Capacity of Parties
- A person competent to contract can become party to a negotiable instrument.
- If a party, who makes, draws, accepts, indorses, delivers or negotiates a promissory note, bill of exchange or cheque is incompetent to do so, the agreement is void as against him. But the liability of other competent parties do not get diminished.
- The following may be parties to a negotiable instrument:
- Person of unsound mind
- Hindu joint family
- Legal representatives
- A minor may draw, indorse, or can negotiate an instrument so as to bind all the parties except himself (s. 26).
- The instrument with Minor as a Party becomes binding to all other parties to it, but minor does not become liable on an Instrument.
Persons of unsound mind
- Bills and notes drawn or made by persons of unsound mind are void as against them (though the other parties remain liable) provided that, at the time of execution of such Instruments, they were incapable of forming a rational judgment as to the effects of such instruments.
- A person, though usually of unsound mind, may bind himself by a negotiable instrument entered into by him during a lucid interval.
- A corporation can bind itself by negotiable instruments only if authorized by Memorandum or Articles. Else it will be treated as void even though it is approved by all the members.
- A trading company has implied power to bind itself by negotiable instruments (unless prohibited by its Memorandum or Articles)
- A non-trading company can enter into such binding only if it is expressly authorised by its Memorandum or Articles.
- An authorised agent on behalf of a principal can make, draw, Accept, indorse, deliver and negotiate a bill, note or cheque. However, an authority to draw the bills does not imply an authority to indorse or vise versa.
- General authority to transact business and to receive and discharge debts does not confer upon an agent the power of accepting or indorsing bills of exchange so as to bind his principal. (S. 27).
- The principal shall be bound a negotiable instrument signed by his agent provided the agent
- has acted in the name of the principal (i.e. he must sign ‘for and on behalf of the principal)
- acted within the scope of his authority.
- An Agent is personally liable in the following cases :
- Where he signs an instrument without indicating thereon that he signs as agent. But he is not personally liable to those who induced him to sign the instrument upon the belief that the principal only would be held liable (s. 28). [Ramanathan v.Baldeo Singh], [Hazari Lal v. Sohan Lal],
- Where he signs instrument in excess of the authority given to him.
- In a trading firm each partner has prima facie authority to bind his co-partners by drawing, signing, making, indorsing, accepting, transferring, negotiating bills, notes, and cheques in the name and on account of partnership.
- Partner of a non-trading firm has no such implied authority, unless specifically authorized.
- A person merely describing himself as a partner cannot bind the firm by such acts. [M.M. Abbas v. Chetandas]
Hindu Joint Family
- The manager or Karta of a Hindu Joint family, has a right to borrow money on a note or bill, and all the members of the joint family are bound by such act.
- Minors are liable to the extent of their share and are not personally liable.
A legal representative :
- is entitled to sue or can give a valid discharge to all the instrument after the death of holder.
- becomes personally liable if an instrument bears his signature unless he expressly limits
- has its liability limited to the extent of the assets received by him as such. (s. 29)
Inchoate Instrument (s.20)
- A negotiable instrument which is signed but incomplete in one or more respects is called as an inchoate negotiable instrument.
- The person signing the inchoate instrument gives the prime facie authority to the holder thereof to make or complete the negotiable instrument.
- The payments on the inchoate instrument can be claimed only if the banks are subsequently filled in and the instrument is complete.
- The liability on an inchoate instrument is restricted to the amount as was authorised by the person signing such inchoate instrument provided such amount is covered by the stamp. However, a person shall not be a holder in due course unless he obtains the NI.
Parties to Negotiable Instrument
The parties to a negotiable instruments are :
- Bill of exchange. Drawer. 2) Drawee, 3) Acceptor (4) Payee (5) Holder, 6) Indorse (7) Indorsee, (8) Drawee in case of need (9) Acceptor for honour.
- Promissory note. (1) Maker, (2) Payee, (3) Holder, (4) Indorser, and (5) Indorsee.
