Only actual knowledge will suffice: the Ontario Court of Appeal clarifies and limits the liability of banks to non-customers

Banks are convenient deep pockets to sue when someone suffers a loss but cannot recover from the perpetrator who has caused the loss. But the recent decision of the Ontario Court of Appeal in Dynasty Furniture Manufacturing Ltd. v. The Toronto-Dominion Bank, 2010 ONCA 514 puts serious roadblocks in the way of non-customers seeking to pick the deep pockets of a bank. Dynasty Furniture held that the scope of a bank’s liability to non-customers is extremely narrow. It is only if the bank has actual knowledge (including wilful blindness and recklessness) of its customer’s wrongful activities that liability to third parties who have been harmed by the customer’s activities can arise. Mere negligence on the part of the bank is not enough. This is an important ruling for Canadian banks, and should serve as a serious deterrent to those looking to banks as a convenient deep pocket to sue.

The plaintiffs in Dynasty Furniture alleged that they lost money in a fraud. Unable to recover from the perpetrators of the fraud, they sued a bank that had provided correspondent banking services to the alleged fraudsters, alleging that the bank owed the plaintiffs a broad duty of care in negligence even though the plaintiffs had no direct dealings with the bank. In essence, the plaintiffs alleged that the bank ought to have detected the fraud (even though the primary regulatory agency, the U.S. Securities and Exchange Commission, had not managed to do so) and ought to have frozen the relevant bank accounts.

The implications of the duty of care alleged by the plaintiffs would be dire. The proposed duty would effectively require banks to constantly monitor the activities of all of their customers for signs of anything that might be suspicious. It could lead to literally billions of dollars in liability if a court concluded that a bank ought to have been able to detect a fraud but had failed to do so.

The bank responded with a motion to strike the statement of claim to the extent that it pleaded a duty of care based on constructive as opposed to actual knowledge. In other words, the bank acknowledged that if it had actual knowledge that its customer was engaged in a fraud, it might be liable to non-customer victims of the fraud. But it contested the ability of the plaintiffs to sue on the basis that the bank did not actually know of the fraud but ought to have known of it.

In very comprehensive reasons for judgment (2010 ONSC 436), Justice Wilton-Siegel of the Ontario Superior Court of Justice (Commercial List) granted the motion at first instance. Applying the Anns/Cooper test of whether a duty of care exists in tort (based on Anns v. Merton Borough Council, [1978] A.C. 728 (H.L) and Cooper v. Hobart, [2001] 2 S.C.R. 2), he first concluded that the alleged duty of care did not fall within any recognized category of negligence. He then applied the two-part test for a novel duty of care. First, he concluded that there was insufficient proximity between the bank and the plaintiffs to give rise to a prima facie duty of care in tort. Second, he concluded that even if a prima facie duty of care arose, it would be negated on policy grounds. He referred to a number of policy reasons for this conclusion. The duty proposed by the plaintiffs could give rise to indeterminate liability to an undetermined class. The duty would effectively make banks into regulators, an unnecessary role where a well developed regulatory regime already exists. Fulfilling the duty would require international investigatory activities beyond the capabilities of a single bank, since many frauds are trans-national in scope. The proposed duty would effectively make banks insurers in those who invest with the bank’s customers.

On appeal, the Ontario Court of Appeal affirmed the Superior Court decision in its entirety. The Court of Appeal concluded that in opening its customer’s account, a bank does not owe a duty to non-customers to ensure that the account will not be used for an unlawful purpose. It further concluded that a bank does not owe a duty to non-customers to inquire into its customer’s activities because it ought to have known that those activities were suspicious, unusual or fraudulent.

McCarthy Tétrault Notes

Dynasty Furniture is an extremely important and welcome ruling for Canadian banks. It has clarified that a bank does not owe a duty of care to non-customers except where the bank has actual knowledge that one of its customers is engaged in unlawful activity. This is an extremely narrow basis for liability, and should serve as a serious deterrent to plaintiffs who look to banks as convenient deep pockets to sue when recovery is not possible from the perpetrators who caused their losses.

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Junior Sirivar