International Trade and Business Law Review
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Alan Davidson[1]
In international law, the greatest achievement of uniformity has been the law relating to letters of credit. International Banks in 175 countries operate their letters of credit under the Uniform Customs and Practice for Documentary Credits (UCP) sponsored by the International Chamber of Commerce (ICC). ‘This worldwide uniformity is due to the general acceptance of the [UCP] sponsored by the ICC’.[2] The UCP ‘has, without a shred of doubt, become the cornerstone of the law pertaining to letters of credit’.[3] The UCP has grown ‘from a set of practices followed only by the most important banks in western countries to a truly universal normative usage’.[4] The latest revision by the ICC of the UCP was finalised in 1993 and is referred to as the UCP 500.5 Historically, the merchants rather than the lawyers have developed the rules concerning letters of credit through their usages. To ensure the continued popularity of the UCP and the counterparts, the Uniform Commercial Code (UCC) Art 5 and also International Standby Practices (ISP98), the drafters must be attentive in their review, ensuring practical relevance for the commercial parties.
The management of international business is nothing more than the management of international risk. The development of the various steps and methods in the financing of international business has been directed with this ‘risk’ concept in the minds of the merchants. The seller’s concern is to maximise security for the goods supplied and minimise delay in payment; the buyer’s concern is to maximise the profit whilst ensuring delivery of the goods or of the documents of title to the goods.
Devlin J held, in Midland Bank v Seymour, that ‘the confirmed letter of credit is designed to give the seller the security he wants before he ships the goods’.[6] Letters of credit have become such an integral part of international trade that they have been described as ‘the lifeblood of international commerce’.[7] The courts recognise the importance of treating letters of credit like cash:
Thrombosis will occur if, unless fraud is involved, the courts intervene and thereby disturb the mercantile practice of treating rights thereunder (of letters of credit) as being equivalent to cash in hand.8
Once the exporter and buyer reach agreement, the buyer instructs the Issuing Bank, usually in the buyer’s country, to open a letter of credit in favour of the exporter. The Issuing Bank typically arranges with the Advising Bank (sometimes termed the Paying Bank)[9] in the exporter’s country to negotiate, accept or pay upon delivery of the documents and on other conditions. These documents would usually include transport documents, such as a bill of lading, commercial invoices, inspection and insurance certificates. It is the Advising Bank that communicates the arrangements to the exporter. The Advising Bank may confirm the letter of credit (Confirming Bank) by undertaking a direct obligation to pay the exporter. The bank then pays strictly in accordance with the instructions, on presentment of the documents by sight payment, deferred payment, acceptance or by negotiation of a bill of exchange.[10] The dominant aim of this procedure is to bridge the period between the shipment and the time in obtaining payments against documents.[11]
The backbone of the letter of credit is the autonomy principle. The autonomy principle dictates that banks deal with documents and are not concerned with nor bound by any underlying contract.[12] The doctrine of strict compliance compliments the autonomy principle providing the standard of compliance of the documents presented.
Nevertheless, the Paying Bank[13] faces a dilemma when it receives a compliant presentation as well as conflicting pressure or instructions from the applicant not to honour that presentation. What should be a bank’s response where the applicant, in all likelihood the Issuing Bank’s customer, informs the bank of an irregularity in the underlying contract and instructs the bank not the honour the presentation? Assume further that the documents presented comply with the terms of the letter of credit. To what extent should it matter whether the complaint relates to quantity, such as a 1% or 10% shortfall, or even the delivery of empty containers? Should the bank be concerned about the quality, such as an inferior but usable product, or perhaps even complete rubbish? Should it matter to the bank whether or not the beneficiary was involved in these irregularities, knowing or otherwise? Does the doctrine of strict compliance require the bank to pay, thus rewarding the perpetrator and perhaps amounting to unjust enrichment? The answer to this last question must be emphatically in the negative.[14]
As early as 1765,[15] the courts recognised the fraud exception to letters of credit. However, the value of a letter of credit as an instrument diminishes if the exception is used too readily or abused.[16] The courts have been sensitive to this concern and have kept the exception within certain bounds. Unfortunately, various jurisdictions have taken different approaches. The courts have used a broad spectrum of words to describe the level of fraud necessary to attract relief, such as: proven, gross, material, established, clearly established, outright, obvious, egregious, clear, of such a character, strong and prima facie, sufficient, sufficiently grave, intentional, active, actual and serious.[17]
The rules of practice, such as the UCP 500 and International Standby Practices (ISP98), have intentionally left the matter of fraud to the courts.[18] Banks sometimes avoid the dilemma by insisting and often aiding the applicant in obtaining a court injunction to restrain payment. In this way the bank does not take the blame nor financial responsibility for refusing to honour the presentation.[19] This paper examines this prime exception to the autonomy principle, the level and standard of fraud applicable and concludes by proposing a potential course of action.
Letters of credit are not immune from the usual principles which can void contracts or have them set aside. That fraudulent conduct, typically by the beneficiary, is an exception to the autonomy principle is well established and recognised by all authorities. In the words of the ICC, ‘there is an exception… in many jurisdictions, namely abuse of rights, or fraud. The ambit of this exception and the ensuing consequences for the beneficiary and/or the nominated bank may differ from one local jurisdiction to another. It is up to the courts to fairly protect the interests of all bona fide parties concerned’.[20] Some authorities mistakenly refer to the fraud exception as the sole exception.[21] In the context of stopping payment notwithstanding the presentation of documents which on their face are in order, there are a number of issues, albeit less significant than the fraud exception. These issues include illegality,[22]
insolvency,[23] injunctive relief,[24] government intervention, consumer laws[25] and attachment.[26] Nevertheless, as fraud remains particularly active, indeed rampant, in the commercial world, it is the fraud exception which has been a leading topic for discourse.
Men were deceivers ever…
The fraud of men was ever so,
Since summer first was leafy
(William Shakespeare)[27]
When men are pure, laws are useless, when men are corrupt, laws are broken.27a
Fraud unravels all. This maxim is rooted in common law and equitable tradition. In the letter of credit case of United City Merchants v Royal Bank of Canada, Lord Diplock stated:
The exception of fraud on the part of the beneficiary seeking to avail himself of the credit is a clear application of the maxim ex turpi causa non oritur actio or, if plain English is to be preferred, ‘fraud unravels all’. The courts will not allow their process to be used by a dishonest person to carry out the fraud.[28]
Fraud ‘vitiates everything’, including judgments and orders of the court.[29] Where a transaction has been spoilt by fraud, that fraud will continue to taint the transaction for as long as negotiations continue and into whatever ramifications it may extend.[30] The courts will prevent the fraudster, and even innocent persons, from deriving any benefit, unless such innocent persons have given consideration.[31] This approach is applicable to the letter of credit.[32]
The classic statement of fraud from the common law world comes from Derry v Peek:[33] that fraud exists ‘when it is shown that a false representation has been made (1) knowingly, or (2) without belief in its truth, or (3) recklessly, careless whether it be true or not’.[34] Fraud includes equitable fraud. In equity, the term ‘fraud’ not only embraces actual fraud but other conduct which falls below the standard demanded in equity. There is no exhaustive definition of equitable fraud, although the field covered includes the fields of undue influence and unconscionability.
In 1893, Lord Esher in Leivre v Gould[35] held: ‘…a charge of fraud is such a terrible thing to bring against a man that it cannot be maintained in Court unless it is shown he had a wicked mind.’ Specifically, in letters of credit context, Ventris considers that an accusation of fraud ‘is one of the most serious which can be made in English litigation and has to be specially pleaded’.[36]
That the fraud exception to the autonomy principle in the letter of credit transaction was known well before Sztejn, there is no doubt.[37] It is inherent in the undertaking of the beneficiary that the documents tendered will be both genuine and honest and the Paying Bank does not expect to receive documents which are forged or fraudulent.[38] Sztejn v J Henry Schroder Banking Corp[39] (Sztejn) is regarded as the foundation case on the fraud exception (see pp 32– 33). The first lawsuit involving a letter of credit was Pillans v Van Mierop[40] in 1765. In that case, the court referred to the ‘engagement’ of the letter of credit, the fraud exception and the application of lex mercatoria.[41]
The Pillans case dealt with a mixture of bills of exchange and letters of credit matters. Their Honours, Lord Mansfield, Wilmont and Aston JJ, discussed the status of letters which passed between the plaintiffs and the defendants. On one construction, the plaintiffs requested the defendants to accept the arrangement to pay on bills. This was not carried out by placing a signed acceptance on the bill nor even sighting the bill beforehand. The defendants agreed by letter to honour the plaintiff’s bill to be drawn on account of one White. However, Lord Mansfield in particular noted that the letters related to future credit: ‘All letters of credit relate to future credit; not to debts before incurred;… A bill can not be accepted before it is drawn.’[42] In this context, their Honours, notably Lord Mansfield, discussed the application of letter of credit principles, regarding the letters as instructions to give credit accepted by the defendants.43
Their Honours made the first statements regarding fraud as an exception to the letters of credit, albeit obiter. Lord Mansfield stated:
I was then of the opinion, that Van Mierop and Hopkins were bound by their letter; unless there was some fraud upon them…nor did I see any fraud.[44]
Here, Pillans and Rose trusted to this undertaking: and there is no fraud.[45]
[Counsel for the defendants] said, there was a fraudulent concealment of facts
…this concealment of circumstances is sufficient to vitiate the contract.[46]
If there be no fraud, it is a mere question of law.47
Wilmont and Aston JJ made similar acknowledgements on the role of fraud in the transaction where the former observed, ‘I see no sort of fraud’.[48] Aston J stated, ‘if there be a turpitude or illegality in the consideration of a note, it will make it void, and may be given in evidence: but here nothing of that kind appears, nor any thing like fraud in the plaintiffs’.[49]
Sztejn referred to three cases in making its statement that the distinction between a breach of warranty and fraud ‘is supported by authority and reason’.[50] Sztejn relied for the most part on the case Old Colony Trust Co v Lawyers’ Title & Trust Co[51] (Old Colony Trust). In that case the letter of credit called for, among other documents, a warehouse receipt evidencing the fact that the goods were housed in the stipulated warehouse. The Beneficiary tendered a document described as a warehouse receipt; however, the issuer knew that the goods were still on board the ship. The court dismissed the Beneficiary’s action for payment, stating:
Obviously, when the issuer of a letter of credit knows that a document, although correct in form, is, in point of fact, false or illegal, he cannot be called upon to recognize such a document as complying with the terms of a letter of credit.[52]
The two other cases referred to by Sztejn were Higgins v Steinhardter[53] and Société Metallurgique d’Aubrives & Villerupt v British Bank for Foreign Trade[54] (Société Metallurgique).
