A recent court ruling has sparked a legal debate over whether a bank can limit its liability for making payment on fraudulent checks by following standard business procedures.

In the case, an insurance company filed suit against Riggs National Bank for paying some $650,000 on fraudulent checks drawn on a corporate account.

Early this year, the court decided in favor of Riggs, saying that though there were discrepancies in the appearance of the fraudulent checks, the bank acted in accordance with "standard business practice" and was not liable. The case is under appeal.

Specialized Case or a Test?

Cases such as this could have limited applicability. But some banking lawyers believe the decision means that ira bank exercises reasonable diligence in processing the checks, it will not be held liable. And they say the case could become a test on the broad issue of liability.

Bankers are watching the outcome closely as the incidence of check fraud continues to accelerate with the recession. They are also monitoring the impact of recent regulations that mandate strict deadlines for clearing.

Proliferation of inexpensive reproduction technology has made it easy for criminals to forge corporate checks.

At banks with more $1 billion in assets, the ratio of bad checks to total checks rose 19% in 1991 from the previous year, according to a survey by the American Bankers Association.

Insurer Brought Suit

A money-center bank can lose between $3 million and $4 million a year to check fraud, according to bankers.

In the recent court case, Riggs had paid more than $650,000 on 13 fraudulent checks written against one of its corporate account holders, NHP Property Management inc. of Reston, Va.

The company got its insurer, National Union Fire Insurance Co. of Pittsburgh, to pay for the loss, and the insurance company sued Riggs.

The insurance company argued that there were discrepancies between the fraudulent checks and the checks normally issued by the property company - the check stock was a different -color, and the signatures were handwritten instead of printed from a facsimile signature plate.

Heavy Volume a Factor

However, the judge ruled that Riggs had exercised appropriate care, in part because the real estate company issued such a large volume of checks - more than 20,000 a month.

"If the court's decision is dependent upon the plaintiffs being the insurance company rather than the [customer], it will have limited applicability," said Robert Ballen, a partner in the law firm of Morrison & Foerster in Washington.

But "if the court's decision stands for the proposition that a paying bank is not liable for an unauthorized check if it follows reasonable commercial business practices, the case will be a blockbuster."

Other efforts are under way to clarify the issue of liability for check fraud.

About 16 states have adopted a revision to the Uniform Commercial Code drawn up last summer that attempts to allocate responsibility for check fraud between the customer and the bank.

The revisions state that a customer could share liability if it fails to use appropriate practices or the culprit was a responsible employee. But the bank must also have used appropriate procedures, or it may share liability. "Appropriate" practices are not defined.

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