NEGOTIABLE INSTRUMENTS NOTES-Business Law - University Education and Exams

NEGOTIABLE INSTRUMENTS NOTES

9.1 Introduction
The law relating to ‘negotiable instruments’ is contained in the Bills
of Exchange Act(cap 270 and the Cheque Act (cap.35). These Acts deal
with three kinds of negotiable instruments. i.e. Bills of Exchange,
cheques and Promissory Notes.

Meaning of Negotiable Instrument:
The word negotiable means “transferable by delivery,’ and the word
instrument means a written document by which a right is created in
favour of some person. Thus, the term “negotiable instrument” literally
means a written document transferable by delivery.’
A negotiable instrument can be called as chose in action. This means
that such instrument confers certain rights, which are incapable of
physical possession and which can only be enforced by legal action, not
by physically taking possession of anything. For example, If a cheque is
written in the name of a specific person, the cheque gives him a right
to this sum of money without giving him the money itself in physical terms.

9.2 Characteristics of Negotiable Instruments:

The main characteristics of negotiable instruments are as under:

Easy negotiability:
They are transferable from one person to another without any formality.
In other, words, the property or right of ownership) in case it is
payable to order) or by delivery merely (in case it is payable to
bearer), and no further evidence of transfer is needed.
Transferee can sue in his own name without giving notice to the debtor.
A bill, note or a cheque represents a debt, ie. An “actionable claim”
and implies the right of the creditor to recover something from his
debtor. The creditor can either recover this amount himself or can
transfer of a negotiable instrument is entitle to sue on the instrument
in his own name in case of dishonour, without giving notice to the
debtor of the fact that he has become holder.

Better title to a bonafide transferee for value
A bonafide transferee of a negotiable instrument for value (technically
called as a holder in due course) gets the instrument “free from all
defects.” He is not affected by any defect of title of the transferor or
any prior party. Thus, the general rule of the law of transfer
applicable in the case of ordinary chattels that “nobody can transfer a
better title than that of his own’ does not apply to negotiable instrument.

Presumptions on all negotiable instruments
Certain presumptions apply to all negotiable instruments. These
presumptions may be that every negotiable instrument:

Was made, drawn or accepted for consideration;
Was made or drawn on a date preparing on the instrument;
Was transferred before its maturity date; and so on.

9.3 Negotiable Instruments Recognized By Statute

The following instruments have been recognized as negotiable instruments
by statute, usage or custom:

Bills of Exchange
Cheques
Promissory Notes
Treasury Bills
Bearer debentures
Divided warrants
Share warrants

The following are not negotiable instruments:

Money Orders
Postal Orders
Share certificates
Letters of Credit
Fixed Deposit Receipts

The Bills of Exchange Act (cap.27) recognizes the following negotiable
instruments ;
Bills of Exchange
Cheques
Promissory Notes
These three negotiable instruments are discussed below

9.4 Bills of exchange

Definition:
Section 3(1) of the Bills of Exchange Act defines the bills as:
“ A bill of exchange is an unconditional order in writing, addressed by
one person to another, signed by the person giving it, requiring the
person to whom it is addressed to pay on demand or at a fixed or
determinable future time a sum certain in money to or to the order of a
specified person or to bearer”.

Section 3(2) of the Act states that any instrument which does not comply
with these conditions, or which orders any act to be done in addition to
the payment of money, is not a bill of exchange.

9.4.1 Parties to a bill of exchange:
There are three parties to a bill of exchange. These are: drawer, drawee
and payee.

The person who makes the bill is called the “drawer’
The person who is directed to pay is called the “drawee”.
The person to whom the payment is to be made is called the “payee”.

The drawer or endorsee (if the bill is endorsed to the payee) is called
the “holder”. The holder must present the bill to the drawee for his
acceptance. When the drawee accepts the bill, by writing the words
“accepted” and then signing, he is called the acceptor”.

9.4.2 Essentials of a bill:
To be a valid bill of exchange, an instrument must comply with the
following requirements:

It must contain an “order to pay’. A mere request to pay on account
will not amount to an order. But an order may be expressed in polite
language. The use of the word “please pay’ does not prevent an
instrument from being an order.
The order to pay must b e unconditional. It means there must be no
other condition attached to the payment.
It must be addressed by one person to another person.
The drawer, drawee and payee must be certain.
The sum payable must be certain.
It must be in writing and signed by the drawer.
If it is not payable on demand then the time of payment must be
fixed or determinable. A determinable event is one which is bound to
happen but the time of happening may be uncertain e.g the death of
the drawee’s father.