Higgins v Steinhardter involved a shipment of walnuts transported in December 1918. The beneficiary procured a bill of lading ‘falsely stating’ that the shipment was made on 30 October 1918. The court considered that the plaintiff only authorised the letter of credit to apply to a shipment made before 7 November. Without using the word ‘fraud’, the court permitted an exception to the position where the ‘bill of lading was in fact false as to the time of shipment’ and considered such an act as ‘proximate cause of any risk of loss by the issuance of drafts against said credit’.[55] Clearly the facts recognised the fraud exception without making a direct specific reference.[56]
Société Metallurgique[57] involved an irrevocable letter of credit. The plaintiffs contracted to sell 610 tons of pig iron, fob, from Antwerp to England. The parties agreed to change the documents to weight receipts and invoices, instead of shipping documents and invoices. The goods were received before the invoices. There were five instalments. Payment was made on the first set of documents; however, one Mr Ford instructed the bank not to pay on second, third, fourth or fifth set of documents. ‘Mr Ford, having received complaints from his customers, told his bank…not to pay against documents any more…on the grounds that there was no evidence on them that this was a high-grade foundry pig iron.’ The presenter ‘returned to his office and made out a fresh invoice in those terms, and then went back with it and demanded his money, and again the bank refused’.[58]
Bailhache J stated that he would not expect or think that business people would not anticipate the weight receipts to show the quality or refer to it at all. His Honour stated that in actions against banks dealing with dishonour where there is an allegation that the goods are not in order, ‘the question of quality only comes in on one or other of two ways’:
First of all, did the person presenting misdescribe the goods in such a way as to be guilty of fraud? If that were so, then the bank in refusing to pay would be justified.[59]
The 1925 case of Maurice O’Meara Co v National Park Bank[60] concerned a shipment of paper of a specified tensile strength. The plaintiff presented documents which on their face complied. The defendant bank refused to pay because there had ‘arisen a reasonable doubt regarding the quality of the newsprint paper’.[61] The majority judgment did not suggest a fraud exception, other than forgery. The majority stated that if the documents presented were ‘proper documents, then it [the bank] was absolutely bound to make payment under the letter of credit’.[62] However, the dissenting judgment of Cardozo J discussed a range of behaviour which would permit the bank to refuse payment. Cardozo J implies fraud as an exception, but specifically refers to the situation where there is a total lack of consideration in the underlying contract. In this regard, Cardozo J goes too far and his judgment covers behaviour which would be regarded today as being entirely separate from the bank’s obligation.
Sztejn v J Henry Schroder Banking Corporation[63] is regarded as the leading case on the fraud exception to the autonomy principle,[64] although interestingly the case proceeded on an underlying procedural assumption.[65]
Chester Charles Sztejn was a buyer based in the United States. He negotiated with Transea Traders Ltd, of Lucknow, India, to purchase a quantity of hog bristles. Sztejn applied for an irrevocable letter of credit to be issued by Schroder. Transea Traders Ltd loaded 50 cases of material on board a steamship and secured a bill of lading and the usual invoices. The Chartered Bank, located at Cawnpore, India, was the correspondent bank. Transea Taders Ltd delivered the required documents to Chartered Bank. The crates were not filled with hog bristles, but with ‘cowhair, other worthless material, and rubbish’.[66] Prior to payment being made to the Chartered Bank by Schroder, Sztejn applied for declaratory and injunctive relief.
Shientag J, of the New York Supreme Court, first restated the importance of the autonomy principle. His Honour considered the principle to be ‘well established’ and that the Issuing Bank makes agreement ‘to pay upon presentation of documents, not goods’. Shientag J regarded the principle as ‘necessary to preserve the efficiency of the letter of credit as an instrument for the financing of trade’. His Honour prefaced the subsequent statements, recognising the fraud exception, by stating that any interference with the autonomy principle would be ‘most unfortunate’ as it would impact on a chief purpose of the letter of credit to furnish the seller with prompt payment for the merchandise. His Honour expressed specific concern to protect business transactions and avoid going behind the documents or entering into controversies between the buyer and the seller regarding the quality of the merchandise shipped.[67]
Shientag J further distinguished the case before him as one involving fraud by the Beneficiary, and appropriately noted the case was not a mere breach of warranty. His Honour ruled that where the seller’s fraud has been called to the bank’s attention before the drafts and documents have been presented for payment, the autonomy principle[68] should not be extended to protect an unscrupulous seller.[69]
Although our courts have used broad language to the effect that a letter of credit is independent of the primary contract between the buyer and seller, that language was used in cases concerning alleged breaches of warranty; no case has been brought to my attention on this point involving an intentional fraud on the part of the seller which was brought to the bank’s notice with the request that it withhold payment of the draft on this account. The distinction between a breach of warranty and active fraud on the part of the seller is supported by authority and reason.[70]
(F)raudulent presentations under LCs (have not) abated.[71]
It is insufficient to merely include an allegation of fraud in the pleadings requesting the court injunction. Some cases have required ‘proven’ fraud.[72] However, a wide range of terms has been used by the courts to describe the level of fraudulent conduct necessary and appropriate to vitiate the ‘chief characteristic’ of the letter of credit, namely, ‘its absolute reliability in the hands of the seller’.73 These terms include proven, gross, material, established, clearly established, outright, obvious, egregious, clear, of such a character, strong and prima facie, sufficient, sufficiently grave, intentional, active, actual and serious.[74]
It has been well established that allegations of fraud can only be made on clear and specific averments. In Gillespie v Russel,[75] Lord President McNeill stated that ‘a party laying an action on that ground is bound to set forth in very explicit terms, the fraud of which he complains’. His Lordship considered the application before the court to be sufficient, being ‘perfectly clear and explicit in statement’. In a subsequent case, his Lordship stated:
If an action is laid upon misrepresentation, the misrepresentation itself must be set forth…[N]o person accused of fraudulent misrepresentation can be bound to go to trial, unless he is told what the fraudulent misrepresentation is that he is said to have made.[76]
Similarly, in Shedden v Patrick, Lord Fullerton stated:
It is not enough for a party, founding a reduction on the head of fraud, to state that fraud has been committed… The party…must state in what the fraud consists, and
what the acts are from which the existence of fraud is to be inferred.[77]
In Thomson & Co v Pattison, Elder & Co, Lord President Robertson stated:
Fraud is a personal matter, and can only be committed by an individual… Now, this record does not allege acts complained of against any individual at all. Accordingly, it is not by a mere euphemism that this case differs from and falls short of a case of fraud.[78]
The UCP 500 makes no mention of the fraud exception.[79] Taken literally, the UCP 500 requires the bank to pay regardless of the extent of any fraud. However, the drafters have recognised the courts’ role in applying the fraud exception as a matter of local law and have intentionally left the matter out of the UCP. The ISP98 does make mention of the fraud exception, but only to mention that a defence based on fraud is left to the applicable law.[80]
Edward Owen Engineering Ltd v Barclays Bank International Ltd[81] (Edward Owen case) is often cited as the leading modern case on the fraud exception in letter of credit.[82] At first instance, Kerr J raised the level of fraud necessary to interfere with the Paying Bank’s obligation to pay to ‘cases of obvious fraud to the knowledge of the banks’.
Lord Denning recognises the importance of the bank’s obligation to pay: It has been long established that when a letter of credit is issued and confirmed by a bank, the bank must pay it if the documents are in order and the terms of the credit are satisfied. Any dispute between the buyer and seller must be settled between themselves. The bank must honour the credit.
Lord Denning cites Malas v British Imex Industries Ltd[83] with approval. In that case, Jenkins LJ described the banker’s role as ‘an absolute obligation to pay’ irrespective of any underlying contractual arrangement, and explained the letters of credit as an ‘elaborate commercial system’. Jenkins LJ stated ‘it would be wrong for this court in the present case to interfere with that established practice’.[84] The buyer complained that the goods called for by the contract of sale had not been delivered. Injunctions to enjoin an Issuing Bank from honouring a draft under a letter of credit were refused on the ground that fraud had not been established.
Having explained the general principle, Lord Denning referred to the fraud exception where there existed ‘established or obvious fraud to the knowledge of the bank’,[85] and later where ‘the documents are forged or that the request for payment is made fraudulently in circumstances when there is no right to payment’.[86]
Lord Denning expressly adopted the dicta of Kerr J in RD Harbottle (Mercantile) Ltd v National Westminster Bank Ltd:[87]
First, this is not a case of an established fraud at all…all these issues turn on contractual disputes. They are a long way from fraud, let alone established fraud… It is only in exceptional cases that the courts will interfere with the machinery of irrevocable obligations assumed by banks. They are the lifeblood of international commerce. Such obligations are regarded as collateral to the underlying rights and obligations between the merchants at either end of the banking chain. Except possibly in clear cases of fraud of which the banks have notice, the courts will leave the merchants to settle their disputes under the contracts… The courts are not concerned with their difficulties to enforce such claims; these are risks which the merchants take… The machinery and commitments of banks are on a different level. They must be allowed to be honoured, free from interference by the courts. Otherwise trust in international commerce could be irreparably damaged.
Browne LJ, in the Edward Owen case, noted that Lord Denning had approved his comments in Bank Russo-Iran v Gordan Woodroffe & Co.[88] Browne LJ explained the fraud exception as applying where the documents are presented by the beneficiary and are forged or fraudulent, the bank is entitled to refuse payment if the bank finds out before payment, and is entitled to recover the money as paid under a mistake of fact if it finds out after payment.[89] Browne LJ added that it is not enough to allege fraud, ‘it must be “established”, and in such circumstances I should say very clearly established’.[90]
Geoffrey Lane J, in the Edward Owen case, described the standard of fraud justifying a bank not complying with the demand[91] as ‘clear and obvious to the bank’. On the facts of the case, Geoffrey Lane J said it was insufficient if there was merely suspicion or the possibility of sharp practice, and found nothing approaching true evidence of fraud or anything which made fraud obvious or clear to the bank. ‘Thus there is nothing, it seems to me, which casts any doubt on the bank’s prima facie obligation to fulfil its duty under the two tests which I have set out.’[92]
Several cases, for example Sztejn and United Bank Ltd v Cambridge Sporting Goods Corp,[93] illustrate the difficulty of distinguishing between a case of false documents and a case of fraudulent shipment covered by documents which accurately describe the goods called for.
In a number of English cases, reference to the fraud exception has been expressed in terms of documentary fraud.[94] Such decisions are a clear expression that Sztejn extends to fraud in the documents. Lord Denning MR, in the Edward Owen case,[95] put the matter in simple terms, stating ‘the request for payment is made fraudulently in circumstances when there is no right to payment’.
