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Cheque imaging regulations: liability for loss with collecting banks

ANALYSIS: Banks that collect cheques could face bigger compensation bills for lost or stolen cheques under regulations that recently came into force to underpin the switch to digital cheque imaging, but the reality is that existing rules on compensation in the sphere of cheque clearing will continue to have primacy.11 Sep 2018

The Electronic Presentment of Instruments (Evidence of Payment and Compensation for Loss) Regulations 2018 came into force on 31 July this year and support the move from paper clearing to the electronic clearing of cheques using the image clearing system (ICS).

The rules are mainly designed to enable businesses to rely on digital copies of cheques to evidence their payments, but they also expose collecting banks to potential greater liability for lost or stolen cheques.

The purpose of the new rules

It was last year that the UK government consulted on the new rules. The consultation paper explained the purpose of the new rules and how they have changed the previous position.

The paper said: "Section 3 of the Cheques Act 1957 provides that a cheque, or certified copy of a cheque, which appears to have been paid by the banker on whom it was drawn, can be used as evidence of payment to the payee. The effect of this is the payer of a cheque can request the paid cheque, stamped ‘paid’, to be returned to them by their bank. This can then be used by the payer as evidence of payment. Under the new ICS, the payer’s bank will no longer receive the original cheque [back] from the payee’s bank; instead, the payer’s bank will receive a digital image of the cheque from the payee’s bank."

The finalised legislation means that banks are required to provide a copy of a cheque to the payer upon their request together with additional information. The "copy" will take the form of a digital image of the cheque – both the front and back of the cheque – and will amount to evidence of payment when presented together with the additional information.

The new position on compensation

According to its consultation paper, the government wanted to introduce new secondary legislation to provide a 'safety net' in respect of compensation for losses suffered by users of cheques.

It referred to the compensation scheme in place under the previous cheque clearing system whereby "the paying bank typically compensates customers for a loss". It noted, though, that "there is no legislation stipulating that they must do so".

The government also highlighted the fact that banks participating in the cheque and credit clearing payment system are bound by rules for compensation in cases of fraud or error.

However, the government was determined that users of cheques "should not be left out of pocket as a result of a loss incurred in connection with the presentment of a cheque under the new ICS" and elected to legislate to confirm the position.

The main obligation introduced by these regulations, which marks a departure from previous legislation, is that they impose a statutory duty on 'collecting banks' to pay compensation to paying banks and / or drawers (payers) of cheques for losses incurred.  

Regulation 5 imposes this liability on the 'responsible banker' to compensate payers or paying banks. The 'responsible banker' is the collecting bank, i.e. the banker who has provided the facilities for the image to be made.

The collecting bank's liability for compensation only applies in circumstances prescribed in the regulations. They exclude, among other things, cases where those claiming compensation have been grossly negligent or been knowingly involved in fraudulent activity.

However, under regulation 5, where a cheque is stolen from a payer and collected for a wrongdoer the collecting bank appears to be liable to make full compensation to the payer, irrespective of its fault.

Under the previous law, where a collecting bank acted in good faith and without negligence it would have had the protection of section 4 of the Cheques Act 1957, under which, the payer receives no compensation where the cheque is stolen from them.

However, the government clarified in its consultation paper that the new legislation is "only intended to act as a ‘safety net'" to supplement the rules for the cheque and credit clearing payment system. It said those rules, set by the Cheque and Credit Clearing Company, which is now a subsidiary of the New Payment System Operator, "will remain the principal indicator of which party should compensate a customer".

So, while the regulations mark a departure from existing practices and legislation, the liability model only back up the existing contractual position under the ICS. Being permitted to use an electronic rendition of a cheque as evidence is consistent with being able to use an electronic rendition of a cheque to make payment and merely aligns the law with the functioning of the ICS.

Tony Anderson and Henry Burkitt are banking and payments experts at Pinsent Masons, the law firm behind Out-Law.com.