Should a bank account be frozen on notice of a third party's interest?

A recent case has made it clearer for banks to decide how to react after suspicion has been raised about the misuse of funds in bank accounts.

In Bank of Scotland v A Ltd, B & C, [2001] All ER (D) 81 (18 January 2001); The Times (6 February 2001), the Bank asked the court for an injunction against itself to prevent it from honouring its customer's instructions to pay out of an account the bank reasonably suspected of being used for criminal activity (money laundering) because it was afraid it might be found to be a constructive trustee of the money in the account. At first, the court granted the injunction in favour of the Bank. On discovering the injunction that had been made in their absence, the account holders applied to set the injunction aside and the decision to grant the injunction was reversed: the court held that no injunction ought to have been granted and, most importantly, the Bank did not need to assert the danger of constructive trusteeship in order to claim relief or assistance from the court to solve its dilemma.

The Bank appealed but the Court of Appeal dismissed the appeal holding that the court was entitled to set the original injunction aside. The Court of Appeal held that the Bank ought to have applied for interim declaratory relief as against the Police and not to have issued proceedings against their customer. The Bank ended up having to pay substantial costs.

The Bank certainly had been in a dilemma. It had received "suspect" money but could not make investigations like any prudent banker might be expected to do so, because of the prohibition against tipping off contained in s. 93 D of the Criminal Justice Act 1988. It could not pay out of the account because s. 93 A of the same Act prevents assistance to another to retain the benefit of criminal conduct. By not paying out, however, the Bank would be in breach of its contractual obligations to its customer and perhaps might incur liability to a third party.

What lessons for banks can be drawn from this? First of all, a bank needs to be organised to be able to move very quickly to speak to the Police and if necessary to make applications to court. It then needs to remember that its primary obligation is to its customer. It is not helpful to issue proceedings against the customer, or to apply for directions under the Trustee Act 1925 as happened in this case. Banks should be made aware that before they need to be concerned about imputations of constructive trusts, there needs to be clear and obvious evidence that a third party has rights in the "suspect" money.

A bank should ask the Police for permission to operate the account as normal and if possible to disclose the situation to their customer. It should if necessary apply for an interim declaration against the Police as to payment out or disclosure. As yet, there are no Practice Directions issued governing such interim declarations, and the courts may be reluctant to grant these until further clarification has been given by the Court of Appeal, but at least if the bank has applied for one but failed, if necessary at a later date it can show to the Police that it had taken the proper steps.

For further information, please contact Ruth Pedley by e-mail at ruth.pedley@cms-cmck.com or by telephone on +44 (0) 20 7367 2098.