The bank may dishonour where ‘a drawdown would amount to an outright fraudulent practice by the beneficiary’.[96] For example, the fraud defence does not permit dishonour even if a legitimate dispute exists concerning whether the goods conform to the underlying contract, but only where the goods are ‘so obviously defective that the representation of shipment is plainly false’.[97] In 3Com Corp v Banco Do Brasil SA,[98] the appellant argued that a statement concerning the name in which invoices were to be issued and the name of the subsequent payee of a draft amounted to fraudulent conduct. On the facts the court considered that a ‘legitimate dispute’ existed concerning the meaning of the statement, as the statement was ‘arguably ambiguous with respect to whether it contemplates invoices issued to a third party’ but for which another is liable. The statements were ‘by no means an “outright fraudulent practice”’.[99]
More recently, in Jeri-Jo Knitwear v Gulf Garments Industry,[100] the Appellate Division of the New York Supreme Court stated that as the plaintiff had not demonstrated ‘actual, intentional fraud in the underlying commercial transaction independent of any claim regarding non-conforming goods…and an award, of the equitable relief sought upon a lesser showing would subvert the salutary business purpose of a letter of credit’.
The Ontario High Court, in Aspen Planners Ltd v Commerce Masonary & Forming Ltd,[101] considered the question whether the court should intervene to prevent the contractor from exercising its right to payment by the bank or to prevent the bank from discharging its obligation to pay the contractor. The court declined, stating that it is ‘a matter between the contractor and the bank—by reason of the dispute between the plaintiff and the contractor under the building contract’.[102] The court was concerned not to interfere with what it described as the ‘chief characteristic’ of the letter of credit, namely ‘its absolute reliability in the hands of the seller who is entitled, in the absence of fraud known to the bank, on presentation of the proper documents to receive payment for goods he has shipped or delivered regardless of any dispute between himself and the buyer’.[103]
The Supreme Court of Canada, in Bank of Nova Scotia v Angelica-Whitewear Ltd[104] (Angelica-Whiterear case) noted that the English and American decisions differed on the extent to which the fraud exception to the autonomy principle applied. In the English authorities, the letter of credit must be honoured unless false documents are fraudulently presented by the Beneficiary and the fraud is clearly established to the knowledge of the Issuing Bank at the time of the presentation of documents.[105] In the American authorities, the principle has been expanded to include fraud in the underlying contract, for example where rubbish is delivered in place of the contract goods and the letter of credit is still called on. The Supreme Court of Canada agreed with the American approach that the fraud exception should extend to fraud in the underlying transaction. The court stated that the fraud exception applies in the underlying transaction where it is ‘of such a character as to make the demand for payment under the credit a fraudulent one’.[106] In the court’s view, ‘the fraud exception to the autonomy of a documentary credit should extend to any act of the beneficiary of a credit the effect of which would be to permit the beneficiary to obtain the benefit of the credit as a result of fraud’.[107]
In CDN Research & Development Ltd v Bank of Nova Scotia (No 1) (CDN Research (No 1)),[108] five pieces of fire fighting equipment were delivered to Iran. The letter of credit had been issued to guarantee the delivery. Notwithstanding delivery the letter of credit was called on. Galligan J issued an injunction stating that the plaintiff had made out ‘a strong prima facie case’[109] that the demand made by the Iranian Ministry of War was fraudulent.[110]
CDN Research & Development Ltd v Bank of Nova Scotia (No 2)[111] concerned the supply of three fire engines to Iraq. Three letters of credit were involved. One letter of credit was for the purchase price of $1,922,000. The supplier was entitled to ‘call down’ 15%, or $288,000, but had to provide a letter of credit in case delivery was not subsequently made. A third letter of credit, for $170,183, was issued by the supplier to guarantee performance: that the equipment would work satisfactorily. The fire engines were not delivered.[112] Nevertheless, the beneficiary called on the third letter of credit. The plaintiff claimed that the call must be fraudulent.[113] Hollingworth J made a finding of fraud on the presupposition that the letter of credit was irrevocable.[114] His Honour regarded his findings as constituting ‘clear fraud’ and held that such a standard was sufficient to enjoin payment.
On appeal, the Ontario High Court of Justice[115] questioned the finding of fraud. Smith J, referring to a ‘preliminary difficulty’, stated that the court was required to differentiate ‘the gap between breach and fraud’.[116] The court cited with approval the dicta of Lord Denning in the Edward Owen case.[117] Lord Denning referred to ‘established or obvious fraud’, which Smith J, for the Divisional Court, referred to as ‘clear fraud’. On this standard, Smith J questioned whether the test of ‘clear fraud’ ‘is too high to take us beyond the interlocutory into the realm of final determination’.[118] More pertinently, his Honour expressed concern that the clear fraud standard might ‘facilitate international transactions without sufficient regard for the clear signal that a refusal to enjoin may send to those who would engage unscrupulous and fraudulent activities’. If the standard was too high, a moderate level of roguish behaviour may be forthcoming, if not encouraged.[119] Smith J regarded the test in CDN Research (No 1), requiring a strong prima facie case, as appearing ‘to be more apt and is less onerous than that of Lord Denning’ of clear or established fraud.[120]
Rockwell International Systems Inc v Citibank NA[121] is one of a series of cases referred to as the Iranian cases, because of the effect of the Iraq/Iran war. The case reflects a broad view of what is encompassed by fraud in the transaction. The court stated that it must look to the circumstances surrounding the transaction to determine whether there had been an ‘outright fraudulent practice’. The circumstances the court was referring to was the war, which affected and frustrated many contractual arrangements. The court regarded it as fraud where the beneficiary had acted in such a manner as to prevent the performance of the underlying contract to obtain the benefit of the letter of credit.
Cherubino Valsangiacomo v Americana Juice Imports[122] involved a contract for US$2.4 million of grape juice concentrate. The letter of credit was for US$548,352. The beneficiary provided grapes of the wrong type and colour. The Texas Appeals Court held that this did not constitute fraud. The court stated that the applicant must ‘prove not merely that [the Beneficiary] provided nonconforming goods, but rather that it committed egregious, intentional fraud’. The court noted that the applicant had ‘received substantial value from its transaction’. However the court stated that if the quality of the juice was substantially inferior, the court could then ‘regard the entire shipment worthless [as it would] destroy the legitimate ends of the letter of credit’.[123] Additionally, the court discussed the practicality of recovery from a foreign jurisdiction as an additional consideration. The court stated that to ‘temporarily enjoin payment of letters of credit in international transactions…the law requires proof that no legal remedy exists even in a relevant foreign country’.
In United City Merchants (Investments) Ltd v Royal Bank of Canada,[124] loading brokers for a carrier had fraudulently misrepresented on the bill of lading the date on which the goods had been received on board for shipment. This was a material requirement of the letter of credit involved. The seller, who was the beneficiary under the letter of credit, had no knowledge of the misrepresentation. The House of Lords reiterated the importance of the autonomy principle and held that the fraud exception did not extend to fraud by a third party. Lord Diplock stated:
To this general statement of principle as to the contractual obligations of the confirming bank to the seller, there is one established exception: that is, where the seller for the purpose of drawing on the credit, fraudulently presents to the confirming bank documents that contain, expressly or by implication, material representations of fact that to his knowledge are untrue.[125]
The court in the Angelica-Whitewear case observed that this statement also appears to exclude fraud in the underlying transaction, although the point is not clear, as the fraud in the case was fraud with respect to a document stipulated in the letter of credit.[126] The Supreme Court of Canada is also of the view that the fraud exception should be confined to fraud by the beneficiary, considering this to be ‘a reasonable limit in principle on the scope of the fraud exception’.[127]
In the US case of Intraworld Industries Inc v Girard Trust Bank,[128] the court stated that, in light of the autonomy principle and its importance ‘to the effectuation of the purposes of the letter of credit’, an injunction is only justified in narrow limited situations of fraud. Those situations involve the wrongdoing of the Beneficiary which has ‘so vitiated the entire transaction that the legitimate purposes of the independence of the issuer’s obligation would no longer be served’.[129] In First Arlington National Bank v Stathis, the court regarded the exception for ‘fraud in the transaction’ as ‘a narrow exception’.[130]
In 3Com Corp v Banco Do Brasil SA,[131] the Issuing Bank claimed fraudulent conduct by the beneficiary. The beneficiary made a statement of default. The applicant claimed the beneficiary knew the statement was false because the beneficiary knew that the default was of the purchasing agent and not of the applicant. The court considered that a legitimate dispute existed and that the statement could not be considered to be ‘outright fraudulent practice’, which the court considered would be necessary for a finding of fraud in the transaction.
Byrne argues that the court rejected a ‘narrow constructionist approach’ and instead sensibly looked to the policy behind the UCP, and formulated a policy consistent with that policy.[132] The policy relates to the autonomy of the letter of credit. The principle requires certainty of expression and of purpose. The court commented positively on the connection between the doctrine of strict compliance and the need to avoid ambiguity. Strict compliance can only be applied where all parties are certain of how compliance can be achieved. Byrne reminds us that the courts have often taken a legalistic approach and the ‘important feature’ of this court’s approach is that the court took a mercantile viewpoint by looking to letter of credit policy rather than traditional judicial rules of interpretation.
In New York Life Insurance Co v Hartford National Bank & Trust Co,[133] the court stated that it would be only in ‘rare situations of egregious fraud’ that the issuer of a credit would be justified in going behind ‘apparently regular, conforming documents’.
In Rosen v Pullen,[134] the Ontario High Court of Justice analysed a number of authorities and gave a four part conclusion on the circumstances in which the fraud exception should apply:
…the following conclusions seem to follow:
1 Except in a case where pleadings are to be relied upon as facts (as in a motion to strike a claim: the Sztejn case) mere allegation of fraud by a plaintiff is no reason to restrain a bank from paying upon an irrevocable letter of credit.
2 A plaintiff must prove ‘established fraud’, ‘clear fraud’ or ‘a strong prima facie case of fraud’ by the beneficiary of the irrevocable letter of credit.
3 The fraud must be known to the bank before it has made its payments. If a bank pays upon the irrevocable letter of credit without knowledge of the fraud, the bank is protected from action.
