Three Recent Cases against banks and the liability for losses suffered by their client from hacking and phishing.

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Three Recent Cases against banks and the liability for losses suffered by their client from hacking and phishing.

Economics uses the hypothetical “rational man” as a foundation for explaining human action, with the understanding that the rational man will always attempt to solve problems by expending as little effort and as few resources as possible to achieve their objective.

In three recent court cases, we are watching how the courts interpret “rational” behavior when electronic banking safeguards are breached.  These three cases delve into areas of “good faith” as well as the contractual meaning of the claims “safe” and “secure.”  As online banking continues to struggle with providing “multifactor-authentication” to their clients, the courts must also determine what strategies for authentication are in compliance with regulations mandating this type of system.

Case #1.  PATCO Construction Inc. vs. Ocean Bank

In May 2009, PATCO sued Ocean Bank for more than $345,000 they lost after their account with Ocean Bank was hacked.  PATCO argues that Ocean Bank was not complying with existing multifactor-authentication requirements.  A U.S. District Court disagreed.  In May of this year, a District Court found that Ocean Bank did meet the legal requirements for multifactor-authentication, while noting that their online security at the time of the incident should have been better.

Could have been better indeed!  Ocean Bank apparently allowed customers to access their accounts using only a username and password for authentication.  In this case, the court agreed with Ocean Bank that their procedures complied with FFIEC guidelines for multifactor-authentication.  The courts conclusion was not based upon current practices within the industry, it was only based upon the ambiguity of a regulation that was outdated on the day it became law.

Case #2.  Experi-Metal Inc. v. Comerica Bank

EMI filed suit against Comerica in November 2009, after Comerica approved almost $2 million in fraudulent wire transfers from EMI’s account in January 2009.  In this case, EMI, who had made no wire transfers in over a year-and-a-half, suddenly made 90 in one day — and the person who allegedly authorized the wires had no authority to do so.

Comerica recovered most of the transfers that made it through their system, but held EMI liable for the balance of unrecovered funds.  EMI filed their action against Comerica seeking recovery of about $560,000.

In June of this year a United States District Court in Michigan ruled that Comerica must cover the losses by EMI.  Judge Patrick J. Duggan stated, “There are a number of considerations relevant to whether Comerica acted in good faith with respect to this incident.” adding that “A bank dealing fairly with its customer, under these circumstances, would have detected and/or stopped the fraudulent wire activity earlier.”

In this case there was evidence presented that Comerica had knowledge of ongoing phishing attacks aimed at their clients (but what bank doesn’t?)  The court found that Comerica should have identified and disallowed the fraudulent transactions based on EMI’s wire-transfer history, and should not have passively approved transfers to overseas accounts.

The court concluded that Comerica had not acted in good faith when making promises to their clients about safety and security.

Case #3.  Village View Escrow Inc. vs. Professional Business Bank

In this case of online hacking, Village View Escrow of California filed suit against Professional Business Bank in June of this year regarding a March 2010 incident where they claim to have lost $465,000 after hackers accessed their online account.  Village View is seeking reimbursement of all direct losses from the incident.

This suit, like the EMI suit, raises the issues of good faith, industry standards, and compliance with existing guidelines.  Village View’s complaint alleges that the Bank failed to put procedures in place for the recovery of stolen funds, and that it ignored numerous warnings from regulators about online vulnerabilities and the incidence of account takeovers.

Conclusion — being rational is not enough.  Whether you are providing online banking services or are simply an online client, you’re courting disaster if you are expending as little effort as possible.

It is interesting to note that in the above disputes the banks do not believe that they are being robbed — it is their customer’s accounts that are being robbed.  The banks assert that the client’s account was accessed at the bank, not the banks general funds.   It is the customer’s problem, not a bank liability.

Stunning — truly stunning.

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