**1. Introduction**

Fraud is one of the most common threats to international business transactions (see **Figures 1** and **2**), especially when a mechanism such as documentary credit is utilized.2 It is believed that letters of credit (see **Figure 3**) transactions are the "ideal vehicle for money laundering."<sup>3</sup> In one comment from the ICC commission "fraud is one of the oldest and best-known phenomena in the business world. As long as there have been commercial systems in place, there have been those who have tried to manipulate these systems."4 Admittedly, fraud in documentary credits is a worldwide problem of ever-increasing proportions, which is committed not only against importers and banks but also against exporters [9]. It costs insurance

<sup>1</sup> See in general [1]; where the beneficiary was party to an agreement with the carrier and its brokers to antedated the bill of lading. See also [2–5].

<sup>2</sup> [6]; ([7], 140).

<sup>3</sup> [8], 120.

<sup>4</sup> [7], 140.

**Figure 1.** *The cost of fraud lost in some sectors.*


#### **Figure 2.**

*Recent cases of trade finance fraud; name of banks and companies including the amount of finance lost.*

companies millions of dollars each year.5 Therefore, due to the concedes that it is as a serious threat to the commercial utility of the letter of credit.

Unfortunately, the UCP 600 do not address this issue [11, 12]. The International Chamber of Commerce justified this omission by arguing that "it should be left to national jurisdictions to fill the gap" [13–15]. As such, most national jurisdictions recognize the "fraud exception rule" as a caveat to the autonomy principle [14, 16]. Although this exception is internationally accepted, there has been diversity among lawmakers and courts in relation to its interpretation.6 This has led to unconvincing judgments and a variety of outcomes.7

<sup>5</sup> [10], 183

<sup>6</sup> [17]; see also [18].

<sup>7</sup> [17]; see also [18].

*Fraud in Letters of Credit under English Law: Issues and Cases (the Three Dimensions) DOI: http://dx.doi.org/10.5772/intechopen.93555*

The *Sztejn* case was the starting point of the fraud rule exception, where there was both fraud in the presented documents and fraud in the underlying contract.8 The facts of this case can be briefly summarized as follows; "an allegation from the plaintiff that the beneficiary shipped cow hair and other rubbish instead of bristles as contracted. In this regard, the court commented that in such circumstances the autonomy principle should not protect the not honest seller because the fraud was called to the bank's attention before the drafts and documents were presented for payment" [20].

Although the court in this milestone case did not explicitly state on which basis the fraud had been found, it is implicit that the fraud here can be characterized as both fraud in the documents and fraud in the underlying transaction.9 That is to say the presented documents did not represent the actual goods shipped.

In contrast, in the English (the *American Accord*), the court held that the fraud rule exception can only be established if the fraud appears in the presented documents [5]. The facts of this benchmark case can be briefly summarized as follows: "an English company entered into a contract to sell glass fiber making equipment to a Peruvian company and payment was to be made by an irrevocable letter of credit. It was agreed that the shipment was to be on or before 15 December 1976, however, shipment actually took place on 16 December. Mistakenly and without the knowledge of the sellers, the loading broker's employees, who are not acting for the seller, fraudulently entered 15 December as the date of shipment on the bill of lading. Upon presentation, the bank refused such tender and held that the presentation was fraudulent because the goods were loaded on 16 December and not on 15 December as agreed."<sup>10</sup>

It is clear from these milestone cases that there is a dispute as to whether the fraud rule exception can be established either if the fraud accords in the presented documents or in the underlying transaction.

As it is stand in the law, a bank's obligation is to honor the credit against confirming documents, where article 15(a) of the UCP 600 states that "When an issuing bank determines that a presentation is complying, it must honor." However, there are times when the bank might be obliged to dishonor the credit based on its

<sup>8</sup> See [19].

<sup>9</sup> See [19].

<sup>10</sup> See [19].

own decision11 e.g. in case if fraud. Meaning that if the bank is aware of existing fraud, it is under a duty to refuse presentation. Conversely, in connection with the implementation of the fraud exception rule in English law, the claimant must gain an injunction, which will force the bank to postpone payment under the credit until the end of the hearings.12 In order to gain such an injunction, the claimant must provide clear evidence of fraud.13

It is established in the law that if the beneficiary himself commits the fraud, or has knowledge of the fraud, then the fraud exception rule will apply.14 This raises the question of whether the fraud exception should also bite where the fraud is committed by a third party but without the beneficiary's knowledge. The judgment of the *American Accord* case has opened the door for such issue and has been a battleground for many studies. Accordingly, this chapter will answer this question; "will the fraud exception rule apply if the fraud was committed through a third party without the beneficiary's knowledge?"

Based on these points, this chapter will focus on a bank's knowledge, clear evidence and third-party fraud.
