Who Bears Online Fraud Burden: Bank Or Business?

Two recent court cases with very different outcomes call attention to the uncertain--and potentially expensive--regulatory and legal environment for small businesses and their online banking security.

Kevin Casey, Contributor

June 24, 2011

9 Min Read

10 Massive Security Breaches

10 Massive Security Breaches

(click image for larger view)
Slideshow: 10 Massive Security Breaches

Financial institutions have your back if hackers steal your business's money, right? Don't bank on it.

Two recent lawsuits highlight the murky online security waters that smaller businesses wade in with their banks, and show that SMBs can't rely too heavily on their banks for protection against account fraud.

Patco, a family-owned construction firm in southern Maine, fell prey to the ZeuS botnet in May 2009. Hackers bilked its account with Ocean Bank for more than $588,000 before the fraudulent activity was detected and stopped. The bank recovered roughly $243,000. Patco sued Ocean Bank for the balance, but it won't see a dime: A U.S. District Court magistrate in Maine recently recommended the case be dismissed, citing the bank's accordance with Federal Financial Institutions Examinations Council (FFIEC) security guidelines.

It's a case banking and security experts are calling a potential landmark. As a precedent, it means SMBs--not their banks--are on the hook if their online banking credentials are compromised by malware or other means.

"Most [SMBs] just assume they're OK, so if there's some kind of fraudulent activity the bank's going to take care of it," J.R. Smith, CEO of online security firm AVG, said in an interview. "This is one of those wake-up calls where people need to be put on notice: The bank isn't always going to be responsible."

A ruling in a similar case, however, followed closely on the Patco lawsuit's heels. Experi-Metal, a Michigan-based manufacturing firm, sued Comerica after it was robbed of more than $1.9 million by hackers in early 2009. At the surface, the case bears quite a bit in common with the Patco suit, yet it produced an entirely different outcome. U.S. District Court Judge Patrick J. Duggan ruled earlier this month in favor of Experi-Metal, requiring the bank to reimburse the company's losses.

Within the span of a month, two very different precedents were handed down. So who's ultimately responsible for online account security--bank or business?

"There's no regulation that manages this kind of scenario," Avivah Litan, an IT security analyst at Gartner and former banking executive, said in an interview. "The law hasn't kept up, the regulators haven't kept up, and you're going to get a different opinion from every judge."

Court documents reveal the details of each hack, and just how simple it is for an unsuspecting employee to give criminals carte blanche to the company's coffers with the click of a mouse and a few keystrokes.

In the Patco case, hackers used an employee's online banking credentials to initiate six Automated Clearing House (ACH) transactions totaling more than $588,000 during a one-week span in May 2009. According to the court ruling, indicators of the ZeuS trojan were found on the employee's computer, but it was later quarantined and deleted by an outside IT consultant who ran an anti-malware scan. "Without the configuration file, there is no way to tell whether the particular Zeus/Zbot malware version indicated by the remnant on Patco's computer was programmed to intercept online banking credentials," the ruling reads.

As a result, Ocean Bank contended that Patco couldn't prove that malware was to blame and not some other means, such as the employee sharing access credentials with a third party. The 72-page ruling centers largely on arguments between Patco and Ocean Bank as to whether the latter's security practices did enough to protect its customer; in granting the motion to dismiss, the court effectively said they had.

"I think in this case that the legal definition of 'reasonable security' was very tightly aligned with FFIEC guidance," said Tiffany Reilly, VP of marketing at Guardian Analytics, a company that makes security software for banks. Reilly said in an interview that the ruling, though favorable to Ocean Bank, wasn't exactly a resounding endorsement of its security practices. "If you read the judgment, the magistrate even says the bank could have, and probably should have, done more to enhance their protections to stop this type of fraud."

The ruling states, for example, that none of the unauthorized transactions were manually reviewed by bank personnel, even though the transfers were initiated from devices and IP addresses that no one at Patco had used before, and directed to accounts that Patco had never sent money to in the past. According to the ruling, one of the transactions, for $115,620.26, "was larger than any ACH transfer Patco had ever made to third parties. Despite these unusual characteristics, the Bank again batched and processed the transaction as usual."

Strategic Security Survey: Global Threat, LocalPain

Strategic Security Survey: Global Threat, LocalPain

Strategic Security Survey: Global Threat, Local Pain(click image for larger view and for full slideshow)

The FFIEC security guidelines used in the Patco case were written in 2005. They have not been updated since, in spite of a rapidly evolving threat landscape. Banking and security experts agree the guidelines are obsolete.

