Fraud in Letters of Credit under English Law: Issues and Cases (the Three Dimensions)

According to many cases, it has been demonstrated that sellers with bad intentions have manipulated letters of credit system in many ways, including fraud. Thus, many legal jurisdictions have recognized the fraud exception rule. In order to apply such exception, some conditions must be met. Among these conditions, the bank’s knowledge and a requirement of a clear evidence. Notably, the bank’s knowledge is crucial, meaning that the establishment of the sole exception will depend upon the status of the bank’s knowledge. Meaning that if the bank is aware of existing fraud, it is under a duty to refuse presentation. Otherwise, it should not. In turn, the establishment of clear evidence by the English courts is somewhat hard to achieve, consequently, such condition criticized often. Further, if the beneficiary himself commits the fraud, or has knowledge of the fraud, then the fraud exception rule will apply.1 This raises the question of whether the fraud exception should also bite where the fraud is committed by a third party but without the beneficiary’s knowledge. From these facts, this chapter will try to analysis the status of the bank’s knowledge and the hardship related to the clear evidence requirement in conjunction with the third-party fraud.

STRICT CONFORMITY OF DOCUMENTS UNDER A PERFORMANCE GUARANTEE. DOES A SIGNED COPY OF A DOCUMENT QUALIFY AS AN ORIGINAL? Stefanutti & Bressan (Pty) Ltd v Nedbank Ltd (unreported judgment delivered on 30 July 2008) (case no 5311/2008) (D&CLD)

Unlike in many overseas jurisdictions, there is a paucity of South African reported case law dealing with certain instruments of payment and guarantees for payment such as documentary letters of credit and performance guarantees, to mention but two examples of instruments prevalent in the field of payment and financing. For this reason any new case law dealing with either letters of credit or performance guarantees is to be welcomed as it would hopefully not only contribute to our understanding of this area of the law, but also provide an opportunity for comment and reflection. This holds especially true since the International Chamber of Commerce has recently (in July 2007) accepted and introduced a new version of the Uniform Customs and Practices for Documentary Credits (hereinafter “the UCP”): UCP 600. In passing: Apart from the main distinction between direct (three-party) and indirect (four-party) demand guarantees, they (ie, demand guarantees) may also be classified by reference to the phase or part of performance theyare designed to secure, hence the following classification of the different types of demand guarantees: tender guarantee (tender bond); performance guarantee (performance bond); advance payment guarantee (repayment guarantee); retention guarantee; and maintenance guarantee (warranty guarantee). In what follows below the author will use the concept of “guarantee”, being a genericterm, when referring to demand and/or performance guarantees in general. The recent decision in Stefanutti & Bressan (Pty) Ltd v Nedbank Ltd (unreported judgment delivered on 30 July 2008 (case no 5311/2008) by the Durban & Coast Local Division of the High Court (now: KwaZulu-Natal High Court, Durban) is a rare and welcome addition to the rather modest collection of South African decisions dealing with performance guarantees.

Part I Legal and Practical Challenges to Traditional Trade Finance, 7 Letters of Credit and Stop Payment Orders Made in the Issuer’s Country

This chapter offers a critical examination of the significant, but largely unexplored, question whether, and to what extent, a foreign order restraining the issuing bank from making payment under a letter of credit can afford the issuing bank a good defence to a claim in a court outside that bank’s home jurisdiction. At common law, in England as well as in other jurisdictions, such as Hong Kong, Singapore and the US, such orders have only limited effect in the forum. This chapter argues that the approach of the English courts to article 4 of the Rome Convention of 19 June 1980 on the law applicable to contractual obligations meant that such orders could defeat a claim against the issuing bank in England only in very narrow circumstances. It goes on to examine the extent to which the changes introduced in article 4 of the Rome I Regulation of 17 June 2008 on the law applicable to contractual obligations have altered the position under English law, so that stop payment orders made in the issuer’s home jurisdiction may now have a much wider reach in England. The chapter contends that notwithstanding the amendments to article 4, in the specific context of letters of credit, the approach of the English courts under the Rome I Regulation is likely to be broadly similar to that under the Rome Convention. The Rome I Regulation has not (even unintentionally) opened the door to stop payment orders made in the issuer’s home jurisdiction.

Part I Legal and Practical Challenges to Traditional Trade Finance, 3 Soft Clauses in Letters of Credit

Soft clauses in letters of credit make the issuing bank’s obligation conditional upon some event or certification that is in the control either of the applicant, or some agent, entity, or organisation in the applicant’s country. Such clauses make an apparently irrevocable letter of credit into what is, in essence, a conditional undertaking dependent on the applicant’s approval. Soft clauses are not always a vehicle for fraud—there may be genuine reasons for their inclusion—but they certainly make it easy for an applicant to ensure that the issuing bank does not pay the beneficiary. This chapter will consider the problems caused by the use of soft clauses, some possible solutions, and it will suggest alternatives, some of which look to the past (bills of exchange/time drafts), some to the present (open account and standby letters of credit), and some to the future (the advent of blockchain technology).

Part I Legal and Practical Challenges to Traditional Trade Finance, 6 The Fraud Rule in the Law of Letters of Credit Revisited

The fraud rule in the law of letters of credit is still developing and has proven to be very controversial. The current international rules and national laws and decisions by most of the courts in many jurisdictions have taken the position that the fraud rule should be applied in a strict fashion or in cases of ‘material’ fraud. This chapter argues that a bifurcated approach should be adopted. That is, for fraud in the documents, a clear and simple fraud should be able to trigger the application of the rule; for fraud in the transaction, a high standard of fraud should be adopted.