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*** When a negotiable instrument is duly negotiated to a holder in due course, the holder in due course takes the instrument free of all claims to it, free of personal defenses and subject only to real defenses.
II. In a commercial paper fact pattern, on what theories might the defendant get sued?
A. Contract or Signature Liability
B. Warranty or Transfer Liability
III. How is a negotiable instrument duly negotiated, meaning, what makes the transfer proper?
IV. How does a transferee qualify as a holder in due course? (HDC)?
V. What are claims and persona defenses (which the HDC takes free of) and what are real defenses (which the HDC is subject to)?
VI. Duties and liabilities of parties: What result when a negotiable instrument is forged or altered?
I. Types of Negotiable Instruments: A negotiable instrument is a document guaranteeing the payment of a specific amount of money, either on demand, or at a set time.
One of the following two: a writing calling for the payment of money
The Promissory Note
1. What it looks like: I promise to pay to the order of Cameron Diaz FIFTY THOUSAND DOLLARS /s/ Justin Timberlake
2.The promise maker: It contains an affirmative promise to pay, and not just a mere IOU.
a. Promisor = MAKER
b. Promisee = PAYEE
1. What it looks like: Pay to the order of Tommy Franks, etc (i.e. a check)
2. The commander: It contains an order or command. Thus, a check is a draft because it contains an order (Pay to the order of)
a. Drawer: Gives the ORDER
b.Drawee: ORDERED to do the paying (your bank under a check)
c.Payee: BENEFICIARY of the order. The entity you are writing the check out to.
1. WOSSUPP: For a writing to qualify as a negotiable instrument, need the following
O: payable to ORDER or BEARER
S: Signed by the maker or drawer
S: Must recite a SUM certain
U: Must contain an UNCONDITIONAL promise, and no additional promises or orders
P: Payable on demand or at a definite time
P: Payable in currency
a. Any authentication, found anywhere on the instrument, qualifies.
1. Not a formal standard: Could be initials, some defining mark, or a nickname, found in the margins or anywhere else on the paper
a. The instrument must contain an unconditional promise to qualify as a note, or an unconditional order to qualify as a draft.
b. Conditional = Contract
1. Examples of conditions
a. Express condition = CONTRACT.
1. A writing promising to pay IF is not a negotiable instrument
b.“Governed by” or subject to = CONTRACT
c. Not conditional = negotiable instrument
1. Merely referring to another writing does NOT of itself make the promise or order conditional. Further, a promise or order is not conditional simply because it refers to another writing for a statement of rights wrt collateral, prepayment, or acceleration.
2. Limiting payment to a particular source or fund: NOT conditional
a. Amount of principal due v. Amount of interest: While the amount of principal due under the instrument must be fixed, it is not necessary that the amount of interest be fixed.
1. Variable or indexed interest rate is permissible.
2. The interest rate need not be determined from the face of the instrument; calculation of the interest rate may require reference to information not contained in the instrument.
1. MONEY, which includes foreign currency
2. Money does NOT mean goods **
a. Ex: If the writing recites, “I promise to pay $5,000 and give you my vintage Beatles album collection” it is non-negotiable.
a. On Demand: An instrument is payable on demand when it specifically states that it is payable “on demand” or “at sight” or “on presentation.”
1. If the instrument is silent as to the time of payment, it is still negotiable and payable on demand.
b.Definite Time: An instrument is payable at a definite time if, by its terms, it is payable on or before a stated date, or at a fixed period after a stated date.
1. Acceleration Clauses: Are permissible and do not destroy negotiability.
2. MUST BE LINKED TO A DATE CERTAIN.
a. Payable to order: To be negotiable, the note or draft must use the word “order” or the word “assigns” in connection with the payee’s name: MUST have the magic words.
b.Payable to bearer: If the instrument is not payable to order, then to be negotiable it must be payable to bearer, meaning that it is payable to anyone who has it. (Magic words are "bearer" or "cash")
c.Trick Question: If the writing states: “Pay to Andy Garcia” IT IS NOT NEGOTIABLE UNLESS IT IS A CHECK
1. Instead, it is just a contract bc it does not use the magic words: order, assign, or bearer
2. Note: Checks do not need to use the magic words.
1. Context: Defendant signed the negotiable instrument
a. When you sign, you promise to pay it, and that how you get sued.
2. Who is the defendant? Who signed the negotiable instrument?
a. The maker: Promisor in the promissory note1. The maker, merely by signing his name to the instrument, enters into a contract, whereby he agrees to pay the instrument. If he fails to pay, he can be sued.
1. Context: The seller’s liability for selling a defective instrument
2. Who is the D? Who may be sued for breach of warranty?
a. Rule: ANY transferor who sells the negotiable instrument. Thus, if our transferor is not a donor, he can be sued.
