Payment Systems – Study Outline
Basic Law of Negotiable Instruments
Part I – What is a Negotiable Instrument?
UCC 3-103: Contains definitions of terms
UCC 3-104: Definition of “Negotiable Instrument”:
– Promise or Order
– To pay a fixed amount (interest rate/amount may be variable)
– Of money (with or w/o interest or other charges described in the order)
o It is payable to bearer or to order at time it is issued or first comes into possession of a holder,
o It is payable on demand or at a definite time, and
o It does not state any other undertaking or instruction by the person promising or ordering payment.
Definition of “Money”: Medium of exchange authorized or adopted by the government.
Additional undertakings: A negotiable instrument is a promise or order to pay a sum of money and the maker or the drawer cannot tack on any additional promises or instructions unrelated to the monetary exchange (or the instrument will not be negotiable).
Remitter: The person who buys a teller or cashier check.
UCC 3-109: Payable to bearer or to order.
– A promise or order is payable to bearer if it:
o states it is payable to bearer or to the order of bearer or otherwise indicates the person in possession is entitled to payment;
o does not state a payee; or
o states it’s payable to cash
– A promise or order is payable to order if it:
o is not payable to bearer, and
o it is payable to the order of an identified person.
Part II – Principles of Negotiation and Becoming a Holder
UCC 3-105(a): Defines “Issuance”—The first delivery of an instrument by the maker or the drawer, whether to a holder or nonholder, for the purpose of giving rights on the instrument to any person.
UCC 3-501(a): Defines “Presentment”—A demand made by or on behalf of a person entitled to enforce an instrument (i) to pay the instrument made to the drawee or a party obliged to pay the instrument or, in the case of a note or accepted draft payable at a bank, to the bank, or (ii) to accept a draft made to the drawee. More on this in Part III.
UCC 3-203(a): Defines “Transfer”—An instrument is transferred when it is delivered by a person other than its issuer for the purpose of giving the person receiving delivery the right to enforce the instrument. (Note: Issuance is not a transfer; neither is presentment)
UCC 3-201(a): Defines “Negotiation”—A transfer of possession, whether voluntary or involuntary, of an instrument by a person other than the issuer to a person who thereby becomes a holder. (Must be a negotiation to confer status of “holder”—see UCC 3-201(b) for elements of negotiation, below). From UCC comments: “A person can become holder of an instrument when the instrument is issued to that person, or the status of holder can arise as the result of an event that occurs after issuance. ‘Negotiation’ is the term used to describe this post-issuance event.”
UCC 1-201(20): Defines “Holder”—A person in possession of the instrument if the instrument is payable to bearer or, in the case of an instrument payable to an identified person, if the identified person is in possession.
Elements to be a Holder:
– Physical possession of instrument; and
– Instrument must be in bearer form, or person in possession must be the identified person to whom the instrument is payable.
– Note: Qualifying as holder does not necessarily mean the person is the rightful or lawful holder (even a thief could potentially qualify as holder in the right circumstances).
UCC 3-201(b): Tells how “negotiation” is carried out—Except for negotiation by remitter, if the instrument is payable to an identified person, negotiation requires transfer of possession and indorsement by the holder; If it’s payable to bearer, it requires transfer of possession alone. For negotiation by remitter (e.g., cashier’s check), remitter is owner of instrument and negotiation is accomplished when ownership is transferred to the person the check is made out to via delivery.
UCC 3-204(a): Defines “Indorsement”—A signature, other than that of a signer as maker, drawer, or acceptor, that alone or accompanied by other words is made on an instrument for the purpose of (i) negotiating the instrument, (ii) restricting payment of the instrument, or (iii) incurring indorser’s liability on the instrument.
UCC 3-205(a): “Special Indorsement”—Made by holder of instrument, identifying a person to whom it makes the instrument payable; “Blank Indorsement”—Made by holder of instrument and not a special indorsement (instrument then becomes payable to bearer).
Converting Blank Indorsement to Special: UCC 3-205(c)—The holder may convert a blank indorsement that consists of only a signature into a special indorsement by writing the name of the person to whom the instrument is to be made payable above the indorsing signature.
strument unless (i) the person signed the instrument, or (ii) the person is represented by an agent who signed the instrument and the signature is binding on the represented person.
UCC 3-401(b): A signature may be made (i) manually or by means of a device or machine, and (ii) by the use of any name, including trade or assumed name, or by a word, mark, or symbol executed or adopted by a person with present intention to authenticate a writing. (It can be handwritten, typed, printed, etc. It can even appear in the body of the instrument, e.g., ‘I, John Doe, promise to pay…’)
Step #3—Determine Role of the person against whom the obligation is enforced
Three types of signatures that appear on instruments:
– Maker of a note
– Drawer or Acceptor of a draft
– Indorser of either note or draft
UCC 3-409(a): Defines “Acceptor”—“Acceptance” means the drawee’s signed agreement to pay a draft as presented. It must be written on the draft and may consist of the drawee’s signature alone.
Remember: Creation and issuance of a draft does not require participation or knowledge of the drawee. The drawee has no liability on the draft (even though named on it) unless the draft is presented to the drawee and drawee accepts it.
UCC 3-501(a): Defines “Presentment”—A demand made by or on behalf of a person entitled to enforce an instrument (i) to pay the instrument made to the drawee or a party obliged to pay the instrument or, in the case of a note or accepted draft payable at a bank, to the bank, or (ii) to accept a draft made to the drawee.
UCC 3-412: Obligation of Issuer (Maker) of Note or (Drawer of a) Cashier’s Check—Obliged to pay the instrument (i) according to its terms at the time it was issued or, if not issued, at the time it first came into possession of a holder, or (ii) if the issuer signed an incomplete instrument, according to its terms when completed. The obligation is owed to a PETE or an indorser who paid the instrument under 3-415.