- Cheque. (1) Maker, (2) Drawee, (3) Payee. (4) Holder, (5) Indorser (6) Indorsee.
Maker & Drawer
The person who makes a promissory note is called the Maker, while the person who makes or draws a bill of exchange or cheque is called the Drawer. (s. 7).
Drawee & Acceptor
- The person on whom the bill of exchange or cheque is drawn and who is directed to pay is called the “drawee” (S. 7).
- In case of a cheque, the drawee is always a bank.
- A cheque does not require acceptance as it is intended for immediate payment.
- In case of a Bill of Exchange, the drawee becomes the “acceptor” when he accepts the Bill.
- The person named in the bill, note or cheque, to whom the money is payable is called the “payee” (S. 7).
- In a Bill or Cheque, the drawer and Payee may be same person.
- Where the payee named in a bill is a fictitious or non-existing person, the bill is treated as payable to bearer
Indorser and Indorsee
The person who indorses the bill to another is called the Indorser and the person to whom the Bill is indorsed is called the Indorsee.
Drawee in case of need
A Bill may contain the name of a person other than drawee to be referred, called ‘Drawee in case of need’, if the bill is not honoured by the Drawee. In such case, the bill is not dishonoured until it has been dishonoured by such drawee in case of need (s. 115). A drawee in case of need may Accept and pay the bills of exchange without previous pretest. (s. 116)
Holder (s. 8)
Holder of the instrument is entitled to possess, receive or recover the amount due on the instrument in his own name when he is named in the instrument as the payee (or the indorsee when indorsed), or bearer (for bearer Instrument).
- A person acquiring an instrument by theft or forgery does not become a holder.
- Where a person (e.g., the heir of a deceased holder) in the absence of a holder can give a valid discharge to the maker or acceptor of the Instrument, he acquires the status of a holder and can sue on the instrument to recover the amount due thereon.
- In case of loss (or destruction) of the instrument, the person so entitled at the time of such loss becomes the Holder of the instrument.
As between holders in due course of different parts of the same set, he who first acquired title to his part is entitled to the others parts and the money represented by the bill (s. 133).
Holder in due course (s. 9)
Any person is a ‘holder in due course’ when:
- he became the possessor (when payable to bearer), or the payee or indorsee (when payable to order) of the instrument for consideration. [Exp Schofield]
- he became the holder of the instrument before its maturity (if the instrument is taken after it is due, he acquires the rights of his immediate transferor only.
- became the holder of the Instrument in good faith,(i.e. without knowledge or cause to suspect any existent infirmity or defect in the title). [Braja Kishore Dikshit v. Purna Chandra Panda]
However, a holder of a negotiable Instrument will not be considered to be a Holder in due course if he has obtained the instrument :
- by gift, for an unlawful consideration or by illegal method
- after its maturity
- not obtained the instrument bona fide.
Privileges of Holder in due course
The privileges enjoyed by the holder in due course are as follows:
- Inchoate stamped instrument.
- A person delivering inchoate instrument is liable on the instrument (provided the amount is covered by the stamp affixed on the instrument) to a holder in due course.
- No person other than a holder in due course shall recover from the person delivering the instrument anything in excess of the amount intended by him to be paid there under. (S. 20)
- Liability of prior parties. Every prior party to a negotiable instrument is liable thereon to a holder in due course until the Instrument is duly satisfied (S. 36).
- Fictitious payee. Where a bill is drawn is a fictitious person, the holder in due course can still claim payment from the acceptor if he can show that the signature of the drawer and first endorser are in the same handwriting. (S.42).
- Negotiable instrument without consideration. Though normally a contract without consideration creates no obligation between the Parties (No consideration, No Contract), but a holder in due course of such instrument can recover the amount on it from any of the prior parties thereto (S. 43).
- Conditional delivery. The parties to an instrument cannot avoid their liability on the ground that the delivery of the instrument was conditional or for a special purpose only (s. 46).
