Chicago-Kent Law Review Volume 83 Issue 2 Symposium: Rethinking Payments in Article 7 Law April 2008 Payment Finality and Discharge in Funds Transfers Benjamin Geva Follow this and additional works at: https://scholarship.kentlaw.iit.edu/cklawreview Part of the Law Commons Recommended Citation Benjamin Geva, Payment Finality and Discharge in Funds Transfers, 83 Chi.-Kent L. Rev. 633 (2008). Available at: https://scholarship.kentlaw.iit.edu/cklawreview/vol83/iss2/7 This Article is brought to you for free and open access by Scholarly Commons @ IIT Chicago-Kent College of Law. It has been accepted for inclusion in Chicago-Kent Law Review by an authorized editor of Scholarly Commons @ IIT Chicago-Kent College of Law. For more information, please contact [email protected], [email protected]. PAYMENT FINALITY AND DISCHARGE IN FUNDS TRANSFERS BENJAMIN GEVA* IN TRO DU CTION .......................................................................................... 633 I. NON-CASH PAYMENT MECHANISMS: DEBIT AND CREDIT TRA N SFER S ........................................................................................ 635 II. FINALITY OF PAYMENT FOR CHECKS ................................................ 639 III. FINALITY OF PAYMENT FOR CREDIT TRANSFERS ................... 643 IV. FINALITY OF PAYMENT FOR CREDIT TRANSFERS BY R ECEIVIN G FUN DS ............................................................................. 648 A . InterbankPaym ent .................................................................... 648 B. Acceptance by Beneficiary's Bank by Receiving Payment ........ 651 C. Final Settlement Through a FederalReserve Bank or a Funds-TransferSystem ...................................................... 652 D. InterbankPayment by Set Off ................................................... 657 V . D ISCH ARG E ........................................................................................ 659 C ON CLU SION ..............................................................................................668 A D DEN DU M ................................................................................................ 670 INTRODUCTION In connection with a non-cash payment through the banking system, "finality of payment" has acquired diverse meanings. In one sense, it has come to denote the irreversibility of the payment process, particularly in * LL.B. (cum laude), the Hebrew University of Jerusalem (1970); LL.M. (1975) and S.J.D (1980), Harvard Law School; Professor of Law, Osgoode Hall Law School of York University, To- ronto, Canada; and member of the Ontario Bar. The author is the founding Editor-in-Chief of the Bank- ing and FinanceLaw Review and the author of FINANCING CONSUMER SALES AND PRODUCT DEFENCES (1984); THE LAW OF ELECTRONIC FUNDS TRANSFER (1992) (with annual updates by contributors through 2007); and a comparative law text on BANK COLLECTIONS AND PAYMENT TRANSACTIONS (2001). He held numerous visiting positions in several countries and has written extensively, particu- larly in the areas of funds transfers and negotiable instruments. The author has been a member of work- ing groups drafting legislation on personal property security, securities transfers, and letters of credit. Under the IMF technical assistance program, he has advised and drafted key financial sector legislation for the authorities of several developing and post-conflict countries. For research assistance, the author is grateful to Joseph Salmon of Osgoode Hall Law School. 633 CHICAGO-KENT LAW REVIEW [Vol 83:2 connection with insolvency.' Otherwise, it has also been taken to signify the loss of the right to recover a mistaken payment. 2 Finally, it has been used to mark the accountability to the payee/beneficiary by a bank in- structed to pay to that payee/beneficiary. This article deals with the latter, third-listed, meaning. The article explores the occurrence of "final pay- ment" resulting in or constituting "accountability" 3 across the two catego- ries of funds-transfer systems, and further examines the relationship between "final payment" in this third sense and the discharge of an obliga- tion paid by means of the "funds transfer." In this article, unless indicated otherwise, the term "funds transfers" is to be used in a broader sense than in Article 4A of the Uniform Commer- cial Code (U.C.C.), so in fact to cover all non-cash payment systems oper- ated by banks. Stated otherwise, "funds transfers" are to be broadly described as any mechanism or process for the transmission of funds or the making of a non-cash payment through the banking system, whether it is a debit or credit transfer. "Discharge" is the satisfaction of the liability or debt in payment of which the funds transfer is made. "Payment finality" is taken to refer to the point of accountability, or the irrevocability of liability, of the bank in which the payment process is completed. In a debit transfer it is the payor bank. In a credit transfer it is the beneficiary's bank. Either way, however, it is the destination bank-the last bank in the communica- tion chain. For checks and other paper collection items covered by U.C.C. Article 4, "accountability" by the payor bank is provided for in section 4-302; it occurs upon "final payment" governed by sections 4-215(a) and 4-301(a). On its part, Article 4A of the U.C.C. does not use these terms. However, sections 4A-209, -403, -404, -405 and -406 of Article 4A deal with the receipt by the beneficiary's bank of funds to be paid to the beneficiary, as well as with payment by the beneficiary's bank to the beneficiary-matters which fall under "payment finality" in the sense used in this article. 