Money laundering and the perils of cross-border banking

By Randal Dennings and Graeme Howatson.

Key Points:
Placing money held in a trust account on deposit to earn interest does not constitute either inconsistent dealing with, or knowing receipt of, trust monies by a bank. It is a basic principle of banking law that funds deposited with a bank become the property of the bank. New anti-money laundering measures to be adopted by Australia may provide greater protection for Australian banks when dealing with overseas banks.

The Financial Action Task Force on Money Laundering ("FATF"), of which Australia is a member, was established in 1989 to combat the threat to the banking system and to financial institutions from money laundering. In 1990, FATF issued 40 recommendations designed to counter money laundering for implementation by its members. These recommendations were reviewed and updated in 2003. Two recent New South Wales cases illustrate the value of FATF's work and the cost to banks and financial institutions from money laundering. They resulted from the activities of a United States resident who purchased a database of credit card numbers. Unauthorised charges were then billed to these credit card accounts. Justice Palmer in the New South Wales Supreme Court provided this succinct summary of what happened:

"During 1998 Kenneth Taves, a resident of California, defrauded about 900,000 credit card accounts of a total exceeding USD 47.5 million. How he succeeded in a scam of such stupendous audacity is a story in itself. This case, however, concerns a chase around the world after the proceeds of the fraud - a fund of money in US dollars which, in fact, has never left the United States." Evans and Associates v Citibank Limited and Others [2003] NSWSC 204.

Unfortunately for all concerned, Taves attempted to launder the money by transferring it into various accounts with banks in other countries. One such account was opened in the name of Benford Limited with European Bank Limited ("European Bank") which conducted banking operations in Vanuatu. This account was in US dollars and more than US$7 million was deposited into it. In turn, European Bank deposited the money into an account, in its own name, with Citibank Limited ("Citibank") in Sydney.

In Evans and Associates v Citibank Limited and Others, Justice Palmer explained why it was that the money never actually left the United States. His Honour noted that it was accepted banking practice that all interbank transactions in US dollars are conducted between banks in the United States. So although the Citibank account was opened in Sydney, the deposit transaction was completed by the European Bank instructing its correspondent United States bank to debit European Bank's account in favour of Citibank's account with Citibank's United States correspondent bank.

An appeal from Justice Palmer's decision was heard by the Court of Appeal who handed down two separate judgements - Evans (of Robb Evans and Associates) v European Bank Limited [2004] NSWCA 82 and European Bank Limited v Citibank Limited [2004] NSWCA 76.

Evans, the receiver of Benford Limited, brought a claim in equity (as distinct from a common law claim) against European Bank in the New South Wales Supreme Court. The receiver claimed that European Bank held the deposit with Citibank on trust for Benford and that European Bank was liable to account to the receiver for that deposit. This action was pursued despite the fact that initial deposit with European Bank created a debt which the receiver was entitled to recover in a common law action in Vanuatu. Justice Palmer dismissed the claim. Evans appealed to the Court of Appeal.

The Court of Appeal rejected the contention that the existence of a trust gave Evans an automatic right to choose between pursuing the common law action in Vanuatu or the equitable claim. For an equitable claim to exist, the receiver had to prove either knowing receipt of, or inconsistent dealing with, the deposit by the respondent, European Bank.

In relation to knowing receipt, the court noted that as the money deposited in Benford's account was the proceeds of crime, Benford held the money as trustee for the defrauded credit card holders. The respondent knew Benford was a trustee, and because of this, European Bank was bound to treat the account as a trust account. But this was not enough. In order for the respondent to have knowingly received the deposit, the respondent had to obtain some benefit from it. Such a benefit could include, for example, applying a deposit to reduce a customer's overdraft. In this case, all the respondent had done by receiving the deposit to invest it and earn a higher rate of interest than it had agreed to pay to Benford, was to act as a "mere depository" for the money. Acting as a mere depository did not constitute knowing receipt.

Was the opening of an account with Citibank in the name of European Bank (rather than in the name of Benford) receiving a higher rate of interest than it paid Benford conduct inconsistent with the trust of which European Bank had knowledge? No, said the Court of Appeal. At all times, the respondent had acknowledged its obligation to repay the amount of the deposit by maintaining an account in Vanuatu in Benford's name for the amount deposited with interest.

As Evans had failed to prove either knowing receipt or inconsistent dealing, the appeal was dismissed.

At first instance, European Bank's claim for recovery of its deposit with Citibank failed. European Bank appealed to the Court of Appeal.

The Citibank account conditions that applied to European Bank's deposit stated that the law governing the deposit was the law of New South Wales. Clause 7 of the account conditions provided that Citibank would not be liable for any failure to perform an obligation in respect of an account if performance was prevented by a force majeure event. A force majeure event was defined as any event occurring due to reasons beyond the reasonable control of Citibank. Such a event included any requirement of a Governmental agency.

A United States District Court warrant seizing the deposit was served on Citibank's correspondent bank, Citibank NA, who, for the reasons previously discussed, held the money. Citibank NA complied with the warrant. Citibank claimed that this compliance was a force majeure event which prevented the repayment of the deposit to European Bank.

The Court of Appeal did not agree. Citibank's argument ignored the basic principle of banking law that funds deposited with a bank become the legal and beneficial property of the bank. Accordingly, it could not be said that the money in Citibank NA's account was the property of European Bank and the state of this account could not excuse the non-performance by Citibank of its obligation to European Bank in Sydney. Nor could Citibank rely on the force majeure clause. The deposit was governed by the law of New South Wales and because the warrant was of no effect under Australian law, the payment by Citibank NA was not a force majeure event. The court also suggested that, in any event, the service of a warrant discharges a debt, meaning a force majeure clause would have no operation anyway.

Conclusion

To say the least, the end result was unfortunate for Citibank who had no notice when opening the account that the deposit was the proceeds of crime and who co-operated with the US authorities. The position of Citibank was quite different from that of European Bank. In Evans and Associates v Citibank Limited and Others, Justice Palmer found that the European Bank "did not conform to the standards of a competent and reasonable banker in the manner in which it opened the Benford IBD Account" and "… that the circumstances in which the Benford account was opened should have put European Bank upon enquiry as to … the source of those funds.".

As we have mentioned, FATF has revised its forty recommendations to combat money laundering. In December 2003, the Federal Minister for Justice and Customs, Senator Chris Ellison, announced that Australia will adopt the revised recommendations. These revised recommendations will require a bank to gather information about an overseas bank before entering into a relationship with that overseas bank. In particular, there is a requirement to assess the overseas bank's anti-money laundering and terrorist financing controls and the quality of supervision of those controls. The revised recommendations also emphasize more strongly the importance of identifying the beneficial owner of accounts.

Arguably then, once the revised recommendations are implemented, they will provide greater protection for Australian banks when dealing with overseas banks.

Finally, you may be wondering what happened to Kenneth Taves. He was sentenced to more than 11 years in prison for what prosecutors described as the largest internet fraud in history to result in a conviction.

For further information, please contact Randal Dennings and Graeme Howatson.