- Instrument cleansed of all defects. Any defect in title in the instrument does not affect the rights of the holder in due course (even if he had knowledge of the defect but he himself is not a party to the fraud) (S. 53). Ex. 2.6, Ex. 2.7
- Instrument obtained by unlawful means or for unlawful consideration. No party can claim against a holder in due course that the instrument had been lost or was obtained by him by unlawful means or consideration.
Gift. If a holder in due course gives such instrument to another by the way of gift etc., the successive person will not hold a good title of the instrument.( S. 58)
- Every holder is a holder in due course. The law presumes that every holder is a holder in due course, although the presumption is rebuttable (S. 118).
- Estoppel against denying original validity of instrument. In case of suit filed by a holder in due course, the maker, drawer and the acceptor cannot deny the validity of the instrument as originally made or drawn (S. 120), or the payee’s capacity to indorse (S. 121)
- Indorser not permitted to deny the capacity of prior parties. When sued by a holder in due course, the indorser of a instrument cannot, deny the signature or capacity to contract of any prior party to the instrument (S. 122)
Difference between Holder and Holder in due course
Some of the differences of a holder and a holder in due course are enlisted below:
|Holder||Holder in due course|
|A person entitled in his own name, to possess, receive or recover the amount due on the instrument is referred as Holder of the instrument.||Any person who for consideration became the possessor of an instrument before maturity of the Instrument in good faith, is Holder in Due Course.|
|A person can become a holder even though he has acquired it without any consideration.||A person becomes a holder in due course if he obtains the instrument for consideration.|
|A person can become a holder even though he obtains the Instrument after the maturity date.||A person cannot become a holder in due course if the Instrument is obtained after the maturity.|
|Even though an Instrument is not obtained by a person in good faith or is negligent can become a holder.||He can only become a holder in due course if he has acted bonafide and without any negligence.|
|A holder doesn’t enjoy some of the privileges which a holder in due course enjoys.||A holder in due course enjoys many additional privileges.|
|The title of the holder is not better than title of the person from whom he obtains the instrument.||The title of the holder in due course is better than title of the person from whom he obtains the instrument.|
|A holder cannot sue all the prior parties.||A holder in due course can sue all the prior parties.|
Liability of Parties to a Negotiable Instrument (s. 30 to 32 and s.35 to 42)
- Liability of drawer: In case of dishonour, the drawer of a bill of exchange or cheque must compensate the holder, provided due notice of dishonour has been given to, or received by, the drawer (S. 30). [Union Bank of India v. Swastika Motors], [Silchar bank v. Pioneer Bank]
- The liability of the drawer on a bill of exchange is secondary in nature. The acceptor of the bill is primarily responsible to make payment.
- By drawing a bill, the drawer undertakes that
- On presentment of the same to the acceptor, it will be accepted and duly honored,
- If dishonored by the acceptor either by failure to make payment or by non-acceptance, he will compensate the holder or any indorser provided due notice of dishonor has been given to him.
- The liability of a drawer arises only when there is a dishonor of the bill. Until then the drawer is not liable on the bill. In case the bill is dishonored and notice of the same is given to him, the drawer will be liable to make payment to the payee.
The notice of dishonour of the bill is given to drawer. If otherwise, the drawer is not only discharged from his liability upon the bill, but also upon the original debt.
- The drawer of a bill can limit his liability by using appropriate words (‘Pay X or order sans recourse’).
- Where a bill has been dishonored by non-acceptance and where notice of the said dishonour has been given to the drawer, then the holder of the bill can sue the drawer immediately without having to wait till the maturity date or without having to present the bill to the drawer.
- Liability of Drawee: In case of cheque, the drawee banker must pay the cheque when duly required to do so. In case the banker refuses to pay the cheque without any sufficient reason, he is liable to compensate the drawer for loss caused to him because of non-payment. (S. 31) [Jagjivan Mavji v. Ranchoddas]
- Where a customer has two accounts at a bank, the banker cannot transfer funds from one account to the other without obtaining the approval of the customer (Greenhalgh vs. Union Bank of Manchester).
