1. CHAPTER 23 Creating a Negotiable Instrument
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2. “A negotiable bill or note is a courier without luggage.”
Quote of the Day
“A negotiable bill or note is a courier without luggage.”
John B. Gibson,
Overton v. Tyler, 1846

3. Commercial Paper Commercial paper is a contract to pay money.
It can be:
A Substitute for Money
A Loan of Money

4. Promissory Note
The possessor of a piece of commercial paper has an unconditional right to be paid, as long as:
the paper is negotiable;
it has been negotiated to the possessor;
the possessor is a holder in due course; and
the issuer cannot claim any of the limited number of “real” defenses.

5. Types of Negotiable Instruments
Note (also called a promisory note) is a promise to pay money.
Certificate of Deposit (CD) is a note made by a bank.
Draft is an order directing someone else to pay money for you (e.g., checks).
Cashier’s check -- a draft drawn by a bank on its own account.
Traveler’s check -- a draft issued by and paid by the same company (such as American Express)

6. Rights
The possessor of non-negotiable commercial paper has the same rights--no more, no less--as the person who made the original contract.
The possessor of negotiable commercial paper has more rights than the person who made the original contract.

7. Requirements for Negotiability
The Instrument Must:
Be in Writing.
Be Signed by the Maker or Drawer.
Contain an Unconditional Promise or Order to Pay.
State a Definite Amount of Money.
Be Payable on Demand or at a Definite Time.
Be Payable to Order or to Bearer.

8. Definitions
Trade acceptance -- draft drawn by a seller of goods on the buyer and payable to the sell or some third party
Sight draft -- payable on demand
Time draft -- payable at some particular time in the future
Order paper -- payable to the named person or anyone designated by that named person
Bearer paper -- payable to anyone in possession of the paper

9. Interpretation of Ambiguities
When terms contradict, three rules apply:
Words take precedence over numbers.
Handwritten terms prevail over typewritten terms.
Typed terms prevail over printed terms.

10. Negotiation
Negotiation means that an instrument has been transferred to the holder by someone other than the issuer.
To be negotiated, order paper must first be indorsed and then delivered to the transferee.
Bearer paper must simply be delivered to the transferee; no indorsement is required.

11. Indorsement An indorsement is the signature of the payee.
Blank Indorsement -- does not designate a new payee; becomes bearer paper.
Special Indorsement -- does designate a new payee; only that person may cash the check.
Restrictive Indorsement -- limits the check to one particular use (such as deposit into a particular account).

12. Holder in Due Course
A holder in due course has an automatic right to receive payment for a negotiable instrument (unless issuer can claim one of a few “real” defenses).
Requirements for Holder in Due Course
Under §3-302 of the UCC, a holder in due course is a holder who have given value for the instrument, in good faith, without notice of outstanding claims or other defects.

13. Notice of Outstanding Claims or Other Defects
The instrument is overdue
The instrument is dishonored
The instrument is altered, forged, or incomplete
The holder has notice of certain claims or disputes

14. Shelter Rule
Under the shelter rule, the transferor of an instrument passes on all of his rights.
When a holder in due course transfers an instrument, the recipient acquires all the same rights even if she is made a holder in due course herself.

15. Defenses
Real and personal defenses are valid against an ordinary holder; only real defenses can be used against a holder in due course.
Real Defenses
Forgery, Bankruptcy, Minority, Alteration Duress, Mental Incapacity, Illegality, and Fraud in the Execution
Personal Defenses
Breach of Contract, Lack of Consideration, Prior Payment, Unauthorized Completion, Fraud in the Inducement and Non-Delivery

16. Claims in Recoupment
A Claim in Recoupment is not the same as a defense, but it has similar impact.
Claim in Recoupment is a refusal to pay the full amount of the instrument because the payee owes the issuer another debt. Issuer subtracts the prior debt from the payoff of the current instrument.
In contrast, a defense is a refusal to pay the instrument due to some problem with the instrument or the underlying agreement.

17. Consumer Exception
A consumer credit contract is one in which the seller is also the lender.
In such cases, the Federal Trade Commission requires a specifically-worded notice to be included on the contract, making it non-negotiable.

18. “Commercial paper is a fact of life for most people today; it is used extensively in business and consumer transactions. But, whenever someone acquires a document, he ought to quickly ask himself, ‘How certain am I to be paid the face value of this document?’”

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