Negotiable
Instruments
Act, 1881
Negotiable Instruments
What is negotiable?
Negotiable means transferable.
The negotiation that goes on refers to the transfer of the
instrument between two people, or from one bank to another,
or even from one country to another.
What is an instrument?
In the broadest sense, almost any agreed-upon medium of
exchange could be considered a negotiable instrument.
In day-to-day banking, a negotiable instrument usually refers
to checks, drafts, bills of exchange, and some types of
promissory notes.
Negotiable Instruments
A negotiable instrument is a written order
promising to pay a sum of money.
Unconditional written orders or promises to
pay money.
Demand instrument (A substitute for money)
NEGOTIABLE INSTRUMENTS: ESSENTIAL
ELEMENTS
A negotiable instrument must:
Be in writing
Be signed by the maker or drawer
Be an unconditional promise or order to pay
State a fixed amount of money
Not require any undertaking in addition to
the payment of money
Be payable on demand or at a definite time
Be payable “to order” or “to bearer”
TYPES OF
NEGOTIABLE INSTRUMENTS
Drafts
Checks
Honor and dishonor
Stop-payment orders
Precautions and care
Promissory notes
Certificates of deposit
Bill of Exchange
Draft
A draft is a three-party instrument that is an unconditional
written order by one party that orders the second party to pay
money to a third party.
Drawer of a draft
Drawee of a draft
Payee of a draft
Check
A distinct form of draft drawn on a financial institution and
payable on demand.
Drawer of a check
Drawee of a check
Payee of a check
Parties to a Check
Drawer
- Customer who maintains the checking account and writes
checks against the account
Drawee
- Bank on which the check is drawn
Payee
- Party to whom the check is written
Promissory Notes
A two-party negotiable instrument that is an unconditional
written promise by one party to pay money to another party.
Maker of a note
Payee of a note
Types of notes:
Time note
Demand note
Installment notes
Promissory Notes (continued)
Collateral required
Some notes require posting security
May be automobiles, homes, buildings, securities, or other
property
If maker fails to repay note as due, lender can foreclose and take
collateral as payment
Certificates of Deposit (CD)
A two-party negotiable instrument
Special form of note created when a depositor deposits
money at a financial institution
Institution promises to pay back the amount of the deposit plus
an agreed-upon rate of interest at set time.
Primary Liability
Makers of promissory notes and certificates of deposit have
primary liability for the instrument.
Maker unconditionally promises to pay the amount stipulated
in the note when due.
Makers are absolutely liable to pay the instrument, subject
only to certain real defenses.
Secondary Liability
Drawers of checks and drafts and unqualified indorsers of
negotiable instruments have secondary liability on the
instrument.
This liability is similar to that of a guarantor of a simple
contract.
It arises when the party primarily liable on the instrument
defaults and fails to pay the instrument.
Secondary Liability (continued)
Unqualified indorsers have secondary liability.
Qualified indorsers have no secondary liability.
They have expressly disclaimed liability.
Secondary liability arises from an instrument
being:
Properly presented
Dishonored.
Notice being timely given to person who is
secondarily liable.
Bill of Exchange
A bill of exchange is a negotiable and
unconditional written order, such as a check,
draft, or trade agreement, addressed by one
party to another.
The receiver of the bill must pay the specified
sum or deliver specified goods on demand or at
a specified time.
Bills of exchange are a common form of
internationally negotiable instruments.
SPECIALIZED TYPES OF NEGOTIABLE
INSTRUMENTS
Certified checks
Teller’s check
Cashier’s check
Money orders
Traveler’s checks
Special Types of Checks
Certified Checks
Bank agrees to accept check when presented
Pays out of funds set aside in special account
Drawer is discharged from liability on check
Cashier’s Checks
Two party check
Bank is both drawer and drawee
Holder is payee
Traveler’s Checks
Issued without named payee
Requires purchaser’s signature at issuance and upon
use
HOW IS NEGOTIABLE INSTRUMENTS
TRANSFERRED?
Indorsement
Indorser
Indorsee
Holder
TYPES OF ENDORSEMENTS
Blank endorsements
Full / Special endorsements
Partial endorsements
Restrictive endorsements
Conditional endorsements
HOW IS NEGOTIABLE INSTRUMENTS
DISCHARGED?
By payment
By cancellation
By alteration
By impairment of collateral
As a contract
Holder Versus Holder In Due
Course
Holder Holder in Due Course (HDC)
A person who is in possession of A person who takes a
a negotiable instrument that is negotiable instrument for
drawn, issued, or indorsed to value, in good faith, and
him or his order, or to bearer, or without notice that it is
in blank. defective or is overdue.