'Bank Bound To Follow Customer's Instruction': Supreme Court Holds Bank Liable For Wrongful Remittance To Third Party

Emphasising that banks must strictly adhere to customer instructions, the Supreme Court held that a bank cannot unilaterally divert funds contrary to the mandate given by its customer, and upheld the liability of Canara Bank for erroneously remitting USD 100,000 to a third party.

A bench of Justices JB Pardiwala and R Mahadevan dismissed the bank's appeal, affirming a Madras High Court ruling that directed it to indemnify Archean Industries Pvt. Ltd. for the mistaken transfer.

Background

The dispute arose out of a 1998 transaction involving Dubai-based Goltens, which had carried out repair works on a vessel, Master Panos. As the repair charges remained unpaid, a settlement was reached under which part of the liability was to be discharged through a payment of USD 100,000.

Around the same time, Archean Industries had entered into a charter party agreement with the vessel owner for shipment of granite. Under this arrangement, it was agreed that a portion of the freight payable by Archean to the vessel owner would be diverted to Goltens towards the repair dues. Acting on this understanding, Archean confirmed that it would retain the amount and issued a document styled as a “corporate guarantee” assuring payment to Goltens upon the vessel's arrival in Newark. After the vessel reached its destination, Archean instructed its banker, Canara Bank, to remit the amount to Goltens and submitted the necessary forms. However, instead of transferring the funds to Goltens, the bank mistakenly remitted the amount to the vessel owner's account in the United States. Despite repeated demands, the payment was not made, leading Goltens to institute a recovery suit against both Archean and the bank.

Aggrieved by the finding fastening liability on it, Archean approached the Supreme Court contending that the so-called “corporate guarantee” was not a guarantee in law but merely a payment arrangement arising out of the charter party, and that it had discharged its obligation by issuing instructions to the bank. It argued that the liability, if any, arose due to the bank's mistake and could not be foisted upon it.

Canara Bank, on the other hand, challenged the direction requiring it to indemnify Archean, contending that it was merely an authorised dealer in foreign exchange and could not remit funds to a third party without regulatory approval. It also sought to justify the remittance to the vessel owner by referring to the underlying commercial arrangement.

Bank held liable

Rejecting the bank's defence, the Supreme Court underscored that once a clear mandate is issued by a customer, the bank has no discretion to act contrary to it.

Rejecting the bank's reliance on foreign exchange regulations and the underlying charter party arrangement, the Court observed:

"Once clear instructions had been issued by its customer, the Bank was required either to comply with those instructions or to seek clarification regarding the necessity of regulatory approval and whether such approval had been obtained to facilitate the remittance. The Bank could not have unilaterally remitted the amount to the vessel owner."

The Court further clarified that even if there were regulatory concerns regarding Reserve Bank approval, the bank could not justify diverting the funds, stating:

"Even in the absence of any RBI approval, the Bank ought to have withheld the amount and awaited further instructions from its customer or sought the requisite clarification. The funds in question belonged to the customer, and the Bank could not have acted contrary to the mandate given by it. Therefore, the act of the Bank in transferring the funds to the owner of the vessel, who had clearly instructed the Defendant No. 1 to remit the money to the plaintiff, cannot be sustained."

The bench also rejected the bank's attempt to rely on the terms of the charter party agreement, holding that it was not a party to that contract and could not invoke its terms to override the customer's instructions. In this context, the Court observed: “The Bank, not being a party to the Charter Party Agreement, cannot rely upon the terms thereof to justify the remittance… in the face of the express instruction issued by Defendant No. 1.” Reinforcing the fiduciary nature of the banking relationship, the Court emphasised that “the funds in question belonged to the customer, and the Bank could not have acted contrary to the mandate given by it.”

The Court noted that the erroneous remittance had been admitted and that the bank had failed to take corrective steps despite being alerted. Upholding the High Court's approach, it confirmed that Archean Industries, while liable to pay the plaintiff under its contractual undertaking, was entitled to recover the amount from the bank through third-party procedure.

Guarantee Is Independent And Enforceable

The Court also rejected Archean's contention that its “corporate guarantee” was merely a freight payment arrangement and not a contract of guarantee under Section 126 of the Indian Contract Act, 1872.

It held that the document, read along with surrounding communications, disclosed a clear and unequivocal undertaking to discharge the liability of a third party, thereby satisfying the essential ingredients of a guarantee.

The bench emphasised that a guarantee is an independent contract, and once such an undertaking is established, the surety's liability becomes enforceable irrespective of disputes in the underlying transaction.

Reiterating settled law, the Court observed that the liability of a surety is co-extensive with that of the principal debtor under Section 128 of the Contract Act. It held that the creditor is entitled to proceed directly against the surety without first initiating action against the principal debtor.

The Court also found that Archean had acted upon the guarantee by retaining the amount and issuing instructions to its bank for remittance, and was therefore estopped from denying liability.

Accordingly, finding no infirmity in the High Court's reasoning, the Supreme Court dismissed both appeals.

Case : Canara Bank Overseas Branch v. Archean Industries Pvt Ltd

Citation : 2026 LiveLaw (SC) 252

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