Introduction

The fraud rule in the law of letters credit¹ means that, although documents presented are fa-         6.01

cially in strict compliance with the letter of credit, payment under the letter of credit may be stopped if fraud is found before payment is made, provided that the presenter is not an in­nocent third party.

However, the fraud rule in the law of letters of credit is still developing and has proven to 6.02 be ‘the most controversial and confused area',⁴ mainly because fraud is an ‘inherently pli­able concept',⁵ and different courts or jurisdictions have given different interpretations of the concept. After decades of reckoning and development, the current international rules and national laws and decisions by most of the courts in many jurisdictions, such as the US and the UK, emphasising that the letter of credit is a unique commercial device and must be protected from simple contractual disputes because it is often not easy to distin­guish simple contractual disputes from certain fraud claims,⁶ have taken the position that the fraud rule must be applied in a strict fashion, or in cases where only ‘clear, ‘established, ‘egregious, or ‘material' fraud is involved.⁷ However, in other jurisdictions, such as Australia and Singapore, a more flexible approach has been taken, where unconscionable conduct can trigger the application of the fraud rule.⁸

6.03 The reason for the divergence of the views has been succinctly expressed in the Canadian case of Bank of Nova Scotia v Angelica- Whitewear Ltd,^[548] reflecting the tension between two different policy considerations:

the importance to international commerce of maintaining the principle of the autonomy of documentary credits. ..

6.04 On the one hand, if fraud is defined too widely, the fraud rule may be applied too often and abused by an applicant who does not want the issuer to pay under the credit simply because it will not profit from the underlying transaction. If obstruction of payment of a letter of credit is repeated too often, business confidence in letters of credit as effective assurances of performance will be destroyed.^[550] On the other hand, if fraud is defined too narrowly and the fraud rule cannot be applied in cases even though fraud has been clearly established, the effectiveness of the fraud rule, and the values embodied in the law against fraud, will be compromised. It may also discourage the use of letters of credit by applicants and ultimately harm the commercial utility of letters of credit.^[551] Moreover, it may also encourage fraudu­lent conduct by beneficiaries, which should not be allowed in any legal system under any circumstances, because it works against the values and the basis of the law. Unfortunately, increased occurrences of fraud have become a problem, and that is the focus of this chapter.

6.05 This chapter consists of four sections. Following this introduction, the second section will introduce the current status of the fraud rule and the problem arising therefrom. The focus will be on the current position of the fraud rule in international rules and conventions and in the US, the UK, and China. The third section will argue why and how the current fraud rule in some jurisdictions should be refined. The last section will conclude the chapter by advocating a bifurcated approach to solve the problem.

II.