Indemnity and Exculpatory Clauses. Richard Warner. Patco v. People’s United Bank.
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Indemnity and Exculpatory Clauses Richard Warner
Patco v. People’s United Bank • “The eBanking agreement stated that Ocean Bank did not “assume[ ] any responsibilities” with respect to Patco's use of eBanking, that “electronic transmission of confidential business and sensitive personal information” was at Patco's risk, and that Ocean Bank was liable only for its gross negligence, limited to six months of fees.”
Patco v. People’s United Bank • “Use of Ocean National Bank's eBanking for Business by any one owner of a joint account or by an authorized signor on an account, shall be deemed an authorized transaction on an account unless you provide us with written notice that the use of Ocean National Bank's eBanking for Business is terminated or that the joint account owner or authorized signor has been validly removed form [sic] the account.” • Are these provisions enforceable?
Patco’s Facts • Patco used eBanking for weekly payroll. • A key logger stole passwords and answers to security questions. • Six withdrawals totaling $588,851.26. • If the bank’s security procedures were commercially reasonable, the bank has no liability. • This is the effect of UCC 4A.
Risk Profiling • “Risk Profiling: The system entailed the building of a risk profile for each customer . . . based on a number of different factors, including the location from which a user logged in, when/how often a user logged in, what a user did while on the system, and the size, type, and frequency of payment orders normally issued by the customer to the bank. The Premium Product noted the IP address that the customer typically used to log into online banking and added it to the customer profile.”
Precautions Patco Did Not Use • “In May 2009, bank personnel did not monitor the risk-scoring reports received as part of the Premium Product package, nor did the bank conduct any other regular review of transactions that generated high risk scores. In May 2009, the bank had the capability to conduct manual review of high-risk transactions through its transaction-profiling and risk-scoring system, but did not do so. The bank also had the ability to call a customer if it detected fraudulent activity, but did not do so.”
The Withdrawals • May 7: $56,594. “The risk-scoring engine generated a risk score of 790 for the transaction, a significant departure from Patco's usual risk scores, which generally ranged from 10 to 214.” • (1) “Very high risk non-authenticated device”; (2) “High risk transaction amount”; (3) “IP anomaly”; and (4) “Risk score distributor per cookie age.” • May 8: $115,620.26, from the same IP address. • May 11: $99,068 / 720 • May 12: $91,959 / 563 • May 13: $113,647 / 785
The Holding • “(1) Ocean Bank did substantially increase the risk of fraud by asking for security answers for every $1 transaction . . . (2) When it had warning that such fraud was likely occurring in a given transaction, Ocean Bank neither monitored that transaction nor provided notice to customers . . . (3) Because it had the capacity to do all of those things, yet failed to do so, we cannot conclude that its security system was commercially reasonable. (4) . . . it was these collective failures taken as a whole, rather than any single failure, which rendered Ocean Bank's security system commercially unreasonable.”
Enforceability of the Provisions • “It is unclear, however, what, if any, obligations a commercial customerhas when a bank's security system is found to be commercially unreasonable.” • Why?
Types of Clauses • Exculpatory clause: immunizes a person from the consequences of his/her negligence. • The type of clause in Patco. • Indemnity clause: holds the indemnitee harmless from liability by requiring the indemnitor to bear the cost of any damages for which the indemnitee is held liable. • Waiver of liability: protects a beneficiary from liability under certain conditions when services he or she received are found to be not as promised.
Comment of the Drafters of UCC 4A • Funds transfers involve competing interests—those of the banks that provide funds transfer services and the commercial and financial organizations that use the services, as well as the public interest. These competing interests were represented in the drafting process and they were thoroughly considered.
Comment of the Drafters of UCC 4A • The rules that emerged represent a careful and delicate balancing of those interests and are intended to be the exclusive means of determining the rights, duties and liabilities of the affected parties in any situation covered by particular provisions of the Article. Consequently, resortto principles of law or equity outside of Article 4A is not appropriate to create rights, duties and liabilities inconsistent with those stated in this Article.
The Public Policy Question • Given the clear public policy behind 4A, should the bank be able to avoid liability through the exculpatory clause?
Damage Waivers • Consequential (indirect) damages generally may be waived. • Direct damages generally may not be waived. • Liability for reckless or intentional actions cannot be waived. • Liability for a defective product cannot be waived.
Exculpatory and Indemnity Clauses • General rule: the clause is enforceable if reasonable. • It must not contravene public policy. • This is the question in Patco. • It must be clear and understandable. • The releasing party must know and understand the risk released. • There must be no unacceptable disparity in bargaining power.
UCC § 2-719. Contractual Modification or Limitation of Remedy. • (1) . . . (a) the agreement may provide for remedies in addition to or in substitution for those provided in this Article and may limit or alter the measure of damages recoverable under this Article, as by limiting the buyer's remedies to return of the goods and repayment of the price or to repair or replacement of non-conforming goods or parts; and, (b) resort to a remedy as provided is optional unless the remedy is expressly agreed to be exclusive, in which case it is the sole remedy.
UCC § 2-719 • (2) Where circumstances cause an exclusive or limited remedy to fail of its essential purpose, remedy may be had as provided in this Act. • (3) Consequential damages may be limited or excluded unless the limitation or exclusion is unconscionable. Limitation of consequential damages for injury to the person in the case of consumer goods is prima facie unconscionable but limitation of damages where the loss is commercial is not.