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I do not know the terms of the Uniform Commercial Code nor how far they exclude the common law. I, therefore, wonder whether or not Misa v. Currie (1876) 1 App. Cas. 554, insofar as it deals with the banker's lien, might be relevant.

-----Original Message-----

From: Look C Ho
Date: 13 October 1999 11:21
Subject: RDG: Cheque-kiting

I am not sure if this question has been discussed before. It is whether advances a bank makes available against uncollected cheque deposits create a debt owed by the depositor to the bank, with specific reference to the US Court of Appeals (Eight Circuit) decision in Laws v United Missouri Bank 98 F3d 1047 (1996), which I believe is going on appeal to the US Supreme Court soon.

The facts are simple. UMB regularly allowed debtor to write checks on uncollected cheque deposits. In other words, debtor was able to draw down its provisional credit before those deposited cheques were cleared. UMB maintained two balances for the debtor's account, ie the 'ledger balance' and 'collected funds balance'. The ledger balance was the sum of all collected and uncollected deposits, less debits to the account such as checks presented for payment. The collected funds balance was collected funds less debits. UMB's practice was to pay checks drawn on the debtor's provisional credits so long as it would not result in a negative ledger balance. As debtor approached insolvency, it took advantage of this facility to fund its business operations. In other words, the debtor was kiting cheques in order to survive. Although the debtor avoided an overdraft position by maintaining a positive ledger balance, its negative collected funds balance continued to grow. UMB became concerned and told the debtor that it would no longer pay on the debtor's uncollected deposits. So the debtor borrowed from another bank and transferred $4m of the loan to UMB, thereby wiping out the negative collected funds balance. Soon the debtor filed for Chapter 11 bankruptcy protection. The trustee then sought to recover from UMB the $4m as an avoidable preference.

Under the US Bankruptcy Code, the trustee must prove that the $4m was to satisfy an antecedent debt. Held that there was no antecedent debt because advances against uncollected deposits did not create a debt. The reason is that the bank did not see the advances as a credit decision, but merely a service decision. A debt would arise only at the point of dishonour. Since all the kited cheques were honoured, there was no debt.

On the face of it, the court was plain correct. Taking an event-response approach, a debt, being a legal obligation, could only be triggered by unjust enrichment in this situation. Banks make the funds available on the basis that those deposited cheques would be cleared in due course. Unless and until there is a dishonour, there can be no failure of basis, thus no debt.

But there seems to be one difficulty in fitting this 'restitutionary' reasoning into the specific statutory words. The reason is this. The court held also that there was in any event no preference because when the cheques were deposited, the Uniform Commercial Code granted UMB a security interest in those cheques and their proceeds 'to the extent to which credit given for the cheques has been withdrawn or applied". In other words, in receiving the $4m, UMB did not receive more than it would have received in a liquidating bankruptcy.

But "security interest" is defined in the UCC as "an interest in personal property or fixtures which secures payment or performance of an obligation". Applied to this context, what could that "obligation" be? Obligation to pay the bank for those advances? If so, this must be a debt. So was the court having the cake and eating it?

Even if one takes the position that the debtor is only obliged to pay the bank if the cheques are dishonoured, arguably the bank has a contingent claim against the debtor, the contingency being dishonour. If so, there is again a debt. "Debt" is defined in the Bankruptcy Code as "liability on a claim". "Claim" is defined in the Code as "right to payment, whether or not such right is contingent."

Any comments? Does this show that statutes are inherently unprincipled?

Look C Ho