9.4.3 Holder of A bill:
The bills of Exchange Act defines a holder as “the payee or endorsee of
a bill or note who is in possession of it or the bearer thereof”.
S.2 The question of who is a “holder” of a bill largely depends on the
type of bill in question. In case of an order bill, it is the payee or
endorsee in possession of the bill; while in the case of a bearer bill
it is the bearer who by definition is the person in possession of a bill
or note payable to bearer. The act draws a distinction between two types
of holders: a holder for value and a holder in due course.

Holder for value:
To understand what is meant by “holder for value” we must first
understand who is a “holder and what is meant by value. We have already
seen that a holder is defined as the payee or endorsee in possession of
a bill or the bearer thereof. ‘Value” on the other hand, “means value
consideration” S.2 A holder for value is therefore a payee or endorsee
in possession of a bill, or the bearer of a bill, who has furnished
valuable consideration for it. The holder of a bill is, under certain
circumstances, deemed to be a holder for value. In addition, where “the
holder a bill has a lien on it, arising either from contract or by
implication of law, he is deemed to be a holder for value to the extent
of the sum for which he ahs a lien” s.27(3).

Holder in Due course:
A holder in due course is defined by section 29 as a holder who has
taken a bill complete and regular on the face of it, under the following
condition, namely:

That he became the holder of it before it was overdue and without
notice that it had been previously dishonored, if such was the fact:
That he took the bill in good faith and for value, and that at the
time the bill was negotiated to him he had no notice of any defect
in the title of the person who negotiated it.

The above definition requires further consideration. First, the bill in
question must be” complete and regular on the face of it”. This means
that a holder of an inchoate instrument or of a bill that is wanting in
any material respect – e.g where it is undated – cannot be a holder in
due course. (although such folder has a right to fill in the date, he is
not thereby constituted into a holder in due course). Also, where an
endorser does not sign his full names, this is an irregularity which
denies his endorsee the status of holder in due course.

Secondly, a person can only be a holder in due course if he became a
holder of the bill before it was overdue. A bill payable on demand is
deemed to be overdue when it appears on the face of it to have been in
circulation for an unreasonable length of time; and what is an
unreasonable length of time is a question of fact.

S.36 (3). According to bankers” practice a cheque, which by definition
is a bill of exchange payable on demand, becomes “stale” after it has
been in circulation for six months). Where an overdue bill is
negotiated, it can only be negotiated subject to any defect of title
affecting it at its maturity, and thenceforward no person who takes it
can acquire or give a better title than that which the person from whom
he took it had.

In other words the ‘nemo dat rule’ applies to overdue bills and any
person taking such bill takes it at his own risk; there is no assurance
of good title to the bill. The burden is on any one who claims that a
particular bill is overdue to prove this fact, otherwise, section 36(4)
provides. “Except where an endorsement bears date after maturity of the
bill, every negotiation is prima facie deemed to have been affected
before the bill was overdue.”

9.4.4 Negotiation of a bill

A bill is negotiated when it is transferred from one person to another
in such a manner as to constitute the transferee the holder of the bill.
S 31(1). Thus where A is the holder of a bill and he transfers it to B
so as to constitute B holder of the bill, A is said to have negotiated
the bill to B. The manner in which a bill is negotiated depends on
whether it is a bearer bill or an order bill.

Bearer Bill:
“Bill payable to bearer is negotiated by delivery”. S.31(2). It will be
recalled that under the Act, delivery means the transfer of possession,
actual or constructive, from one person to another: S.2 thus, where A is
the bearer or holder of a bearer bill, and he wishes t negotiate it to
B, the negotiation may be effected by A transferring possession of the
bill from himself to B. Nothing more need be done. The negotiation is
completed as soon as the bill is handed over to and received by B.

Order bill
Mere delivery is not sufficient to negotiate an order bill. Such bill
is, under section 31(3) negotiated “by the endorsement of the holder
completed by delivery”, Thus, if A. the holder of an order bill, wishes
to negotiate it to B, A can only do this by writing on the back of the
bill (e.g “pay B”, accompanied by his signature or by simply signing it
and then delivering the bill to B. Merely delivering the bill to B
without an endorsement is not sufficient. However, it is provided that
“where the holder of a bill payable to his order transfers it for value
without endorsing it, the transfer gives the transferee such title as
the transfereor had in the bill and the transferee in addition acquires
the right to have the endorsement of the transferor” S.31(4) This means
that where A delivers an order bill to B for value but without endorsing
it, B has a right to enforce the bill against A; but as regards third
parties, the bill may be enforced by B against them only to the extent
of A’s title. If A had a defective title to the bill, B acquired no
valid title and cannot enforce it against third parties.

