In 1169822 Ontario Ltd. v. Toronto-Dominion Bank 2018 ONSC 1631 Justice Dunphy of the Ontario Superior Court decided a case where investors in a failed Ponzi scheme sought recovery from the financial institution used by the fraudster to deposit funds.

The key takeaways from the case are:

  • it confirms that a financial institution can be liable where it has actual knowledge (willful blindness or recklessness will also suffice) that a customer is using the accounts at the bank to committed a fraud against third parties; and
  • constructive knowledge of the fraud was insufficient to establish a duty by the bank towards third parties.

The plaintiffs were are all victims of an admitted Ponzi scheme fraud orchestrated by Seaquest Corporation (“Seaquest”). Toronto-Dominion Bank (“TD”) provided Seaquest with ordinary small business banking services and a small line of credit. The plaintiffs claimed that TD ought to have detected and brought to a halt a Ponzi scheme. Had TD taken steps to close the accounts, the plaintiffs argued that the scheme could not have continued and at least some of the investor losses could have been avoided. The plaintiffs sought to recover damages from TD for negligence and knowingly assisting Seaquest in perpetrating a breach of trust.

Collectively, the plaintiffs invested over $30 million in Seaquest over five years, ending in 2011. When the fraud orchestrated by Seaquest was discovered, there was nothing left for creditors. They received no return on any investments when Seaquest collapsed.

The case turned on resolution of this issue: when does a bank owe a duty to protect third-party victims of a Ponzi scheme perpetrated by one of its customers? The plaintiffs alleged that TD had actual knowledge of the fraud or alternatively that it should be liable because it was aware of issues that should have led the bank to knowledge of the fraud.

Justice Dunphy, was not convinced that there were sufficient facts to have alerted the bank that Seaquest was committing a fraud and thus there was no liability arising from actual knowledge of the fraud. On the second issue, Justice Dunphy, was not prepared to find that a bank owes third parties a stand-alone duty of care to avoid economic loss arising from mere constructive knowledge of a potential fraud finding that the duty of care proposed by the plaintiffs failed the proximity analysis outlined by the Supreme Court most recently in Deloitte & Touche v. Livent Inc. (Receiver of), 2017 SCC 63 (“Livent“). In applying Livent, Justice Dunphy focussed on two essential factors for proximity: the defendant’s undertaking and the plaintiff’s foreseeable reliance. The nature of the bank’s services to Seaquest was not such that loss to third party investors as a result of fraud was reasonably foreseeable. There was no proximate relationship between the bank’s undertaken activities and the plaintiffs’ loss.

This case stands in contrast to the decision in DBDC Spadina Ltd. v. Walton, 2018 ONCA 60 where knowledge of the fraud was attributable to the Schedule C Companies through Ms. Walton, the controlling mind. In the Seaquest case, Justice Dunphy’s finding as to the absence of clear knowledge of the fraud on the bank’s part resulted in a different conclusion.

With thanks to articling student, Sarah Faber, for her assistance with this article.