3.Who can sue the defendant for breach of warranty?
a. If D indorsed the instrument (i.e. signed on the back), any plaintiff in possession of it may sue: Warranties run with indorsed instrument
b. If D did not indorse the instrument, then only rhe D's immediate transferee may sue. The warranties will not run with the instrument.
a. Thus, forgery is a breach of warranty
iii. Defendant promises that the instrument has not been materially altered. When the facts tell you that the instrument has been tampered with, it is defective/flawed.
iv. Defendant promises that there is no defense or claim good against the defendant, meaning that the instrument is enforceable.
v. Defendant promises that she has no knowledge of any bankruptcy or insolvency action against the maker or drawer.
a. The special indorsement: One that names a particular person as “indorsee.” The indorsee must sign in order for the instrument to be further negotiated.
b.The blank indorsement: The blank indorsement is one that does not name a specific indorsee. It may be negotiated by delivery alone.
c. The restrictive indorsement: Contains a condition
Rule: A holder in due course (HDC) is a holder who takes the instrument
1. For value; and
2. In good faith; and
3. Without notice that it is overdue, or has been dishonored or is subject to any defense or claim
a.Note: Giving value does NOT mean giving consideration Contract principle.
b. Consideration and Value differ in two important ways:
A. A mere promise is NOT value
B. Old value is good value.
a. Objective test: Did the holder know or have reason to know of the problem?
i.Payable at a definite time: If the instrument recites that it was payable on a specific date, and Holder buys the instrument after that date, NOT HDC.
ii.Principal in arrears: If holder had notice that a payment or more of principal is in arrears (overdue), cannot qualify as HDC.
iii. Interests in Arrears: If holder takes with notice that one or more payments of interest are in arrears (overdue) cannot qualify as an HDC
i. When the appearance of the instrument gives notice: i.e. The instrument is stamped on its face “PAID” or “VOID”
ii.Notice that obligation of any party is voidable: Take note knowing that maker’s obligation to pay the payee is voidable due to fraud--> cannot be an HDC.
iii. Notice of a competing claim to the negotiable instrument: If the instrument is lost by or stolen from the true owner, the transferee could still qualify as a holder in due course, if the instrument has been duly negotiated and the transferee did not have notice or reason to know of the theft or loss.
iv. Notice that Fiduciary has negotiated the instrument in breach of his or her fiduciary duty: ACTUAL KNOWLEDGE STANDARD: here, can be HDC if did not actually know of the breach
1. The transferee takes shelter in the status of her transferor.
2. Transferee has all of the rights of an HDC even though transferee is a donee or otherwise fails to qualify
1. Rule: The holder in due course (and subsequent transferees who take “shelter” in that status) takes the instrument free from claims, free from personal defenses, and subject only to real defenses.
2.Free From Claims
a. Claim: A right to a negotiable instrument because of superior ownership.
b. If a negotiable instrument is duly negotiated to a holder in due course, the HDC defeats the superior owner.
3. Free from Personal Defenses: Include every defense available in ordinary contract actions, such as lack of consideration, unconscionability, waiver, estoppel, fraud in the inducement.
1. To honor customer’s check: The bank must honor its customer’s check if there are sufficient funds to cover the check
2.Insufficient Funds: A bank may choose to honor a check even if the customer has insufficient funds, in which case the customer is liable to the bank for the overdraft.
3. Wrongful Dishonor: If the bank wrongfully dishonors a check, the customer can recover damage for whatever harm is proximately caused by the wrongful dishonor.
4. Death of Customer: The death of the customer does not revoke the bank's authority to pay a check until the bank (i) knows of the death; and (ii) has a reasonable time to act on such knowledge
5. The bank must honor a check as drawn: Thus it cannot charge the customer's account if:
(i) If the drawer's signature was forged;
(ii) For more money than the original order (i.e. alteration of amount by third party)
(iii) If the bank pays the wrong person (forgery of payee or indorsee's signature); or
(iv) If the check is post-dated (bank must not pay before the stated date)
6. Stop payment orders: An oral stop payment order is binding on the bank for 14 days unless renewed in writing within that period.
a. A written stop payment order is binding for 6 months, renewable every six months in writing.
b. If the bank pays in spite of a stop payment order, the customer has the burden of proving that a loss has occurred, and the amount of the loss.
1. The Basic Context: Writing checks without authority (MD LIKES TO TEST)
a. Ex: Employee signs employer’s name w/o authority, or someone steals your checkbook and writes checks
2.The properly payable rule: The drawee bank that honors a forged or materially altered check must re-credit the drawer’s account, as long as the drawer was not negligent.
3. The drawee bank's remedies:
a. The thief is always liable
b. The drawer is also liable, if negligent
a. Includes: Leaving blanks or spaces on the instrument
b. Failing to follow internal procedures designed to avoid forgeries
1. Ex: Employer is negligent when it keeps a signature stamp in the same unlocked drawer as the company’s checks.
c. The Bank Statement Rule: Negligence includes failure to examine one’s bank statement. If a customer fails to report a forgery or alteration within a reasonable time, he or she is estopped from demanding recredit from the bank.
1. Customers must read bank statements to discover error & must notify bank promptly after the discovery.
d. The fictitious payee rule: If an imposter induces the drawer to write a check, the drawer is negligent
e. The employee indorsement rule: An employer is liable for forgeries by an employee who was entrusted with responsibility for handling checks
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