A Presentation On Negotiable Instruments

Presented By: Krupa Mehta

Copyright 2004 by Prentice-Hall. All rights reserved.

23 - 1

Negotiable Instruments

To qualify as a negotiable instrument (commercial paper), the document must meet certain requirements established by Revised Article 3 (Negotiable Instruments) of the Uniform Commercial Code (UCC).

Copyright 2004 by Prentice-Hall. All rights reserved.

23 - 2

Negotiable Instruments (continued)

If the requirements of Article 3 are met, a transferee who qualifies as a holder in due course takes the instrument free of many defenses that can be asserted against the original payee. In addition, the document is considered an ordinary contract that is subject to contract law.

Copyright 2004 by Prentice-Hall. All rights reserved. 23 - 3

Functions of Negotiable Instruments

Negotiable instruments serve the following functions:

Substitute for money Credit device Record-keeping device

Most purchases by businesses and many individuals are made by negotiable instruments instead of cash.
Copyright 2004 by Prentice-Hall. All rights reserved. 23 - 4

Types of Negotiable Instruments

Drafts Checks

Certificates of Deposit

Promissory Notes

Copyright 2004 by Prentice-Hall. All rights reserved.

23 - 5

Drafts

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

Copyright 2004 by Prentice-Hall. All rights reserved.

23 - 6

Drafts (continued)

Time Draft A draft payable at a designated future date.

Sight Draft A draft payable on sight. Also called a demand draft. Trade Acceptance a sight draft that arises when credit is extended with the sale of goods.
23 - 7

Copyright 2004 by Prentice-Hall. All rights reserved.

Checks

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

Copyright 2004 by Prentice-Hall. All rights reserved.

23 - 8

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

Copyright 2004 by Prentice-Hall. All rights reserved. 23 - 9

Certificates of Deposit (CD)

A two-party negotiable instrument that is a special form of note created when a depositor deposits money at a financial institution in exchange for the institutions promise to pay back the amount of the deposit plus an agreed-upon rate of interest upon the expiration of a set time period agreed upon by the parties.

Copyright 2004 by Prentice-Hall. All rights reserved.

23 - 10

According to UCC 3-104(a), 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

Copyright 2004 by Prentice-Hall. All rights reserved. 23 - 11

Summary: Formal Requirements for a Negotiable Instrument (1 of 4)

Requirement Description

Writing

Writing must be permanent and portable. Oral or implied instruments are nonnegotiable [UCC 3-104(d)].

Signed by maker or drawer Signature must appear on the face of the instrument. It may be any mark intended by the signer to be his or her signature. Signature may be by an authorized representative [UCC 3-104(a)]. Unconditional promise or order to pay Instrument must be an unconditional promise or order to pay [UCC 3-104(a)]. Permissible notations listed in UCC 3-106(a) do not affect instruments negotiability. If payment is conditional on the performance of another agreement, the instrument is nonnegotiable.

Copyright 2004 by Prentice-Hall. All rights reserved.

23 - 12

Summary: Formal Requirements for a Negotiable Instrument (2 of 4)

Requirement Fixed amount of money Description Fixed amount: Amount required to discharge the instrument must be on the face of the instrument [UCC 3104(a)]. Amount may include payment of interest, discount, and costs of collection. Revised Article 3 provides that variable interest rate notes are negotiable instruments. In money: Amount must be payable in U.S. or foreign countrys currency. If payment is to made in goods, services, or non-monetary items, the instrument is nonnegotiable [UCC 3-104(a)].

Copyright 2004 by Prentice-Hall. All rights reserved.

23 - 13

Summary: Formal Requirements for a Negotiable Instrument (3 of 4)

Requirement
Cannot require any undertaking in addition to the payment of money

Description
A promise or order to pay cannot state any other undertaking to do an act in addition to the payment of money [UCC 3-104(a)(3)]. A promise or order to may include authorization or power to protect collateral, dispose of collateral, waive any law intended to protect the obligee, and the like.

Copyright 2004 by Prentice-Hall. All rights reserved.

23 - 14

Summary: Formal Requirements for a Negotiable Instrument (4 of 4)

Requirement Description Payable on demand or at a Payable on demand: Payable at sight, upon presentation, definite time or when no time for payment is stated [UCC 3-108(a)]. Payable at a definite time: Payable at a definite date, or before a stated date, a fixed period after a stated date, or at a fixed period after sight [UCC 3-108(b)(c)]. Instrument payable only upon the occurrence of an uncertain act or event is nonnegotiable.

Copyright 2004 by Prentice-Hall. All rights reserved.

23 - 15

Nonnegotiable Contract
A promise or order to pay that does not meet the requirements of a negotiable instrument. It is not subject to the provisions of UCC Article 3. A nonnegotiable contract can be enforced under normal contract law.

Copyright 2004 by Prentice-Hall. All rights reserved.

23 - 16

Transfer by Assignment or Negotiation

Transfer by Assignment The transfer of rights under a contract. It transfers the rights of the transferor (assignor) to the transferee (assignee). Transfer by Negotiation The transfer of a negotiable instrument by a person other than the issuer. The person to whom the instrument is transferred becomes the holder.

Copyright 2004 by Prentice-Hall. All rights reserved.

23 - 17

Indorsement
The signature (and other directions) written by or on behalf of the holder somewhere on the instrument. The signature may:

Appear alone Name an individual to whom the instrument is to be paid, or Be accompanied by other words

Copyright 2004 by Prentice-Hall. All rights reserved. 23 - 18

Types of Indorsements (1 of 2)
Type of Indorsement Blank Special Description Does not specify a particular indorsee. This indorsement creates bearer paper. Specifies the person to whom the indorser intends the instrument to be payable. This indorsement creates order paper. Does not disclaim or limit liability. The indorsee is liable on the instrument if it is not paid by the maker, acceptor, or drawer.

Unqualified

Copyright 2004 by Prentice-Hall. All rights reserved.

23 - 19

Types of Indorsements (2 of 2)
Type of Indorsement Description

Qualified

Disclaims or limits the liability of the indorsee. There are two types: 1. Special qualified indorsement 2. Blank qualified indorsement No instructions or conditions attached to the payment of funds
Conditions or instructions restrict the indorsees rights. There are four types: 1. Conditional indorsement 2. Indorsement prohibiting further indorsement 3. Indorsement for deposit or collection 4. Indorsement in trust
Copyright 2004 by Prentice-Hall. All rights reserved. 23 - 20

Nonrestrictive
Restrictive

Forged Indorsement

The Imposter Rule A rule that says if an imposter forges the indorsement of the named payee, the drawer or maker is liable on the instrument and bears the loss.

The Fictitious Payee Rule A rule that says that a drawer or maker is liable on a forged or unauthorized indorsement of a fictitious payee.

Copyright 2004 by Prentice-Hall. All rights reserved.

23 - 21