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New Jersey Title Insurance Company v. Caputo

318 N.J. Super. 311, 723 A.2d 994 (App. Div. 1999)

FIDUCIARIES; BANKS; CHECKS—Under the Uniform Fiduciaries Law, a bank is not liable for allowing an attorney to improperly withdraw funds from a trust account if the bank doesn’t act in bad faith with actual knowledge that the withdrawals are improper.

A lawyer embezzled loan funds that had been deposited in his attorney trust account. The embezzled funds had been earmarked for the payment of mortgages on properties purchased by his clients. A title company paid the mortgagees and sued the bank, contending that the bank had acted in bad faith by permitting the lawyer to withdraw funds in cash or by certified check payable to himself from his attorney trust account. Over a three month period, the attorney issued 58 checks payable to himself and drawn on his trust account. In the bottom “memo” portion of the checks, he generally wrote “fees” or “costs.” Most of the checks were either certified or cashed by the bank. Bank employees were aware that the lawyer used the checks or the cash for casino gambling. Because the checks were often written in relatively large amounts, bank officials were required to approve them. Although the branch officers knew that an attorney trust account consisted largely of clients’ funds, they did not know that an attorney could not ethically cash attorney trust account checks and use the proceeds for personal benefit. As time passed, the bank’s officers became “suspicious” of the lawyer’s activities. However, these suspicions did not concern the possibility that the lawyer was misappropriating client’s funds, but rather that the lawyer was attempting to evade Internal Revenue Service reporting regulations by drawing multiple checks. The suspicions led the bank to close the lawyer’s attorney business account shortly before the lawyer’s defalcations came to light. The title company charged that these facts made the bank liable to it because it did not exercise due care in allowing the lawyer to use trust account funds for personal purposes. The bank contended that it was immune from liability under the Uniform Fiduciaries Law because it did not have “actual knowledge” of the lawyer’s breach of duty and it did not act in “bad faith.”

Under the Uniform Fiduciaries Law, a fiduciary, such as a bank, is not liable unless it takes an instrument with actual knowledge of the breach of fiduciary duty or with knowledge of such facts that its action in taking the instrument amounts to bad faith. The Law does not contain a definition of “bad faith.” However, the Law states that “[a] thing is done ‘in good faith’ ... if it is in fact done honestly, whether it be done negligently or not.” As such, “bad faith, with its sinister implications, means knowledge by any responsible agency, officer or employee or a bank, of an incriminating state of facts, short of actual knowledge of the breach of trust, but conscious of it and aiding and abetting, or acquiescing in the breach.” Bad faith is the test of liability. It cannot be predicated upon imputed knowledge of fragmentary facts. Consequently, a bank is not liable under the Law unless some officer or employee had actual knowledge of facts so clearly indicating misconduct as to show that the bank was guilty of bad faith. Applying those principles, the Court found no sound basis to disturb the lower court’s finding that the bank had no liability. The fact that the checks were drawn on the attorney’s trust account did not indicate that bank employees were aware of the attorney’s defalcations. Merely knowing that an attorney trust account contains funds belonging to a lawyer’s clients, does not mean that the bank’s employees have knowledge of the intricacies of an attorney’s professional and ethical obligations. Lastly, the title company argued that the UCC governed the case, in particular that a buyer has notice of a claim against the instrument when he has knowledge that a fiduciary has negotiated the instrument in payment of, or as security for, his own debt or in any transaction for his own benefit or otherwise in breach of duty. It cited, the applicable section of the UCC which states that “[a]ll statutes or parts of statutes inconsistent” with the provisions of the UCC “are repealed.” The Court did not find this provision to be helpful to the title company because it read this particular section of the UCC as repealing only those statutes or parts of statutes then in existence that were inconsistent with the UCC. Consequently, because the Uniform Fiduciaries Law was enacted after the relevant section of the UCC was enacted, the Law, not the UCC, controlled this case.


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