A cheque book issued for use on one account cannot be used to draw on another account of the customer (State Bank of India vs. Vathi Samba Murty).
- Following are some of the instances where a banker may refuse to honor the customer’s cheques.
- Where a postdated cheque is presented for payment prior to the date it bears.
- Where a customer does not have sufficient funds to his credit
- If the funds of the customer are subject to a lien by the banker
- The cheque is ambiguous, unclear or contains a material alteration.
- Customer has been declared insolvent.
- The customer has countermanded payment.
- The banker receives notice of either the customer’s death or insanity.
- Liability of legal representative (s.29):
- A person who sign as legal representative of a deceased person becomes personally liable on the negotiable instrument (unless he expressly limits his liability).
- The legal representative who inherits estate, including negotiable instruments of which the deceased person was the holder, becomes personally liable for the negotiable instruments only to the extent of the value of the estate inherited by him, unless he excludes personal liability (e.g. by using the words ‘without recourse’, or ‘without resource against me personally’).
Liability Inter Se
- Maker, drawer and acceptor: In the absence of a contract to contrary, the maker and the drawer of a bill until acceptance, are not discharged from the liability unless the payment of the instrument is made. They are liable like principal debtors and the other parties to the instrument are liable like sureties. Their liability arises only on a default by the party primarily liable. (S. 37) [India Saree Museum vs. P. Kapurchand]
- Inter Party responsibility: As between the parties liable as sureties, each prior party is a principal debtor in respect of each subsequent party (in absence of a contract to the contrary). (S. 38) Ex. 2.8
- Suretyship: When the holder of an accepted bill enters into any contract with the acceptor resulting in discharge of other parties (u/s. 134 or 135 Contract Act), the holder may expressly reserve his right to charge the other parties, and in such a case they are not discharged. (S. 39)
- Discharge of indorser’s liability: Where the holder impairs the indorser’s remedy against a prior party (without the consent of the indorser), the indroser’s liability is discharged as if the instrument if had been paid at maturity. (S. 40) Ex. 2.9
- Acceptor’s liability on a forged indorsement: An acceptor cannot escape his liability in a forged indorsement where he knew (or had reason to believe about the forgery at the time of endorsement. (Sec 41)
- Acceptor’s liability for a bill in a fictitious name: An acceptor shall be liable to the holder in due course if it is proved that the signature of the supposed drawer and that of the first endroser are in the same handwriting. (S. 42)
Rules regarding Liability of Parties to Instrument
- The parties to an instrument cannot avoid their liability on the ground that the delivery of the instrument was conditional or for a special purpose only.(S. 46)
- Even if an instrument is obtained by fraud it will be considered as free from all defects as soon as it passes through the hands of a holder in due course. A person who derives title from him also enjoys the same right as the holder in due course (S. 53).
- No party can defend himself against a holder in due course in case the instrument is lost or obtained from him by means of an offence or fraud (S. 58).
- No maker, drawer or a acceptor for the honour of the drawer, is, in a suit thereon by a holder in due course, permitted to deny the validity of the instrument as originally made or drawn (S. 120).
- No maker, drawer or a acceptor for the honour of the drawer is, in a suit thereon by a holder in due course, permitted to deny the payee’s capacity at the date of the note or bill, to indorse the same (S. 121).
Liability of Drawee Bank
Liability of Drawee Bank for Wrongful Dishonour
- Where the bank holds sufficient funds of customer but wrongfully dishonors the customer’s cheque, then it is liable for monetary loss suffered by the customer and also for loss or injury to the reputation of the customer.
- A drawee bank is liable only to the drawer in case of wrongful dishonor of a cheque. Thus, the holder of a cheque cannot enforce payment upon the same from the bank as there is no privity of contract between the two. In such case, the holder can change the drawer of the cheque and not the bank.
