Check Fraud Liability: When a Drawee Bank Can Recover From a Collecting Bank

The Supreme Court's 2017 ruling in BDO Unibank, Inc. v. Lao clarifies the delicate balance of liability between drawee banks and collecting banks when a crossed check is paid to the wrong person. The case provides important guidance for businesses and banks on who bears the loss when checks are deposited without proper endorsement—and when the usual rules of recovery may be simplified.

The Facts of the Case

Engineer Selwyn Lao issued two crossed checks payable to Everlink as down payment for sanitary wares. The checks were deposited with International Exchange Bank (now Union Bank). One check was properly credited to Everlink's account, but the second check—worth P336,500—was deposited into the account of New Wave Plastic, a company that was not the payee. Notably, Everlink never endorsed the check to New Wave.

When Lao discovered the irregularity, he sued both BDO (the drawee bank that paid the check) and Union Bank (the collecting bank that accepted the deposit). The trial court absolved BDO but held Union Bank liable. On appeal, however, the Court of Appeals reversed in part and ordered BDO to pay Lao, with Union Bank required to reimburse BDO.

The Issue

The central question was whether the Court of Appeals erred in ordering BDO—which had already been absolved of liability with finality by the trial court—to pay Lao, when BDO was not even impleaded as a party in the appeal.

The General Rule on Recovery

The Supreme Court reaffirmed the established sequence of recovery in unauthorized check payment cases. A drawee bank (the bank where the check is drawn) is strictly liable to pay only the payee named in the check. When it pays someone else, it violates its duty to charge the drawer's account only for properly payable items.

However, the collecting bank (the bank that presents the check for payment) generally bears the ultimate loss. Under Section 66 of the Negotiable Instruments Law, an endorser warrants that the instrument is genuine, that they have good title, and that all prior parties had capacity to contract. By stamping a guarantee on the back of the check regarding prior endorsements, Union Bank assumed this warranty—which turned out to be false.

The Exception: Simplifying Recovery

The Court recognized an exception to this sequence. Citing Associated Bank v. Court of Appeals, it held that when circumstances warrant, the aggrieved party may recover directly from the negligent bank. This is particularly true when a party that would otherwise be liable in the chain is not impleaded in the proceedings.

In this case, BDO was not made a party to the appeal, and the trial court's decision absolving it had become final. Ordering BDO to pay would have violated its constitutional right to due process. The Court therefore allowed Lao to recover directly from Union Bank, the party whose negligence caused the loss.

Practical Takeaways

• Drawers of crossed checks are protected: crossing a check signals that it is for deposit only to the payee's account, and banks must honor that intention.
• Collecting banks bear significant risk: they must verify the genuineness of all prior endorsements before accepting deposits, especially for crossed checks.
• Drawee banks can be held liable to the drawer for unauthorized payments, but they may seek reimbursement from the collecting bank whose warranty proved false.
• Procedural finality matters: a party absolved with finality cannot later be ordered to pay in an appeal where it was not impleaded.
• Direct recovery is possible: when the usual chain of liability is disrupted by procedural circumstances, courts may allow the aggrieved party to sue the negligent bank directly.

This article is general information and not legal advice. For your specific situation, consult a lawyer or ask ASG Legal AI.