Set-off, Garnishee and a Miscredited ‘Account Payee’ Cheque
Gopal Traders is a partnership firm with two partners, Ramesh and Suresh, operating a current account with a public sector bank. The account has a credit balance of ₹6.20 lakh. The firm also has an unsecured term loan of ₹8 lakh outstanding, sanctioned on the strength of both partners' personal guarantees. The account mandate requires cheques to be signed by both partners. Suresh dies in a road accident on 12 June. On 18 June the bank receives a garnishee order from a civil court attaching the firm's current account for a personal decree of ₹4 lakh obtained against Suresh. On the same day, the firm's accountant deposits a cheque for ₹90,000 drawn in favour of Gopal Traders and crossed 'account payee' into his own savings account; the bank credits it. Ramesh now asks the bank to release the entire balance to the firm and to sanction a fresh loan.
1. Can the bank adjust the current account balance against the term loan before honouring the garnishee order? Explain the legal position on set-off and the effect of Suresh's death.
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Step 1 - Identify the bank's rights. A bank has a contractual right of set-off, and a general lien, over a customer's deposits for debts due from that customer. The term loan is a debt of the firm, and the firm's current account is its asset. The partners are jointly and severally liable for the firm's debts.
Step 2 - Is the term loan due? Set-off is available only where the bank's debt is due and payable, or where the contract contains an acceleration clause. If the loan instalments are regular and the loan is not yet due, the bank cannot unilaterally set off merely because a garnishee has arrived. It must first check the sanction terms and whether Suresh's death or the garnishee triggers acceleration.
Step 3 - Effect of the garnishee order. A garnishee order attaches only the judgment-debtor's property in the hands of the garnishee. Suresh's personal decree cannot attach the firm's funds beyond Suresh's own share in the firm. The bank must not use the firm's money to satisfy Suresh's personal debt before the firm's own debt is adjusted. If the term loan is due, the bank may validly set off the current account balance against it before honouring the garnishee. If any surplus remains, the garnishee may attach Suresh's share, subject to the partnership accounts.
Step 4 - Death of a partner. Suresh's death does not extinguish the firm's liability; his estate remains liable as guarantor. The bank must verify the partnership deed and the mandate. The practical order is: determine whether set-off is available, apply it if due, then deal with the garnishee only against Suresh's interest.
2. Was the credit of the ₹90,000 'account payee' cheque to the accountant's personal account proper? What is the bank's liability?
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Issue. A cheque crossed 'account payee' can be collected only for the payee named in the cheque. The collecting bank is under a duty to verify that the payee's account is credited.
Application. The cheque was drawn in favour of Gopal Traders, but the bank credited it to the accountant's personal savings account. The accountant is not the payee and had no authority to endorse it. The bank acted negligently and contrary to Section 130 of the Negotiable Instruments Act, which restricts payment of a crossed cheque to the collecting bank for the payee. The bank cannot claim the protection of Section 131 because that protection is available only where the collecting bank acts in good faith and without negligence.
Consequence. The bank must reverse the credit from the accountant's account and restore the ₹90,000 to the firm. If the accountant has withdrawn the money, the bank can recover it from him, but as between the bank and the firm the loss lies on the bank. The bank should also report the matter and review its internal controls. The fact that the accountant was an employee of the firm does not make him the payee or give him title to the cheque.
3. After Suresh's death, can Ramesh alone operate the account? What should the bank do about the fresh loan request?
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Operation after death. The mandate required both partners' signatures. Death terminates the deceased partner's authority. The surviving partner cannot unilaterally operate the account unless the partnership deed expressly authorises him to do so or the legal representative of Suresh joins. Prudent action is to freeze the account, obtain the death certificate, the partnership deed and a fresh mandate from Ramesh and Suresh's legal representative; alternatively, close the old account and open a new one in the name of the reconstituted firm.
Fresh loan. The bank should not sanction a fresh loan at this stage. The guarantor has died, the garnishee is unresolved, and the account is under a dual-signature mandate. The bank should first determine whether the term loan is due and adjust it if permissible, obtain a fresh guarantee from the surviving partner and the legal representative, complete succession formalities, and reassess the firm's cash flows. Lending before resolving these issues would weaken the bank's security and could amount to a violation of its own credit policy.