Commercial Paper Flashcards
What is a draft?
A commercial paper involving three parties- a drawer; a payee and a drawee
A drawer orders a sum to be paid to a payee by the drawee
May be payable on demand or in the future
Note: If a draft that is otherwise negotiable states: “Pay to XYZ Corporation.” This statement destroys negotiability because the draft is NOT payable “to the order or” XYZ Corporation
What is a promissory note?
A promise to pay a specific amount
Two parties involved - maker and a payee
Can reference other transactions without harming the instrument’s negotiability
Example: Bank Certificate of Deposit (CD)
What is a draft?
A commercial paper involving three parties- a drawer; a payee and a drawee
A drawer orders a sum to be paid to a payee by the drawee
May be payable on demand or in the future
What is required to maintain the negotiability of a commercial paper?
- Must be in writing
- Signed by drawer/maker
- Be without conditions for payment (other than limitations on payment sources). Must contain an Unconditional promise or order to pay
- Amount of money must be stated (fixed amount) - also must be payable in money and nothing else but money
- Payable to order or bearer, unless it is a check
- Be payable on demand or at a definite time
These requirements must be present on the face (front) of the instrument. Instruments that do not comply with these provisions are nonnegotiable and are transferable only by assignment
What is a trade acceptance?
A Trade Acceptance is a draft drawn by a seller ordering a buyer to pay
Seller extends credit to Buyer
Buyer agrees to pay Seller - Buyer has primary liability
Seller is both Drawer and Payee - Seller has Secondary Liability
What is the difference between a post-dated check and a negotiable time draft?
A check is payable on demand; even if post-dated.
A negotiable time draft is not payable until the date designated for payment.
What characteristics will cancel the negotiability of a commercial paper?
An additional promise is stated in addition to the promise to pay (like the option to purchase Real Estate)
The promise to pay occurs after some action by another party or an event; it cancels negotiability
Cannot allow for an alternative such as payment or some other action by the maker
Note: a stated amount of payment plus a stated % of interest is OK
Note: The key to determining if the promise/order is conditional is, does the language in the instrument make the actual payment subject to some event?
What are the major types of endorsements on commercial paper?
Blank endorsement - Doesn’t name a new payee; transforms into a bearer paper (from order paper). Or if an endorsement does not specify any endorsee, the endorsement converts order paper into bearer paper
Note: If the last or only endorsement on instrument is a blank endorsement, any holder may convert that bearer paper into order paper by writing “Pay to X” above that blank endorsement
Special endorsement - Names a new payee; transforms into an order paper. This occurs when endorsement indicates a specific person to whom the instrument is being negotiated
- Note the words “pay to the order of” are not required on back as endorsements - instrument only needs to be payable to order or to bear on “front only”
- If instrument is NOT payable to order or bearer on it face; it CANNOT be turned into a negotiable instrument by using these words in an endorsement on the back
Restrictive endorsement - Adds restrictions; doesn’t stop further negotiation
Valid restrictions are:
- “for deposit only”
- “pay any bank”
- “pay smith for jones”
Qualified endorsement - Payment not guaranteed; without recourse added to endorsement.
Without recourse means no guarantee of payment - disclaiming liability
What are the major types of endorsements on commercial paper?
Blank - Doesn’t name a new payee; transforms into a bearer paper (from bearer paper)
Note: If the last or only endorsement on instrument is a blank endorsement, any holder may convert that bearer paper into order paper by writing “Pay to X” above that blank endorsement
Special - Names a new payee; transforms into an order paper.
- Note the words “pay to the order of” are not required on back as endorsements - instrument only needs to be payable to order or to bear on “front only”
- If instrument is NOT payable to order or bearer on it face; it CANNOT be turned into a negotiable instrument by using these words in an endorsement on the back
Restrictive - Adds restrictions; doesn’t stop further negotiation
Valid restrictions are:
- “for deposit only”
- “pay any bank”
- “pay smith for jones”
Qualified - Payment not guaranteed; without recourse added to endorsement.
Without recourse means no guarantee of payment
Define primary liability with respect to a contract.
Primary liable parties are the parties first expected to pay on the instrument
First in line to pay on the note/draft
Maker of a Promissory Note has primary liability and must pay according to terms of the note
With a Check; no party has Primary Liability
Exception: Drawee (your bank) is primarily liable to pay if they certify – i.e. promise to pay.
Note: There is no obligation for the drawee (your bank) to accept. In order for the bank to be liable, they have to accept
If endorsed; within what amount of time must a check be presented for payment in order to hold the ENDORSER liable?
Within 7 days
Define primary liability with respect to a contract.
