Case Name: Underpinning & Foundation Constructors, Inc., Respondent, v. Chase Manhattan Bank, N.A., et al., Defendants, and Bank of New York, Appellant
Court: New York Supreme Court, Appellate Division
Jurisdiction: New York
Decision Date: 1978-03-23
Citations: 61 A.D.2d 628
Docket Number: 
Parties: Underpinning & Foundation Constructors, Inc., Respondent, v Chase Manhattan Bank, N.A., et al., Defendants, and Bank of New York, Appellant.
Judges: 
Reporter: Appellate Division Reports
Volume: 61
Pages: 628–644

Head Matter:
Underpinning & Foundation Constructors, Inc., Respondent, v Chase Manhattan Bank, N.A., et al., Defendants, and Bank of New York, Appellant.
First Department,
March 23, 1978
APPEARANCES OF COUNSEL
Joseph A. Kilbourn of counsel (James R. Sullivan with him on the brief; Bigham Englar Jones & Houston, attorneys), for Bank of New York, appellant.
Tony Berman of counsel (Roger S. Markowitz with him on the brief; Berman, Paley, Goldstein & Berman, attorneys), for respondent.

Opinion:
OPINION OF THE COURT
Yesawich, J.
An employee of plaintiff, Underpinning & Foundation Constructors Inc., falsified invoices from plaintiffs suppliers, stole the checks written to pay these false invoices, restrictively indorsed them to the named payees and then deposited them to his own or confederates' accounts maintained with, among others, the defendant Bank of New York (BNY). When these checks were presented BNY, despite the restrictive indorsements, accepted them and applied the proceeds thereof to the credit of accounts other than those indicated in the indorsements. Using this scheme, plaintiff's employee allegedly embezzled over $1,000,000 from his employer. Of that amount checks totaling in excess of $450,000 were deposited with BNY although none of the named payees kept accounts there. When Special Term denied BNY's motion to dismiss the complaint for failure to state a cause of action against it this appeal followed.
Plaintiff in its second cause of action, which is directed at BNY, charges the latter with violating the Uniform Commercial Code's standard of care for depositary banks in that it neglected to apply the proceeds of the checks in accordance with the restrictive indorsements and with gross negligence amounting to commercial bad faith because of BNY's failure to inquire when the checks were presented for deposit, in contravention of the restrictive indorsements. Essentially BNY contends a drawer has no right of action against a collecting bank, albeit a depositary bank, and that the draw er's remedy when a forged indorsement is involved is to proceed against the drawee bank. Undeniably this is the New York rule in forged indorsement cases. (See, e.g., Trojan Pub. Corp. v Manufacturers Trust Co., 298 NY 771.) But we perceive the issue to be whether a depositary bank, though it is also a collecting bank, owes a duty to the drawer to apply the proceeds of a restrictively indorsed instrument consistently with that indorsement.
Under New York's common law collecting as well as depositary banks presented with restrictive indorsements had a duty to inquire and their failure to do so subjected them to liability. In Soma v Handrulis (277 NY 223, 233-234) it was observed that: "Even if the actual good faith of the Federal Reserve Bank in dealing with the instrument is not questioned, if the facts shown by the instrument itself should have led it to inquire, and by inquiry it would have discovered the true situation, in a commercial sense it acted in bad faith and the law will withhold from it such protection as it would otherwise have been entitled to receive Inquiry would have disclosed the irregular transaction and would have shown the theft of the check. Failure to make this inquiry establishes, in a legal and commercial sense, bad faith on the part of the bank and makes it liable to plaintiff". Although the liability imposed by Soma on an intermediary collecting bank to a payee has since been eliminated (1955 Report of NY Law Rev Comm, pp 98-99) its holding is not that narrowly restricted and through the medium of section 3-206 of the Uniform Commercial Code the duty to inquire still applies to depositary banks. And surely in these times when the doctrine of privity of contract is "not so conclusive as it once was" (Federal Ins. Co. v Groveland State Bank, 37 NY2d 252, 258, n 2), the beneficiary of a depositary bank's duty to make that inquiry is any party harmed by the bank's failure to do so.
As against this defendant, the complaint has viability not only under the common law but the Uniform Commercial Code as well for the code enjoins depositary banks to pay or apply value given for restrictively indorsed instruments according to their tenor. (Uniform Commercial Code, § 3-206.) Failure to conform to this statutory standard of care is, at the very least, indicative of bad faith. When the code's obviously strong policy respecting a depositary bank's duty while handling restrictively indorsed items (e.g., Uniform Commercial Code, § 3-206, 3-306, subd [d]; § 3-419, subd [4]; § 3-603, subd [1], par [b]), is contrasted with the bank's very limited liability when paying on a forged indorsement (§ 3-419, subd [1], par [c], subd [3]), we do not believe, at least on the facts so far presented here, that the now less than conclusive doctrine of privity is sufficient to immunize the bank from a direct action by the drawer.
Inasmuch as we view the resolution of this appeal as hinging on BNY's nonobservance of its common law and code duty with regard to restrictively indorsed paper the forged indorsement cases referred to in the dissent aré readily distinguishable as is Titan Air Conditioning Corp. v Chase Manhattan Bank (61 AD2d 764). Concededly in Low v Merchants Nat. Bank (24 AD2d 322) a restrictive indorsement was involved and the court concluded a drawer, had no right of action as against a depositary bank. However, the record on appeal discloses that none of the claims being advanced here were raised before the Low court or indeed that it was ever urged to consider the impact of article 3 of the code.
And since we find the drawer to be a beneficiary of a depositary bank's duty to inquire and to comply with a restrictive indorsement, Stone & Webster Eng. Corp. v First Nat. Bank & Trust Co. of Greenfield (345 Mass 1) is not dispositive. Furthermore because of Federal Ins. Co. v Grove-land State Bank (supra) a collecting bank is now permitted to assert the drawer's negligence as a defense rendering that aspect of the Stone & Webster-rationale unpersuasive.
Accordingly, the order of the Supreme Court, New York County (Helman, J.), entered July 13, 1977, should be affirmed, with costs.