"They're very outdated," said Gartner's Litan, who has had an opportunity to review updated FFIEC guidelines in draft form. The revised FFIEC document admits just that, according to Litan: "They say very clearly in there that things have changed a lot since 2005, and that the security controls that are in place already are not working."

The Experi-Metal case, on the other hand, underscores how courts can interpret relatively similar cases quite differently. In January 2009, an Experi-Metal executive forwarded an email that appeared to be from Comerica to the company's controller. The email included a link to complete a "Comerica Business Connect Customer Form." The controller clicked on the link and entered his complete credentials for Experi-Metal's accounts--giving hackers unfettered access to the company's cash.

Over the next six-and-a-half hours, the scammers initiated 97 wire transfers totaling more than $1.9 million, sending the money to offshore accounts in Russia, Estonia, and China. Comerica's fraud procedures eventually kicked into gear and the bank recovered more than $1.3 million before it disappeared; the criminals still made off with $561,399.

The judge found in favor of Experi-Metal and ruled Comerica must make up the difference. But unlike in the Patco case, the decision wasn't based on FFIEC guidelines or the notion of reasonable security. In fact, the judge said that issue wasn't grounds for a case, because Experi-Metal's contract with Comerica effectively said the company approved of the bank's technology and practices at the time.

Rather, the ruling hinged on a complicated legal argument based on whether or not the bank had acted in "good faith" in accepting the wire transfer requests. Ultimately, the court decided Comerica had not done enough to prevent the fraud, based on factors including the volume and frequency of the wire transfer activity, the destinations and beneficiaries ("individuals, many with Russian-sounding names," the court document reads) of the payments, Experi-Metal's scant prior wire activity (just two authorized transfers in 2007), Experi-Metal's past online activity patterns, and Comerica's prior knowledge of phishing activity (it had been alerted the day prior of phishing campaign targeting its customers). In the court ruling, the judge wrote: "This trier of fact is inclined to find that a bank dealing fairly with its customer, under these circumstances, would have detected and/or stopped the fraudulent wire activity earlier."

The different outcomes of the two cases point to the lack of clear answers for how these kinds of security breaches should be handled when they do occur.

"It speaks to the complexity of the issue, and I would expect to see varying judgments to some degree continue as the industry really tries to shake out what the precedents are and how to look at this," said Reilly of Guardian Analytics.

Gartner's Litan notes that business accounts are not covered by the laws that provide stronger protections to consumers. She's an advocate of legislative reform to give SMB accounts a better backstop in the event of fraud, but she doesn't sound optimistic that will happen any time soon. Short of that, she thinks smaller businesses will continue to be victimized by online crime, and without any straightforward means for recouping losses.

"In the end, businesses are guilty until proven innocent," Litan said. In her view, the only real safeguards for businesses are fairly drastic: Either don't use online banking, or only use a dedicated, locked-down PC to access your accounts. Even then, Litan believes the bad guys will ultimately find ways to infiltrate SMBs.

Reilly of Guardian Analytics recommends that companies closely read their banking agreements, particularly the sections pertaining to online account security. She also thinks it's the banks, not their business customers, that are best suited to combat threats.

"There are just so many ways that the criminals can attack those end users, that I don't think it's reasonable for the businesses to protect themselves," Reilly said. "The banks are in the best position to do that."

Smith, AVG's chief executive, said smart SMBs should still employ strong security practices no matter how strong their bank's protections are. That doesn't just mean running an anti-malware program, but educating employees on risks and best practices to avoid threats predicated on human error, such as phishing or social engineering attacks. Otherwise, the best technology in the world might not be enough.

Or, as Smith puts it: "If they've got your username and password, what can the bank do about that?"

[Editor's note: On Tuesday, the FFIEC published a supplement to its "2005 Authentication in an Internet Banking Environment" guidelines. In a statement, the joint federal agency said, "The purpose of the supplement is to reinforce the risk-management framework described in the original guidance and update the FFIEC member agencies' supervisory expectations regarding customer authentication, layered security, and other controls in the increasingly hostile online environment." The full supplement is available here.]

Small and midsize businesses are falling prey to cyberattacks that cost them sensitive data, productivity, and corporate accounts cleaned out by sophisticated banking Trojans. In this report, we explain what makes these threats so menacing, and share best practices to defend against them. Download it now. (Free registration required.)

About the Author(s)

Kevin Casey


Kevin Casey is a writer based in North Carolina who writes about technology for small and mid-size businesses.

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