errors. Furthermore, both statutes emphasize that receiving bank liability can arise from failure to comply with an agreed procedure to detect errors.
Holding senders responsible for their own errors accommodates the automated processing of payment orders. Automatically processed orders usually are not visually inspected by receiving banks prior to settlement, and it would compromise the benefits of automation to require inspection in order to avoid liability. But, receiving banks could be held liable for negligent disregard of apparent errors in manually processed orders, and an agreed procedure to detect errors could provide protection from this liability.
The involvement of CHIPS or FEDWIRE in a funds transfer lessens the need for an agreed procedure to detect errors. Both CHIPS and FEDWIRE have safeguards against the introduction of errors by the system. For example, an originating CHIPS location is required to append a cryptographic algorithm to a payment message that enables a receiving CHIPS location to determine whether a message received for automatic processing has been altered. FEDWIRE, on the other hand, permits an originating bank to retrieve a copy of an order that has been received from FEDWIRE by a receiving bank. The banks that can derive significant benefit from an agreed procedure to detect errors are originator's banks that regularly deal with originators on a nonautomated basis and commercial banks that regularly make nonautomated funds transfers for other commercial banks. These nonautomated communications in funds transfers can occur both before and after an intermediate use of either CHIPS or FEDWIRE.
About the Author
Richard F. Dole, Jr. B.W. Young Professor, University of Houston Law Center. B.A., Bates College 1954; LL.B. 1961, LL.M. 1963, Cornell Law School; S.J.D., University of Michigan Law School 1966.
Citation
69 Tul. L. Rev. 877 (1995)