1. See in this symposium, James Stevens Rogers, Unification of Payments Law and the Problem of Insolvency Risk in Payment Systems, 83 CHi.-KENT L. REv. 689 (2008). For a related use, see, for example, Council Directive 98/26, 1998 O.J. (L 166) 45 (EC). 2. Known also as the rule of Price v. Neal, under which the drawee takes the risk that the drawer's signature is unauthorized. (1762) 3 Burr. 1354, 97 Eng. Rep. 871 (K.B.). The rule is presently codified in U.C.C. section 3-417(a)(3). See U.C.C. § 3-417 cmt. 3 (2005). Under that rule, payment by the drawee over a forged drawer's signature may not be recovered; hence, it is "final," as was acknowl- edged, for example, in the 1962 Official Text of the U.C.C., in which the rule was codified in section 3- 418 with the heading "Finality of Payment or Acceptance." 3. That is, "accountability" is either the legal result or synonym of "final payment" and not an ensuing stage. 20081 PAYMENT FINALITY AND DISCHARGE IN FUNDS TRANSFERS "Final payment," denoting the accountability of a bank to the payee, typically marks the (absolute) discharge of the debt paid by the funds trans- fer. In both credit and debit transfers, "payment finality" is achieved by the end of a banking process, which may consist of a series of banking opera- tions in which the end-parties, payor/drawer and payee/beneficiary (that is, debtor and creditor) have no control. This constitutes a drawback in the case of a time-sensitive payment. For a debit transfer, the solution is the "conditional payment," as under U.C.C. section 3-310. This option is not available in a credit transfer. Building on the separation between absolute discharge and "finality of payment" in a bank check, this article proposes the consideration of a procedure under which a bank check is to be paid over a wire-system, thus providing a precise point of time for the actual discharge, while expediting payment and meeting regulatory concerns. The article discusses relevant provisions of the Uniform Commercial Code in a broader comparative setting, which includes general principles of English common law. It further discusses the principal issues in both debit and credit transfers, and highlights the role of contract and other private arrangements in varying laws. Ultimately, the article advocates the consid- eration of "final payment" and discharge in a comprehensive legislative scheme covering all payment systems, as well as the adoption of a mecha- nism that will best serve private parties' needs while meeting regulatory concerns. I. NON-CASH PAYMENT MECHANISMS: DEBIT AND CREDIT TRANSFERS A payment mechanism can broadly be described as any machinery fa- cilitating a non-cash payment in monetary value; while authorizing or con- ferring on the payee the right to claim the sum of payment from a third party, it enables the payor (i) to avoid the transportation of money and its physical delivery to the payee, and (ii) where applicable, to obtain in the process a discharge of a debt owed by the payor to the payee. 4 A payment mechanism carried out through the banking system may be described as a "funds transfer"; 5 thereunder, funds "move" from one bank account to an- other, whether at the same or two different banks. It involves a process under which the debt owed to the payor by the payor's bank is ultimately replaced by a new debt owed to the payee by the payee's bank. To that end, 4. This is designed to improve on, for example, Benjamin Geva, InternationalFunds Transfers: Mechanisms and Laws, in CROSS-BORDER ELECTRONIC BANKING: CHALLENGES AND OPPORTUNITIES 1, 1-2 (Chris Reed, Ian Walden & Laura Edgar eds., 2d ed. 2000). 5. Unfortunately, however, in U.C.C. Article 4A the drafters of the Uniform Commercial Code reserved the term to denote exclusively a credit transfer. U.C.C. art. 4A prefatory note. CHICAGO-KENT LAW REVIEW [Vol 83:2 the characterization of the process as a "transfer" is certainly a misnomer, 6 as in fact nothing tangible or intangible is transferred. Rather, one debt, owed by a bank to the payor, extinguishes (or decreases), and allows for another debt, that of a bank to the payee, to arise (or increase) and substi- tute it substantially 7 for the same amount. 8 A funds transfer is initiated by payment instructions given by the payor or under the payor's authority and issued directly or indirectly to the payor's bank. It is the manner of communicating these instructions to the payor's bank and the resulting sequence of the ensuing banking operations that determine the classification of each mechanism.