First in line to pay on the note/draft
Maker of a Promissory Note has primary liability and must pay according to terms of the note
With a Check; no party has Primary Liability
Exception: Drawee (your bank) is primarily liable to pay if they certify – i.e. promise to pay
Define secondary liability with respect to contract liability
Secondary liable parties are liable ONLY after presentment and notice of dishonor
Drawers are Secondarily Liable if Drawee fails to pay a Draft
Endorsers (the payee) are secondarily liable
Holder in due course can hold Endorser liable
Exception: Endorsed ‘Without Recourse’
Define contract liability.
Guarantees payment of a liability - applies to any party who signs negotiable instrument and can include a maker, drawer, acceptor or a draft, or endorser
When does warranty liability occur?
Occurs when you negotiate commercial paper
By signing; you warrant to all future parties
By not signing; you warrant to current party only
What are the REAL defenses against a holder in due course (HDC); which will WIN?
A holder in due course takes an instrument subject to Real Defenses (WIN vs. HDC)
- Material alterations to the instrument - partially a real defense:
a. If dollar amount was altered, then HDC can collect according to original terms; a non-HDC collects nothing
b. If an instrument was incomplete originally and then completed without authorization, HDC can enforce it as completed; a non-HDC collects nothing - Forgery
- Bankruptcy - if the maker declares BK, HDC loses the right to collect on the note
- Maker not competent to Contract
a. Insanity
b. Illegal
c. Infant (minority) - if a minor can disaffirm a contract; then its a real defense for a negotiable instrument - Fraud in the execution
a. Victim didn’t know contract was Executed
Note: If victim knew a contract was made, but there were misrepresentations (i.e. fraud in the inducement), HDC beats this defense
- VOID contract as adjudicated by state - HDC losses
What are the personal defenses against a holder in due course (HDC) which will LOSE?
An HDC takes an instrument free of Personal Defenses (LOSE vs. HDC)
- Lack of consideration/value given
- Breach of contract/warranty
- Prior payment
- Unauthorized completion
- Duplicate payments
- Non-delivery - occurs when bearer instrument is lost or stolen
- Fraud (in the inducement only) - they know they made a contract, but did so b/c of some misrepresentation
HDC > Fraud in the Inducement claims
- Voidable contracts
a. Voidable due to illegality or insanity - HDC wins
b. Void contract as adjudicated by state - HDC losses
What are the requirements for a holder to be a holder in due course?
- Holding a negotiable instrument
- Taking instrument in Good Faith - Even if you buy a stolen note and you don’t know that it’s stolen; you’re still an HDC
- Having no knowledge of defenses against instrument; i.e. problems with the instrument
- Giving a present value for the instrument (a future value doesn’t count)
- Takes as a satisfaction of a previous debt
- Gives another negotiable instrument
- Acquires a security interest in the instrument (i.e. the holder takes possession of the instrument as collateral for another debt)
What is required to negotiate Bearer Paper?
Bearer paper is a negotiable instrument that is payable to any party (i.e. “Pay to cash”)
- Transferred by delivery alone
- Holder only needs possession of the instrument
- Subsequent parties may require endorsements (even though UCC does not) for identification
- Holder may, in any event, endorse it if they choose to do so
What warranties does a person (transferor) who negotiates a negotiable document of title for value makes to an immediate purchaser?
They (the transferor) make the following warranties:
- Negotiation by the transferor is rightful and fully effective with respect to the goods it represents
- The transferor has no knowledge of any facts that would impair the document’s validity or worth
- The document & signatures are genuine
- Good title
- No defense is good against them
- No insolvency proceeding against the issuer
- No material alteration
- No knowledge of bankruptcy proceedings
What warranties does a person (transferor) who negotiates a negotiable document of title for value makes to an immediate purchaser?
They (the transferor) make the following warranties:
- Negotiation by the transferor is rightful and fully effective with respect to the goods it represents
- The transferor has no knowledge of any facts that would impair the document’s validity or worth
- The document & signatures are genuine
- Good title
- No defense is good against them
- No insolvency proceeding against the issuer
What items are NOT commercial paper, but usually follow the same rules?
The following ARE NOT commercial paper, but usually follow the same rules:
- Investment securities (stock & bonds)
- Documents of Title (warehouse receipts & bills of lading)
What is a warehouse receipt?
Document of Title
Warehouse receipts are issued by a warehouse acknowledging receipt and storage of goods specified in the document (need not be bonded & licensed)
a. Must state if goods are to be delivered to Bearer, to a specified party, or to the Order of a specified party
b. Must state location of the warehouse
What is a bill of lading?
Document of Title
Bills of lading are documents issued by a carrier acknowledging receipt of goods & a contract for transportation
