On certification to the Superior Court, Appellate Division.
The Opinion of the Court was delivered by Garibaldi, J. Chief Justice Wilentz and Justices Handler, Pollock, O'Hern, and Stein join in this opinion. Justice Coleman did not participate.
The opinion of the court was delivered by: Garibaldi
(This syllabus is not part of the opinion of the Court. It has been prepared by the Office of the Clerk for the convenience of the reader. It has been neither reviewed nor approved by the Supreme Court. Please note that, in the interests of brevity, portions of any opinion may not have been summarized).
NEW JERSEY STEEL CORPORATION, ET AL. V. RUPERT WARBURTON, ET AL. (A-51-94)
Argued January 3, 1995 -- Decided April 12, 1995
GARIBALDI, J., writing for a unanimous Court.
This appeal addresses the allocation of loss for check fraud under certain provisions of Articles 3 and 4 of the Uniform Commercial Code (UCC), adopted in New Jersey as N.J.S.A. 12A:3-406 and 4-406.
In 1984, Rupert Warburton, owned and operated a computer consulting business called Mapics Unlimited (Mapics). Warburton was hired by New Jersey Steel Corporation (N.J. Steel) as an independent computer consultant and, as such, was given access to N.J. Steel's computerized financial and accounting systems. With that access, Warburton devised and implemented a scheme to defraud N.J. Steel. Warburton used blank N.J. Steel checks that he made out to fictitious payees whose names resembled the Mapics trade name, which was also the name on the depositing bank account. Warburton filled out an amount payable on each fraudulent check that was identical to the amount of a legitimate, previously issued check. He then forged the name of one or both of the authorized signatories for the N.J. Steel account at Midlantic National Bank (Midlantic). Warburton then endorsed the check with only the words "For deposit" or "For deposit only" followed by the Mapics account number at Midlantic. The name of the payee did not appear in the endorsement, no one signed the endorsement on behalf of the payee, and the checks were not endorsed for deposit into an account in the name of the payee. Because the Midlantic bank tellers failed to verify whether the account number in the endorsement belonged to the named payee on the check, each check was deposited into Mapics' account with the Midlantic. Thus, Midlantic was both the payor and depository bank for the fraudulent checks. To complete the scheme, Warburton removed each forged check from N. J. Steel's monthly bank statement and replaced it with the corresponding previously negotiated check.
From November 1989 to October 1990, Warburton completed this scheme fourteen times, thereby defrauding N.J. Steel in the amount of $571,931.90. N.J. Steel did not discover the loss until January 1991 and it immediately notified Midlantic. Although N.J. Steel received all monthly statements and cancelled checks in a timely manner, it failed to reconcile those statements or examine the cancelled checks for unauthorized signatures pursuant to the account reconciliation plan it had entered into with Midlantic. Under that agreement, N.J. Steel was to review each monthly statement and notify Midlantic of any unauthorized signatures or alterations within fourteen days of the receipt of the monthly statement. Midlantic had also put into place institutional policies governing its acceptance of customer deposits. One relevant policy provided that for deposits containing five or less checks, the teller has to read each endorsement to determine that it is correct and that by reading the endorsements, the teller is responsible for verifying endorsements on all checks deposited. In addition, any single check over $10,000 had to be initialed by two tellers. None of the forged checks, each over $10,000, bear any initials.
In January 1991, N.J. Steel sued Warburton, Midlantic and others seeking damages in connection with the forged checks. N.J. Steel alleged that Midlantic was liable under several alternate theories: strict liability for accepting and negotiating checks without properly authorized signatures; strict liability for accepting checks without proper endorsements; negligently accepting checks without properly authorized signatures; negligently accepting checks without endorsements of the named payees; and failure to act within generally accepted commercial practices in debiting N.J. Steel's account for checks having forged signatures and missing proper endorsements. In its answer, Midlantic asserted, among other things, that N.J. Steel's action was barred or diminished in whole or in part because its loss had been caused by its own contributory or comparative negligence. In February 1991, N.J. Steel obtained a Consent Judgment against all defendants but Midlantic. Subsequently, Hartford Insurance Company intervened as partial subrogee and/or assignee of N.J. Steel against each defendant, including Midlantic.