9.4.5 Requisites of a valid Endorsement:

For an endorsement to operate as a negotiation, it must comply with the
following conditions, (S.32):

It must be written on the bill itself and be signed by the endoser;
the simple of the endorser on the bill, without additional words, is
sufficient; while an endorsement written on a “copy” of a bill
issued or negotiated in a country where “copies” are recognized, is
deemed to be written on the bill itself:
It must be an endorsement of the entire bill; a partial endorsement,
that is to say, an endorsement which purports to transfer to the
endorsee a part only of the amount payable, or which purports to
transfer the bill to two or more endorsees severally, does not
operate as a negation of the bill:
Where a bill is payable to the order of two or more payees or
endorsees who are not partners, all must endorse, unless the one
endorsing has authority to edorse for the others;
Where, in a bill payable to order the payee or endorsee is wrongly
designated, or his name is misspelt, he may endorse the bill as
therein described, adding, if he thinks fit, his proper signature;
Where there are two or more endorsements on a bill, each endorsement
is deemed to have been made in the order in which it appears on the
bill, until the contrary is proved:
An endorsement may be done in blank or special; it may also contain
terms making it restrictive.

9.4.6 Liabilities of parties

The liabilities of parties to a bill are as follows;

The Acceptor:
Under section 54, the acceptor of a bill, by accepting it:
engages that he will pay it according to the tenor of his acceptance and
is precluded from denying to a holder in due course;

the existence of the drawer, the genuineness of his signature, and
his capacity of the drawer to endorser, but not the genuineness or
validity of his endorsement;
In the case of a bill payable to drawer’s order, the then capacity
of the drawer to endorse, but not the genuineness or validity of his
endorsement:
In the case of a bill payable to the order of third person, the
existence of the payee and his then capacity to endorse, but not the
genuineness or validity of his endorsement.

The Drawer:
Under section 55(1) the drawer of a bill by drawing it:

Engages that on due presentment it shall be accepted and paid
according to its tenor and that if it be dishonored he will
compensate the holder or any endorser who is compelled to pay it, so
long as the requisite proceedings on dishonour be duly taken:
Is precluded from denying to a holder in due course the existence of
the payee and his then capacity to endorse.

The Endorser:
Under section 55(2) the endorser of a bill by endorsing it:

engages that on due presentment it shall be accepted and paid
according to its tenor, and that if it be dishonored he will
compensate the holder or a subsequent endorser who is compelled to
pay it, so long as the requisite proceedings on dishonour be duly taken:
Is precluded from denying to a holder in due course the genuineness
and regularity in all respects of the drawers signature and all
previous endorsements;
Is precluded from denying to his immediate or a subsequent endorsee
that the bill was at the time of his endorsement a valid and
subsisting bill, and that he had then a good title thereto.

Discharge of Bill

A bill is discharged in the following circumstances:

By payments in due course by or on behalf of the drawee or acceptor.”
payment in due course” means payment made at or after the maturity of
the bill to the holder thereof in good faith and without notice that his
title to the bill is defective. [s. 59(1).
When the acceptor is or becomes the holder of the bill at or after
its maturity, in his own right ( s.61).
When the holder at or after its maturity absolutely and
unconditionally renounces his rights against the acceptor. The
renunciation must be made in writing unless the bill is delivered up to
the acceptor (s.62).
Where it is intentionally cancelled by the holder or his agent and
the cancellation is apparent there on: s. 63(1). The cancellation, of a
signature on the bill has a similar effect: s.63 (2).however, a
cancellation made unintentionally, or under a mistake , or without the
authority of the holder is inoperative: s.63(3).

9.5 Cheques

Nature of a cheque
A cheque is defined as “a bill of exchange drawn on banker payable on
demand “: s.73 (1). A cheque, as such, is a bill of exchange. It is a
bill payable on demand, and, subject to certain exceptions, the
provisions of the act applicable to a bill of exchange payable on demand
equally apply to a cheques. 73(2). But unlike other bills, the drawee of
a cheque must necessarily be a banker; and this gives rise to a banker-
customer relationship between the drawer and drawee,, with special rules
to govern such relationship, the nature of this relationship, and the
duties it imposes on the parties, are considered below.