4 It does not matter at what stage before the bank has made payment that the bank is put in knowledge of the fraud: in CDN Research [No 1] the bank was told of the fraud after it had received telex demand for payment but before it actually made payment.[135]
The Supreme Court of Canada in the Angelica-Whitewear case drew a distinction between the standard of evidence on an application for an interlocutory injunction to restrain payment under a letter of credit for fraud by the beneficiary, and the standard ‘to establish that a draft was improperly paid by the issuing bank after notice of alleged fraud by the beneficiary’.[136] In the former situation, strong prima facie case of fraud will suffice. In the latter situation, the court held that where the Issuing Bank had to exercise its own judgment whether or not to honour a draft, the test is whether the fraud was ‘so established to the knowledge of the issuing bank before payment of the draft as to make the fraud clear or obvious to the bank’.[137]
The rationale behind the judicial reasoning concerns the predicament of the Issuing Bank. On an application before a court for an injunction, the usual equitable principles apply to protect all parties concerned. However, where the Issuing Bank is to make the parallel determination on an allegation of fraud, the court in reviewing the bank’s decision must be cognisant of:
the ‘strict obligation of the issuing bank to honour’ presentation;
the fact that the decision must be made ‘fairly promptly’;
the difficulty in forming an opinion; and
the hazard of a lawsuit.[138]
According to the Supreme Court of Canada, ‘it would in my view be unfair and unreasonable to require anything less of the customer in the way of demonstration of an alleged fraud’.[139]
In Discount Records Ltd v Barclays Bank Ltd,[140] of the 8,625 records ordered, only 275 were delivered in accordance with the order and the rest were not as ordered, and were either rejects or unsaleable. A letter of credit had been issued for £4,000. An application was made alleging fraud and seeking an interlocutory injunction. Although Sztejn’s case involved the delivery substantially of rubbish, Megarry J regarded the Sztejn case as a matter of ‘established fraud’. Megarry J noted the ‘familiar English phrase “Fraud unravels all’”, but considered that the case only involved an allegation of fraud and not established fraud.[141] Megarry J adds an unnecessary element by suggesting that the standard may be extended to cases of alleged fraud ‘provided a sufficient case is made out’.[142] Megarry J expressed concern that the bankers’ irrevocable credit should not be interfered with, ‘and not least in the sphere of international banking, unless a sufficiently grave cause is shown’.[143]
On a few occasions, the courts have recognised the potential difficulty in the recovery of funds or enforcement of orders in foreign jurisdictions. This has had the effect of being included as a factor in the deliberation in granting relief where the fraud exception has been argued. In Gerald Motors Inc v UBS AG,[144] one factor involved the court’s attitude to the Chinese legal system. The court stated that the American corporation ‘may well encounter significant obstacles in the Chinese judicial system…the likelihood of getting the money back once it is paid is greatly decreased’. Similar considerations were made in the Iranian cases in the 1980s.
In Banco Santander SA v Bayfern Limited,[145] Banco Santander was the Confirming Bank under a deferred letter of credit in favour of Bayfern and duly honoured the presentation. Bayfern asked Banco Santander to make an earlier discounted payment. Banco Santander agreed, and took an assignment of the proceeds of the letter of credit only to be informed by Banque Paribas that the latter was rejecting the documents on various grounds, including forgery. Prior to the expiry date of the letter of credit, the Issuing Bank informed Banco Santander that the documents were fraudulent. Banco Santander claimed reimbursement from the Issuing Bank pursuant to UCP 500 sub-Art 14(a).146 The issue for the court was whether the risk of fraud by the beneficiary of a confirmed deferred payment is to be borne by the Issuing Bank or the Confirming Bank. The court held that where payment by the Confirming Bank has been made before the fraud is discovered, but prior to the expiry date, the risk lies with the Confirming Bank. The court’s rationale was that the authority given by the Issuing Bank in a deferred letter of credit is to pay at maturity. The request to pay earlier did not alter this risk. Furthermore, it was held that sub-Art 14(a) could not be construed so as to entitle the Confirming Bank to reimbursement for having incurred a deferred payment undertaking prior to maturity.
The court distinguished between deferred payment letters of credit and acceptance credits. With a deferred payment letter of credit, a discounting bank only obtains an entitlement to the proceeds of the letter of credit by way of an assignment from the beneficiary. As a result the entitlement is subject to equities, including the risk of there being a fraud. With an acceptance credit, a discounting bank becomes a holder for value in due course of the bill of exchange and, accordingly, will not be exposed to that risk.
Would it be plausible to suggest the insertion of a fraud provision in the UCP, which reflects the practice and custom of bankers and how they regard and treat fraud situations?
Fraud is a major factor for any bank that handles letters of credit. Any attempts to reduce the ability to perfect a fraud should be applauded and changes in practice introduced.[147]
Vice President of the ICC Banking Commission, Dan Taylor, has stated that ‘Jurisdiction and fraud are two matters which the UCP cannot deal with due to the legal nature of the UCP’.[148] Professor Byrne, similarly, stated that in the matter of the fraud exception ‘the law takes the lead’. His view is that it is a matter which should be left to the law as ‘government and public policy issues are involved’ and that it is for the ‘greater good’ and in the ‘public interest’.[149]
The rules of practice are adopted by parties as terms in a contract. Both Taylor and Byrne explicate that the rules of practice cannot rewrite local law. The terms of the contract may give rights and impose obligations on the parties; however, the parties cannot contract to permit a fraud. The applicable law may be UCC revised Art 5–109 or the Art 19 of the UN Convention.150
The UCP 500 does not expressly provide for a fraud exception to the autonomy principle. However, the defence is well established.[151] The ISP98 does make mention of the fraud exception, but only to state that a defence based on fraud is left to the applicable law.[152]
Elizabeth MacDonald states the view that exemption clauses cannot operate to exclude or restrict liability for fraud by the perpetrator of the fraud.[153] This view seems to imply that the point is clear, but the fact that commercial parties have inserted such clauses may go to the factual and practical situation of reliance and, subsequently, to the proof of misrepresentation. In Walker v Boyle,[154] a clause stating The properties are believed to be correctly described and any incorrect statement, error or omission in the particulars shall not annul the sale’ could ‘have no operation where the description was to the knowledge of the vendor incorrect’ in that it was ‘fraudulent’.155
The Canadian case of Bank of Nova Scotia v Angelica-Whitewear Ltd[156] and cases from other jurisdictions demonstrate that there is no uniform international approach in applying the fraud exception. Variations occur in relation to the standard of fraud required to enjoin payment. The cases have used descriptors for the level of fraud including proven, gross, material, established, clearly established, outright, obvious, egregious, clear, of such a character, strong and prima facie, sufficient, sufficiently grave, intentional and active.
The observer may ask: why do the rules of practice, say the UCP,[157] fail to address these concerns and assist in setting an international standard? The observer must be told that the UCP is not legislation and that its rules form terms for contracts and obligations when incorporated by commercial parties. Nevertheless, the observer may still ask the question: why could not the drafters of the UCP debate the current international practice and insert appropriate articles to create international uniformity for the commercial parties? The standard response to this question has been that the courts typically would not permit the parties to contract out of fraud.
One solution would be to draft some form of international legislation, which is precisely the solution envisaged by the UN Convention and by Art 5 of the UCC. With the UN Convention, the drafters chose to avoid the term ‘fraud’. Instead the Convention sets out categories of conduct and then the standards for obtaining court remedies.[158] Of course, the UN Convention has very limited application.
Courts will not assist in facilitating fraud. Nevertheless, could the UCP set out the consequences in certain events related to fraud without using that word? That is, the commercial parties, at the time of contracting, could agree on a standard of behaviour and agree to the subsequent granting of relief, which would typically be an injunction to restrain payment. Sir George Jessell’s oft cited quote on the freedom to contract is appropriate:
(I)f there is one thing more than another which public policy requires, it is that men of full age and competent understanding shall have the utmost liberty of contracting and that their contracts, when entered into freely and voluntarily, shall be held sacred and shall be enforced by courts of justice.[159]
By using Arts 19 and 20 of the UN Convention as a template, the word ‘fraud’ and the nebulous connotations associated with it can be avoided. It is my belief that the result would be greater stability in international letters of credit. It would not usurp local law. The local law on the fraud standard can still apply to extend the circumstances where relief could be granted. However, courts in such jurisdictions may appreciate the effort of the parties, via the UCP, to standardise the fraud exception. The courts may further appreciate that the parties made a considered contractual determination as to the circumstances in which relief should be granted. In such circumstances, the courts may then be reticent to ‘interfere’.
In the context of the UCP 500, a possible amendment could be integrated into Art 14 as follows:[160]
Renumber (d), (e) and (f) to (h), (i), and (j).
14(b)—replace ‘Upon’ with ‘Subject to sub-Art 14(d) upon’.
Insert new (d), (e), (f) and (g):
(d) If it is manifest and clear that:
(i) any document is not genuine or has been falsified;
(ii) no payment is due on the basis asserted in the demand and the supporting documents; or
(iii) judging by the type and purpose of the undertaking, the demand has
no conceivable basis; the Issuing Bank and/or Confirming Bank, if any, or a Nominated Bank acting on their behalf, acting in good faith, has a right as against the beneficiary to withhold payment.
(e) For the purposes of sub-Art 14(d)(iii), the following are types of situations in which a demand has no conceivable basis:
(i) the underlying obligation of the applicant has been declared invalid by a court or arbitral tribunal;
(ii) the underlying obligation has undoubtedly been fulfilled to the satisfaction of the beneficiary;
(iii) fulfilment of the underlying obligation has clearly been prevented by wilful misconduct of the beneficiary.
(f) In the circumstances set out in sub-Arts 14(d)(i), (ii) and (iii), the applicant is entitled to provisional court measures in accordance with sub Art 14(g).
(g) (i) Where, on an application by the applicant, the Issuing Bank and/ or Confirming Bank, if any, or a Nominated Bank acting on their behalf, it is shown that there is a high probability that one of the circumstances referred to in sub-Arts 14(d)(i), (ii) and (iii) is present, the court, on the basis of immediately available strong evidence, may:
(a) issue a provisional order to the effect that the beneficiary is not to receive payment, including an order that the applicant, the Issuing Bank and/or Confirming Bank, if any, or a Nominated Bank acting on their behalf hold the amount of the credit; or
(b) issue a provisional order to the effect that the proceeds of the credit paid to the beneficiary are blocked, taking into account whether in the absence of such an order the applicant would be likely to suffer serious harm.
(ii) The court, when issuing a provisional order referred to in sub-Art 14(g)(i), may require the person applying therefore to furnish such form of security as the court deems appropriate,
(iii) The court may not issue a provisional order of the kind referred to in sub-Art 14(g)(i) based on any objection to payment other than those referred to in sub-Arts (14(d)(i), (ii) and (iii), or use of the undertaking for a criminal purpose.
In new 14(h)(i) replace ‘documents’ where first appearing with ‘documents
or withhold payment’.