At the Conclusion of trial, the court found, among other things, that: the subject checks were not properly endorsed because the endorsements did not contain the name of the payee; the checks were endorsed for deposit into an account of one other than the named payee; Midlantic had failed to follow its own written policies and procedures concerning the inspection of checks for proper endorsement; Midlantic's failure to review properly the endorsements constituted a violation of the "ordinary procedures in the banking industry;" and Midlantic's acceptance of the checks without proper endorsements was a proximate cause of N.J. Steel's loss. The trial court held that since Midlantic failed to exercise ordinary care in paying the checks, it could not invoke N.J.S.A. 12A:4-406 as a defense. In determining damages, the court held that N.J. Steel's claim in respect of the first forged check was time-barred under N.J.S.A. 12A:4-406(4) and that the total amount of damages was $247,264.15. Finally, the court held that N.J. Steel was not entitled to recover prejudgment interest because of the equities of the situation, including N.J. Steel's failure to examine its monthly statements.
The Appellate Division affirmed substantially for the reasons stated by the trial court. The Supreme Court granted Midlantic's petition for certification.
HELD: Midlantic Bank failed to exercise ordinary care in paying the checks at issue and thus may not invoke N.J. Steel's negligence as a defense. Because Midlantic Bank is strictly liable for paying items that were not "properly payable," under both N.J.S.A. 12A:3-406 and 4-406, that liability removes any defense that Midlantic Bank might have against N.J. Steel. Therefore, Midlantic Bank bears the entire loss.
1. The provisions of N.J.S.A. 12A:4-406 are to be read in conjunction with one and other. N.J.S.A. 12A:4-406(1) establishes the customer's duty to discover and report unauthorized signatures and alterations. N.J.S.A. 12A:4-406(2) precludes the customer from making various assertions against the bank if the bank has established the customer's breach of the duty outlined in provision (1). And, under N.J.S.A. 12A:4-406(3), a bank may assert that preclusion only if it paid the check in "good faith" and the customer is unable to establish the bank's lack of ordinary care in paying the item. Thus, provisions (1) and (2) are inoperative if the customer can establish the bank has also been negligent. If both parties are negligent, the loss falls on the payor bank. (pp. 9-12)
2. Under N.J.S.A. 12A:3-406, a customer who by his own negligence substantially contributes to the loss is precluded from recovering against a payor bank that is required to pay the instrument in good faith and in accordance with reasonable commercial standards. The effectiveness of that preclusion is conditioned on the payor bank having acted pursuant to the reasonable commercial standards of the banking business and having exercised ordinary care. (pp. 12-14)
3. N.J. Steel's lack of reasonable care in examining its monthly bank statement does not matter because Midlantic failed to conform with reasonable banking standards as well as its own institutional standards and to exercise reasonable care. Midlantic's tellers did not properly review the endorsements and missed the irreconcilable differences in the endorsement account numbers. The bank's employees also missed the unauthorized signature on each check. Thus, Midlantic is also liable to N.J. Steel for failure to catch the forged maker signatures, under N.J.S.A. 12A:3-406 and 4-406. (pp. 14-19)
4. The trial court did not impose a general duty on all banks to inspect endorsements visually. Midlantic voluntarily assumed that duty in its written policies and procedures, which were breached by the bank's tellers. (pp. 19-23)
Judgment of the Appellate Division is AFFIRMED.
CHIEF JUSTICE WILENTZ and JUSTICES HANDLER, POLLOCK. O'HERN and STEIN join in JUSTICE GARIBALDI'S opinion. JUSTICE COLEMAN did not participate.
This appeal concerns the allocation of check-fraud losses under specific provisions of Articles 3 and 4 of the Uniform Commercial Code ("UCC"), adopted in New Jersey as N.J.S.A. 12A:3-406 and N.J.S.A. 12A:4-406. The Court must allocate those losses between a corporation whose negligence allowed the defalcation to occur and a depository-payor bank that accepted checks for deposit without following its own procedures for inspecting the endorsements on those checks. Defendant Midlantic National Bank ("Midlantic Bank") failed to discern endorsements that did not correspond to the payees as well as forged maker signatures, thus violating its duty to pay an instrument "in accordance with reasonable commercial standards" and to exercise "ordinary care." Plaintiff, New Jersey Steel Corporation ("N.J. Steel"), failed to examine its monthly ...