Banking Law and Practice

• Publisher: Wiley
• Year: 2012
• ISBN:
  9780470827642
• Edition: 1
• Topic: Law
• Subtopic: Financial Law
• Index: Law

A solid understanding of how banks operate is crucial to grasp the functioning of modern society. Banks are an intrinsic part of business, finance, and everyday life. Modern banking is regulated by a sophisticated set of laws and regulations that are constantly evolving. Banking Law and Practice from the Hong Kong Institute of Bankers outlines and explains these laws and regulations clearly and in detail.

This regulatory framework has a deep impact on banks, bankers, and anyone that deals with them, which is the overwhelming majority of society. This high level of impact makes Banking Law and Practice an important book as well as a necessary and authoritative reference for industry professionals, students, and the public at large.

Banking Law and Practice discusses a range of topics that have a direct bearing on the day-to-day operations of banks, from contracts to how to ensure safe and secure lending. It examines the development and current state of banking legislation and regulation and facilitates bankers and their institutions to shape their practice to meet all the necessary legal and regulatory requirements.

Students, industry professionals, and the public at large will welcome the thorough and clear explanations of the legal and regulatory framework in which banks operate. This book is essential reading for candidates studying for the HKIB Associateship Examination and anyone else seeking expert knowledge of the legal and regulatory structure affecting banks in Hong Kong.

Topics covered in this book include:

• Contractual Relationships
• Code of Banking Practice
• Money Laundering
• Negotiable Instruments
• Law Related to Securities
• Bankruptcy and Insolvency

PART 1

BANK-CUSTOMER RELATIONSHIP AND ACCOUNT OPENING

CHAPTER 1

Contractual Relationships in Law and Practice

Learning objectives

After studying this chapter, you should be able to:

1 Describe the nature of the relationship between banker and customer and the key legal and regulatory issues relating to the terms of the contract between them

2 Understand the legal issues around the operation of bank accounts, including mandates, power of attorney, limitation of actions, appropriation of payments, set-off, and banker’s lien

3 Explain the concept of banker’s duty of secrecy and how it relates to the provisions of the Personal Data (Privacy) Ordinance, including the six principles of data protection

4 Discuss recommended bank practices related to a statement of account or passbook, wrongful dishonour of cheques, and exemption clauses

Introduction

Many legal issues arise in the course of day-to-day banking operations. Bankers, therefore, need to learn about these issues and be guided by them in order to protect their companies and themselves from liability. In this chapter, we provide an overview of the relationship between a bank and its customers from a legal and regulatory perspective. We discuss the implied terms of the banker and customer relationship relating to a banker’s duty of secrecy, and explain specific legal issues relating to the terms of the contract and the respective rights and duties of the bank and the customer.

References are made to common law, legislation in Hong Kong, guidelines of the Hong Kong Monetary Authority and the Code of Banking Practice. We also discuss the relevance of the Personal Data (Privacy) Ordinance and the six data protection principles in protecting, and providing for the proper use of, the personal data of customers in the course of day-to-day banking operations. We conclude the discussion with an analysis of a number of issues commonly affecting the operation of bank accounts.

Definition of ‘Customer’

There is actually no statutory definition in Hong Kong of who a customer of a bank is, so we have to refer to the decisions of the courts in order to discover the principles which determine whether or not a person is a customer.

In common law, which is a body of law developed through court decisions rather than bills passed by the legislature, a customer is a person who maintains an account with the bank. “There must be some sort of account, either a deposit or a current account or similar relation, to make a man a customer of a banker,” a British court held in the case of Great Western Railway Co. v. London & Country Banking Co. The judge ruled that though a person may habitually deal with a bank, for example, to buy gift cheques, this does not make the person a customer of that bank.

Common law also holds that a relationship between a banker and customer does not come into existence unless and until both parties intend to enter into it. However, the relationship can be deemed to have started even before an account has been actually opened. In Ladbroke & Co. v. Todd, the court held that it was not necessary that a person “should have drawn any money or even that he should be in position to draw money” before he could become a customer. A banker-customer relationship is immediately established upon the bank’s acceptance of a person’s offer to open an account in that bank.

