Commercial Transactions – Crib Sheet I. HDC Issue – Holder v. Maker (Drawer) a. Identify Instrument (Draft, Check, Note) and Parties (Holder, Drawer, Maker) i. Note – “I promise to pay to the order of X the sum of ten thousand dollars ($10,000) due on demand.” 1. Two party instrument 2. Maker – person who signs or is identified in a note as the person undertaking to pay. 3. Payee – person to whom the note is payable. ii. Check – Looks like a check … 1. Three party instrument 2. Drawer – person who is ordering payment 3. Drawee – the person ordered in a check to make payment (Bank) 4. Payee – the person to whom the check is payable. b. Is the Instrument Negotiable? i. If it is negotiable, then Article 3 governs and the holder may be able to claim HDC status. ii. Requirements: 1. Writing – Cannot be oral, must be tangible piece of paper 2. Signed by Maker (note) or Drawer (check) a. Signed = any symbol with the intention to authenticate – can be printed, stamped, written, initials, thumbprint, trade name or assumed name and appear in the body of the instrument. b. Key – look to intent. 3. Promise to Pay (note) or Order to Pay (check) a. Acknowledgement of debt is not a promise to pay. i. Not negotiable. 4. Unconditional – okay under K law, but non-negotiable A3. Do not have a condition to the payment. Reference to the underlying transaction is fine. a. However, “subject to” or “governed by” is not okay. b. Okay as well if it says where the money is sourced from. 5. Fixed Amount a. Applies only to principal. If there are other charges like interest that is okay to have “4% of X” in there. 6. Money – ANY money, foreign or domestic. 7. No Other Undertaking – Generally cannot add other undertakings like delivery; but the UCC does permit some additional undertakings: a. Give or maintain collateral securing payment; b. Holder to confess judgment or realize on any collateral; c. Maker waiving legal protections. 8. Payable On Demand or at a Definite Time – should say when due a. If there is no time then it is treated as a demand instrument b. Acceleration clauses are okay. 9. Payable to Order or to Bearer a. A promissory note or check must be EITHER order or bearer paper If not then it is non-negotiable. b. Order Paper – “to the order of” or an identified person. i. Checks to not require these words, just an ID of person. c. Bearer Paper – A promissory note or a check made payable to the bearer of the instrument i. Pay “to the order of cash” or “to bearer” c. Negotiation i. Assignment – Payee who has been issued a non-negotiable instrument under A3 can still assign. No greater rights than the payee under K law. ii. Negotiation – if negotiation of the instrument occurs, the A3 rules have been met and the payee negotiates the instrument to a 3P, then the 3P is not a mere assignee, but a holder of the instrument. iii. Holder 1. A person in possession or a person in order that has been properly issued or properly endorsed to her. iv. Negotiation of a Negotiable Instrument 1. Order Paper – a) indorsement by the holder AND b) Transfer of possession 2. Indorsement – a signature on an instrument for the purpose of negotiation it and or making the indorse liable under indorse liability a. Special Indorsement – an indorsment which also names a particular person as indorsee b. Blank Indorsement – does not name an indorsee, but a holder’s mere signature. c. Anomalous indorsement – an indorsement by a person who is not the holder. v. Transfer may be voluntary or involuntary. vi. Bearer paper may be negotiated by transfer alone. vii. After issuance, indorsements determine the instrument as order or bearer paper 1. If the order paper is blank = bearer paper 2. If the bearer paper is specially indorsed = order paper 3. Holder can convert a blank indorsement to a special indorsement by naming an indorsee above the blank indorsment. 4. Indorsements do not require magic words. viii. Effect of Forgery on Status of Holder 1. General – a person cannot be a holder if any necessary endorsement was forged. Unauthorized signatures are ineffective as the person of whose name was signed. a. Exceptions – ratification, imposter rule, fictitious payee rules, responsible employee rule, negligence rule. b. BAR EXAM SCENARIO – Order paper can only negotiated by indorsmeent by the holder and transfer of possession. A person cannot become a holder if any necessary indorsement was forged. c. Bottom Line – ON ORDER PAPER, THE FORGER AND ON ARE NOT HOLDERS AND NOT ENTITLED TO PAYMENT. 