The U.S. District Court for the District of Massachusetts in a recent ruling dismissed a lawsuit brought against two banks by a third party that was not a customer of either bank for allegedly failing to detect fraudulent transfers from fiduciary accounts established at the banks to hold funds on behalf of the third party. The March 5 decision came in a case brought by a law firm whose payroll company had stolen more than $500,000 from accounts the company established at the banks. The law firm claimed that the banks knew the accounts were maintained by the payroll company in its fiduciary capacity, should have monitored account activity, and should have noticed a suspicious pattern of debits and credits and discovered that the company was misappropriating funds from the accounts. Courts have generally held that banks have no duty to monitor fiduciary accounts and may presume that fiduciaries will apply funds from such accounts appropriately. But a 2006 decision by the 2nd U.S. Circuit Court of Appeals created an exception under which a bank may be liable in a case where the bank has “notice or knowledge” of a fiduciary’s misappropriation of funds. Under the exception, a bank may be held liable for knowingly failing to report stolen funds from a fiduciary account when the underlying facts support the “sole inference” that misappropriation was intended. The U.S. District Court held that the exception established by the 2006 case did not apply because the banks were not aware of suspicious circumstances giving rise to a “sole inference” of misappropriation, and also that the banks did not owe a duty of care to the law firm.
Nutter Notes: The U.S. District Court held that the law firm’s case was distinguishable from the 2006 case based on the facts, which narrows any application of the exception to permit non-customers of a bank to sue the bank for negligence. In the 2006 case, a bank discovered that a fiduciary was embezzling funds from a fiduciary account after documenting frequent account overdrafts. Instead of reporting the misappropriation, the bank assisted the fiduciary in concealing the overdrafts. In the present case, the law firm did not claim that the payroll company overdrew its accounts or that the banks intentionally concealed the misappropriation. Instead, the firm alleged that the banks failed to adequately monitor the payroll company’s account activities after one of the banks noticed account irregularities which it communicated to the company. The other bank temporarily froze the company’s accounts in response to a search warrant issued by state police and after a bank branch manager allegedly became aware of pending lawsuits against the company. The U.S. District Court held that these events, in the aggregate, did not give rise to a “sole inference” of misappropriation.