Why does a banking professional need to know who is a customer and who is not, legally speaking? One reason is to avoid contractual liability, which can arise when giving off-the-cuff investment advice, for example, in the belief that no contractual relationship exists. If there is an intention on both sides to enter into a relationship, that person can be considered already a customer and therefore could theoretically sue the banker for giving negligent advice.

Another reason is to be protected by Section 86 of the Bills of Exchange Ordinance, which provides that bankers who receive a payment for a customer or credit a customer account will not be treated as having been negligent if the customer turns out to have no title or a defective title to that payment. If the banker receives a payment or performs a remittance funded by a cheque, to give two examples, for someone who is, legally speaking, not a customer, then he is not protected by Section 86.

Nature of the Banker-Customer Relationship

In legal terms, the relationship between banker and customer is essentially a contractual one, meaning that each side has explicit and implicit obligations. Breaching those obligations could be grounds for litigation. The nature of the relationship can take several forms, arising from the types of services rendered by the bank:

• Banker and customer;
• Debtor and creditor;
• Principal and agent;
• Bailor and bailee.

Banker and Customer

In recent years, many banks have tried to set out the terms of the contract between banker and customer as comprehensively as possible in written form. Customers are provided with a set of standalone consolidated terms and conditions and are asked to sign an application for account opening, which includes a reference to the terms and conditions and an acknowledgment of acceptance. The application normally takes the form of the customer’s mandate to the bank and the terms and conditions are incorporated by reference in the application.

However, in most cases, there is no formal agreement which provides that a banker must maintain strict secrecy concerning his customers’ accounts or that the customer must exercise care when drawing cheques to prevent the amounts from being fraudulently altered.

Of course, when most accounts are opened, such as current and savings accounts, a mandate is executed, which gives the bank express instructions and/or authorities concerning the operation of the account. However, even in those cases, no attempt is made to prepare a comprehensive list of the respective rights and duties of banker and customer. This may be because it is impossible to list all the terms contemplated and banks also consider the impact on bank marketing.

The contractual relationship between banker and customer is founded on the customs and trade usages of bankers. To the extent that the customs and trade usages have been recognised by the courts of Hong Kong, they must be regarded as implied terms of contract between banker and customer. Therefore, the implied terms are of vital importance in banking law and practice.

The Code of Banking Practice requires banks to make readily available to customers, or prospective customers, written terms and conditions of each banking product or banking service and to advise customers to read and understand them. The terms and conditions should meet the following criteria:

• Provide a fair and balanced description of the relationship between bank and customer;
• Generally available in both Chinese and English;
• Use plain language and avoid legal and technical language unless it is necessary;
• Highlight any fees, charges, penalties, and the relevant interest rates (or the basis for determining the interest rates), and the customer’s liabilities and obligations in using the service;
• Consistency with the provisions of the Code, and be kept under review to ensure such consistency;
• Have due regard to applicable laws in Hong Kong, in particular prevailing consumer protection legislation.

Debtor and Creditor

The deposit of money into a bank renders the bank a debtor and the depositor a creditor. The bank is therefore obliged to repay any sum deposited to the depositor (except in certain defined circumstances such as banker’s right and set-off). These roles are reversed when a bank lends money to a customer.

It was settled in Foley v. Hill that the established debtor and creditor relationship excludes any element or suggestion of trusteeship or fiduciary relation with the banker with regard to a current account. The House of Lords held that the relation between a banker and his customer, who pays money into the bank, is the ordinary relation of debtor and creditor, with an additional obligation arising out of the custom of bankers to honour the customer’s cheques.

Principal and Agent

When a banker is performing certain duties, he frequently acts as an agent. For example, the banker often collects the proceeds of cheques as an agent for his customers. In drawing and paying cheques, the relationship between customer and banker is that of principal and agent. Further, the banker acts as an agent when accepting customers’ instructions in regards to the purchase and sale of the stocks and shares.

However, when a banker is instructed by the customer to place an order with a broker for the purchase of shares on the customer’s behalf, the relationship of principal and agent arises between the customer and the broker when the broker accepts the order; no such relationship arises between the customer and the banker.

Bailor and Bailee

When articles are delivered to a bank for safe custody, the contract between the bank (as bailee) and the customer (as bailor) is one of bailment, which involves the transfer of possession, not ownership. The bank is not entitled to use the articles whilst they are in its possession. The customer can demand the return of the articles at any reasonable time.