2. Bearer Paper – A thief may be the holder of bearer paper because all it requires is possession transfer alone, and transfer can be voluntary or involuntary. a. Die Hard Rule - After a payee’s endorsement of order paper, it becomes bearer paper. Thus, if a thief steals it, he is holder of the note and can be negotiated. ix. Lost, Stolen or Destroyed Instruments 1. General Rule – a person not in possession of a negotiable instrument can pursue an action to collect on it if (i) he was entitled to enforce the instrument and (ii) it was lost, stolen or destroyed. d. Liabilities of Parties i. Liability on the Instrument 1. General Rules a. No person or entity can be liable on a negotiable instrument unless her/its signature appealers on the instrument, OR the signature of an authorized agent. b. A forged or otherwise unauthorized signature is not effective as the signature of the person whose name is signed. c. Signature of authorized agent works as a principal’s signature. 2. Agent’s personal Liability a. (1) if an agent signs her own name; and (2) the principal has given her authority, the agent is not bound if (3) the form of the signature shows unambiguously that it was made on behalf of the principal, and (4) the principal is identified on the instrument. ii. Maker’s Liability – obligated to pay the note according to its terms at the time it was issued. Liable to holder or indorser who has paid on indorser liability. iii. Drawer’s liability – when does liability start? 1. After presentment and 2. Dishonor by the drawee bank a. Not entitled to notice of dishonor, b/c should know 3. Owed to holder and indorsers iv. Drawee Bank’s Liability 1. Only arises when they have “signed” AKA certified check 2. Wrongful dishonors through bank mishaps are not recoverable. v. Indorser’s liability 1. Owed to holders or later indorsers who have paid the instrument due to indorser liability. 2. Conditioned Upon: a. Presentment (within 30 days of the indorsement) b. Dishonor by drawee bank returning the check by its midnight deadline. MD = midnight of next banking day following the banking day on which the drawee bank received the check c. Timely notice of dishonor must be given to the indorser or it is discharged. i. Must be done within 30 days to other indorsers within 30 days following the day on which that indorser received notice of dishonor. ii. With notes – dishonor must be given 30 days after the dishonor occurs. 3. Qualified indorsement – “without recourse” in an indorsement removes indorsers liability. e. Discharge of Liability i. Generally, after payment both UT and liability on the note are discharged ii. Tender of payment is a discharge of liability for a note iii. Cancellation from a person ETE may discharge any party by a voluntary affirmative act such as giving the instrument or writing “void” or something. 1. No consideration required for cancellation. iv. Renunciation – any ETE may discharge by signed writing 1. No consideration required for renunciation. v. Discharge on a Simple K. f. Bank Checks i. Cashier’s check makes a bank liable under drawer and drawee liability. ii. Teller’s check makes a bank the drawer and liable. iii. Certified check (accepted by DB on which it is drawn) the underlying obligation is discharged when the check is taken. 1. Liability on the instrument – cashier and teller checks the issuing bank is liable on the check and for certified the accepting (Drawee) bank is liable on the check. Discharged on payment of proper person. g. Transfer Warranty Liability i. Who is liable? 1. Whenever a person (i) voluntarily transfers and instrument (ii) for consideration, the transfer makes a number of separate transfer warranties as of the time of transfer: 4 Transfer Warranties: a. Transferor is entitled to enforce (holder); and b. All signatures are authentic and authorized; and c. The instrument has not been altered; and d. No defense or claim of any party is good against them. 2. NOTE – Transferor need not indorse to be liable. ii. Who does the Transferor make the Transfer Warranties to? 1. Transfer warranties run to all subsequent transferees. 2. If the transfer is other than indorsement – warranties run only to the transferor’s immediate transferee. h. Conversion Liability for Lost or Stolen Checks i. General Rule – An owner of a lost or stolen check may recover in conversion if the check is paid over an unauthorized indorsement. ii. Who can recover? The owner of the check, only if she had taken possession. Possession through agency is sufficient. iii. Who is liable? 