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The risk of using an unlicensed underground money exchange

2020-03-31

Introduction

In DBS Bank (Hong Kong) Limited v Pan Jing [2020] HKCFI 268, the Defendant used an unlicensed underground money exchange to obtain USD150,000 in his Hong Kong bank account by transferring RMB1,025,000  to his friend's bank account in China. It turned out that the USD150,000 transferred to his Hong Kong bank account was proceeds of crime. The transferring bank, DBS Bank (Hong Kong) Limited (the “Bank”), successfully claimed for such money received by the Defendant. The Court of First Instance (the “CFI”) held that breach of exchange control regulations in the PRC is illegal and such illegality defeated the defence raised by the Defendant, regardless of whether the Defendant has been convicted or sanctioned for such breach.


Background

On 13 October 2016, the Defendant asked his friend Mr Xu to purchase and exchange currency for him and therefore transferred RMB1,025,000 (being the equivalent of USD150,000) to Mr Xu’s account at Zhejiang Tailong Bank. Mr Xu then transferred this sum to another person in Shenzhen. Later on the same day, the Defendant’s account in Hong Kong was credited with USD150,000 from H2H Trading Co Ltd (“H2H”). At the same time on 13 October 2016 in relation to H2H, a fraud took place. A man fraudulently identified himself as Mr Cai and instructed the Bank to remit USD12.6 million to H2H’s account. An injunction was granted to freeze the USD150,000 in the Defendant’s account that was received from H2H’s account based on the assertion that the USD150,000 that the Defendant received from H2H was tainted as it was fraudulent crime proceeds.

The Bank claimed the Defendant for a refund of the funds that he received as those funds do not belong to the Defendant given that it belongs to a crime victim and the Defendant has no right to keep them (a restitution claim based on unjust enrichment against the Defendant).

The Defendant’s defence was that he had legitimately “bought” the US dollars and had paid out with his funds for RMB1,025,000. The Defendant relied on (1) the defence of bona fide purchaser for value (namely being an innocent person who pays a price / consideration to purchase property without notice of any other party’s claim against the property) and (2) the defence of change of position without notice of the fraud (namely having changed his position in good faith following receipt of the funds by for instance having used the funds to purchase some goods in a legitimate transaction). The Bank contended that the Defendant could not rely on the said defence since the currency exchange between him and Mr Xu involved the use of “underground banking” which was illegal under PRC law.

The Bank applied for summary judgment against the Defendant. The Defendant contended that there are three triable issues, namely (1) the triable issues on PRC law, (2) the defence of bona fide purchaser and (3) the defence of change of position.


The Decision

The CFI ruled that the Bank is entitled to summary judgment for the sum of USD150,000.

Illegality of the currency exchange between the Defendant and Mr Xu

In the CFI’s view, it is clearly established that the currency exchange between the Defendant and Mr Xu breached PRC law (even it is only a breach of administrative law and not a breach to PRC criminal law) and would attract administrative penalty although none has been imposed. The said currency exchange resulting in civil penalties is a form of “illegality”. The CFI also considered that it is irrelevant whether administrative sanctions have actually been imposed since such illegality would still prevent the Defendant from raising his defence.

Defence of bona fide purchaser for value

The Bank contended that the Defendant was not a purchaser for value because he did not give any consideration / purchase price and also not a good faith purchaser since he participated in the illegal exchange transaction.  

The CFI applied Virgo, The Principles of the Law of Restitution, 3rd ed., 2015, at p 659, which stated that “the defendant cannot be considered to have provided value for the property if it was transferred pursuant to an illegal transaction”.

The Defendant submitted that it was up to Mr Xu to decide how the exchange was to be executed and the Defendant had no reason to believe that it would not be executed lawfully. The Bank submitted that this is just a bare assertion without any supporting evidence. The CFI considered that the Defendant is an experienced businessman who had sold a successful business and concluded that there is no triable issue as to whether he knew how the exchange would be effected.

Defence of change of position

The Defendant submitted that he changed his position in good faith by transferring RMB1,025,000 to Mr Xu who later transferred the same amount to another person’s account in Shenzhen, in exchange for the Defendant receiving the USD150,000 in this case. The Bank submitted that change of position defence should not be opened to a wrongdoer.

The CFI followed Barros Mattos Junior v General Securities & Finance Ltd [2005] 1 WLR 247 and considered that if the recipients’ actions of changing position were treated as illegal, the court could not take such actions into account, unless the illegality was a minor one. The CFI refused to allow a change of position defence since the currency exchange transaction was illegal and it is not necessary for the Bank to show that the Defendant knew the fraud since the money was transferred pursuant to a transaction that was itself illegal (ie the currency exchange via “underground banking / money changers”).


Conclusion

This case illustrates that exchanging currency with unauthorised parties carries the risk that the funds obtained might be tainted as it could be proceeds that relates to a crime, and therefore related to money laundering and could be subject to a civil injunction and/or an informal “freeze” by law enforcement agencies. Moreover, the foreign currency exchange that is in violation of the law would itself constitute an illegality, whether or not a penalty has been imposed, and even if it is not a criminal law breach but an administrative law breach. Such illegality would defeat the defence of bona fide purchaser and/or change of position.




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Important: The law and procedure on this subject are very specialised and complicated. This article is just a very general outline for reference and cannot be relied upon as legal advice in any individual case. If any advice or assistance is needed, please contact our solicitors.

Published by ONC Lawyers © 2020


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