Difficulties in Invoking the Fraud Rule - Essay Example

Unit title Insert Here Unit number Insert Here Assignment number and name Insert Here Assignment due date Insert Here Student name Insert Here Student number Insert Here Name of lecturer/tutor Insert Here Submission date Insert Here   Student declaration I certify that the attached assignment is my own work. Material drawn from other sources has been acknowledged according to unit-specific requirements for referencing. Signature of student: ________________     Date: I Introduction Documentary credits are the means through which payments involving international transactions are made for instance payment made through letters of credit whereby, the banks (issuing bank/issuer) promises to pay the seller (beneficiary) when the seller performs the duties he or she is supposed to perform in a contract of sale between the seller and the buyer (applicant)1. However, the principle of autonomy exists whereby there is a separation of the goods that the buyer and the seller are dealing with in a contract of sale and the documents involved in documentary credits which in most cases causes problems for instance fraud and the abuse arising from credit. It is with this principle that the fraud rule was established in the case of Sztejn v J. Henry Schroder Banking Corporation2. II Definition of the Fraud Rule Therefore, the “fraud rule” is a rule that was established to protect the parties in documentary credits from abusing the credits in transactions3. In addition, a seller’s fraud can be called to the attention of the bank before documents of credits are presented for payment to the bank and which does not warrant the bank to honour the transaction under the independent rule in LOC (Letters of Credit). Therefore, the fraud rule points to the independent approach of dealing with applicants who have been defrauded by the sellers. III Implications of the “Fraud Rule” I agree with the statement that the Fraud Rule impinges facilitation of international financial and commercial transactions and therefore, it is undesirable and unnecessary. The principle reason why the fraud rule impinges facilitation of international financial and commercial transactions is because of the various approaches which have been used when applying it. Following its development in Sztejn v J. Henry Schroder Banking Corporation, the precise manner in which the fraud rule is to be applied remains open and the reason why different countries applies the Fraud Rule differently, for instance the United Kingdom and the United States. While in UCC article 5 – 109, material fraud is the basis upon which fraud is established, on the other hand the UK basis the existence of fraud on the intentionality4 of the beneficiary rather than the material fraud principle. The in congruency when it comes to the Fraud Rule impinging on the facilitation of international financial and commercial transactions comes in when there are two countries which when establishing the fraud treats the issue differently, that is on material fraud or on the intentionality of the beneficiary to engage in fraud and take advantage of the applicant. Hence, in international transactions, there is confusion as to what should be considered fundamental in establishing fraud. The aspect of security in the transactions is also of less concern to the bank. In this regard, it is important to note that the banks (the issuer of documents of credits) distances itself from the practical aspects of the contracts of sale between the seller and the buyer with the exception of when the fraudulent activities of the seller can be brought to the attention of the banks. The banks apply the principle of autonomy5. However, the US courts are not so enthusiastic on the autonomy principle while the UK courts are impressed by the autonomy principle. This then follows that, while the UCP (Uniform Customs and Practice) on Documentary Credits have been accepted for instance by UK and US banks, the different legal practices in the two countries may be a reason as to why the Fraud Rule impinges on facilitation of international financial and commercial transactions for different countries have different legal practices and hence the application of the Fraud Rule between transacting parties from the two different countries may prove difficult. For instance, UCP 600 Article 2, in the definitions sections, gives the definition of credits as irrevocable and therefore the issuing banks are compelled to honour a presentation by the beneficiary while in the US, revocable credits are common. These inconsistencies of the Fraud Rule lest been encapsulated in the recently revised ICC Publication UCP 600, continue to impinge on the facilitation of international financial and commercial transactions through the Fraud Rule6. While the Fraud Rule originated in the US, the manner with which it is applied in the country of origin raises a lot of concerns in regard to the way it can facilitate international financial and commercial transactions. The application of the rule should be more in the country of origin before it is applied in other countries but low efficiency in the country of origin makes it also difficult for its application in other countries for instance in the UK in facilitation of international and commercial transaction. In the absence of the beneficiary, the Fraud Rule application is hard to apply for there would be no involvement of the beneficiary in the fraud whereas the beneficiary is a central theme if the Fraud Rule is to apply. Where goods are shipped by the beneficiary and then the goods happens to be exchanged for less quality goods on the ship or damaged in the process