In new 14(h)(ii) add at end, ‘or must state all grounds in respect of which the
bank is withholding payment, as the case may be’.
The concept of fraud is substituted with specific behaviour and circumstances enunciated by sub-Arts 14(d) and (e). Sub-Articles 14(d), (e), (f) and (g) are the same as UN Articles 19(1), (2), (3) and 20 respectively with ‘Issuing Bank and/ or Confirming Bank, if any, or a Nominated Bank’ replacing ‘guarantor/ issuer’, ‘applicant’ replacing ‘principal/applicant’ and UN sub-Arts 19(2)(a) and (e) not used.[161] Sub-Article 14(h) (formerly 14(d)) is altered to deal with the situation where the bank withholds payment for the reasons set out in the new sub-articles.
The role of the bank is not fully understood by lawyers. The goodwill, the trust and the comradery of the banks, and perhaps their ratings and reputation, are more important to the banks than the law. The motivating factor for a bank’s actions in letters of credit and other financial matters, is more often the banks’ desire to maintain this reputation, and the secondary factor will be the law. Bankers have a different point of view than lawyers. The success of letters of credit is due to the fact that banks recognise their mutual trust in the financial world.
It must be acknowledged that the customary law character of the UCP militates against a fraud provision. A not insignificant amount of the success of the UCP is due to its ability to reflect the best banking practices rather than litigation inspired rules. The key question in this context is whether it would be plausible to suggest that inserting a fraud provision could reflect the practice and custom of bankers and how they regard and treat such fraud situations.
For the purposes of validating the argument in favour of an international customary law treatment of remedies against fraud, is could be argued, that empirical proof is needed to establish the types of fraud involved and the effect that the amendments on reducing fraud should be considered.
The expression ‘types of fraud’ refers to the level and standard of the fraudulent acts arising in the letter of credit transaction and discussed in the cases above. The task of determining the ‘types of fraud’ would be left to the drafters of the rules of practice. The drafters of the UCP 500, of the latter versions of the UCP and of the ISP98 have exhibited great skill, determination and patience in crafting these rules. Each draft has taken years and has involved the input of many experts, academics and commercial parties.[162] The ‘empirical’ evidence would be forthcoming from the input of these parties, and the Banking Commission[163] could formulate the necessary wording to reflect the input. My submission emulates the UN Convention.
The effect that the amendments would have in reducing fraud is not a relevant issue. Whilst the number of fraudulent incidents is important to the commercial parties, the aim of the amendments is to create certainty when particular conduct arises. If the amendments would not increase the incidence of such conduct, then the extent of fraud is not a relevant issue.
Two extremes should be considered. The first is a jurisdiction where a high standard of fraud is required before enjoining payment, and the second is a jurisdiction where a low standard of fraud is required. The UK is an example of the former. In the UK, the fraud standard is intentional deceit by or known to the beneficiary. Any proposal would serve to permit agreed additional circumstances in which remedies could apply. The application would create greater uniformity and certainty.
In a jurisdiction where the standard is lower, one could argue that the amendments are superfluous, that the local law provides all the remedies explicated in the amendments. However, the remedies would also be available for other lesser breaches. The counter argument is that the courts may recognise that the amendments, for example in the UCP, are the uniform customs and practice of the international commercial parties. Courts would be encouraged to apply and limit action to the stated standard. Again, greater uniformity and certainty is encouraged.
Where the parties do not know which jurisdiction will apply, the parties should have a greater expectation of the type of conduct attracting remedies, and of the nature of those remedies.
An alternative to amending the rules of practice is for the commercial parties expressly to select a jurisdiction to apply to their letter of credit. Contracting parties are generally at liberty to include an express choice of law and choice of forum clause into their agreements.[164] In 3Com Corp v Banco Do Brasil SA,[165] the letter of credit was issued in Brazil and the beneficiary presented the documents in California; nevertheless, New York was the forum as the parties had placed reliance on New York law in their briefs, which was determinative as to the application of the forum’s law.
In this manner, the dilemma of the unknown is diminished if not removed. The parties can choose the proper law of the transaction which most suits their needs and which increases certainty.
Few provisions of the UN Convention[166] make substantive changes to the relatively acceptable level of custom, practice and interpretation currently experienced under the applicable international rules of practice for both independent guarantees and letters of credit. Central to the Convention’s ideology is treatment given to allegations of fraud or abuse in demands for payment in undertakings. One stated main purpose of the Convention is to establish greater uniformity internationally in the manner in which guarantors, issuers and courts respond to allegations of fraud or abuse in demands.[167] Fraud has been a topic that has been ‘particularly troublesome and disruptive’ in practice. Notwithstanding numerous cases of actual fraud, often allegations of fraud are a fallback strategy for the guarantor or issuer where a dispute has arisen in the underlying contract. The differing approaches and interpretations taken by various jurisdictions complicate the area.[168] The official Explanatory Note to the Convention expresses this concern in the following terms:
That difficulty and the resulting uncertainty have been compounded further because of the divergent notions and ways with which such allegations have been treated both by guarantor/issuers and by courts approached for provisional measures to block payment.[169]
Allegations of fraud and abusive demands threaten the integrity of the undertaking and jeopardise the commercial viability of the undertaking. The Convention aims to ameliorate the problem by the inclusion of circumstances in which courts may order that payment be blocked. Although the word fraud is not used in the Convention, the exceptions to the payment obligation parallel the accepted fraud exception.
Article 19 of the Convention is headed appropriately ‘Exception to the payment obligation’. However, the precise exceptions contained in the article are designed to deal with specific instances and acts. Such an approach is to be welcomed, considering the divergent opinions expressed by various jurisdictions.[170] Article 19 encompasses fact patterns covered in different legal systems by notions such as ‘fraud’ or ‘abuse of right’. The Convention deliberately avoids the use of the more nebulous term ‘fraud’ and avoids the multiplicity of definitions, interpretations and complications inherent in the case law. Article 19(1) encompasses situations in which it is manifest and clear that:
By setting the standard and presenting examples, the Convention is able to redress the inadequacies of the rules of practice approach. The evolution of the customs and practice of letters of credit ignored the fraud exception. The UCP, ISP98 and the Uniform Rules for Demand Guarantees (URDG) cannot define predetermined fraud standards whereby the guarantor or issuer is entitled to withhold payment. The UCP makes no attempt to deal with the fraud exception at all, leaving the matter to the courts. The ICC Banking Commission has debated the issue on several occasions and made the conscious choice to leave the matter to the courts.[172] The URDG similarly leaves the question of the fraud exception to the courts. The ISP98 expressly provides that it does not define or otherwise provide for defences based on fraud, abuse, or similar matters and that these matters ‘are left to applicable law’.[173]
There are two circumstances in which the fraud exception may be relied upon. In the words of the Scottish Court of Sessions, in Royal Bank of Scotland v Holmes:[174]
The authorities disclose two situations in which [the fraud exception] may be relied upon. It may be deployed in support of an application for interdict to prevent the bank from meeting a demand made by the beneficiary in the letter of credit or guarantee, where the bank’s customer is in a position to satisfy the court that there is a prima facie case that the beneficiary is acting fraudulently in making the claim, and that the balance of convenience favours interim interdict… The fraud exception may also be deployed as a defence to a claim for reimbursement by the bank against its customer in respect of sums paid in response to the demand of the beneficiary in the letter of credit or guarantee.
The latter situation arises where the Confirming or Issuing Bank has decided that the material brought before it, otherwise in support of applying the fraud exception, was insufficient to withhold payment. Where the issuer wishes to avoid reimbursement to the bank, the issuer must show that a fraud has indeed been committed by the beneficiary, and contrary to the bank’s position, the material was sufficient evidence of fraud to justify the bank refusing payment.
The Convention appropriately refers only to the right of the guarantor/issuer to withhold payment. There is no need for the Convention, or any ancillary rules applicable to letters of credit or demand guarantees, separately to deal with the second situation as enunciated in the Holmes case. Although there are no cases to date, due to the recent and limited application of the Convention, where circumstances arise in which the guarantor/issuer declines to exercise the right, as granted by Art 19(1), the principal/applicant correspondingly would question why the guarantor/issuer failed to exercise the right. The contractual relationship between the principal/applicant and guarantor/issuer would impliedly, if not expressly, require the latter to act in good faith and in the best interests of the former. Whilst the guarantor/issuer has an obligation to the beneficiary to make payment on due presentment, this obligation is contemporaneous with the contractual obligation to the principal/applicant to act in the interests of the latter where fraud arises, or more specifically, an Art 19(1) situation arises. Just as the guarantor/issuer should consider the position of the principal/applicant where discrepant documents are presented, the guarantor/issuer can be held contractually liable if the right to withhold payment is not exercised to the detriment of the principal/applicant.
Article 19(1) strikes a balance between the competing interests and considerations of the parties involved. The official Explanatory Note to the Convention explicates that by giving the guarantor/issuer a right and not a duty and by requiring a good faith component, the Convention is ‘sensitive to the concern of guarantor/issuers over preserving the commercial reliability of undertakings as promises that are independent from underlying transactions’.[175]
The Convention does not annul any rights that the principal/applicant may have in accordance with its contractual relationship with the guarantor/issuer to avoid reimbursement of payment made in contravention of the terms of that contractual relationship.[176]
Where the right arises under Art 19(1), the Convention affirms that the principal/applicant is entitled to provisional court measures to block payment. The level of fraud typically required for court intervention in similar circumstances under the UCP, ISP98 and URDG is fraught with inconsistent judgments and considerations. Article 20 spells out the circumstances in which the parties agree to the issue of provisional court measures.[177]
The standard of proof is established in Art 20. Orders may be made where it is shown that there is a ‘high probability’ of the Art 19(1) fraudulent or abusive circumstances ‘on the basis of immediately available strong evidence’. Additionally, the court must consider whether the principal/ applicant would be ‘likely to suffer serious harm’ in the absence of the provisional measures. In this regard the court may require the applicant for the order to furnish security.
Article 20(3) adds that the provisional court orders blocking payment or freezing proceeds may also be made in the case of use of an undertaking for a criminal purpose.
The fraud exception has been fashioned, even from the Sztejn decision, not to violate the autonomy principle. The courts have kept a balance between maintaining the integrity, certainty and stability of the letter of credit as an international tour de force, with ensuring that rogues do not profit from their actions and that the letter of credit is not used as a vehicle to facilitate fraud.[178]
In Dynamics Corporation of America v Citizens & Southern National Bank,[179] the court, without coming to a conclusion, wrestled with the competing views of considering the plaintiff’s ‘chance of winning this suit’. ‘There is as much public interest in discouraging fraud as in encouraging the use of letters of credit.’[180] Too few courts have recognised the need to balance to competing interests, in particular, appreciating the importance of maintaining the integrity and credibility of the letter of credit.