1. The owner of the check may recover from the a. Drawee bank or b. the depositary bank c. Or anyone else who took the check and did not act in GF II. HOLDER IN DUE COURSE – Destroys defenses under the instrument. a. General Rule – a HDC is a i. Holder 1. In possession of bearer paper or in possession of order paper that has been issued or properly indorsed to him. ii. Who gives value for the instrument, 1. Executed consideration. HDC runs to the extent that the agreed consideration has been performed. A mere promise to give value is not enough. iii. In good Faith 1. Honesty in fact and observance of reasonable commercial standards of fair dealing. a. Subjective GF. We care about the “PURE HEART/EMPTY HEAD” test – what the holder knew. b. Fair dealing is objective and is concerned with fairness of conduct as understood in the relevant community/industry. 2. Does not require due care. iv. Without notice of certain things 1. NO KNOWLEDGE OR RASON TO KNOW THAT: a. Instrument is so irregular or incomplete as to call into question its authenticity b. Instrument is overdue or has been dishonored. i. Rule – notice/reason to know about the principal being overdue. Interest payments are irrelevant on notice. c. Instrument contains unauthorized signatures or has been altered. d. There is a claim to the instrument. e. Any party has a defense or a claim in recoupment reducing value b. SHELTER RULE i. An instrument’s transferee acquires whatever rights her transferor had. ii. A person who takes under the shelter rule, need not be an HDC themselves, just get the instrument from a HDC. iii. DOES NOT APPLY WHERE THE TRANSFEROR IS THE ORIGINAL PAYEE. (Payee can never be a HDC). c. Real Defenses i. HDCs take free from the obligated party’s personal defenses and claims, but the HDC takes subject to real defenses ii. REAL DEFENSES: 1. Infancy of the maker or drawer where it is a defense to simple K 2. Incapacity, duress, or illegality of the transactions where party’s obligation would be nullified. 3. Fraud in the execution of an instrument; 4. Any other discharge of which the holder has notice when he takes the instrument 5. Statute of Limitations: a. Check – 3 years b. Note – 6 years iii. Fraud in Factum 1. People who are tricked about what they are signing and no opportunity to figure it out – excusably ignorant. Defense to HDC iv. Example of Discharge of which Holder has no Notice 1. Ex. Drawer pays payee in full on a note, payee negotiates the note to transferee in payment for obligations. a. Drawer is not liable on the instrument to payee. b. Drawer is liable to transferee HDC c. If the note said “PAID” then transferee not HDC III. Checking Accounts – BANKS AND CUSTOMERS a. Properly Payable Rule – must follow customer’s orders exactly, if not then recredit i. Check with forged drawer’s signature is not properly payable. ii. Check with forged or missing endorsement is not properly payable. 1. Payment to joint payees requires both signatures for valid indorsement iii. Altered Check – Charge for original amount only, not altered part. iv. Payment over a customer’s valid “stop-payment” order is not properly payable 1. Rule – Stop payment must 1) describe the check with reasonable certainty; and 2) must be received at a time to afford the bank a reasonable opportunity to act on it. a. Depends on the tech the bank has. b. Effective for 6 months, 14 days if oral v. Overdrafts and “Stale checks” 1. Overdraft Rule – a drawee bank may honor a check even if it creates overdraft 2. Stale Check Rule – Bank is under no obligation to pay on checks 6+ months old, but may charge the account thereafter in GF. b. Wrongful Dishonor i. A payor bank is liable to a customer for damages caused by the dishonor. Limited to actual damages and might include damages for arrest or prosecution or other CDs. IV. FORGERY AND BANK RECOVERY a. Forged Endorsements i. Theft – if a thief steals a payee’s check and forges an indorsement, the drawee bank will be in the whole for the amount it paid out. ii. Presentment Warranty – BANK’S RECOVERY POSSIBILITY 1. Party presenting the check for payment to DB and each of the earlier transferors of the check make 3 warranties to the DB: a. It is ETE (holder) b. Check has not been altered c. It has no ACTUAL KNOWLEDGE that the drawer’s signature was forged i. Because of a forged indorsement, no party from the forger on is a holder and none are ETE, ALL ARE IN PRESENTMENT BREACH. 2. Key Idea – Loss should pass to the earliest solvent person after the forger, whoever had to deal with them. 3. Drawee Bank only gets presentment warranties, not transfer. 