Citibank recovers 500 million mistaken payment in US Appeal ruling
13 September 2022
13 September 2022
In a ruling made by the United States Court of Appeals for the Second Circuit of 8 September 2022, Citibank NA (Citi) successfully appealed an earlier ruling that it was not entitled to recover approximately US$500 million paid by mistake.
The defendants, loan managers for certain lenders, received and refused to return Citibank’s unintended early repayment of a loan.
Citi acted as agent for the lenders in respect of a US$1.8 billion syndicated 12-year loan to Revlon, Inc. (the Loan and Revlon respectively), with the responsibility to collect interest and principal payments from Revlon and transmit them to the loan managers for the lenders. In undertaking to transmit accrued interest to the lenders’ loan managers, Citi made a ministerial error in administering a computer programme which caused the unwitting transfer by wire of Citi’s funds in the full amount of Revlon’s outstanding principal balance, three years before Revlon’s loan repayment was due to be repaid. The next day, when Citi discovered the accidental payment had occurred, it demanded the return of the portion representing the principal. Citi brought its action for restitution against the ten defendants representing 126 debtholders with approximately US$500 million in debt who refused to return the funds.
Based on a ruling in Banque Worms v BankAmerica International, (570 N.E.2d 189 (N.Y. 1991)), the district court had previously decided that the defendants were not obliged to return the money. In the Banque Worms case, the Court had ruled in favour of a lender’s right to retain a bank’s mistaken repayment of a loan to the bank’s client that was due and payable. However, the Appeals Court in Citi's case ruled that the case fell outside the scope of the Banque Worms ruling.
New York law governing mistaken payments generally calls for restitution of the mistaken payment unless the recipient had so significantly changed its position in reliance on the mistake that it would be unjust to require repayment. The ruling in Banque Worms endorsed an exception to that rule based on a "discharge-for-value" principle, i.e. when a beneficiary receives money to which it is entitled and has no knowledge that the money was erroneously wired, the beneficiary should be able to consider the transfer of funds as a final and not subject to revocation.
Citi argued that the defendants could not claim the benefit of the discharge-for-value rule because they were on notice of a mistake. Citi contended that New York law applies an "inquiry notice standard" - "If a person has knowledge of such facts as would lead a fair and prudent man, using ordinary thoughtfulness and care, to make further accessible inquiries, and he avoids the inquiry, he is chargeable with the knowledge which by ordinary diligence he would have acquired".
The Appeals Court agreed with Citi and held that the defendants were not shielded from Citi's claims for restitution under the discharge-for-value rule because they were on inquiry notice that the unexpected and surprising apparent repayment of the full principal amount of their loans was attributable to a mistake. The Court highlighted a number of red flags putting the defendants on inquiry notice.
In addition, the Court held that the defendants were not protected by the Banque Worms ruling because, at the time of payment, they were not entitled to the money they received from Citi, as Revlon’s debt was not yet payable. It held that Banque Worms makes clear that the rule operated in favour of a recipient of a mistaken payment who was “entitled” to the money. In this case, the defendants (and their lenders) were not yet entitled to receive repayments of the Loans. Repayment was not due for another three years.
Citi will no doubt be much relieved at the ruling. In addition, the application of the inquiry notice standard rather than constructive notice will be of comfort to other institutions who may find themselves having made a payment by mistake.
Authors: David Capps, Consultant and Lynn Dunne, Partner