Bernard Wheble sardonically states: ‘…(t)he way to avoid fraud is to avoid dealing with a rogue.’[181] Wheble is referring to circumstances where fraud cannot be avoided. Leaving the matter purely to actions at law based on the underlying contracts will prove inadequate. Only attacking the disease at the root will accord a sense of justice. This has been recognised since at least Derry v Peek and adopted and used by courts dealing with letter of credit issues.
[1] BA (Computing Science) (Woll), LLM (Research) (Qld), Lecturer, TC Beirne School of Law, University of Queensland, Brisbane, Solicitor and Barrister of the Supreme Court of New South Wales and of the High Court of Australia.
[2] ‘Conflict of laws issues relating to letters of credit: An English perspective’, extracted from C Cheng (ed), Clive M Schmitthoff’s Select Essays on International Trade Law, Martimus Nijhoff Publishers/ Graham & Trotman London, 573.
[3] Ellinger, EP, ‘The uniform customs—their nature and the 1983 revision’ [1984] LMCLQ 578. In the past decade a number of other competing regimes have emerged, such as the International Standby Practices (ISP98) and the US UCC, Art 5.
[4] Kozolchyk, B, Bernard Spencer Wheble (1904–1998) In Memoriam, 1999 Annual Survey of Letter of Credit Law and Practice, Institute of International Banking Law & Practice Inc, Montgomery Village, MD, 18, 21; emphasis added.
[5] From the brochure number allocated by the ICC.
[6] [1955] 2 Lloyd’s Rep 147 at 165.
[7] Donaldson LJ in Intraco Ltd v Notis Shipping Corporation of Liberia: The Bhoja Trade [1981] 2 Lloyd’s Rep 256 at 257.
8 Ibid.
[9] Sometimes termed the Accepting Bank or Negotiating Bank.
[10] UCP 500, Art9.
[11] TD Bailey, Son & Co v Ross T Smith & Co Ltd (1940) 56 TLR 825 at 828 (Lord Wright).
[12] The principle is well established in common law, rules of practice and rules of law, eg, UCP 500, Art 3, contains the embodiment of this principle that credits are separate from the sales or other contracts on which they may be based. ‘[B]anks are in no way concerned with or bound by such contracts.’ ISP98, Rule 1.07, provides: ‘An issuer’s obligations toward the beneficiary are not affected by the issuer’s rights and obligations toward the applicant under any applicable agreement, practice, or law.’ UCC, Art 5–103(d): ‘Rights and obligations of an issuer to a beneficiary or a nominated person under a letter of credit are independent of the existence, performance, or non-performance of a
contract or arrangement out of which the letter of credit arises.’ UCC, Art 5–108(f): ‘An issuer is not responsible for…the performance or non-performance of the underlying contract, arrangement, or transaction.’ UN Convention on Independent Guarantees and Standby Letters of Credit, Art 3, is headed ‘Independence of undertaking’ and provides: ‘…an undertaking is independent where the guarantor/issuer’s obligation to the beneficiary is not…dependent upon the existence or validity of any underlying transaction, or upon any other undertaking…’; URDG, Art 2(b), provides that: ‘Guarantees by their nature are separate transactions from the contract(s) or tender conditions on which they may be based, and Guarantors are in no way concerned with or bound by such contract(s)…’
[13] Typically the Paying Bank may be the Issuing Bank or the Confirming Bank.
[14] See Wunnicke, B, Wunnicke, D and Turner, PS, Standby and Commercial Letters of Credit, 1996, New York: Wiley, 158.
[15] See Pillans v Van Mierop [1765] EngR 40; (1765) 3 Burr 1663 at [1765] EngR 40; 1666; 97 ER 1035.
[16] The autonomy principle and related doctrine of strict performance form the foundation that makes the letter of credit a valuable commercial instrument. Lord Denning in Power Curber International Ltd v National Bank of Kuwait [1981] 1 WLR 1233 describes that value, stating that: ‘It is vital that every bank which issues a letter of credit should honour its obligations. The bank is in no way concerned with any dispute that the buyer may have with the seller…It ranks as cash and must be honoured.’ The purpose of utilising banks is to secure mutual advantage to both parties—to be of advantage to the seller to be given ‘what has been called in the authorities a “reliable paymaster’”, who can sue, and of advantage to the buyer in that he can make arrangement with his bankers; Soproma SpA v Marine & Animal By-Products Corporation [1966] 1 Lloyd’s Rep 367 at 385 (McNair J).
[17] Each of these terms and case examples is referred to in this paper.
[18] See below.
[19] Cf Bank of Canton Ltd v Republic National Bank of New York 509 F Supp 1310 (1980).
[20] ICC Banking Commission, ‘Latest queries answered by the ICC Banking Commission’ (1997) 3(2) Documentary Credits Insight 6.
[21] Eg, May, J, ‘Letters of credit—the fraud exception’ (2000) 3 Verulam Buildings Banking Law Newsletter; Ellinger, after analysing the autonomy principle, gives one exception, stating that ‘[i]n one case’ the banker may be justified in refusing to accept of the documents, namely ‘when the banker knows them to be fraudulent’: Ellinger, EP, Documentary Letters of Credit—A Comparative Study, 1970, Singapore: University of Singapore Press, 190; Wunnicke and Wunnicke, op cit, fn
[14] . On the other side, see generally Fellinger, GA, ‘Letters of credit: the autonomy principle and the fraud exception’ (1990) 2 Journal of Banking and Finance Law 4.
[22] Eg, Aston J in Pillans v Van Mierop [1765] EngR 40; (1765) 3 Burr 1663 at [1765] EngR 40; 1666; 97 ER 1035 at 1041 stated, ‘if there be a turpitude or illegality in the consideration of a note, it will make it void, and may be given in evidence: but here nothing of that kind appears, nor any thing like fraud in the plaintiffs’ (emphasis added). His Honour thus made the first mention of the illegality exception. In Old Colony Trust Co v Lawyers’ Title & Trust Co 297 F 2d 152 (2nd Cir 1924), the court stated that ‘when the issuer of a letter of credit knows that a document, although correct in form, is, in point of fact, false or illegal, he cannot be called upon to recognize such a document as complying with the terms of a letter of credit’ (emphasis added). The international sanctions against Iraq in the 1990s resulted in a number of disputes. See Baraes, JG and Byrne, JE, ‘Letters of credit: 1996 cases’ (1998) Annual Survey of Letter of Credit Law and Practice, Institute of International Banking Law & Practice Inc, Montgomery Village, MD 12. See Dolan, JF, The Law of Letters of Credit—Commercial and Standby Credits, 2nd edn. 1991, Boston: Warren. Gorham & Lamont, Chapter 7.
[23] Eg, see Barnes and Byrne, ibid at 12, 21. The receiver may attempt to disaffirm the letter of credit obligation whilst retaining the collateral security of the applicant. The typical position is that where an applicant is insolvent, a payment made to the Issuing Bank within the preference period cannot be clawed back as a preference, eg, Baja Boats Inc v Northern Life Insurance Co 203 BR 71 (1996) and Martin v Westfall Township 197 BR 31 (1996). Moreover, security and collateral held by the bank for the express purpose of the letter of credit is not claimable by the estate. See In re Ben Franklin Retail Store Inc 195 BR 455 (1996). See also Neidle, JL and Bishop, W, ‘Commercial letters of credit: effect of suspension of Issuing Bank’ (1932) 32 Columbia Law Review 1.
[24] Eg, Thodos, N, ‘Mareva injunction, attachment and the independence principle: balancing the interests’ (1995) 6 Journal of Banking and Finance Law and Practice 101. ‘[T]here is no doubt that… Mareva injunctions…are available against a beneficiary once the beneficiary has a chose in action under the letter of credit. All that is necessary at law to trigger a Mareva injunction on a letter of credit is a good arguable case and a real risk of the dissipation of the beneficiary’s assets…’ (at 118).
[25] Eg, the Trade Practices Act 1974 (Cth), s 51A A, has been judicially cited as further erosion of the autonomy principle. Section 51A A contains a prohibition against acting unconscionably. Olex Focas Pty Ltd v Skodaexport Co Ltd [1998] 3 VR 380 at 404 (Young J): ‘The effect of the statute, applying as it does to international trade and commerce, is to work a substantial inroad into the well-established common law autonomy of letters of credit and performance bonds and other bank guarantees.’
[26] ‘On the basis of black letter law there is no doubt that…attachment [is] available against a beneficiary once the beneficiary has a chose in action under the letter of credit… All that is necessary to allow attachment is successful compliance with the relevant courts ‘rules.’ Thodos, op cit, fn 24, 118; Dolan, op cit, fn 22, Chapter 7.
[27] Much Ado About Nothing, Balthasar—Act II Scene iii.
[27] a Attributed to Benjamin Disraeli—also known as Lord Beaconsfield.
[28] [1983] AC 168 at 184; see also London General Omnibus v Holloway [1912] 2 KB 72 at 81; Sarna, L, ‘Letters of credit: electronic credits and discrepancies’ (1990) 4 Banking and Finance Law Review 149 at 153–54.
[29] McDonnell, DL and Monroe, JG, Kerr on the Law of Fraud and Mistake, 7th edn, 1952, London: Sweet & Maxwell, 3.
[30] See Reynell v Sprye (1852) 1 DM G 660 at 697; Smith v Kay [1859] EngR 38; (1859) 7 HLC 750 at 775.
[31] Eg, see Scholefield v Templer (1859) Johns 155; 4D & J429; Tophamp v Duke of Portland (1863) 1 DJ & s 517 at 569 (Turner LJ); Morley v Lougham [1893] 1 Ch 736 at 757; Schneider v Heath (1813) 3 Camp 506; Boyd v Forest [1911] SC 33 at 61; London and General Omnibus Co Ltd v Holloway [1912] 2 KB 72 at 81; Lazarus Estates Ltd v Beasely [1956] 1 QB 702.
[32] See Byrne, JE, ‘Commercial fraud: an overview’ (1996) Annual Survey of Letter of Credit Law and Practice, Institute of International Banking Law & Practice Inc, Montgomery Village, MD, 34; Colleran, JA, ‘Letter of credit fraud—who suffers? How can it be overcome?’, 1996 Annual Survey of Letter of Credit Law and Practice, Institute of International Banking Law & Practice Inc, Montgomery Village, MD 1997, 40.
[33] [1889] UKHL 1; (1889) 14 App Cas 337 at 374 (Lord Herschell).