9.5.1 Differences between Cheques and other bills

Cheques may be crossed , and are usually crossed, but it is unsual to
cross other bills, (but dividend warrants may be crossed:s. 96)
The rules relating to acceptance do not apply to cheques.(under
section 39 presentment for acceptance is necessary only where a bill is
payable after sight, or expressly stipulates that it shall be presented
for acceptance, or where it is drawn payable elsewhere than at the
residence or place of business of the drawee. Cheques are therefore
excluded).
We have seen that where a bill is not duly presented for payment, the
drawer and endorsers are discharged. But in the case of a cheque, a
delay in presenting it for payment does not discharge the drawer or
person on whose account it is drawn unless such delay is proved to have
caused actual damage to him and the discharge is only to the extent of
such damages:s.74.
A cheque is always drawn on a banker but a bill may be drawn on
anyone including the bank.
In the case of a bill, three days period of grace is allowed, while
no grace is given in the case of cheques.
The notice of dishonour of a bill is necessary but no notice is
necessary in the case of a cheque.

9.5.2 Banker Customer Relationship:
The relationship between a banker and his customer is a matter of
contract. The banker is in the position of a debtor, and the customer in
that of a creditor: the customer advances his money to the banker on the
understanding that the latter will repay it on demand.

Duties of the Customer:
The duty owed by a customer to his banker is the duty of care. This duty
usually arises when the customer is drawing a cheque. He is then “bound
to take usual and reasonable precautions to prevent forgery”. “whereas
it is the duty of the customer of bank in issuing a cheque to the bank
to take reasonable care so as not to mislead the bank, that duty must be
immediately connected with the transaction itself. There is no duty on
the part of the customer to take precaution in the general course of
carrying on his business to prevent forgeries on the part of its
servants or thefts”.

Duties of the banker

A banker must honour his customer’s cheques as long as there is a
sufficient and available credit balance.The banker’s authority to
pay is determined or revoked either by countermand (i.e stoppage) of
payment or by notice of the customer’s death: s.75. The authority to
pay may also be revoked by other circumstances, such as notice of
the customer’s mental incapacity or bankruptcy.
The duty not to pay without the customer’s authority enjoins the
banker to take reasonable care in honouring his customer’s cheques.
“A bank owes a contractual duty to its customers and in the
discharge of that duty a bank must take reasonable care in honouring
cheques especially open cheques to be paid on the counter. A bank
must ensure that the drawer’s signature on the cheque strictly
conforms with the specimen signature given when the account was
opened. When the drawers signature, on the cheque differs from the
specimen signature the payment should be refused with comments like
“signature differs”
If, in breach of the above duty, the bank acts negligently and
wrongfully debits the customers account, the customer may
successfully sue the bank and have his account recredited with the
amount wrongfully paid out:
It is also the banker’s duty to collect his customer’s cheques,
provided they are banked with him for collection.
Finally, where a customer gives his documents to his banked for safe custody, the duties of a banker are thereby imposed on the banker and he must then take reasonable care of the documents.

9.5.3 Crossed cheques
A crossed cheque is one which bears a crossing. A crossed cheque may be
crossed generally or crossed specially.

Effect of crossing:
A crossing is a material part of the cheque and it is not lawful for any
person to obliterate or, except as authorized by the act, to add to or
alter the crossing: S.78 Unlike an open cheque, a crossed cheque cannot
be paid over the counter but must be paid to a banker. This means that
the payee of such a cheque may take it to his banker for collection; it
is the latter banker who will receive payment from the drawee bank on
behalf of the payee. Where the cheque is crossed specially, it is only
the banker named by the crossing who is entitled to receive payment of
the same. A paying banker who fails to effect payment of a crossed
cheque in this manner may incur liability to the true owner of the
cheque, S.79 (2) The effect of the words “not negotiable” is given by
section 81: “Where a person takes a crossed
cheque which bears on it the words “not negotiable”, he shall not have,
and shall not be capable of giving a better title to the cheque than
that which the person from whom he took it had.”

9.6 Promissory Notes

9.6.1 Nature of a promissory Note
Section 84(1) defines a promissory note in the words:
A promissory note is an unconditional promise in writing made by one
person to another signed by the maker, engaging to pay, on demand or at
a fixed or determinable future time, a sum certain in money, to or to
the order of a specified person or to the bearer”
Section 90(1) of the Act provides that “the provisions of the Act
relating to bills of exchange apply to promissory notes, with the
necessary modifications to promissory notes.

9.6.2 Differences between promissory notes and Bills of exchange

A bill is an ‘order to pay” while a promissory note” is a promise to
pay”.
A bill of exchange requires three parties i.e. the drawer, the
drawee and the payee. But a promissory note only requires two
parties i.e the maker and the payee (or promissory and promise).

Summary of the topic

Characteristics of negotiable instruments
Parties to a bill of exchange
Negotiation of a bill
Discharge of a bill
Differences between bills of exchange and cheques
Differences between promissory notes and bills of exchange