## Facts

- Citizens & Associates, a land-development partnership, issued three checks totaling $50,000 payable to Allied Mortgage Capital Company.
- Citizens delivered the checks to Frieda Gray, the payee’s branch manager, for transmission to Allied Mortgage’s headquarters.
- Gray forged the corporate payee’s endorsements and deposited the checks into her personal account at The Bank/First Citizens Bank.
- The Bank accepted the checks for deposit into Gray’s individual account despite the corporate payee designation.
- After the fraud was discovered, Citizens demanded reimbursement; the Bank refused and filed a declaratory judgment action seeking a determination of nonliability.

## Issues

1. Whether a depository bank may invoke Tenn. Code Ann. § 47-3-406 to preclude a drawer from asserting forged endorsements against the bank.
2. Whether the drawer failed to exercise ordinary care and, if so, whether that failure “substantially contributed” to the forged endorsements as required by § 47-3-406.
3. Whether the bank took the instruments in good faith and exercised ordinary care for purposes of § 47-3-406 and related UCC provisions.

## Decision

- The Tennessee Supreme Court reversed the lower courts’ allocation of loss under § 47-3-406.
- The Court held the bank could not rely on § 47-3-406 because it did not prove that any lack of ordinary care by the drawer substantially contributed to the forgeries.
- The Court accepted that the bank acted in good faith but agreed it failed to exercise ordinary care by allowing corporate-payee checks to be deposited into an individual account.
- Because the statutory preclusion did not apply, comparative allocation under § 47-3-406 was not available to shift any portion of the loss to the drawer.

## Legal Principles

- Under Tenn. Code Ann. § 47-3-406, a bank seeking to preclude a drawer from asserting a forged signature or endorsement must prove both (a) the drawer’s failure to exercise ordinary care and (b) that the failure substantially contributed to the forgery.
- The “substantially contributed” requirement imposes a meaningful causal threshold; negligence by the drawer, without sufficient causal connection to the forgery, does not trigger preclusion or loss allocation under § 47-3-406.
- “Good faith” (honesty in fact) may exist even when a bank fails to exercise ordinary care, absent proof the bank acted with knowing or reckless disregard of another’s rights.
- If § 47-3-406 preclusion is not established, its comparative-fault allocation mechanism does not apply.

## Conclusion

The court held that the depository bank could not use § 47-3-406 to shift forged-endorsement losses to the drawer because it failed to show the drawer’s conduct substantially caused the forgeries, rendering the lower courts’ comparative allocation of fault improper.


The Bank/First Citizens Bank v. Citizens & Assocs., 82 S.W.3d 259 (Tenn. 2002)