of being shipped, then the beneficiary cannot be linked to the fraud and hence the Fraud Rule cannot be applied. This raises questions as to how then; the Fraud Rule will facilitate commercial and international transactions. Discount Records Ltd v Barclays Bank Ltd and Barclays Bank International Ltd, the plaintiff was able to prove that the merchandise shipped by the beneficiary consisted of empty cartons and what the plaintiff termed as rubbish. In the case judgement, Megarry J., however applied the autonomy principle differently for it could not be established that there was fraud because the beneficiary was not involved even though there were material facts indicating the presence of fraud7. In light of the purpose for which the Fraud Rule was formed, it is undesired if even if there is substantial evidence that fraud did occur, the Fraud Rule cannot be applied because the beneficiary is not present, then the application of the rule in facilitating commercial and international transactions therefore becomes irrelevant especially in facilitating commercial and international transactions8. It would therefore appear that the Fraud Rule exists to ensure that beneficiaries do not default from paying the applicants and not in the facilitation of commercial and international transactions the ratio decidendi being that as long as the beneficiary cannot be linked to the fraud regardless of whether all factors points that there has been fraud, the Fraud Rule cannot be applied9. In addition and as previously discussed that the Fraud Rule exists to protect the parties in the documentary credits, it is not in the business of the banks to check whether the documentary credits are genuine in nature whilst the bank being one of the parties in the documentary credits. In addition, others conditions that are necessary for the Fraud Rule to apply include, the intentionality of the beneficiary to the fraud and the establishment of the fraud. The combination of the three elements for fraud to occur becomes a rare occurrence in international dealings for when fraud occurs in international transactions in most cases, it is usually planned to the level that the three conditions are not meet and hence the Fraud Rule cannot be applied. This therefore suggests that, the Fraud Rule is not a rule which was formed with the basis of facilitating international and commercial activities due to the rare nature in which the elements or the components of applying the rule are rare to occur concurrently. IV Difficulties in Invoking the Fraud Rule Among the difficulties that are involved in invoking the Fraud Rule is the difficulty in defining the standard to apply the Fraud Rule. There are so many divergent views and applications to Fraud Rule creating tension between Fraud Rule applications in facilitating international and commercial transactions in maintaining the autonomy principle and the application of the Fraud Rule in discouraging fraud in documentary credits. The stringent catalysts that are needed for fraud to be established in international transactions is too strict in such a way that applicants who want to take advantage of the situation while the beneficiaries may have performed all the duties that they are to perform contract of sale is discouraged10. This high standard set forth in establishing fraud also works in ensuring that there is confidence in documentary credits for instance the LOC11. V Conclusion While it is controversial that the UCP 500 and UCP 600 are a bit silent on tackling fraud and the application of Fraud Rule, it is certain that the drafters of the laws are very aware that they exist and have taken it that their main responsibility is to provide rules that are to guide best banking practices. Therefore, the issue of fraud is therefore considered to be an area of national laws. Hence, Fraud Rule remains to serve the interests of the parties involved in documentary credits and therefore bridges the gap between fraudulent activities and the documentary credits12. Bibliography Sztejn v J. Henry Schroder Banking Corporation Discount Records Ltd v Barclays Bank Ltd and Barclays Bank International Ltd Robert, W. & Alan, W. (1998). The Liability of Banks in Documentary Credit Transactions under English Law, J. INT’L BANKING LAW. 387, 390. Gavigan, R. J. (1993).Wysko Investment Co. v. Great American Bank: A New Attack on the Usefulness of Letters of Credit, 14 NW. J. INT’L L. & BUS. 184, 202. Stephen, J. L. (1984). Fraud in the International Transaction: Enjoining Payment of Letters of Credit in International Transactions, 17 VAND. J. TRANSNAT’L L. 885, 899 James, G. B. & James, E. B. (2002). Letters of Credit: 2000 Cases, 56 BUS. LAW. 4 (2001), reprinted in ANNUAL SURVEY OF LETTER OF CREDIT LAW & PRACTICE 13, 18. Robert S. R. (1990). Fraud and Injunctive Relief, 56 BROOK. L. REV. 111, 113. Bertrams, R. (1996). Bank Guarantees in International Trade 257 Ross, P. B. (1995). The 1993 Revision of the Uniform Customs and Practice for Documentary Credits, 6 J. BANKING & FIN. L. & PRAC. 77, 97 n.278. Kerry, L. M. (1986). Letters of Credit: Dishonour When a Required Document Fails to Conform to the Section 7–507(b) Warranty, 6 J.L. & COM. 1, 6. Jack, B. J. (1977) Letters of Credit: Expectations and Frustrations (Pt. 2), 94 BANKING L.J. 493. Assignment feedback Unit title Unit number Assignment number and name Assignment due date Student name Student number Name of Lecturer/tutor Submission date (University policy requires that the date of submission of the assignment be recorded on the cover.) Assessment criteria Comments Marks General Comments Signature of marker: _____________________________ Date: ____________________ Read More