4. Depositary Bank can recover under transfer warranty breaches. b. Forged or otherwise Unauthorized Drawer’s Signatures i. Where the DB pays a check with a forged drawer’s signature, it can seek recovery from earlier transferors under breach of the presentment warranty that each of these earlier parties at the time of transfer had no actual knowledge that the drawer’s signature was forged. ii. Key Idea – Drawee Bank usually suffers the loss in drawer’s forged instances. c. Restrictive Indorsment i. “for deposit only to payee” – anyone who later indorses or pays this out not to payee is liable. Payee can only go after thief for conversion. V. Validation of the Forgery a. Ratification – forged or otherwise unauthorized indorsement or a forged drawer or maker’s signature occurs when a party with full knowledge of the forgery or lack of authorization accepts the benefits thereof or actively assets to the wrongful activity. i. Covers alterations as well b. Impostor Rule – This rule validates the forged indorsement of the payee’s name where the maker or drawer has been duped by an impostor to issue the instrument. i. Validation runs in favor of a person who in GF pays the instrument or takes it for value. c. Fictitious Payee Rules i. Rule #1 – if maker does not intent that an instrument was issued for the person identified as the payee to have any interest in the instrument, then an indorsement in the name of the payee is effective. 1. In favor of those who in GF pay the instrument for value. ii. Rule #2 – Person ID’d in the instrument as the payee = fictitious, then an indorsement in the name of the payee is effective in favor of a person who, in GF, pays on the instrument. d. Fraudulent Indorsement by an Employee Entrusted with Responsibility i. IF a person entrusts an EE or IKer with responsibility in respect to an instrument and the EE makes a fraudulent indorsement on the instrument, the indorsement is effective. 1. Validation checklist: a. EE of company? b. EE = entrusted w/ responsibility to handle checks? c. EE forges indorsement? d. 3P takes check in GF? i. IF ALL THEN VALID e. The Negligence Rule i. IF a person by their own negligence contributes substantially to a material alteration or to the making of an unauthorized signature, then he is precluded from asserting the alteration or lack of authority against a HDC or the Drawee or other payor who pays in GF and in accordance with the reasonable commercial standards. f. Comparative Negligence – the the DB or other person paying the instrument or taking for value or collection fails to exercise the ordinary care, the person bearing the loss may recover from the DB or other person for failure to exercise ordinary care. g. The Bank Statement Rule: i. 1) When the bank makes a statement available, the customer must use RC and promptness to determine whether the customer’s signature was authorized and promptly notify if not. (Does not cover Forged indorsements) ii. The customer is liable for any loss where the same wrongdoer alters or forges unless the customer gives the bank notice within a reasonable period (not more than 30 days) after the statement is given to the customer. iii. The DB fails to exercise ordinary care in paying a check – aka should have noticed. iv. Without regard to which party was negligence, a customer is precluded from asserting an unauthorized drawer signature or any alteration on the face if he does not notify the bank w/I 1 year after the bank statement or checks have been made available to the customer. VI. ALTERATION a. Altered Note – Fraudulent alteration of a completed note – RULE – a person taking the altered instrument for value, in GF and without notice of alteration may enforce it according to its ORIGNAL TERMS. i. Fraudulent Alteration of an Incomplete Note – Transferee can still be a HDC if he doesn’t know about the alteration and take pursuant to what the payee thief put in the payment box. b. Altered Check i. Fraudulent alteration of a complete check – only the original term is properly payable ii. Alteration to an incomplete check – full amount is properly payable. VII. ACCORD AND SATISFACTION a. Rule – if a person cashes or deposits and instrument with notice that it is tendered in full payment of a disputed debt, the debt is discharged in full. b. Required: i. GF by tendering party ii. Debt must be unliquidated or subject to bona fide dispute iii. Person tendering must prove either: 1. Instrument contained a conspicuous statement that it was tendered in full satisfaction of the debt, OR 2. The person accepting it actually knew that it was tendered in full satisfaction of the debt. iv. Organization may designate a person or office to which such checks must be sent v. If the person cashing the check did not have actual notice that the check was tendered in full satisfaction, they can avoid the discharge by tending repayment of the check within 90 days.