[34] In Peek v Gurney (1873) LR 6 HL 377 at 403, Lord Cairns considered that fraud existed where there was a partial statement of fact in such a manner that the withholding of what is not stated ‘makes that which is stated absolutely false’.
[35] [1893] 1QB 491at 498.
[36] Ventris, FM, Bankers Documentary Credits, 3rd edn, 1990, London: Lloyd’s of London, 155.
[37] See generally McCurdy, WE, ‘Commercial letters of credit’ (1922) 35 Harvard Law Review 539 at 583–84. See also Columbia Law Review Notes, ‘Commercial letters of credit’ (1921) 21 Columbia Law Review 176 at 180, stating that in a letter of credit situation ‘(i)f the buyer could show fraud on the part of the seller…an injunction might be granted’.
[38] See Thayer, PH, ‘Irrevocable credits in international commerce: their legal effects’ (1937) 37 Columbia Law Review 1326 at 1335.
[39] (1941) 31 NY Supp 2d 631.
[40] [1765] EngR 40; (1765) 3 Burr 1663; 97 ER 1035 (Lord Mansfield): ‘All letters of credit relate to future credit; not to debts incurred before.’ Interestingly, some commentators list Robbim v Bingham 4 Johns 476, NY (1809) as the earliest case on letters of credit, a view which may be explained as an American bias.
[41] See also Mason v Hunt (1779) 1 Doug 297; 99 ER 192, another judgment of Lord Mansfield.
[42] [1765] EngR 40; (1765) 3 Burr 1663 at [1765] EngR 40; 1668; 97 ER 1035 at 1037,
[43] Lord Mansfield also discussed the common law contract principle of consideration.
[44] [1765] EngR 40; (1765) 3 Burr 1663 at [1765] EngR 40; 1666; 97 ER 1035 at 1036.
[45] Ibid.
[46] Ibid at 1668; at 1037.
[47] Ibid at 1669; at 1038.
[48] Ibid at 1673; at 1040.
[49] Ibid at 1666; at 1041. Aston J thus made the first mention of the other significant exception, namely illegality.
[50] (1941) 31 NY Supp 2d 631 at 635.
[51] 297 F 2d 152 (2nd Cir 1924).
[52] Ibid at 158. Comment has been made that this statement is obiter. The reason for this comment is that the decision of the court is most likely based on the court’s approach that the warehouse receipt failed to comply with the terms of the letter of credit. Given this discrepancy, it would be unnecessary to decide further the issue of fraud and illegality. However, the better view is that the decision was made in the alternative and that the ratio of the case includes the significant issue of fraud and illegality.
[53] 106 Misc 168 1919; 175 NYS 279 1919.
[54] (1922) LI LR 168, KBD. Interestingly, the relatively modern case of Contronic Distributors Pty Ltd and Bank of New South Wales (1984) 3 NSWLR 110 at 115 cited Sztejn, Old Colony Trust and Société Metallurgique and only one ‘modern’ case as authority for the fraud exception in New South Wales.
[55] 106 Misc 168 (1919); 175 NYS 279 (1919) at 280.
[56] In referring to the Higgins case, Sztejn made mention that it was distinguished in Frey & Son Inc v ER Sherburne Co 193 App Div 849; 184 NYS 661 (NYSC 1920) in which the court says nothing about fraud, just that in regard to the Higgins case, ‘We are of the opinion that the facts appearing in that case did not warrant the granting of an injunction’.
[57] (1922) LI LR 168, KBD.
[58] Ibid at 169.
[59] Ibid at 170 (emphasis added). The second ‘way’ relates to misdescription of goods and has no bearing on the issue of fraud.
[60] 146 NE 636 (NYCA 1925).
[61] Ibid at 639.
[62] Ibid.
[63] (1941) 31 NY Supp 2d 631.
[64] See generally, Ellinger, op cit, fn 21, 190–96; Dolan, op cit, fn 22, 7.29–7.83; Wunnicke, Wunnicke and Turner, op cit, fn 14, 159–60: the Banco Santander case (2000) 15 JIBL 22; May, op cit, fn
[21] .
[65] The Sztejn case was a procedural matter: a motion by the defendant on the grounds that the facts did not disclose a cause of action. The court had to assume the facts to be true for the purpose of the hearing. This included the fact that the ‘Advising Bank’ (the correspondent bank, namely Chartered Bank) was not a holder in due course. So whether or not it would be, or should be, was not argued or examined. It may well be that the bank must be a holder in due course and that it should be paid as such, notwithstanding the fraud. However, the matter remains moot and the case remains pivotal in letter of credit legal history and development. Shientag J noted, ‘For the purposes of this motion, the allegations of the complaint must be deemed established and “every intendment and fair inference is in favor of the pleading”…it must be assumed that Transea was engaged in a scheme to defraud the plaintiff and Schwarz, that the merchandise shipped by Transea is worthless rubbish and that the Chartered Bank is not an innocent holder of the draft for value but is merely attempting to procure payment of the draft for Transea’s account’ (at 633).
[66] (1941) 31 NY Supp 2d 631 at 633.
[67] Ibid.
[68] Ibid. Shientag J uses the expression ‘principle of independence’.
[69] Ibid at 634. Shientag J repeated his view on fraud as an exception in Ashbury & Ocean Grove Park Bank v National City Bank of New York (1942) 35 NYS 2d 985 at 988.
[70] Ibid at 634–35.
[71] Byrne, JE, ‘Overview of letter of credit law and practice in 1997’ (1998) Annual Survey of Letter of Credit Law and Practice, Institute of International Banking Law & Practice Inc, MD 3,10.
[72] Eg, see Gerald Metals Inc v UBS AG (Conn Sup Ct 1999) LEXIS 2901.
[73] Aspen Planners Ltd v Commerce Masonary & Forming Ltd (1979) 100 DLR (3d) 546 at 548 (Henry
J) (emphasis added). 74 The terms are referred to throughout this paper.
[75] (1856) 18 D 677 at 682.
[76] Drummond’s Trustees v Melville (1861) 23 D 450 at 462.
[77] (1852) 14 D 721 at 725; 1 Macq 535 at 539.
[78] (1895) 22 R 432 at 436.
[79] No mention is made by any of the earlier versions of the UCP.
[80] ISP98, Rule 1.05 Exclusion of matters related to due issuance and fraudulent or abusive drawing These Rules do not define or otherwise provide for: (a) power or authority to issue a standby; (b) formal requirements for execution of a standby (eg, a signed writing); or (c) defenses based on fraud, abuse, or similar matters. These matters are left to applicable law’.
[81] [1977] 3 WLR 764; [1978] 1 All ER 976 (Kerr J), CA (Lord Denning MR, Browne LJ, Geoffrey Lane J).
[82] Eg, the Edward Owen case is described by Hollingworth J as ‘the definitive case on letters of credit’; CDN Research & Development Ltd v Bank of Nova Scotia (No 2) (1981) 32 OR (2d) 578; 122 DLR (3d) 485.
[83] [1958] 2 QB 127; 1 All ER 262.
[84] Ibid at 129; at 263. Jenkins LJ then added, ‘(i)t has also to be remembered that a vendor of goods selling against a confirmed letter of credit is under the assurance that nothing will prevent him for [sic] receiving the price. That is no mean advantage when goods manufactured in one country are being sold in another. Furthermore, vendors are often re-selling goods bought from third parties. When they are doing that, and when they are being paid by a confirmed letter of credit, their practice…is to finance the payments necessary to be made to their suppliers against the letter of credit. That system of financing these operations, as I see it, would break down completely if a dispute between the vendor and the purchaser were to have the effect of “freezing”, if I may use the expression, the sum in respect of which the letter of credit was opened’.
[85] Lord Denning then referred to the exception’s origin in Sztejn’s case.
[86] [1978] 1 All ER 976 at 981–82.
[87] [1977] 2 All ER 862 at 870; 3 WLR 752 at 761. Denning further quotes Howe Richardson Scale Co Ltd v Polimex-Cekop (1977) Court of Appeal Transcript 270; [1978] 1 Lloyd’s Rep 161: ‘…the obligation of the bank is to perform that which it is required to perform by that particular contract, and that obligation does not in the ordinary way depend on the correct resolution of a dispute as to the sufficiency of performance by the seller to the buyer or by the buyer to the seller as the case may be under the sale and purchase contract; the bank here is simply concerned to see whether the event has happened on which its obligation to pay has arisen.’
[88] (1972) The Times, 4 October.
[89] See fn 105, below.
[90] [1978] 1 All ER 976 at 984.
[91] Ibid. Geoffrey Lane J said that the exception applies equally to demands made under a performance guarantee or letter of credit (at 986).
[92] Ibid at 986.
[93] 360 NE 2d 943 (NYCA 1976), see below.
[94] See, eg, Etablissement Esefka Int’l Anstalt v Central Bank of Nigeria [1979] 1 Lloyd’s Rep 445 at 447–48.
[95] [1977] 3 WLR 764; [1978] 1 All ER 976.
[96] Recon Optical Inc v Government of Israel [1987] USCA2 348; 816 F 2d 854, 858 (2nd Cir 1987).
[97] 3Com Corp v Banco Do Brasil SA 171 F 3d 739 at 745; WL 15261 (2nd Cir NY 1999). This case involved a standby letter of credit for $250,000 subject to the UCP 500.
[98] 171 F 3d 739 1999; WL 15261 (2nd Cir NY 1999).
[99] Ibid at 748. The court attributed its quote to Recon Optical Inc v Government of Israel [1987] USCA2 348; 816 F 2d 854 (2d Cir 1987).
[100] WL 93591 (NY 1999).
[101] (1979) 100 DLR (3d) 546 (Henry J).
[102] Ibid at 547.
[103] Ibid at 548 (emphasis added).
[104] (1987) 36 DLR (4th) 161 (Beetz, Estey, Chouinard, Le Dain and La Forest JJ) (Chouinard J did not take part in the judgment).
[105] Eg, see Bank Russo-Iran v Gordan Woodroffe & Co (1972) The Times, 4 October. ‘In my judgment, if the documents are presented by the beneficiary himself, and are forged or fraudulent, the bank is entitled to refuse payment if the bank finds out before payment, and is entitled to recover the money as paid under a mistake of fact if it finds out after payment.’ (Browne LJ.)
[106] (1987) 36 DLR (4th) 161 at 176.
[107] Ibid at 177.
[109] Ibid at 65.