Liability of Drawee Bank for forged Signature
- When bank makes payment of a cheque bearing forged signature of the customer, the bank cannot claim statutory protection, even when the forgery cannot be distinguished from the customer’s signature as per the bank’s records.
- As per Section 85, to a drawee bank paying a cheque payable to order purports to be indorsed by or on behalf of the payee bearing a forged signature, is discharged from its liability notwithstanding the fact that the indorsement of the payee might turn out to be forged.
- The customer also should take reasonable care so as not to mislead the bank. If the bank makes payment because of the negligence of the customer, the customer is liable to bear the loss.
- If a cheque is drawn in such a way so as to facilitate alteration of the same, the onus will lie upon the customer and any loss incurred as a result of payment made by the bank on the altered cheque will have to be borne by the customer.
- Unless otherwise provided by the banker-customer contract, it is not the duty of the customer to bring to the notice of the banker any discrepancy in the passbook or the statement of accounts. The banker cannot plead that the customer has not checked the entries in the passbook/statement of accounts.
Liability of ‘Maker’ of Note and ‘Acceptor’ of Bill (s. 32)
- In the absence of a contract to the contrary, the maker of a promissory note and the acceptor before maturity of a bill of exchange are bound to pay the amount thereof at maturity, according to the apparent tenor of the note or acceptance respectively and the acceptor of a bill of exchange at or after maturity is bound to pay the amount thereof to the holder on demand.
In default of such payment, such maker or acceptor is bound to compensate any party to the note or bill for any loss or damage sustained by him and caused by such default.(s. 32) [Union Bank of India v. Ankur Corporation], [M.Ramnarain Pvt.Ltd v.State Trading Corporation of India Ltd.]
- The liability of the maker of a note is primary, absolute and unconditional and hence there is no need to give notice of dishonor to him. However, a maker of the note will be liable if he signs the note and delivers the same to the payee (like acceptor of a Bill of Exchange).
- In the case of a bill of exchange, the acceptor is primarily responsible for payment of the amount due (like that of the maker of a note). However, the accepted bill must also be delivered or notice of acceptance should be given to the holder.
- Payment by the maker should be in accordance with the apparent tenor of the note, while payment by the acceptor must be made according to the apparent tenor of his acceptance.
- The maker of a note is its originator. Once made, he cannot modify it without the consent of the other parties. In the case of a bill, the acceptor is not the originator. So, when the bill is presented, the acceptor may give a qualified acceptance. When the acceptance is general, the acceptor will have to adhere to payment as per the bill. When his acceptance is qualified, he is to make payment in accordance with the apparent tenor of his acceptance.
- Where there is a default either by the maker or the acceptor holder as well as party to the negotiable instrument who has incurred loss/damage because of the said default are entitled to be compensated. [Benares Bank Limited vs. Hormusji]
Liability of Indorser (s. 35)
- An indorser of a negotiable instrument is in the position of a new drawer and his relationship with the holder of the instrument is conditional. By endorsing a bill, the endorser undertakes that the instrument will be accepted and paid according to its tenor on presentment. If it is dishonored, he will compensate the holder or a subsequent indorser who is compelled to pay for it, where due notice of dishonor has been given to him.
- The undertaking of an indorser of a note is similar to that of an indorser of a bill except that in case of a note there is no undertaking-as to acceptance.
- Indorser’s liability will commence only after the indorsed instrument is delivered to the transferee. Also due notice of dishonor of the instrument should be given to him to make him liable on the instrument.
- In addition to the amount due on the instrument, the indorser shall also compensate for the loss suffered by the holder because of a dishonour. However, he may limit his liability by using appropriate words (like sans resources). [LLoyd vs. Howard]
Liability of Prior Parties
- When the liability of all the parties to the instrument is extinguished and when payment is made at or after maturity either by the acceptor/maker as the case may be, then the instrument will be deemed to be duly satisfied.