Safekeeping of title deeds after the mortgage loan of a customer is paid off is an example of custody service.

Laws and Practice

In Hong Kong, the sources of the laws and practice that govern the bank-customer relationship include the following:

• Common law
• Legislative sources
• Non-statutory rules
• Code of Banking Practice

Common Law

Although China has resumed sovereignty, Hong Kong still follows the English legal system of Common law. As laid down by the Basic Law of the Hong Kong Special Administrative Region, laws previously in force in Hong Kong (Common law), rules of equity, ordinance, subordinate legislation, and customary law shall be maintained except for any that contravenes the Basic Law. However, Common law is subject to amendment by the Hong Kong legislature, which has begun passing measures that diverge from it.

The doctrine of legal precedent has also been preserved in Hong Kong, although the court of final adjudication is the Court of Final Appeal in Hong Kong instead of the Privy Council in England. All decided cases in Commonwealth countries would be considered in equal standing by the court of Hong Kong, which may also refer to precedents of other common law jurisdictions. The same is applicable to Banking Law.

Legislative Sources

The two most important legislative sources in Hong Kong are the Banking Ordinance (Cap. 155) and the Bills of Exchange Ordinance (Cap. 19).

The Banking Ordinance is a statute providing for the regulation of banking business and the business of taking deposits in Hong Kong. It defines the term “banking business” and refers to the three-tier financial system in which licensed banks, restricted licence banks, and deposit-taking companies are collectively referred to as “authorised institutions.” The Bills of Exchange Ordinance, on the other hand, deals with the law relating to negotiable instruments, including bills of exchange, cheques, and promissory notes.

The Hong Kong Association of Banks Ordinance (Cap. 364), the Exchange Fund Ordinance (Cap. 66) and the Protection of Investors Ordinance (Cap. 335) are other important sources of banking law. The Companies Ordinance (Cap. 32), the Partnership Ordinance (Cap. 38), the Bankruptcy Ordinance (Cap. 6) and the Conveyancing and Property Ordinance (Cap. 219) have a bearing on banking as well.

Subsidiary legislation made by virtue of the Banking Ordinance and the above-mentioned ordinances are also important and bankers must take note of such legislation.

Given the growing significance of securities related services among banks’ core business, the Securities and Futures Ordinance (Cap. 571) is also an important legislative source.

The Anti-Money Laundering and Counter-Terrorist Financing (Financial Institutions) Ordinance (Cap. 615), which codifies customer due diligence and record-keeping requirements for financial institutions and provides for supervisory and criminal sanctions for contravention of the statutory requirements, was enacted in June 2011 with effect from 1 April 2012.

Statutory and Non-statutory Guidelines

The Banking Ordinance empowers the Hong Kong Monetary Authority (HKMA) to issue guidelines relating to the internal workings of authorised institutions to ensure that proper banking standards are maintained. There are two broad categories of guidelines: statutory and non-statutory.

The HKMA’s statutory guidelines are issued under the Banking Ordinance, which set out the minimum standards with which authorized institutions are expected to comply to satisfy the requirements of the Banking Ordinance. Statutory guidelines do not have the force of law. Non-statutory guidelines are typically issued to set out the HKMA’s recommendations to AIs in respect of the standards they should aim to achieve, or for the purpose of clarifying the HKMA’s interpretation of regulatory and reporting matters. Any failure to adhere to any of these guidelines, whether statutory or non-statutory, may call into question whether the AI concerned continues to satisfy the minimum criteria for authorization under the Banking Ordinance. In addition, where such failure is in respect of any of the statutory guidelines, it may constitute a contravention of the relevant provisions or requirements of the Banking Ordinance.

Code of Banking Practice

The Code of Banking Practice is issued jointly by the Hong Kong Association of Banks (HKAB) and the DTC Association (the industry group for restricted licence banks and deposit-taking companies), and is endorsed by the HKMA. Whilst it specifically covers banking services such as current accounts, savings and other deposit accounts, loans and overdrafts, and card services, its principles apply to the overall relationship between institutions and their customers. The Code does not apply retrospectively to transactions completed before its issuance.

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