[110] In Rosen v Pullen (1981) 126 DLR (3d) 62 at 72, the Ontario High Court of Justice agreed with Gilligan J, stating: ‘…it is not logical to refer to ‘established fraud’ or “clear fraud” on an interlocutory motion where the Court has not seen or heard the parties. In my opinion Rosen has made out a good prima facie case of fraud. Calling upon payment of the proceeds of the letter of credit for US$100,000 within two business days of the receipt of the letter of credit, when prima facie she knows she is not entitled to these proceeds constitutes fraud.’
[111] (1981) 32 OR (2d) 578; 122 DLR (3d) 485.
[112] This was due in part to the Iraq-Iran war.
[113] Notably, the main letter of credit had expired on 1 December 1980. The performance letter of credit had an expiry date of 31 July 1981. One reason for the claim of fraud includes the submission that the performance letter of credit was contingent on the main letter of credit remaining in force until payment and delivery. See 122 DLR (3d) 485 at 487.
[114] Hollingworth J found that the letter of credit was revocable, but proceeded to make obiter findings on the presupposition that it was irrevocable: 122 DLR (3d) 485 at 490–91.
[115] CDN Research & Development Ltd v Bank of Nova Scotia (1982) 136 DLR (3d) 656, Divisional Court (Krever, Smith and Potts JJ).
[116] Ibid at 661.
[117] See above.
[118] (1982) 136 DLR (3d) 656 at 662.
[119] Smith J, at 662, cites Itek Corp v First National Bank of Boston (1981) 511 F Supp 1341, for this proposition.
[120] See also Western Surety Co v Bank of Southern Oregon (US Dist Ct 1999) LEXIS 8863. The Oregon court held that the applicable fraud standard is ‘a material fraud by the beneficiary’, and that ‘it is proper for the court to go beyond the documentation required by the letter of credit’. The court determined that the bank faile to produce sufficient evidence to support a claim of material fraud.
[121] [1983] USCA2 932; 719 F 2d 583(2nd Cir 1983).
[122] No 13–98–272-CV (Tex App 1999).
[123] Cf Gerald Metals Inc v UBSAG (Conn Sup Ct 1999) LEXIS 2901.
[125] Ibid at 183.
[126] Bank of Nova Scotia v Angelica-Whitewear Ltd (1987) 36 DLR (4th) 161 at 173.
[127] Ibid at 177.
[128] 336 A 2d 316 (Pa SC 1975).
[129] Ibid at 324.
[130] 413 NE 2d 1288 (III App 1980).
[131] 171 F3d 739 (2nd Cir 1999).
[132] Byrne, JE and Byrnes, CS (eds), ‘Case summaries’ (2000) Annual Survey of Letter of Credit Law and Practice, Institute of International Banking Law & Practice Inc, MD 281, 284.
[133] 378 A 2d 562 at 567 (Conn SC 1977).
[134] (1981) 126DLR(3d)62.
[135] Ibid at 69.
[136] (1987) 36 DLR (4th)161.
[137] Ibid. The Supreme Court followed the principle as laid down in Edward Owen Engineering Ltd. Barclays Bank International Ltd [1977] 3 WLR 164; [1978] 1 All ER 976, referred to above.
[138] Ibid at 177–78.
[139] Ibid. See also Aspen Planners Ltd v Commerce Masonry & Forming Ltd (1979) 100 DLR (3d) 546; 25 OR (2d) 167; 7 BLR 102, HC, where the Canadian High Court refused to issue injunctions on the ground that there had been no proof of fraud.
[141] Ibid at 1074. It has already be noted that the Sztejn case was a procedural matter, involving a motion by the defendant that the facts did not disclose a cause of action. The court had to assume the facts to be true for the purpose of the hearing. See fn 65, above. Hence, the fraud was established in a fictional manner. If Shientag J remitted the matter back for a hearing on the facts and that case applied the standard espoused by Megarry J, the result, although not the law, would have been different.
[142] Ibid at 1075.
[143] Ibid. SH Van Houtten considers a number of cases which reflect a less strict view of the fraud exception: ‘Letters of credit and fraud: a revisionist view’ (1984) 62 Can Bar Rev 371 at 380– 81. Van Houtten cites Dynamics Corporation of America v Citizens & Southern National Bank 356 F Supp 991 (ND Ga 1973); NMC Enterprises Inc v Columbia Broadcasting System Inc 14 UCC Rep 1427 (NYSC 1974); United Bank Ltd v Cambridge Sporting Goods Corporation 360 NE 2d 943 (NYCA 1976), as cases where preliminary injunctions were granted to restrain an Issuing Bank from paying under a letter of credit on the ground of beneficiary fraud, and which reflect a less strict view of the fraud exception than under UCC, s 5–114. First Arlington National Bank v Stathis 413 NE 2d 1288 at 1289 (III App 1980) describes ‘fraud in the transaction’ as ‘a narrow exception’. See also Foreign Venture Ltd Partnership v Chemical Bank 399 NYS 2d 114 (App Div 1977). See also Lumcorp Ltd v Canadian Imperial Bank of Commerce [1977] Que SC 993, in which injunctions were refused on the ground that there had been no proof of fraud. See also NMC Enterprises Inc v Columbia Broadcasting System Inc 14 UCC Rep 1427 (NYSC 1974).
[144] (Conn Sup Ct 1999) LEXIS 2901.
[145] [1999] 2 All ER (Comm) 18.
[146] UCP 500, Art 14(a) states in part: ‘When the Issuing Bank authorises another bank to pay, incur a deferred payment undertaking, accept Draft(s) or negotiate against documents which appear on their face to be in compliance with me terms and conditions of the Credit, the Issuing Bank…(is) bound: (i) to reimburse the Nominated Bank…(ii) to take up the documents.’
[147] Collyer, G, et al, ‘How to revise the UCP: DWC experts give their suggestions’ (1999) 3(5) Documentary Credit World 18 at 19.
[148] Statement at the 2000 Annual Survey of Letter of Credit Law and Practice, New York, 9 March 2000. Dan Taylor is also President of the International Financial Services Association.
[149] Ibid.
[150] See Byrne, JE, ‘The official commentary on the International Standby Practices’ (1998) Institute of International Banking Law & Practice Inc, MD 20.
[151] See notes on Sztejn above. See also Recon Optical Inc v Government of Israel [1987] USCA2 348; 816 F 2d 854 (2nd Cir 1987).
[152] ISP98, Rule 1.05. Exclusion of matters related to due issuance and fraudulent or abusive drawing: ‘These Rules do not define or otherwise provide for: (a) power or authority to issue a standby;
(b) formal requirements for execution of a standby (eg a signed writing); or (c) defenses based on fraud, abuse, or similar matters. These matters are left to applicable law.’
[153] MacDonald, E, Exemption Clauses and Unfair Terms, 1999, London: Butterworths. See Pearson & Son v Dublin Corporation [1907] AC 351 at 362, 365, HL. Also Scheider v Heath (1813) 3 Camp 506; Garden Neptune Shipping Ltd v Occidental Worldwide Investment Corporation [1990] 1 L1 Rep 330; Skipskredittforeningen v Emporor Navigation [1997] CLC 1151 at 1165.
[154] [1982] 1 All ER 634 at 641.
[155] Thomas Witter v TBP Industries Ltd [1996] 2 All ER 573; 12 Tr LR 145.
[156] (1987) 36 DLR (4th) 161, see above. This case gives an excellent comparison of the differing standards in a number of jurisdictions.
[157] The UCP is referred in the subsequent paragraphs by way of example, however the discussion equally applies to other rules of practice such as the ISP98.
[158] See Arts 19 and 20. On the UN Convention, see below.
[159] Printing and Numerical Registering Co v Sampson (1875) LR 19 Eq 462 at 465.
[160] When the UCP is next revised there may be many other changes. This suggestion is made to fit in within the context of the UCP 500. The reason for not drafting a new Article is that the current sub-Articles within Art 14 already apply to discrepancies which can equally apply to the circumstances of the fraud exception.
[161] UN, Art 19(2)(e) applies to demand guarantees. UN, Art 19(2)(a) would typically apply to guarantees, however, it could apply to standby letters of credit. The proposed amendment could be altered to include this provision.
[162] See the forward to the UCP 500 and the preface to the ISP98. 163 In the case of the UCP.
[164] See Compagnie d’Armement Maritime SA v Compagnie Tunisienne de Navigation SA [1971] AC
[572] . Cf Golden Acres Ltd v Queensland Estates Pty Ltd [1969] Qd R 378. Eg, Cantrade Privatbank
AG Zurich v Bangkok Bank Public Company Ltd 681 NYS 2d 21 (1998). 165 171 F 3d 739 (2nd Cir 1999); WL 15261 (2nd Cir
[167] See official Explanatory Note to the Convention, para 45.
[168] Ibid.
[169] Ibid (emphasis added).
[170] See above.
[171] Article 19(2). See also the official Explanatory Note, para 47.
[172] del Busto, C (ed), Documentary Credits—UCP 500 & 400 Compared, ICC Brochure No 511, 2 and 49.
[173] Rule 1.05.
[174] [1999] Scot CS 10 at 29; SLT 563.
[175] Paragraph 48.
[176] See official Explanatory Note, para 49.
[177] Article 20(1): ‘Where, on an application by the principal/applicant or the instructing party, it is shown that there is a high probability that, with regard to a demand made, or expected to be made, by the beneficiary, one of the circumstances referred to in sub-paragraphs (a), (b) and (c) of parargraph [cont]
[178] Hence the well respected statement, ‘It is only in exceptional cases that the courts will interfere with the machinery of irrevocable obligations assumed by banks’: Kerr J in RD Harbottle (Mercantile) Ltd v National Westminster Bank Ltd [1977] 3 WLR 752 at 761; 2 All ER 862 at 870. Fellinger, GA, concludes that ‘the utility of letters of credit in international transactions no longer presents a compelling rationale for upholding a strict autonomy rule’: ‘Letters of credit: the autonomy principle and the fraud exception’ (1990) 2 Journal of Banking and Finance Law 4 at 7. See also I Thodos, N, ‘Mareva injunction, attachment and the independence principle: balancing the interests’ (1995) 6 Journal of Banking and Finance Law and Practice 101. (1) of article 19 is present, the court, on the basis of immediately available strong evidence, may: (a) Issue a provisional order to the effect that the beneficiary does not receive payment, including an order that the guarantor/issuer hold the amount of the undertaking; or (b) Issue a provisional order to the effect that the proceeds of the undertaking paid to the beneficiary are blocked, taking into account whether in the absence of such an order the principal/applicant would be likely to suffer serious harm. (Emphasis added.)
[179] 356 F Supp 991 (ND Ga 1973).
[180] Ibid at 1000.
[181] Wheble, B, ‘Revisions compared and explained (documentary credits)’ UCP 1974/1983, ICC Pub
No 411; (1984) 15.
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