- A payment which is made prior to the date of maturity does not result in a discharge of the instrument. Such an instrument can be re-negotiated by the acceptor. However, he cannot enforce payment on it from a party to whom he was previously liable. (s. 36)
Liability of Maker, acceptor or indorser of foreign instrument
In the absence of a contract to the contrary, the liability of the maker or drawer of a foreign instrument is regulated by the law of the place where he made the instrument, and the respective liabilities of the acceptor and indorser by the law of the place where the instrument is made payable. (s. 134)
Ex.2.1 X, Y and Z are the joint promisors of a note payable to P. Y is a minor. So, Y is not liable on the note. P endroses the note to Q, a minor, Q can enforce payment on the note against X, Z and P.
Ex.2.2 Z an agent of X borrows Rs.20,000 from Y on a promissory note without indicating that the money is borrowed for and on behalf of X. Even if X gets the benefit of the money so borrowed, Z will be liable to pay the debt.
Ex.2.3 X, the manager of Y Co. Ltd., accepted a bill and signed as ‘X, manager.’ Held, he was personally liable. But if he accepts “For Y Co. Ltd. X, manager,” he is not liable
Ex. 2.4 Mr. X signs a promissory note without filling in the name of payee and amount payable. He keeps the promissory note in his drawer from where it is stolen by Mr. Y. Mr. Y fills in the amount payable as Rs.10, 000, and the name of the payee as ‘Y or order’. Thereafter, Mr. T transfers the promissory note (by way of endorsement and delivery) to Mr. H, who takes it in good faith and without any negligence. Although Mr. H is a holder in due course, he is not entitled to the payment of the promissory note since Mr. X had not delivered the promissory note.
Ex. 2.5 Mr. M signs and delivers to Mr. T a promissory note without filling in the amount payable. The promissory note is payable to ‘T or order’. Thereafter, he instructs Mr. T to fill in the amount payable as Rs.2000. However, if Mr. T fills in the amount payable as Rs.10, 000. However, the stamp affixed on the negotiable instrument is sufficient to cover 3000 only.
Instrument cleansed of all defects
Ex. 2.6 A bill, originally obtained by fraud from the drawer, gets into the hands of D (a holder in due course). Dindorses the bill to E by way of gift. Ecan sue the acceptor of the instrument.
Ex. 2.7 X endorsed a bill (originally acquired by fraud from Y) to Z , who takes it in good faith as a holder in due course and subsequently indorses the note to X, for value. X cannot sue Y as he himself is a party to the fraud.
Inter Party responsibility
Ex. 2.8 P draws a Bill, payable to his own order, on Qwho accepts and indorses the bill to R, R to S and S to T. As between T and Q, Qis he principal debtor and P, R and S are his sureties. As between T and P, P is the principal debtor and R and Sare his sureties. As between T and R, R is the principal debtor and S is his surety.
Discharge of indorser’s liability
Ex. 2.9 .Sita is the holder of a bill payable to the order of Rita with blank indorsements in the following order :”Rita”, “Gita “, “Mita”. “Sujeta”. In a suit by ‘Sita’ against ‘Sujeta’, ‘Sita’ strikes out, without Sujeta’s consent, the indorsements by “Gita ” and “Mita”. ‘Sita’ is not entitled to recover anything from ‘Sujeta’
Liability of Prior Parties
Ex. 2.10 As between the sureties, each prior party is the principal debtor of the succeeding party.
‘A’ draws a bill payable to his own order on ‘B’. On acceptance of the bill by ‘B’, ‘A’ indorses the same to ‘C’, who indorses it to ‘D’ who subsequently indorses it to ‘E’. As between ‘E’ and ‘A’, ‘A’ is the principal debtor, while ‘B’, ‘C’ and ‘D’ are the sureties. As between ‘E’ and ‘B’, ‘B’ is the principal debtor, while ‘E’ and ‘D’ are the sureties. As between ‘E’ and ‘C’, ‘C’ is the principal debtor and ‘D’ the surety.
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